A BP case study: time to end FTSE 100 share buybacks?


James Beard
Fri, 1 December 2023 

Share buybacks are in fashion. According to AJ Bell, at 30 September 2023, 37 FTSE 100 companies had announced £46.6bn of them during the first nine months of the year.

It’s expecting the total for 2023 to be the second-highest on record, beaten only in 2022 (£58.2bn).
Good in theory

A share buyback has the effect of increasing earnings per share (EPS).


And because nothing has changed that will affect the financial performance of the company, the price-to-earnings (P/E) ratio should remain the same.

Therefore, in theory, the share price should increase as illustrated below.

Measure

No action

Repurchase shares (cost £50m)


Earnings (£)

10m

10m


No. of shares in issue

20m

10m


Earnings per share (£)

0.5

1


P/E ratio

10

10


Share price (£)

5

10

Not so good in reality

In my opinion, this is all smoke and mirrors.

In the example, the company spent £50m of its cash that it will never get back. The value of the business should therefore go down.

In reality, a share buyback is no different to paying a dividend. But instead of giving surplus cash to shareholders, it’s spent on stock. When a share goes ex-dividend, its price falls as new holders are not entitled to the payout.

The management team will claim that a buyback is good for the owners of the business but, in my opinion, all it’s doing is increasing EPS, which is to their benefit.

Let’s look at a real example.

On page 115 of the 2022 BP (LSE:BP.) annual report, the oil giant reveals that part of the remuneration of its senior executives will be based on the growth rate of adjusted EBIDA (earnings before interest, depreciation, and amortisation) per share.

No wonder the board like share buybacks so much.

From 1 January to 24 November 2023, the company spent $7.66bn buying 1.22bn of its own shares. At current exchange rates, that’s an average of 498p a share. Not a good deal considering its current share price is around 475p.
Other ideas

If I was a shareholder, I’d rather have a bigger dividend.

This year’s payout is likely to be at least 28.42 cents (22.46p). However, the company could have increased this by 33.3p a share if it stopped buying its own shares and used the money to boost the dividend.

As a consequence, the current yield would increase from 4.7% to 11.8%.

I’m sure that would drive the share price higher.

The last year in which BP didn’t repurchase any of its shares was in 2015. Instead, shareholders received cash of 26.39p — more than they are going to get in 2023.

BP halved its dividend in 2020, blaming the pandemic. But it’s still well below its pre-Covid levels.
Forever in debt

Another way that BP could increase shareholder value is to use the money to pay down its debt, the size of which has been a concern for some investors.

At 31 December 2022, it had borrowings of $46.9bn. Reducing this by around 15% would significantly improve the company’s balance sheet. And earnings would increase due to lower interest payments.

After studying 250 companies in the S&P500 between 2004 and 2014, McKinsey & Co found there was “no correlation” between the level of share purchases and the total return to shareholders.

The research concluded that cash flow generates value, irrespective of how it’s returned to the owners.

Therefore, in my view, the time has come to end share buybacks and focus on creating real shareholder value.

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