Review & Outlook

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Apple’s Debt-Financed Buybacks and Dividend

28 April, 2014 by Matthew O'Brien, Ph.D. in Commentary

Apple famously has a huge pile of cash on its balance sheet, which now stands at about $150 billion and is down from about $160 billion in 2013.  Last year Apple started putting this cash to work in a number of comparatively modest capital investments.  As Barron’s recently noted, “After years of sitting on a growing mountain of cash, Apple has become an aggressive buyer of its stock while also initiating, and then raising, its dividend, which now provides a yield of 2.3%. Under CEO Tim Cook, the company bought back $18 billion of stock in the March quarter and has shrunk its share count by 7% over the past year, to 880 million shares.”  Last week Apple increased its share buyback program by authorizing $30 billion more in buybacks, up to $90 billion, and it increased its quarterly dividend by 8 percent.

The market was very happy with this news (which also included an uncommon 7-1 stock split) and Apple’s stock jumped about 8%–a big leap for the world’s largest company.  Apple is one of our core holdings at O’Brien Greene, so this is welcome news.  There are some aspects of Apple’s new shareholder-friendly policies that warrant closer scrutiny, however.  First, it’s important to follow the degree to which authorized share buybacks end up being completed.  Apple isn’t bound to buyback all $90 billion-worth it announced, and furthermore, the buybacks can end up being a wash if they merely offset the new creation of shares used to compensate employees.  Second, the Barron’s article cited above wrongly implies that Apple is paying its dividends and share repurchases straight from its cash balance.  It’s not.  Rather, Apple has been borrowing money against its cash balance in order to finance these new shareholder-friendly policies.  A sizable chunk of Apple’s cash comes from overseas profits and now sits in offshore accounts (the Financial Times estimates 88%).  If the company repatriated it to pay for dividends and share repurchases directly, then it would be docked at the 35% U.S. corporate tax rate.  In order to avoid the taxes and to take advantage of historically low interest rates, the company prefers to tap the bond market instead.

Thus Apple is planning for its second bond offering, which may be as big as $17 billion and rank as the second largest corporate bond sales in history.  Last year Apple sold bonds for the first time and the offering of $17 billion met demand for as much as $50 billion.  Last year’s sale targeted U.S. investors and the prospective sale is reported to be for the eurozone.

It’s hard to blame the company for taking advantage of low interest rates and the willingness of yield-starved investors to buy bonds that yield less than the company’s stock dividend and about the same as government debt.  But the broader economic conditions that make the practice possible are troubling.  One might worry that Apple isn’t so much creating shareholder value by buying back it’s stock as it is transferring value from its bondholders to its shareholders.  It’s an example of how central bank manipulation of the economy has unpredictable consequences.  There is little to no evidence that the Federal Reserve’s quantitative easing program has helped ordinary workers, and positive evidence that it has harmed ordinary savers.  Apple’s financing is clearly enabled by Fed policy, however, since the company couldn’t afford to issue debt to buy stock if interest rates were not being suppressed by the central bank.