Why Microsoft, IBM, China Gas Share Buybacks Show Lack Of Imagination

(MoneyWatch)  Share buybacks are back in fashion this season. With economic conditions stabilizing, and equity valuations still much cheaper than they were previously, companies are turning to their cash balances and the corporate bond market to buy back their beaten-down shares.

Monday, Microsoft said that it is raising $3.75 billion by selling corporate bonds in order to buy back its own stock. The news follows IBM's statement recently that it has $3.7 billion in cash to buy back its shares.

Overseas, too, buybacks are becoming popular. In Hong Kong, China Metal, airline Eva Holdings, High Fashion and Hong Kong & China Gas have all just bought more shares, while in India Godrej Industries is repurchasing nearly 10% of its own stock between next week and the end of July.

Share buybacks are usually popular with investors, since they signal that the company thinks it is being undervalued by the market. But how much confidence do these buybacks show the company has in its operations?

Hedge fund manager and financial blogger Eddie Elfenbein delves into the Microsoft buyback:

Frankly, I've become very skeptical of share buybacks. On paper, what Microsoft is doing makes a lot of sense. Implicitly, the company is saying the stock is too low and bonds are too high. That's probably right.

However, I'd rather not have a company try to fatten its profits by making guesses in the financial markets-even if they're good guesses. According to their latest statements, Microsoft has a cool $25 billion in cash and short-term investments. Why not draw from that? By just sitting there, it's probably drawing a microscopic yield. Better, why not return a lot of that to shareholders. That might even get the stock up.

Ideally, a company should focus on its business and their financial strategy should merely serve what the business needs.

The point is not just academic: if a firm has a red hot product, it would presumably rather invest in developing that than spend the money speculating on its own stock. This is where share buybacks differ enormously by intent. If a company is buying back its shares in order to strategically boost an ownership stake so that it can fend off acquisitions or perhaps, in order to engage in a big acquisition down the line, then this might make sense.

But when Microsoft wants to speculate on financial instruments rather than pour that cash into research and development, it's difficult not to take that as a sign that the heady days of innovation are coming to a grinding halt in Redmond, Washington.

The same goes for energy and industrial companies, which should have ample opportunities to invest in with all the innovation that's taking place in that sector. In other words, what share buybacks amount to is a very short-term speculation in the financial markets, rather than long-term operating growth. It's an indirect way of saying that the company has no new ideas.

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