You would have heard of dividend yield, which measures how much a company pays out in dividend compared to the share price. However, not many would have heard about the term “buyback yield”. Buyback yield is the dollar amount of buyback done by the company compared to the existing market capitalization of the company. Buyback yield can serve as hidden dividends – not obvious to the market but can create huge catalyst for a rise in stock price. Both the dividend yield and buyback yield can be added up to give a “cumulative yield”.
High buyback yield is usually a result of high free cash flow (which is the operating cash flow minus the capital expenditure) in a company. A company can do a few things when it has free cash flow. It can reinvest back into its business, it can pare down debt, it can pay dividends or it can buy back its own shares. When a company buys back its shares at, say 2%, while keeping profits and price-to-earnings ratio steady, the share price should increase by 2%. A company usually buys back shares if it thinks that the stock is undervalued. Charlie Munger dubs such companies which repurchase a significant amount of stock over time as “cannibals”.
A company with a cumulative yield of over 5% is a good candidate to purchase. The company should also have lots of free cash flow yearly so that it can continue its share buyback into the future and not have it be a one-off occurrence. A company with lots of free cash flow with negligible debt is a cash cow that can dish out dividends and buys back its shares freely.
In the U.S., companies like Pfizer, Corning, Campbell Soup, Coca-Cola have high cumulative yield of above 5%. In Singapore, I have not come across companies that have a yearly consistent share buyback programme. I have only seen companies doing buybacks sparsely without any regularity. Anyway, in Singapore, there are many high dividend yielding companies with good free cash flow and low debt. Such companies have a dividend yield of 4%-6%. Comparing that with the U.S., the average dividend yields are not high, at around 2%-3% only. Thus, looking at cumulative yield in when buying U.S. companies will prove to be more futile than in Singapore companies.
In conclusion, share buyback is a powerful concept that can serve as hidden dividends. On top of dividend yield, it will be good to look out for buyback yield to give the cumulative yield. Companies with a cumulative yield of above 5% might be something to look into.