The Controversy Around Stock Buybacks Explained
At face value, the notion of companies buying back shares in their own stock may seem pretty benign.
But as soon as trillions of dollars are being poured into any single cause – regardless of how innocuous it may sound – there is always the potential to make a lightning rod for controversy.
With stock buybacks totaling $1.1 trillion in 2018, they’re at the center of discussion more than ever before.
What are Stock Buybacks?
When publicly-traded companies want to return money to shareholders, they generally have two options.
The first is to declare a dividend, but the other is to repurchase its own shares on the open market.
Although it seems meta, stock buybacks are a way for companies to re-invest in themselves. Each buyback decreases the amount of shares outstanding, with the company re-absorbing the portion of ownership that was previously distributed among investors.
In other words, buybacks are somewhat analogous to buying out a business partner – they allow the remaining partners to own a higher share of the company.
Pro vs. Con
With the amount of stock buybacks rising to historic highs, they have been front and center in 2019. Here are what proponents and opponents are arguing about.
Proponents of buybacks say that if they are done rationally, buybacks (like dividends) are just another way to return cash to shareholders. Stock prices for companies that have bought back shares are also higher, in general, than other companies on major indices like the S&P 500.
Opponents of stock buybacks say that they increase inequality, and that executives make short-term oriented decisions around buybacks that allow them to maximize personal gain. In other words, when a company probably should be investing in its people or its business, the company is instead giving money back to the wealthy owners – and only they benefit.
The Bottom Line
While both sides make a compelling argument for different reasons, the only real way to evaluate stock buybacks is based on the merits of individual companies.
If the company is returning money to shareholders because it is the best allocation of capital, then it can make perfect sense. If the company is doing it at the expense of growing its business and the wages of employees, one can see why stock buybacks may rub people the wrong way.
Charted: Tesla’s Unrivaled Profit Margins
This infographic compares Tesla’s impressive profit margins to various Western and Chinese competitors.
Chart: Tesla’s Unrivaled Profit Margins
In January this year, Tesla made the surprising announcement that it would be cutting prices on its vehicles by as much as 20%.
While price cuts are not new in the automotive world, they are for Tesla. The company, which historically has been unable to keep up with demand, has seen its order backlog shrink from 476,000 units in July 2022, to 74,000 in December 2022.
This has been attributed to Tesla’s robust production growth, which saw 2022 production increase 41% over 2021 (from 930,422 to 1,313,851 units).
With the days of “endless” demand seemingly over, Tesla is going on the offensive by reducing its prices—a move that puts pressure on competitors, but has also angered existing owners.
Cranking up the Heat
Tesla’s price cuts are an attempt to protect its market share, but they’re not exactly the desperation move some media outlets have claimed them to be.
Recent data compiled by Reuters shows that Tesla’s margins are significantly higher than those of its rivals, both in terms of gross and net profit. Our graphic only illustrates the net figures, but gross profits are also included in the table below.
|Company||Gross profit per car||Net profit per car|
Data from Q3 2022
Price cutting has its drawbacks, but one could argue that the benefits for Tesla are worth it based on this data—especially in a critical market like China.
Tesla has taken the nuclear option to bully the weaker, thin margin players off the table.
– Bill Russo, Automobility
In the case of Chinese EV startups Xpeng and Nio, net profits are non-existent, meaning it’s unlikely they’ll be able to match Tesla’s reductions in price. Both firms have reported year-on-year sales declines in January.
As for Tesla, Chinese media outlets have claimed that the firm received 30,000 orders within three days of its price cut announcement. Note that this hasn’t been officially confirmed by anyone within the company.
Tit for Tat
Ford made headlines recently for announcing its own price cuts on the Mustang Mach-E electric SUV. The model is a direct competitor to Tesla’s best-selling Model Y.
Chevrolet and Hyundai have also adjusted some of their EV prices in recent months, as listed in the following table.
|Model||Old Price||New Price||Discount|
|Tesla Model Y Long Range||$65,990||$53,490||18.9%|
|Chevrolet Bolt EUV 2023||$33,500||$27,200||18.8%|
|Tesla Model Y Performance||$69,990||$56,990||18.6%|
|Chevrolet Bolt 2023||$31,600||$26,500||16.1%|
|Tesla Model 3 Performance||$62,990||$53,990||14.3%|
|Hyundai Kona Electric 2022||$37,390||$34,000||9.1%|
|Ford Mustang Mach-E GT Extended Range||$69,900||$64,000||8.4%|
|Tesla Model 3 Long Range||$46,990||$43,990||6.4%|
|Ford Mustang Mach-E Premium AWD||$57,675||$53,995||6.4%|
|Ford Mustang Mach-E RWD Standard Range||$46,900||$46,000||1.9%|
Source: Observer (Feb 2023)
Volkswagen is a noteworthy player missing from this table. The company has been gaining ground on Tesla, especially in the European market.
We have a clear pricing strategy and are focusing on reliability. We trust in the strength of our products and brands.
– Oliver Blume, CEO, VW Group
This decision could hamper Volkswagen’s goal of becoming a dominant player in EVs, especially if more automakers join Tesla in cutting prices. For now, Tesla still holds a strong grip on the US market.
Recent Tesla buyers became outraged when the company announced it would be slashing prices on its cars. In China, buyers even staged protests at Tesla stores and delivery centers.
Recent buyers not only missed out on a better price, but their cars have effectively depreciated by the amount of the cut. This is a bitter turn of events, given Musk’s 2019 claims that a Tesla would be an appreciating asset.
I think the most profound thing is that if you buy a Tesla today, I believe you are buying an appreciating asset – not a depreciating asset.
– Elon Musk, CEO, Tesla
These comments were made in reference to Tesla’s full self-driving (FSD) capabilities, which Elon claimed would enable owners to turn their cars into robotaxis.
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