The 2008 Share Repurchase Program At Potash Corp. (Part VI)

On January 23rd, 2008, a little noticed news item was released by Potash Corp. (POT). That particular day was also the day when the stock price reached its lowest point of the year, about 120, which was about 7 dollars under the 50 day moving average. Once again, for the sake of argument, this was also the day when the historic hand off to Potash occurred, as well as the day that marked the end of the negative influence of that unlucky albatross (see Part V). So this was, all in all, a rather meaningful day for the long term investors in Potash Corp.

The news item was an announcement of a share repurchase program, involving up to 15,82 million shares, or about 5% of the outstanding 315.4 million shares. At the very low price of 120 per share, that equals $1.8984 billion! If considered advisable, these shares are to be repurchased on the open market through January 30th, 2009, at prevailing market prices. The timing and amount of purchases if any, will be dependent upon the availability and alternative uses of capital, market conditions and other factors.

How interesting that management would choose such a propitious day for the kick off of their share repurchase program. Low price day, kick off day, hand off day, and farewell to albatross day, are all taking place on the same day, and no one really seemed to notice. The choice of this day means that management could then start to repurchase shares at the lowest available price of the year, $120 per share.

I wonder if the markets have the positive effects of the savvy of this management team priced in correctly? I also wonder if the markets truly understand what share repurchase programs are all about, and how they influence all the numbers relating to efficient use of what is, after all, the shareholder's capital. I would also like to mention that on that same day, management also declared a "measly" dividend of only 10 cents per share. For some investors, that's a clear sell signal, as obviously management doesn't know what to do with its profits, or how to best reward its long term shareholders. Or does it?

Another news item was released by Potash Corp on April 24th, 2008, concerning its fourth quarter results. Included within this bewildering collection of numbers, were the fourth quarter results for the share repurchase program. These revealed that management had repurchased 3,398,800 shares at a cost of 516.3 million, or 151.9 dollars per share. This means that 21.48% of the total amount of shares available in their program were bought, which also represent about 1.08% of the total amount of tradeable shares.

It seems to me that management succeeded in buying back 1.08% of the total shares from the panic stricken Potash bears, at a price equaling 46.64% of Monday's closing price of 222.75. This means that those shares which management bought for 516.3 million, would now be worth 757 million, if still in circulation, which is a difference of 240.7 million. So who benefits?

So what did management do with all the repurchased shares? Answer: It destroyed them all. Now why would management destroy the value of $757 million worth of company shares that only cost it $516.3 million on the open market in the first place?

Answer: To make the remaining shares more valuble! The laws of supply and demand are working quite well at Potash Corp, I can assure you. Many of the remaining shares are in the hands of the company's cherished long term investors, for whom the share repurchase program is intended to benefit the most. Does anyone understand this?

Warren Buffet sure does. He said, "When companies with outstanding businesses and comfortable financial positions find their shares selling far below intrinsic value in the market place, no alternative action can benefit shareholders as surely as repurchases" Peter Lynch calls share repurchases "The simplest and best way a company can reward its investors." Joshua Kennon at beginnersinvest.about.com calls them "The golden egg of shareholder value." I even like them.

Apparently the people shorting this stock, and the ones trying to time the market by all their excessive buying and selling activities, don't seem to realize that they are up against management's share repurchase program. It looks like management is buying when the fear and ignorance is greatest, usually represented by the stock trading below its 50 day moving average. This is the patient long term investor's best insurance policy. We are happy when the stock price goes up of course, but we are also happy when the stock price goes way down. Then the share repurchase program kicks in and eventually makes are shares worth more. So we are happy no matter what happens.

If the patient long term investors got a 201% return in 2007, plus a 54.73% year to date return to Monday, July 21st, then I wonder how the other players have done. If they can top the returns of us lazy and ignorant long term investors, then they have done very well indeed. But have they?

Comments

[User 59050:]

Thanks so much. I learned something :-)

2008 Jul 23 08:24 AM

[groty:]

There are numerous examples of companies that spent $billions on share buybacks over the years but ultimately filed for bankruptcy. Delta Airlines is a good example. Two years before they filed they bought back stock in the $40/per share area. After they filed, the stock was worthless.

If Delta had all the $billions they spent on share buybacks, maybe they could have avoided bankruptcy. I'm not saying they would have avoided bankruptcy if they hadn't spent all that money on share buybacks, I'm just raising the possibility.

Share buybacks are an easy way to increase EPS and ROE, but they can also be an easy way for management to squander shareholder's capital and benefit only the select few who sold their stock back to the company.

2008 Jul 23 01:49 PM

[Clavis:]

Do not forget that management hold a high percentage of shares so this is in fact a 'bonus' possibly paid for by the shareholders dependant upon the percentage gain of whether the buy-back provides value over the dividends which were not paid.
Whatever, managements happy!

2008 Jul 24 05:56 AM

[Carl Martin:]

GROTY, An excellant point! I'm aware that some companies abuse share repurchases, and /or make terrible mistakes, that they and shareholders seriously regret with the passage of time. I chose not to "muddy the waters" with all the relevant facts and pros and cons of buybacks, as I don't think many people quite understand what they are to begin with. You obviously do. The key to understanding whether Potash Corp's repurchase program is likely to be a good idea or not, would seem to hang on whether Warren Buffet's wise words apply to the present situation or not. Notice how the author is carefully hiding behind Warren Buffet's words. That seems like a safe place to hide, so I'll let him take all the heat, if there ever is any. There's not many comments on this article so far. It looks like the other one (The Agriculture Boom Goes Bust) is getting all the heat instead.

2008 Jul 24 08:00 AM

[groty:]

Per footnote #3 of today's presss release, management spent about $1.5 billion buying back almost 7.5 millions shares at an average price of $203.30 per share during the quarter.

Yet "the market" sold the stock down to the $190 area even though they knew management thought $203.30 represented a good use of shareholder capital.

Somebody is obviously wrong.

I have to say, I can't ever recall seeing investors willing to sell so far below the average buyback price so soon after a quarter ended. It seems irrational, but we'll only know in hindsight if the sellers at $190 and below were irrational or if it is management who was irrational for buying at $203.30.

2008 Jul 24 12:35 PM

[Carl Martin:]

GROTY, Check out the volume charts. I think the volume spikes represent the days when management is doing some heavy buying. Thursday, July 24th, 2008 might show up in the financial history books some day. Volume was at more than 25 million shares, compared to almost 11 million average the last three months. Management could have easily bought the remaining 5 million shares at prices between 195 and 205. So maybe the buying program is already over. What do you think?

2008 Jul 25 07:18 AM

[groty:]

There are restrictions about when and how much stock management can buy in the open market under a corporate buyback program.

For example, I know they can't be the opening print and I know they can't buy during the last half hour of trading. They can't "take offers" and drive the price higher. They have to place bids below whatever the current best bid is at any given point in time.

There's also a daily volume restriction. I think its 25% of the average trading volume, but I can't remember over what period the average is calculated. It's been a long time since I learned the rules, so the rules may have changed over time or my memory may not be accurate.

But using your 11 million average figure, management could have only bought back 25%*11million = 2.75 million shares.

2008 Jul 25 10:48 AM