The idea for this article emerged from my long-standing frustration (not widely shared among other investors, I've noticed) with "technology" companies. Although these companies can only be loosely lumped together in the technology category on the basis of their actual businesses (which range from online auctions, as in the case of eBay (NASDAQ:EBAY), to personal computers as in the case of Dell (NASDAQ:DELL), to services as in the case of Hewlett-Packard (NYSE:HPQ)), one thing that these companies have in common is their tendency to issue stock at below market prices. This article will put these three companies under the microscope and attempt to arrive at an estimate of the amount of value lost in the last five years through their respective stock compensation/options policies.
I will contrast the behavior with a tech company that appears to be a better steward of shareholders' capital in the stock compensation sense - IBM (NYSE:IBM) - as well as a very good non-tech company, Walgreen (NYSE:WAG).
Source: Statement of Stockholders' Equity and Statement of Cash Flows From eBay's 10Ks for the Respective Fiscal Years
The first example is eBay. The chart is a little busy, but I think it illustrates the point fairly well. As you can see on the left hand side, the Board issues millions of shares worth of stock as compensation at below market prices, typically around $10 per share. It then repurchases millions of shares of stock at market prices, typically around $30 per share.
Over this five-year period, eBay repurchased 82 million shares of its stock, but at a net cost (after taking into account shares issued at below market prices) of more than $50 per share.
As you can see from the graph below, eBay stock never even touched the $50 price range during this five-year period.
If by unscientifically "eyeballing" the chart we can agree that instead eBay's stock averaged around $25 per share, then management's behavior (spending more than $4 billion to buy stock at $50 per share instead of $25 per share) cost shareholders about $2 billion.
Also of note, when eBay stock fell to $10 in 2009, the company did not repurchase any shares, preferring to resume purchases when the shares returned to around the $30 level. Notice how low this $10 price seems to an outside investor; yet this is the price - or even lower - at which management routinely issues itself shares.
Indeed, it is easy to get discouraged with a stock like eBay, knowing that you are not playing on an even field with the management, and that you have to invest in the company at market prices while management routinely gets shares at a discount. Not only that, but by issuing itself such discounted shares, management is also lowering the value that the stock has to outside investors who bought the stock themselves with their cold, hard-earned cash.
Source: Statement of Stockholders' Equity and Statement of Cash Flows From Dell's 10Ks for the Respective Fiscal Years
Here Dell paid more than $10 billion to repurchase shares at an average net price of about $25 per share. Again, here is a five-year chart of Dell. Just eyeballing the chart, it's clear that Dell stock barely touched $25 during this timeframe:
(click to enlarge)Indeed since 2009, the shares never exceeded $18. To simplify the math, assuming that management could have repurchased all the shares it bought for $18 (instead of $24), this would have saved Dell shareholders $2.47 billion ($6 times 412 million net shares).
The next batter to come to the dish is Hewlett-Packard.
Here is a similar table for HP:
Source: Statement of Stockholders' Equity and Statement of Cash Flows From Hewlett-Packard's 10Ks for the Respective Fiscal Years
And the corresponding five-year stock chart:
(click to enlarge)Shares rarely touched the almost $50 price at which they were purchased, and at no point in the last two and a half years (during which HP spent about $20 billion) did the shares touch $50. Also of interest is that, after $36 billion in net repurchases, HP shares are significantly lower today than they were five years ago. Of course, management's response to this situation has been to decrease share repurchases.
In contrast, here is a similar table for IBM. Anecdotally, it may be worth noting that Warren Buffett's Berkshire Hathaway (NYSE:BRK.A) has a large IBM position and Buffett stated previously that IBM treats its stock "with reverence" (Warren Buffett CNBC Interview, 11/14/2011).
Source: IBM's Statement of Stockholder's Equity and Cash Flow Statement in the 10-Ks for the Respective Fiscal Years
And for reference here is IBM's five-year stock chart:
Here the results are far more respectable, at an average price of $140 per share, with the stock today trading about 50% higher. The numbers, even for IBM, aren't perfect, with prices at which shares are issued at roughly 20% lower than prices at which shares are repurchased. Perhaps this is ameliorated because the amount of shares repurchased far exceeds the amount of shares issued as compensation.
A much better example is Walgreen, a non-tech company.
Here is the table:
Source: Walgreen's Statement of Stockholder's Equity and Cash Flows in the 10Ks for the Respective Years
And here is the five-year stock chart:
About what one would expect: management wasn't able to time stock repurchases perfectly (didn't buy much if any stock on the lows), but at least it issued stock at around market prices, as confirmed by the data table and also by visually viewing the stock chart and comparing it with the average price paid of around $36.
Do the above facts guarantee that the more callous tech companies (DELL, EBAY, and HPQ) are a good short? Not necessarily. In addition, such stock compensation practices are very common in tech companies, but may occur in other companies as well. In my opinion, this type of behavior shows a certain disregard, and even disrespect, for the lowly individual shareholder. It also seems to show a management that puts its own interests ahead of that of the stockholder. If nothing else, perhaps the statistics in this article give the reader pause and reason to consider whether these companies deserve your investment. Conversely, IBM and WAG are more admirable in this respect.