 Good day, fellow investors! One thing that I absolutely dislike are stock repurchases or buybacks. And in this video I'll tell you exactly why and why stock repurchases and buybacks have been and will destroy shareholder value, thus your value, in the long term. Let me ask you a question. Would you pay 3.5 million for a house that you can build for 1 million, including land costs and everything? Would you do that? Of course not, because you are not insane. You would rather build the house instead than paying 3.5 times more. So it seems completely logical to build the house instead of buying it, if the price difference is that big. That's not something that corporate management of the SAP 500 gets. They keep buying the 3.5 million house instead of building the 1 million house. Even if those are the same houses. If we look at the stock price of General Electric in the last year, you can see how it really really melted down. So the company has lost 45% of its value just in the last 12 months. One of the reasons behind that destruction of value are historical stock buybacks. General Electric has been buying back its stock at a huge rate when the stock price was high. That destroyed its book value and now there is nothing to give value to the stock. There is nothing from where new earnings can come. So this is what happened to General Electric. Now there are many other companies that engage in huge buybacks and the same fate might affect them too. So you have to be very careful not to own such companies that are destroying your long-term value. Of course if you're a long-term investor, if you're a short-term investor you should hunt companies that do buybacks because and sell to the company, sell your stocks to the company at some point because the company is paying you the shareholder who won't be the shareholder anymore. The shareholders that will be long-term investors they will be left holding the bag for the shareholders that are selling stocks and enjoying their life drinking a martini somewhere at the Mediterranean Sea. So the positive on buybacks is the following. Buybacks lower the number of shares outstanding which means that future earnings will be divided by a smaller number which means that future earnings will be higher, future dividends will be higher, future buybacks will be higher. That's one. Further on dividend you have to pay taxes on buybacks the company simply repurchases the shares, cancels them out and nobody has to pay any taxes on that. So that is the positive. Another positive is that there is so much demand for the stock and that demand pushes the stock price higher which means the management gets more bonuses, gets more options and the management gets richer. However the negative of buybacks is that it destroys value and I'll show you exactly how. This is the price to book value of the SAP 500 it is currently at 3.53. This means that the stock prices are 3.5 times higher than the book value than the actual value, accounting value of the company. So when a company is doing a buyback they are paying 3.5 dollars for something that they have created or can create internally for one dollar. Similar example as I have said for the house. So they could invest in their businesses in what they have been doing all along by investing one dollar and creating value or they could pay 3.5 dollars to buyback what they have been creating, what they own for one dollar. The 2.5 dollar difference goes to the shareholder that is selling the stock. He gets that money. There is plenty of happy shareholders that have sold their stock to the companies that are pushing the prices higher and higher. In 2017 the last four quarters that we have data companies SAP 500 companies have spent 517 billion on buybacks. That money could have been invested in research, building new businesses and so it would add much more value to shareholders. However now we did add value but to the shareholders that have been selling the stocks that the companies have been repurchasing. The main problem with buybacks is that when the price to book value is low like it has been in 2009-2010 companies are not buying back their shares because they ain't got the cash to do that. However in 2007 ad market peaks and in the last four or five years when the SAP 500 has been extremely expensive companies are pushing their stock price higher and higher and spending every penny they have in order to do more buybacks. If we look at how much are companies spending of their earnings in this case these are operating earnings if you look at net earnings they are spending more on buybacks and dividends than what they are bringing in in earnings. This means that they are not reinvesting which means that they are lowering their long-term earnings but they are yes increasing their short-term earnings because the number of stocks outstanding will be lower. However this is the short-term focus that usually the corporate management has because I get my options I get my bonuses and I retire versus the long-term focus that is your focus that is the focus of the long-term shareholder that hopes to retire on the company's dividends like many general electric shareholders have hoped yes. So in short the companies are spending 517 billion per year and they are buying book value of 147 billion which means that the difference of 370 billion goes to those who are selling stocks that's how it works. If we look at why they are destroying value you can see here the three lines the top line is from Walgreens the book value in the last five years from Apple and the bottom is from General Electric. You can see that Walgreens book value went from 23 to 25 just increased by two dollars in five years even if Walgreens had earnings average earnings per share of three dollars over the last five years. Apple's earnings per share over the last five years have been on average six dollars however their book value went up just five dollars in the last five years. This is because they are spending a lot of money of buybacks. Similarly General Electric's book value went from 1213 to the current just above eight so a lot of value has been destroyed through buybacks General Electric was profitable in the last five years. So what has happened to General Electric can happen to Apple can happen to Walgreens when it will happen it will happen when the cycle reverts when the cycle turns from current extremely positive don't forget that all what's going on has been going on in a positive economic environment for eight years and with historical extremely low distorted interest rates that allow companies to borrow at almost negative interest rates for example in Europe and use that money to do buybacks pay dividends and whatever they have been doing. So the situation now is extremely distorted and we are in the late part of the economic cycle with consumer leverage increasing etc etc higher debt that debt will become a burden especially if interest rates increase for companies for consumers at that point in time those earnings that are relatively okay now will deteriorate. If let's say Apple's earnings and Apple has been around for 41 years now and Apple's earnings have been up very exciting periods like it is the case now but they have also been very very low almost bringing the company bankrupt in many more occasions and then they brought in Steve's jobs to save the company but there is no more Steve's jobs nevertheless if a apples earnings per share drop to zero or go even negative what would be the value of Apple's stocks with uncertainty about the future well it would be around book value which is around 25 dollars per share so if in the next 10 20 years which is the investment horizon of pension funds of those who want to retire on Apple if that happens Apple's earnings go to zero with an uncertain outlook you can expect their stock price to be at 25 because they won't have the capital to reinvest and rebuild earnings because they have spent all on buybacks so there won't be any positivity for the future which means the stock price gets smashed like it has been the case for general electric one guy that doesn't do buybacks that are above price to book value or to be precise 1.2 price to book value is Warren Buffett this is because he thinks the intrinsic value of Berkshire is a little bit higher than the actual book value however by not buying back his shares at any ratio above 1.2 he shows that what I have said now is how it works and it's up to you if you want to choose what has worked in the last 50 plus years or what the new corporate management is following thanks to an addiction to high interest rates so we have to really check for companies especially if you're a long-term investor then you have to look out for companies that are doing huge buybacks because their fate might turn as buybacks are pushing stocks higher so when the trend reverses when there is a recession that stock will drop like a rock let me show you from a technical perspective how buybacks work let's say a company has only cash and 100 000 on the balance sheet the number of stocks is 1000 the book value per share is 100 and the stock price let's say is 350 like what is the price to book of the SAP 500 if the company buys back 100 shares it means that it spends for buybacks 45 000 the remaining cash on the balance sheet is 65 000 which is now divided on 900 stocks the book value is not 100 anymore the new book value is 72.22 this means that 27.8 percent of the book value has gone to the shareholder that has sold the stock thank you for watching are you a long-term investor then you shouldn't be happy about buybacks are your short-term investor like the corporate manager is he can't wait to get the bonus retire or to go to another company then you have to be happy about buybacks think about that when you are buying for your stocks for your 401k or something like that thank you for watching looking forward to your comments and I'll see you in the next video