A closer look at how a blue-chip buyback enhanced returns.
Take a look at the following table. It lists a series of share purchases since 2003:
The price of the share in question is currently £32. Now I don't know about you, but I'd be chuffed if they were my purchases.
Anyway, the investor in question here isn't an individual or City fund manager. It's actually a FTSE 100 company -- British American Tobacco (LSE: BATS) to be exact.
You see, those share purchases reflect the share buybacks the tobacco group has made during the last nine years or so. And I've calculated those buybacks proved a much better way of enhancing shareholders' returns than simply distributing the buyback cash as dividends.
Here are some figures to consider. Between 2003 and 2011, BAT:
- spent £4,096 million on buybacks, buying 340 million shares for an average 1,204p, and;
- paid £12,354 million as ordinary dividends, equivalent to 610p per share.
In addition, the tobacco group reported underlying post-tax profits of £3,857 million for 2011. With a current share count of 1,912 million, BAT's earnings are therefore 202p per share and the £32 share price is valued on a price-to-earnings (P/E) ratio of 15.9
Replacing buybacks with dividends
But how would BAT shareholders have fared if that £4,096 million spent on buybacks had instead been paid out as dividends?
Well, BAT's share count would now be 2,252 million (that is, the current 1,912 million plus the 340 million of shares bought back).
Meanwhile, earnings per share would now be £3,857 million divided by the new 2,252 million share count, or 171p. Then applying the current P/E of 15.9, the share price would now be around £27 -- some £5 or 16% below the actual £32 price.
Of course, a buyback-less BAT would have paid out its buyback cash as additional dividends. So, buyback expenditure of £4,096 million divided by the larger 2,252 million share count comes to 179p per share. Not bad, but an extra 179p of payouts would not have made up for the £5 share-price shortfall.
What's more, without a buyback, BAT's ordinary dividends would have been lower during 2003 to 2011 because of the larger share count.
In fact, I calculate ordinary dividends between 2003 and 2011 could have come to 548p per share without any buyback (dividends of £12,354 million divided by a 2,252 million share count), in comparison to the 610p per share that was actually distributed.
In reality, BAT investors currently have shares worth £32 and have collected dividends of 610p per share since 2003.
However, had buybacks been exchanged for dividends, BAT shareholders would now have shares worth £27 and would have collected dividends of 727p (179p plus 548p) per share since 2003.
The difference between the two is 383p per share in favour of the buyback. I think that sort of sum is significant for BAT shareholders, and I do wonder if that difference can increase further in time. Indeed, I note BAT is planning to lift its buyback programme from £750 million to £1.25 billion for 2012 -- and shareholders must be hoping that alternative to dividends can improve their wealth even further!
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