U.S. companies are now reportedly earning record-high operating returns on capital while at the same time continuing to set new records both for corporate cash holdings and distributions to investors in the form of dividends and stock repurchases. But are most of these companies really maximizing value? And what role, if any, do these large distributions play in creating value? These are the two main questions that are addressed by a small group that includes two senior corporate executives and two representatives of well-known activist investors.
A number of panelists suggest that many companies, in misguided efforts to maximize returns on capital, have been using hurdle rates that are too high and so sacrificing value-adding investment opportunities. As evidence for this claim, they cite evidence that, in recent years, the companies that have achieved the highest stock market returns appear to have made conscious decisions to reduce their returns on capital to pursue higher growth.
Another increasingly common charge against U.S. companies is their tendency to pay out excessive capital to investors, especially in the form of stock repurchases at prices that turn out to be too high. But this last practice, however widespread, may not be as troubling as it has been made out to be. Although it involves a wealth transfer from existing to selling shareholders, overall investor value is lost only if such buybacks lead to corporate under investment. But, as a number of panelists (including the activist investors) point out, such payouts of capital have generally functioned as a demonstration of corporate managers’ commitment to investing and operating with the optimal, or value-maximizing, level of capital— neither too much nor too little.
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