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Warren Buffett: This should be the guiding principle for corporate stock buybacks

Berkshire Hathaway CEO Warren Buffett and Vice Chairman Greg Abel discuss the backlash against corporate buybacks and explain when a company should buy back its own stock.

Video Transcript

BECKY QUICK: This question comes from David Kass. He is a clinical professor of finance at the University of Maryland. And he says, "Berkshire has invested in many companies with stock buyback programs. Recently, there's been a backlash against buybacks. What are your views on this subject?"

WARREN BUFFETT: Well, it's very politically-correct to be against buybacks now. And you know-- and they're going to incorporate it in the bond program. There's a lot of crazy things said on buybacks. Buybacks are so simple. I mean, it's a way of distributing cash to shareholders.

And let's just say that you and I and Greg-- the three of us-- decide to buy an auto dealership or a McDonald's franchise or something. And we each put a million dollars in, you know, or whatever the number may be. And we get along with each other, and the business grows and all of that. And one of us really wants to spend our share of the earnings, and the other two want to leave the money in the business to grow.

Now, if the three of us did that, and we're the only shareholders, we would not establish a 100% dividend payout for everybody. And we wouldn't freeze the one that wanted to get out, either. The logical thing to do is to buy a portion-- whatever that person wants to spend annually from the earnings-- buy a portion of their stock, and the other two find their interest in the company goes up. And the third person still has a little more of an interest by what they leave in, but they also can take some money out of the business.

You're taking money out of the business in either case. And one, you call dividends, and you send it to everybody whether they want it or not. And with buybacks, you give it to the ones who want the money. And I have been following a policy of giving away stock, now, since 2006. And I'll give away a lot of stock.

But the people-- the philanthropies that receive it, they just have to spend the money very promptly, within-- you know, on a current basis, more or less. So they are getting $3 billion worth of stock, or whatever it may be. And I'm, in effect, reducing my interest in Berkshire. But I'm still-- Berkshire's still retaining more capital than I'm giving away. So I have more dollars invested, but my interest goes down.

And the people that need the cash to carry out the philanthropic efforts-- they cash out the stock. And I don't force my sister or whoever it may be, to take a bunch of money she doesn't want. She wants it reinvested-- all of it reinvested in the business. And people that don't want to can sell some of their stock, and the company ends up in the same position. We've distributed some of the capital that we don't need for growth.

Now, whether the company should buy it depends on a couple of things. One is they ought to retain the money they need for intelligent growth prospects. That's fine. And secondly-- and this is a point that's never mentioned-- they should be buying it back below what they think it's worth.

Now, they'll make mistakes in that, but you make mistakes in a lot of business decisions. But over that should be the guiding principle. And to my knowledge, JPMorgan-- Jamie Dimon said once, and we've said it various times-- you know, we retain-- we will repurchase shares when it's to the advantage of the continuing shareholder to have us do so.

But you read about all these buyback programs that we're going to spend 5 billion buying it back, or 10 billion. Well, that's like saying, I'm going to go out and buy some business this year for 5 billion without knowing what you're going to get for the money. It should be price-sensitive, obviously. It should be needs-sensitive, obviously.

But when the conditions are right, it should also be obvious to repurchase shares. And there shouldn't be the slightest taint to it, any more than there is to dividends. And people that have now sort of taken up the cries about how terrible it was that companies bought back stock-- well, you can say it was terrible for them to pay dividends, too. Then they'd have more money now. But they were doing what was intelligent at the time, and I hope they continue to do it intelligent as they go forth. Greg?

GREG ABEL: No, the only thing I know you've commented on in the past, Warren, is that I think the one thing we are seeing-- and obviously, we're supportive of buybacks. But there are companies that used-- probably their financial engineering was just a little--

WARREN BUFFETT: Extreme.

GREG ABEL: --extreme and too cute, that, effectively, you're using every ounce of your balance sheet to buy back stock at a time where you're really creating no cushion for your business for any type of event or bump in the road. And I-- you know, we're going to see that. And I think that's a very unfortunate outcome of them. And hence, you get some of the backlash. But there are still companies, as you highlighted-- many that do it right.

WARREN BUFFETT: Yeah. Now, if they're buying it back because it's fashionable, because they really do like the idea, there's nothing wrong with doing-- taking an action that increases the value of the remaining shares. But if they're doing it very-- and incidentally, I've been witness to some programs where it really is stupid. But I don't think it's immoral. I just think it's stupid, you know, basically.

And on the other hand, we favor companies that take care of all their requirements for growth and, as Greg says, maintain sound balance sheets and all of that. Leave a margin of error for things that you can get surprised with. And if they find their stock selling below the-- what the business is intrinsically worth, I think that they're making a big mistake if they don't buy in their stock.

And it's going to be a political football. And like I say, when it becomes politically correct to do something in this country, if you're a politician, the best thing to do is get on board. But Berkshire is going to do what it thinks makes sense for shareholders. And we like investing in companies that think that way, too. Not all companies, obviously, do.

GREG ABEL: Yeah.