Putting A Number On Shareholder Value
We often hear or read the term “shareholder value” bandied about by analysts, media reporters, and company spokesperson, but the concept tends to be relatively ill defined, and usually not quantitatively comparable. It’s often applied to any number of actions taken by a company that are viewed to be positive moves for stockholders. However, the term most commonly refers to stock dividends, share repurchases, and debt reduction. However, just looking at those three factors, that’s several moving parts. Is there a way to combine them to come up with a measure that can be used to compare different companies as an aid in investment decision making?
As it turns out, there is just such an animal, and it goes by the name Shareholder Yield. Now, most stock and bond holders are familiar with dividend yield. That’s simply taking the per-share amount of what a company pays out and dividing it by the current stock price. That’s all well and good, but what about stock buybacks? While we may know that a company is repurchasing shares, the important point is determining how much of a net impact that has, and the same applies to debt.
Crunching The Numbers
So here we are faced with three different measures, all of which are important indicators for how much the company is doing for its shareholders (the owners). How can we combine them so that we can make quantitative comparisons among different companies? Well, the one thing these measures have in common is that they can all be expressed in dollar amounts.
For this information, all we need do is turn to the company’s statement of cash flows, located in every corporation’s annual report, as well as its 10-K filing with the SEC. From here, we just do a little number crunching. The first number we require is the total cash dividend paid to shareholders. That is, on a per-share basis, but the total dollar amount paid out.
Now, of course, some companies just don’t pay dividends, so that puts them at a slight disadvantage. But we’re looking for the overall impact here. And, notably, the lack of dividends may disguise a company’s true Shareholder Yield, since buybacks and debt repayment may actually play a larger role versus companies that have substantial payouts, as we shall see later on.
Next, we want to look at net share repurchases. Sure, a company may tell the world that it is buying back a material amount of its stock, but it may not highlight the fact that these will barely make up for all the shares it’s issuing to favored workers through stock options. So here we take the dollar amount spent buying back shares and then subtract the sum of what it issued or sold. The same logic is then applied to the company’s debt. You take long- and short-term debt repaid, and then subtract all the additional debt it has taken on.
Okay, so what do we do with all these numbers? Well, we combine the three and then express them as a percentage of the company’s market capitalization, or market cap. This last number is easily derived by taking the total number of shares the company has outstanding and multiplying it by the share price. For example, taking a company that has one million shares outstanding, and trading at $10 per share, we arrive at a market cap of $10 million.
So we now have net dollars spent buying back shares and reducing debt, plus the cash paid out in dividends, and the company’s value expressed by market capitalization. Let’s take a real world example and see what kind of number we get.
Grabbing a hold of Dow-30 company McDonald's (MCD - Free McDonald's Stock Report) 2010 statement of cash flows we see that it paid out $2.4 billion in common stock dividends that year. Next, we see that the company issued $3.1 million in short-term borrowings, added $1.9 billion in long-term debt, and repaid $1.1 billion of its long-term loans. Putting the three together we get about $800 million in net borrowings. For our purposes, that’s a negative. Finally, we see that it shelled out $2.7 billion for share repurchases.
So, combining the three ($2.4 billion - $800 million + $2.7 billion) gets us roughly $4.3 billion spent on enhancing “shareholder value”. Dividing that into MCD’s yearend market cap ($80.9 billion), we get a 5.3% Shareholder Yield. By comparison, the company’s dividend yield by itself stood at 3.0%.
Comparing Some Blue Chips
Now, let’s see how some other Dow-30 companies stack up. (For the sake of consistency, all calculations are based on fiscal year end data).
If we just look at dividend yields, the top five would consist of AT&T (T - Free AT&T Stock Report) at 5.7%, Verizon (VZ - Free Verizon Stock Report) 5.4%, Pfizer (PFE - Free Pfizer Stock Report) 4.3%, Merck (MRK - Free Merck Stock Report) 4.3%, and Kraft Foods (KFT - Free Kraft Foods Stock Report) with 3.9%.
But when we incorporate the cash flows from changes in debt and stock transactions, we get a slightly different picture, as two of the companies disappear from the list. Making the top five we now have, Verizon in the top spot with a Shareholder Yield of 14.5%, followed by Procter & Gamble (PG - Free Proctor & Gamble Stock Report) 10.5%, AT&T 8.8%, Pfizer 8.0%, and Caterpillar (CAT - Free Caterpillar Stock Report) at 7.8%.
The drug maker Merck was knocked off because it issued $658 million more in debt than it repaid. Its 5.0% Shareholder Yield thus fell short of making the list. The same fate befell Kraft Foods, as its net debt increased by $6.4 billion. This actually pushed its Shareholder Yield to a negative 7.7%. However, this is a bit of a special situation, in that Kraft made a major acquisition last year. Conversely, Procter & Gamble and Caterpillar made the list largely for the large debt repayments.
Cisco (CSCO - Free Cisco Stock Report) is also an interesting case, as it’s the only DOW component that did not pay a dividend last year (although it recently initiated one). However, it too had a negative yield (-0.4%) as it took on $5 billion in debt.
It should be pointed out that we’ve excluded financial companies from our comparison, namely JP Morgan Chase (JPM - Free JP Morgan Chase Stock Report), American Express (AXP - Free American Express Stock Report), Bank of America (BAC - Free Bank of America Stock Report), and Travelers (TRV - Free Travelers Stock Report), as well as General Electric (GE - Free General Electric Stock Report), which has a large lending component. The reason is that the financials are structured differently. Namely, rather than debt, they rely on deposits and other instruments for funding.
Some Closing Thoughts
There are a few caveats to keep in mind when considering Shareholder Yield as a potential investment tool. First of all, a company doesn’t always buy back its stock at the most ideal price. Similarly, if debt costs are low, it might not be best to pay it down if the return it gets otherwise is better, such as with acquisitions, for example. And of course, the old argument that money paid out in dividends doesn’t help the company expand also holds some merit.
Altogether, Shareholder Yield should be looked at as another instrument in the investor’s complete toolkit. By itself, it may not be particularly revealing or predictive, but in combination with others it adds another layer of analysis to help differentiate between potential investment options.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.