[House Hearing, 116 Congress]
[From the U.S. Government Publishing Office]
EXAMINING CORPORATE PRIORITIES:
THE IMPACT OF STOCK BUYBACKS ON
WORKERS, COMMUNITIES, AND INVESTORS
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HEARING
BEFORE THE
SUBCOMMITTEE ON INVESTOR PROTECTION,
ENTREPRENEURSHIP, AND CAPITAL MARKETS
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED SIXTEENTH CONGRESS
FIRST SESSION
__________
OCTOBER 17, 2019
__________
Printed for the use of the Committee on Financial Services
Serial No. 116-58
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
__________
U.S. GOVERNMENT PUBLISHING OFFICE
42-361 PDF WASHINGTON : 2020
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HOUSE COMMITTEE ON FINANCIAL SERVICES
MAXINE WATERS, California, Chairwoman
CAROLYN B. MALONEY, New York PATRICK McHENRY, North Carolina,
NYDIA M. VELAZQUEZ, New York Ranking Member
BRAD SHERMAN, California ANN WAGNER, Missouri
GREGORY W. MEEKS, New York PETER T. KING, New York
WM. LACY CLAY, Missouri FRANK D. LUCAS, Oklahoma
DAVID SCOTT, Georgia BILL POSEY, Florida
AL GREEN, Texas BLAINE LUETKEMEYER, Missouri
EMANUEL CLEAVER, Missouri BILL HUIZENGA, Michigan
ED PERLMUTTER, Colorado STEVE STIVERS, Ohio
JIM A. HIMES, Connecticut ANDY BARR, Kentucky
BILL FOSTER, Illinois SCOTT TIPTON, Colorado
JOYCE BEATTY, Ohio ROGER WILLIAMS, Texas
DENNY HECK, Washington FRENCH HILL, Arkansas
JUAN VARGAS, California TOM EMMER, Minnesota
JOSH GOTTHEIMER, New Jersey LEE M. ZELDIN, New York
VICENTE GONZALEZ, Texas BARRY LOUDERMILK, Georgia
AL LAWSON, Florida ALEXANDER X. MOONEY, West Virginia
MICHAEL SAN NICOLAS, Guam WARREN DAVIDSON, Ohio
RASHIDA TLAIB, Michigan TED BUDD, North Carolina
KATIE PORTER, California DAVID KUSTOFF, Tennessee
CINDY AXNE, Iowa TREY HOLLINGSWORTH, Indiana
SEAN CASTEN, Illinois ANTHONY GONZALEZ, Ohio
AYANNA PRESSLEY, Massachusetts JOHN ROSE, Tennessee
BEN McADAMS, Utah BRYAN STEIL, Wisconsin
ALEXANDRIA OCASIO-CORTEZ, New York LANCE GOODEN, Texas
JENNIFER WEXTON, Virginia DENVER RIGGLEMAN, Virginia
STEPHEN F. LYNCH, Massachusetts WILLIAM TIMMONS, South Carolina
TULSI GABBARD, Hawaii
ALMA ADAMS, North Carolina
MADELEINE DEAN, Pennsylvania
JESUS ``CHUY'' GARCIA, Illinois
SYLVIA GARCIA, Texas
DEAN PHILLIPS, Minnesota
Charla Ouertatani, Staff Director
Subcommittee on Investor Protection, Entrepreneurship,
and Capital Markets
CAROLYN B. MALONEY, New York, Chairwoman
BRAD SHERMAN, California BILL HUIZENGA, Michigan, Ranking
DAVID SCOTT, Georgia Member
JIM A. HIMES, Connecticut PETER T. KING, New York
BILL FOSTER, Illinois STEVE STIVERS, Ohio
GREGORY W. MEEKS, New York ANN WAGNER, Missouri
JUAN VARGAS, California FRENCH HILL, Arkansas
JOSH GOTTHEIMER. New Jersey TOM EMMER, Minnesota
VICENTE GONZALEZ, Texas ALEXANDER X. MOONEY, West Virginia
MICHAEL SAN NICOLAS, Guam WARREN DAVIDSON, Ohio
KATIE PORTER, California TREY HOLLINGSWORTH, Indiana, Vice
CINDY AXNE, Iowa Ranking Member
SEAN CASTEN, Illinois
ALEXANDRIA OCASIO-CORTEZ, New York
C O N T E N T S
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Page
Hearing held on:
October 17, 2019............................................. 1
Appendix:
October 17, 2019............................................. 27
WITNESSES
Thursday, October 17, 2019
Coffey, Derik D., CFA, Portfolio Specialist, Channing Capital
Management..................................................... 10
Fried, Jesse M., Professor of Law, Harvard Law School............ 5
Grice, Janie, United for Respect at Walmart...................... 8
Lewis, Craig M., Madison S. Wiggington Professor of Finance and
Professor of Law, Vanderbilt University........................ 12
Palladino, Lenore, Senior Economist and Policy Counsel, Roosevelt
Institute...................................................... 6
APPENDIX
Prepared statements:
Coffey, Derik D.............................................. 28
Fried, Jesse M............................................... 35
Grice, Janie................................................. 50
Lewis, Craig M............................................... 54
Palladino, Lenore............................................ 67
Additional Material Submitted for the Record
Garcia, Jesus ``Chuy'':
Written responses to questions submitted to Jesse M. Fried... 89
Written responses to questions submitted to Craig M. Lewis... 91
EXAMINING CORPORATE PRIORITIES:
THE IMPACT OF STOCK BUYBACKS ON
WORKERS, COMMUNITIES, AND INVESTORS
----------
Thursday, October 17, 2019
U.S. House of Representatives,
Subcommittee on Investor Protection,
Entrepreneurship, and Capital Markets,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 10:04 a.m., in
room 2128, Rayburn House Office Building, Hon. Carolyn B.
Maloney, [chairwoman of the subcommittee] presiding.
Members present: Representatives Maloney, Scott, Foster,
Vargas, Gottheimer, Gonzalez of Texas, Porter, Axne, Casten;
Huizenga, Hill, Emmer, Mooney, Davidson, and Hollingsworth.
Ex officio present: Representatives Waters and McHenry.
Also present: Representatives Green and Garcia of Illinois.
Chairwoman Maloney. The Subcommittee on Investor
Protection, Entrepreneurship, and Capital Markets will come to
order. Without objection, the Chair is authorized to declare a
recess of the subcommittee at any time. Also, without
objection, members of the full Financial Services Committee who
are not members of this subcommittee are authorized to
participate in today's hearing.
Today's hearing is entitled, ``Examining Corporate
Priorities: The Impact of Stock Buybacks on Workers,
Communities, and Investors.''
I now recognize myself for 5 minutes to give an opening
statement.
This hearing will examine the use of stock buybacks, which
has grown dramatically over the past 2 decades, and has grown
especially quickly in the past 2 years. When companies have
excess cash on hand, they face a choice about what to do with
the money. They can use it to invest in research and
development, purchase new equipment, raise their employees'
wages, or they can pay their own shareholders.
Now, I want to be clear. I have nothing against companies
returning capital to their shareholders. Shareholders invest
their money in promising companies, and if those companies are
successful, then shareholders deserve a return on their
investment. But how companies return capital to their
shareholders is what we are going to discuss today.
Companies essentially have two options to do this: they can
pay a cash dividend to all shareholders; or they can buy back
stock from any shareholder willing to sell their stock back to
the company.
Prior to 1982, public companies very rarely engaged in
stock buybacks because the legality of buybacks was
questionable. When a company buys back its own stock, it
temporarily drives up the price of its stock, which could be
considered a form of illegal market manipulation, so companies
primarily return capital to shareholders by paying dividends.
Then, in 1982, the SEC adopted a rule that gave companies a
safe harbor when they engaged in stock buybacks. Ever since the
SEC adopted that rule, companies have used stock buybacks more
and more, and have used dividends less.
There are a number of reasons why companies prefer buybacks
to dividends. One reason is that buybacks are slightly more
tax-efficient than dividends. But the most important reason, I
believe, is that executives at public companies have a personal
incentive to favor buybacks over dividends. Because executives
are often compensated in company stock, executives can use a
buyback program to boost the company's stock price right before
selling their own stock at these artificially inflated prices.
In fact, a study by SEC Commissioner Robert Jackson found
that executives at public companies sold up to 5 times more
stock than usual immediately following a buyback announcement,
which strongly suggests that executives have been abusing stock
buybacks for personal gain. In addition, if a company is in
danger of missing its earnings-per-share target, then the
executives can simply announce a stock buyback program to
temporarily boost the company's earnings per share and hit
their target.
Unfortunately, the use of buybacks has grown significantly
in the past 2 years due almost entirely to the 2017 tax bill.
Even though many large companies claimed that they would use
their tax cuts to reinvest in their businesses or raise their
employees' wages, in reality companies spent roughly 40 to 60
percent of their tax breaks on stock buybacks.
Companies in the S&P 500 spent roughly $811 billion on
buybacks in 2018, which was a 50-percent increase from 2017,
and buybacks are on pace to increase even more in 2019 to
nearly $1 trillion. With this surge in stock buybacks, I think
this hearing is very timely, and we will be examining several
pieces of legislation on stock buybacks in this hearing.
First, we have a bill by Mr. Garcia called the Reward Work
Act, which would prohibit companies from engaging in open
market stock buybacks. The bill would also require at least
one-third of the directors at public companies to be elected by
ordinary workers in order to give them a stronger voice in how
the company is run.
Second, we have the Stock Buyback Reform and Worker
Dividend Act, which is the companion to a bill that Senator
Sherrod Brown, the ranking member of the Senate Banking
Committee, has introduced in the Senate. This bill would
require public companies that engage in stock buybacks to also
reward their workers by issuing a so-called worker dividend
every time they engage in stock buybacks. For every $1 million
the company spends on buybacks, they would have to issue a
special $1 dividend to all of their ordinary workers, too.
Third, we have a bill that would require increased
disclosures for companies engaging in stock buybacks and would
also require SEC approval for the buybacks.
Lastly, we have a bill that would require companies to make
disclosures about executives' participation in stock buyback
programs and how the buybacks will affect executive
compensation.
I look forward to hearing from all of our witnesses on this
important topic.
The Chair now recognizes the ranking member of the
subcommittee, the gentleman from Michigan, Mr. Huizenga, for 5
minutes for an opening statement. Thank you.
Mr. Huizenga. Thanks, Madam Chairwoman, and I look forward
to having this discussion regarding these stock buybacks and
the impact on workers, communities, and Main Street investors.
Recently, as you are hearing, the practice of stock
buybacks has attracted some scrutiny from some on Capitol Hill.
In fact, this scrutiny seems to be based on a bit of a myth, so
I believe we should first start with the facts on what a stock
buyback really is, and we can just call that, ``Stock Buyback
101.''
When a private company goes public, it has an initial
public offering, through which a company divides itself into
shares that can be sold to investors. Thus, the members of the
public can invest in this company and become shareholders.
Shareholders earn regular dividends based on the company's
performance, which are generally the incentive for an investor
to purchase a company's stock.
Shareholders are free to buy and sell shares, thus earning
money when they sell their shares, based on the price at which
they initially bought the shares. After the initial public
offering (IPO), the company, or the issuer, can then opt to
issue more shares called share dilution. When the company
issues more shares, the value of each share decreases because
each share represents a smaller percentage of the company.
Alternatively, a company may repurchase shares of its own
stock, thus reabsorbing that portion of its company and
reducing the number of shares on the market, increasing the
value of each stock and each share. That is just basic
economics. This is commonly referred to as a stock buyback or
stock repurchase.
Companies use stock buybacks to make shares available for
dividend reinvestment, stock options, employee stock ownership
plans, to provide liquidity in the marketplace, and, many
times, as a preferred and efficient way of returning capital to
shareholders.
Stock buybacks are important to businesses and the economy
because: one, they provide managers with a tax-efficient means
of returning excess capital to shareholders; and two, they
allow managers to signal to investors that the firm is
undervalued when strong.
Returning excess capital is value-adding for two reasons:
first, it helps prevent companies from pursuing growth in size
at the expense of profitability and value; and second, by
returning capital to investors, repurchases, like dividends,
play the critically important economic function of allowing
investors to channel their investment from mature or declining
sectors of the economy to more promising ones.
In 1982, to address concerns over market and price
manipulation by issuers, the SEC adopted Rule 10b-18, which
created a safe harbor from liability for market manipulation
for companies engaged in stock buybacks. However, issuers must
adhere to limitations on manner, timing, price, and volume
conditions that are intended to minimize the impact that
buybacks have on the company stock price. That was the speed
bump that was put in place by the SEC.
Additionally, public companies are required to disclose any
purchases of their own stock in their quarterly and annual
reports, providing a table showing month-by-month statistics,
including the number of shares purchased, the average price per
share paid, the total number of shares purchased under the
repurchase program, and the maximum number of shares or maximum
dollar amount the company can repurchase under its publicly
announced programs. Again, publicly announced programs, so this
should not be a mystery or somehow be hidden from anybody.
Essentially, a stock buyback program is just another way,
like dividends, that a publicly traded company can return money
to their shareholders. Although dividends provide shareholders
with the ability to remain invested in a company while
receiving a regular income stream, a business may instead
prefer stock buybacks over dividends because of tax
considerations, but also because it promotes a more efficient
allocation of capital by redistributing excess cash to more
productive uses.
While some continue to create strongman arguments about
stock buybacks because they believe it feeds into their
political narrative, the fact remains that stock buybacks are
just another tool used by companies and managers to promote
economic opportunity for their employees, while providing
sufficient benefits for American workers and Main Street
investors, like ``John and Jane 401(k).'' In fact, stock
buybacks lead to an increase in the value of their retirement
portfolios, 401(k) plans, pension funds, and college savings
accounts. How is that a bad thing?
The proposals that we are considering today will do more
harm than good by encouraging more companies to choose to stay
private and shy away from the public market. We have had
extensive conversations about that. Instead, let's work
together on proposals that will promote more capital formation
and economic opportunity, that give these mom-and-pop investors
more choices and increases their ability to grow their savings
and retirement accounts.
With that, I yield back.
Chairwoman Maloney. Thank you.
Today, we welcome the testimony of a distinguished panel of
witnesses.
First, we have Jesse Fried, who is a professor of law at
Harvard Law School.
Second, we have Lenore Palladino, who is a senior economist
and policy counsel at the Roosevelt Institute, which is located
in my district in Manhattan.
Third, we have Janie Grice, who is a leader at United for
Respect at Walmart.
Fourth, we have Derik Coffey, who is a portfolio specialist
at Channing Capital Management in Chicago.
And last, but not least, we have Craig Lewis, who is the
Madison S. Wiggington Professor of Finance and a professor of
law at Vanderbilt University.
Witnesses are reminded that your oral testimony will be
limited to 5 minutes, and without objection, your written
statements will be made a part of the record.
Professor Fried, you are now recognized for 5 minutes to
give an oral presentation of your testimony.
STATEMENT OF JESSE M. FRIED, PROFESSOR OF LAW, HARVARD LAW
SCHOOL
Mr. Fried. Chairwoman Maloney, Ranking Member Huizenga,
members of the subcommittee, thank you for inviting me to
testify. I am honored to be here.
In my 5 minutes of remarks, I will discuss the overall
level of dividends and repurchases by public firms and explain
why it is unlikely to be too high; it might, in fact, be too
low; explain how the current disclosure rules around share
buybacks are too lax and enable executives to enrich themselves
at the expense of public investors; and suggest how such abuses
could be limited by a simple fix, which is requiring
corporations to disclose trades in their own shares within 2
days, just like corporate insiders are required to disclose
their own trades. I am happy to share my views on the bills
under consideration in the discussion that will follow.
Let me begin by addressing the aggregate level of payouts
by public companies. U.S. public companies distribute in cash
about $1 trillion a year. About 40 percent takes the form of
dividends, and 60 percent takes the form of repurchases. But
this is important. Dividends and repurchases do not actually
reflect actual cash flows between shareholders and public
companies. Public companies issue huge amounts of stock, and
those issuances absorb cash from shareholders and put it back,
directly or indirectly, into companies.
The way to think about capital flows between firms and
public shareholders is to look at net shareholder payouts,
which is dividends, plus repurchases, minus equity issuances.
For example, in 2018, U.S. public companies distributed about
$1.4 trillion in cash through dividends and repurchases, but
they simultaneously issued about $750 billion in equity. So,
the net shareholder payouts to public investors was about $650
billion.
Now, $650 billion sounds like a lot of money, but it is
only a portion of the profits that these firms have generated.
My research with Professor Charles Wang at Harvard Business
School indicates that there is no reason to think that firms
are distributing too much cash. Investment measured as capital
expenditures, plus research and development expenses, are at an
all-time record.
You might say, maybe they would be even higher if firms had
more cash, but firms have been accumulating $5 trillion of cash
through 2018, even though they have been making record payouts
and spending record amounts on investment.
There might be individual public firms that do not have a
lot of cash, but those firms can simply issue more stock in the
public markets. That is one of the reasons why firms go public,
so they can easily finance themselves. And, in fact, Charles
Wang and I have found that if you look at the smallest public
companies, they are routinely absorbing more capital from
public investors than they are distributing capital through
dividends and repurchases.
Another thing to remember, and this echoes what
Representative Huizenga said, is that the capital that flows
out of these companies is not wasted. It is available for
investment in private companies, which are smaller, faster
growing, and absorb hundreds of billions of dollars of capital
each year.
Everybody is focused on public companies because they are
big and they disclose information to investors in the public,
so we see them. But companies that are not traded are just as
important a part of the economy. They account for about half of
the fixed investment in the economy, and they employ 70 percent
of the workforce, of the non-government workforce. Capital that
flows out of public firms can flow into private firms. So,
there is $5 trillion sitting in these companies, and it is
unlikely that that money is better left there than being
distributed.
So, while the overall level of distributions is probably
not too high, there are problems with the use of repurchases to
distribute cash. The first is that they can be used for
indirect insider trading. Executives who own stock in the
company can profit by having the company buy stock at a low
price. This can systematically transfer value to insiders. I
have estimated that the value transfer is on the order of
several billion dollars a year. In addition, companies can use
buybacks to prop up the stock price as executives are selling,
and this can help executives sell their shares at a higher
price.
Both of these abuses are facilitated because of the
disclosure rules--
Chairwoman Maloney. Time has expired, so please wrap up
quickly.
Mr. Fried. Okay. Basically, the disclosure rules around
repurchases are very lax. You have to disclose trades, but not
individually, and after a couple of months. If you require
firms to disclose their trades immediately, or within 2 days
and in detail, you would be able to curb a lot of these abuses.
[The prepared statement of Mr. Fried can be found on page
35 of the appendix.]
Chairwoman Maloney. Thank you very much.
Ms. Palladino, you are now recognized for 5 minutes for
your testimony.
STATEMENT OF LENORE PALLADINO, SENIOR ECONOMIST AND POLICY
COUNSEL, ROOSEVELT INSTITUTE
Ms. Palladino. Thank you, Chairwoman Maloney and Ranking
Member Huizenga, for inviting me to speak today. It is an honor
to be here.
I join you today to discuss the causes and consequences of
stock buybacks. Stock buybacks may sound like a technical
matter of corporate finance. Why does it matter whether or not
corporations repurchase their own stock?
When a company executes a stock buyback, they prop up their
share price for the benefit of share sellers, but the funds
spent on buybacks are then unavailable for the types of
corporate activities that could make the company more
productive over the long term, investments in future
productivity, and in workers.
Stock buybacks are virtually unregulated. Even though
Congress has recognized their potential for market
manipulations, and companies are spending billions of dollars a
year, stock buybacks have reached record volume. Corporations
spent roughly $900 billion on them in 2018, and projections for
2019 are even higher. The volume of stock buybacks explains why
more money has flowed out of our public capital markets than
has flowed back in for the non-financial sector for years.
Let me explain why stock buybacks are virtually
unregulated. SEC Rule 10b-18, the stock buyback safe harbor,
gives companies the go-ahead to spend up to 25 percent of their
trading volume on buybacks without liability for market
manipulation, but also states that there is no presumption of
liability for companies spending above that limit. Furthermore,
the SEC does not collect the kind of information necessary to
even determine if companies are staying within the daily safe
harbor limit.
Importantly, there are no meaningful limits to stop
executives from using corporate money on stock buybacks to
raise share prices for their own short-term gain. Executives
are not required to disclose if they have conducted a buyback
until the next quarter's filing. Meanwhile, there are no
substantive limits to stop them from selling their own personal
shares in the same quarter as they are executing buybacks. This
is why there is an urgent need for new policies.
Congress and the SEC recognized decades ago that this kind
of practice could manipulate the market. Rule 10b-18 was a
sharp departure from the proposals made by the SEC in the 1970s
that clearly recognized that the large volume of stock buybacks
could have a manipulative effect.
Companies are conducting stock buybacks in the midst of
layoffs, calls by their workforce for an end to poverty wages,
and clear, alternate uses for corporate funds. Let me give a
few examples.
Boeing spent $43.1 billion on stock buybacks from 2013 to
2019, raising the company's stock price to a record-high just
10 days before the second crash of its 737 MAX, yet the company
reportedly avoided spending the estimated $7 billion it would
have needed to engineer a safer plane.
Less than 10 years after a public bailout, GM has spent
$10.6 billion on stock buybacks while engaging in layoffs and
plant closures. That amounts to roughly $220,000 for each GM
worker who has been on strike.
Walmart spent $9.2 billion on stock buybacks in the last
year, which could have been used to give a raise of roughly $5
an hour to each of its one million hourly workers.
Some have argued that stock buybacks serve the stock market
by moving capital from companies that have no use for it to
companies with a higher need for funds. This requires companies
to issue new shares rather than for shares to simply trade on
the secondary markets, yet we have seen fewer shares issued
than shares repurchased for years.
This also begs the question, could it really be the case
that so few American corporations have innovative ideas, could
pay down debt, or invest in their workforce? I argue there is
another motivation for the high volume of stock buybacks:
propping up stock prices for the benefit of short-term share
sellers, which can include corporate executives.
I recommend that Congress ban stock buybacks, or in the
alternative, place low bright-line limits on their use. A ban
is the clearest mechanism to ensure fairness and investor
confidence in our capital markets by removing the ability of
corporations to manipulate the price of their own stock.
In the alternative, Congress should limit the volume of
permissible buybacks to a bright-line percentage of outstanding
shares and remove the safe harbor so as to dampen both the
potential for stock price manipulation and encourage the use of
corporate funds for productive purposes.
At a minimum, policy reforms must prohibit corporate
insiders from selling their personal shares in the aftermath of
a buyback before it is disclosed, and any buyback program
should be immediately disclosed.
I applaud the committee for taking a hard look at stock
buybacks, and I look forward to your questions. Thank you.
[The prepared statement of Ms. Palladino can be found on
page 67 of the appendix.]
Chairwoman Maloney. Thank you very much.
Ms. Grice, you are now recognized for 5 minutes for your
testimony.
STATEMENT OF JANIE GRICE, UNITED FOR RESPECT AT WALMART
Ms. Grice. Thank you, Chairwoman Maloney and Chairwoman
Waters, for inviting me here to speak today. I am honored to be
here.
My name is Janie Grice, and I am from Marion, South
Carolina. I worked at Walmart as a cashier and later as a
customer service manager while I was raising my son as a single
mother. I am here today as a leader with United for Respect to
speak on behalf of the 1.4 million associates who work for
Walmart.
Most of you do not know Marion, South Carolina. We are a
small town in the American south that many have forgotten. When
our first Walmart came to town, everyone was so excited. We had
lost so many jobs when manufacturing factories shut down and
moved overseas. Finally, we had jobs that paid well and where
management treated you well.
Then, our little Walmart became a supercenter, and
everything changed. All of a sudden, there were half as many
available hours but twice as much work for each associate. I
had been trying to work at Walmart for years because people
said it was a good company to work for, and I was promised
full-time hours. So, I started out as a cashier, working for
$7.78 an hour. In my 4 years there, I never got to full-time
employment or a stable schedule.
Do you know how hard it is to spend time with your family
or pay your bills when you have no clue how many hours of work
you are going to get or when you are going to work? I always
had to choose my job at Walmart over time with my son, because
without me working, we could not have had the things that we
had.
I want my son and grandson to have a better future, so I
left to find something else, even though I love my Walmart
family. That is why I was so mad when I read about the $20
billion in buybacks from Walmart that made the executives and
Walton heirs even richer. I don't mind investors making
profits. I do mind when associates, like me, who have been
putting the work in day after day, year after year, do not get
to share in those profits.
This is exactly why I filed a shareholder proposal at
Walmart last year that will reward associates for our
dedication and commitment to the company by getting a share of
the profits from buybacks. Shockingly, my proposal did not
pass, but it started a real conversation about how
corporations, like Walmart, need to make different choices
instead of squeezing workers.
Lenore Palladino's research shows that $10 billion in
buybacks that Walmart authorized could have been used to give a
million associates a $5 hourly wage increase. If I sat on
Walmart's board of directors, I would not think twice about
approving that decision. Can you imagine how much turnover we
could reduce or how many part-time associates could get off of
public benefits? It is so painful to think that this could have
been a reality, but a small group of people at the top decided
not to prioritize associates like me.
This is not just happening in retail, but also in other
industries. At Wells Fargo, one-third of their workers make $15
an hour, while the bank has authorized over $40 billion in
buybacks since the 2017 tax bill.
At AT&T, the hedge fund, Elliott Management, is trying to
strip down the company and use that money for buybacks, money
that could be used to bring internet access to workers and
businesses.
What these companies are doing with buybacks is both wrong
and harmful to the majority of us, and we don't get a say in
any of it. Think about what corporate America would look like
if workers at Walmart, Wells Fargo, AT&T, Sears, and other
companies actually had a seat at the table. We would invest the
corporate profits back into the company, the workers, and the
investors.
This is what my fellow United for Respect leader Cat Davis
was saying when she filed a shareholder proposal at Walmart
this year to have hourly associates on the company's board. Her
proposal makes the case that having hourly workers on the board
could lead to long-term profitability for all of us.
Right now, Walmart is paying so low that a full-time
associate earning a starting wage still falls below the Federal
poverty line for a family of three. How shameful is that, that
we have to live in poverty while working for the largest
private employer in the world, which has billionaire owners who
are worth $175 billion?
So, what this committee is doing on regulating buybacks is
really important. I am here to ask you to seriously consider
who you stand with: working people like me, who work hard and
reap little rewards; or corporate billionaires, who will
exploit every loophole to get richer. By regulating how
corporate profits are spent and who benefits from them, you are
putting workers first and letting corporate America know that
we matter.
You are saying that if a company can issue billions in
buybacks, it can afford a living wage and full-time employment
for its workers.
You are saying that it is time to end economic inequality
in the U.S. so that working mothers, like me, can save for a
better future for our kids.
These days, we have to work two or three jobs to make ends
meet. We catch hell with all of the expenses and taxes we have
to pay. We do not have billion-dollar inheritances to fall back
on like the Waltons do, but we have the power of our voices to
call out corporations like Walmart for doing wrong by us.
Buybacks are a rigged game. They are not good for workers
or for American companies. We need bold, decisive action from
all of you to rein in corporate America and level the playing
field. Working people like me deserve a better shot at fairness
and equality. Thank you.
[The prepared statement of Ms. Grice can be found on page
50 of the appendix.]
Chairwoman Maloney. Thank you very much.
Mr. Coffey, you are now recognized for 5 minutes for your
testimony.
STATEMENT OF DERIK D. COFFEY, CFA, PORTFOLIO SPECIALIST,
CHANNING CAPITAL MANAGEMENT
Mr. Coffey. Thank you, Chairwoman Maloney. By way of
background, Channing Capital Management is a Chicago-based
investment management firm serving institutional investors,
that was founded in 2003. We currently have over $2 billion in
assets under management, and a diversely owned firm, with the
majority of our equity held by African Americans. We focus on
small, midcap products with domestic and international
exposure. It is worth noting that while we have a diverse
client base, a large portion of our clientele consists of
defined pension benefit plans, many of whom are union workers,
policemen, firefighters, teachers, and city and State municipal
workers, all whom also benefit from stock buybacks.
Let me quickly just outline what are stock buybacks and why
companies use them. When discussing capital allocation
strategies such as dividends or stock buybacks, the old maxim,
``a bird in the hand is worth two in the bush,'' is often
quoted. In short, investors view the certain up-front cash as
less risky and generally prefer the assurance of receiving some
cash in hand, which gives them options to decide when, where,
and how to deploy cash received to generate a higher return.
When capital exceeds a company's expenditure needs,
returning this capital to shareholders is considered a prudent
strategy that empowers investors to redeploy excess cash to
areas where they can find better growth opportunities. In
short, buybacks help companies to manage a capital structure;
they provide more flexibility relative to dividends for capital
allocation or capital return; they offset dilution from
employee stock options; and they provide important share price
signaling that is important, particularly in cases where the
market has a more pessimistic view of a company relative to
actually the company's internal management.
Let me discuss how buybacks benefit our clients. As I read
earlier, a large number of our clients are defined benefit
pension plans, but we also have a decent and growing exposure
to endowments, foundations, wealth management firms, and
corporate plans. The common thread across all of these clients,
including people who invest in 529s because they are saving for
college plans for their children, and just regular investors
who are saving for retirement, is that they all benefit from
buybacks.
Buybacks encourage better alignment of management with
shareholders, addressing the agent-principal issue. When
managers of a company actually own the shares, they can act
more in the interest of the long-term shareholder value.
Buybacks help boost share price, which again helps our
clients.
Buybacks provide tax benefits, being that they are taxed at
the capital gains rate, whereas non-qualified dividends are
taxed at the ordinary income rate.
Buybacks offer investor choice. For investors who are
looking for an opportunity to deploy capital to higher returns,
buybacks provide that liquidity to go and find that
opportunity.
With that said, there are definitely instances where
buybacks do warrant greater scrutiny or could potentially be
harmful to investors. Buybacks that are exclusively used to
achieve short-sighted goals via financial engineering are
especially harmful.
A second example are instances where a company has a long
history of share repurchases but continues to lose shareholder
value despite these efforts. We, at Channing, have very little
patience for management teams that use buybacks or other means
to engage in short-sighted financial engineering schemes. Good
companies, in our view, productively utilize their capital to
hire employees, invest in their businesses, and expand their
market share. And companies that do not do these things do not
deliver shareholder value, and their shares are sold.
Let me briefly address why buybacks have surged over the
past several years, and there really are two reasons: the
extended duration of the bull market that started in 2009; and
the tax reform legislation that has encouraged more
repatriation of overseas profits.
It is no surprise that buybacks have surged across large
and small capitalization stocks since the beginning of the
current economic crisis. Typically, buybacks increase during
periods of economic expansion, and they are less robust in
periods of economic contraction. And, so, when we take a look
at buybacks, it really reflects the fact that repatriation
creates an opportunity to bring a lot of excess cash from
overseas into the United States. More importantly, this is most
prominent amongst large cap companies, particularly companies
in the technology sector.
Small capitalization companies did not have as much cash
overseas, and so this issue was exacerbated, particularly among
companies that are large cap companies that have a lot of
overseas cash held overseas. And it is also the long duration
of the bull market.
With that said, let me talk a little about the risk of
increased restrictions on buybacks. Any proposed legislation
that is designed to stymie or retard buyback activity could
result in negative consequences for investors, the economy, and
the optimum allocation of capital. The key question one should
ask is whether it is better to legislate an issue that is
cyclical, or one that reflects a structural imbalance. I would
argue that the recent buyback activity is much more cyclical in
nature.
Allow me to outline some of the potential pitfalls of
legislation that could potentially curtail buybacks.
Restrictions could trap capital in businesses, leading to
inefficient allocation of capital; they could impede the
movement of capital to future growth opportunities; they could
force businesses to use inefficient means to distribute cash to
shareholders; and ultimately, another consequence is the
restriction on buybacks, you lose the powerful signaling tool.
In conclusion, I would like to thank the subcommittee for
inviting me to address this important topic, and I am open to
any questions. Thank you.
[The prepared statement of Mr. Coffey can be found on page
28 of the appendix.]
Chairwoman Maloney. Professor Lewis, you are now recognized
for 5 minutes for your testimony.
STATEMENT OF CRAIG M. LEWIS, MADISON S. WIGGINGTON PROFESSOR OF
FINANCE AND PROFESSOR OF LAW, VANDERBILT UNIVERSITY
Mr. Lewis. Chairwoman Maloney, Ranking Member Huizenga, and
members of the subcommittee, thank you for inviting me to
appear today to discuss corporate priorities as they relate to
share repurchase programs, workers, communities, and
investment.
The House Financial Services Committee is considering a
number of regulatory initiatives designed to reduce or even
eliminate the ability of corporations to repurchase shares. In
my written testimony, I discuss the economic substance of share
repurchase programs, or stock buybacks, and argue that they
represent a highly efficient way to distribute excess cash to
shareholders.
There are four House bills under consideration: the Reward
Work Act; the Stock Buyback Reform and Worker Dividend Act of
2019; the Stock Buyback Disclosure Improvement Act of 2019; and
a fourth stock buyback disclosure bill. All of these bills
reflect an implicit perspective that share repurchase programs
represent a market failure that cannot be resolved through
private action.
Opponents of share buyback programs typically argue that
they artificially inflate share price, crowd out investment,
result from managerial short-termism, and disproportionately
benefit the wealthy and corporate insiders. I argue in my
written testimony that these conjectures are either not
supported by empirical analysis or are based on misconceptions
about how share repurchase programs actually operate.
Although similar to ordinary dividends, share repurchases
differ in several important ways. The most compelling examples
include: their ability to signal undervalued share price; their
role as a mechanism for distributing excess cash; individual
income tax advantages; and reallocation effects. This last
point is particularly important because the cash paid to
shareholders does not disappear. The reallocation of excess
cash into consumption and other investments potentially
redirects it to activities that have a higher value than the
incremental investments that are available to firms.
These examples contrast sharply with critics who view stock
buybacks as nothing more than financial gimmicks that crowd out
investment and artificially inflate share price. Although I
will be happy to discuss this in detail should you have
questions, I would, however, like to emphasize that the
empirical evidence is inconsistent with the notion that stock
buybacks in some way constrain investment in the future.
With respect to the bills that are the topic of today's
hearing, allow me to first discuss the two bills that are
designed to reduce the ability of corporations to repurchase
shares: the Reward Work Act; and the Stock Buyback Reform and
Worker Dividend Act of 2019. The Reward Work Act calls for the
outright prohibition of share repurchase programs. The second
bill would require firms that repurchase shares to pay workers
an amount proportional to the amount spent on buybacks.
Both bills are based on the premise that if share
repurchase programs are curtailed or become more expensive,
firms will elect to increase investment in tangible and
intangible assets, like R&D, and pay workers more. If
regulation creates incentives for firms to reinvest rather than
distribute excess cash, it would likely lead to an over-
investment problem in which firms would make inferior
investments that would be unlikely to benefit the economy in
the long run.
The second set of bills, namely the Stock Buyback
Disclosure Improvement Act of 2019, and a second stock buyback
disclosure bill, are designed to increase transparency around
share repurchase programs. The first of these bills is largely
a response to SEC Commissioner Robert Jackson's views regarding
executive participation in share repurchase programs. For
reasons I discuss in my testimony, I believe that the
underlying research that informs these concerns fails to
document a significant market failure.
The second bill seeks to increase mandatory disclosure
about the nature and purpose of planned share repurchase
programs. This bill includes the requirement that firms must
pre-announce a repurchase program 15 days prior to its
execution. Since repurchase programs are typically executed
over relatively long periods of time, it is unclear how, in the
context of the existing empirical evidence, mandatory pre-
announcement is preferable to the existing 8-K and insider
trading disclosure requirements and 10-Q filings.
The most surprising aspect of this bill is that the SEC
would be required to approve buyback programs before they can
be implemented. The decision to require a disclosure-based
regulator like the SEC to become involved in financial
decisions is unprecedented. Not only does the SEC lack the
expertise to make such determinations; it is unclear how this
serves the Commission's tripartite mission of investor
protection, the maintenance of fair and orderly, and efficient
markets, and the facilitation of capital formation. Thank you
very much.
[The prepared statement of Mr. Lewis can be found on page
54 of the appendix.]
Chairwoman Maloney. Thank you. I now recognize myself for 5
minutes for questions.
Ms. Palladino, you mentioned in your testimony that stock
buybacks are a driver of income and wealth inequality. Can you
talk a little bit more about how buybacks are contributing to
increased inequality?
Ms. Palladino. Yes. Thank you for the question.
It is important to recall that gains from share selling
flow disproportionately to a small group of wealthy households,
and I will give you a few numbers from the Federal Reserve's
distributional financial accounts.
As of the second quarter of 2019, the top 1 percent of the
wealth distribution owns 52 percent of corporate equities,
while the bottom 50 percent owns just 2.2 percent. In other
words, the gains flow disproportionately to those in the very
top of the wealth distribution. It is also important to note
that 92 percent of corporate equities are held by white
households. So, when we look at the combined effects of income
and wealth, we can see the disproportionate flow to the top.
Chairwoman Maloney. Okay. Thank you.
Ms. Grice, you mentioned in your testimony that you think
it is a very good idea for large companies to have ordinary
workers represented on their boards. Can you talk a little bit
about the benefits of having worker representation on corporate
boards, and what sort of perspective would the worker
representative bring to the boards that current board members
do not have?
Ms. Grice. Thank you, Chairwoman Maloney, for that
question. Hourly associates are the closest one to the problems
at the company, so we are also closest to the solutions. For us
to have a voice at the top means that we could tell the
executives what the other associates and consumers think and
how to solve these issues immediately, instead of waiting
years.
Take family leave policies, for example. We have that at
Walmart, because we fought for it. We told the home office that
this is what associates need, and they just ignored us. Imagine
how much they could have saved on turnover if they listened to
us sooner. This could have been a real partnership where we
have the power to guide in better, more humane decisions.
Chairwoman Maloney. Thank you. Thank you so much.
Mr. Coffey, you talked about how, as an investor, you have
to distinguish between buyback programs that are beneficial and
those that are being used for short-term financial engineering.
How do you distinguish between these two types of buybacks?
Mr. Coffey. At Channing, one of the things we do is we look
at our companies, we talk to management teams regularly, and we
have financial models. We can see very clearly when a company
is using buybacks to typically, when they are using these
tools, they use it to shrink their shares outstanding, and that
increases their return on equity.
We have models that can tell us very clearly what a
company's real return on equity is when you sort of adjust for
stock buybacks. And, so, any sort of financial engineering that
does not increase the long-term value of the company, which is
sort of how we look at long-term intrinsic value of the
company. And if actions are not necessarily increasing that,
but they are increasing the short-term metrics, we can call
them out. And we can also see that when we look at proxy
statements with compensation. We can see whether those goals
are short-sighted and they are motivating management to move to
short-term goals. So, our models allow us to see that.
Chairwoman Maloney. Professor Fried, you mentioned in your
testimony that other countries have rules similar to the 2-day
disclosure rules that you are proposing: Japan, Hong Kong, and
the U.K. already have similar disclosure rules. What were the
effects in these countries when they implemented those rules?
Did stock buybacks decline? Did executives' trading behavior
change? What happened?
Mr. Lewis. I have not studied what happens in terms of the
implementation of these rules in these other countries.
Generally, the level of buybacks in the U.K., Hong Kong, and
Japan is much lower than in the United States. The point is
that it is possible to require companies to disclose this
information within 2 days. Other countries have figured out how
to do this, so there is no reason that we cannot do it.
Chairwoman Maloney. What has been the effect on capital
markets, if at all?
Mr. Lewis. I do not know if there has been a study that
looks at the effect of the imposition of these disclosure rules
in these other countries. As far as I know, these disclosure
rules have been used in these countries for decades, so I do
not think it was something that was recently done that would
allow like an econometric test to see what the effect was.
Chairwoman Maloney. Thank you. I yield back, and I now
recognize the distinguished ranking member for 5 minutes for
questions.
Mr. Huizenga. Thank you, Madam Chairwoman.
Mr. Coffey, I want to start with you. I love the term, the
``financial engineering decisions,'' and I am curious, you were
talking about how you have models that identify those people or
those entities. What percentage of companies that you invest in
would you say have some sort of short-term, short-sighted,
harmful financial engineering decisions versus longer term?
Mr. Coffey. I would say, given that we have a long holding
period for our companies, our turnover is about 30 percent. We
hold our companies in 3- to 5-year periods, and it is trying to
buy high-quality companies with free cash flow and long-term
objectives. I would say essentially less than 1 percent. It is
a long-term focus. And management teams that shift their focus
to short-sighted objectives are removed from our portfolio.
Mr. Huizenga. That was going to be one of my questions, how
do you deal with that? You identify them and you remove them
from your portfolio and no longer invest in them?
Mr. Coffey. That is correct.
Mr. Huizenga. Okay. And this is one of my general questions
as we are talking about this. Whether it has been repatriation
that you brought up, whether it has been a booming economy that
has brought in additional cash to companies and their workers
and others, what are these entities supposed to do with this
additional cash? At some point, if you have the equipment that
you need; if you have the right number of employees that you
need; and you have increased wages, which we have seen
statistically have gone up; you have done bonuses; you have
done all of these things. What else are you supposed to do with
this cash?
And Mr. Lewis? Mr. Fried? I'm curious. Mr. Coffey? What
else should they do with this? Because it seems like you are
suddenly into a question of reallocation and maybe a
misallocation of those resources.
Mr. Coffey. I will start. As you have already mentioned,
when a company exhausts all their sort of means of deploying
capital--they have invested in plant equipment, they have done
research and development, they have invested in human capital,
and they have also considered mergers and acquisitions to gain
market share in a particular industry--the best thing to do is
to find a way to distribute that capital, because it introduces
opportunities for a business to actually destroy shareholder
value. You can make an acquisition, or you can overpay for an
acquisition, or you could engage in activity that is just not
lucrative to shareholders.
Basically, you think about the term, ``capital osmosis.''
When you have excess capital after you have kind of exhausted
your needs, that capital should be recycled to other growth
opportunities so you can get the future companies that we think
about today that are going to drive shareholder value in the
future.
Mr. Huizenga. Mr. Lewis, how does a healthy stock market
benefit seniors and the middle class?
Mr. Lewis. I think Mr. Coffey talked about how a lot of his
clients participate in defined benefit pension plans. And, so,
the way that stock buybacks benefit investors is that companies
announce stock buybacks when they believe their firm's stock
price is undervalued. And it turns out that that is a credible
signal.
Investors interpret stock buybacks as a credible signal,
largely because management owns significant equity stakes in
the company, and they would be reluctant to overpay for shares
in a stock buyback program when they are directly subsidizing
the shareholders that sell. So, it benefits seniors. It
benefits retirees to the extent that stock prices go up, and
the value of their portfolios increases.
Mr. Huizenga. And do additional regulations help achieve
economic growth?
Mr. Lewis. In this case--I was a Chief Economist at the
SEC, and one of the important factors for basically
promulgating or proposing any rule is to demonstrate that there
is a market failure that cannot be resolved through private
action. And, so, in this case, it is unclear to me what the
market failure actually is.
Mr. Huizenga. Okay. I only have a few seconds left.
Professor Fried, you had a post on a Harvard Law School
Forum on corporate governance and financial regulations which
stated that some of these bills that would prohibit buybacks
are based on a ``profound misunderstanding of how the U.S.
economy works.'' I am curious if you could explain what that
means; and then, do you believe that, or do you agree with some
of the thinking that cash on the balance sheet would either go
to buybacks or directly to workers?
Mr. Fried. Thank you for that question. I think there are a
lot of misconceptions in the conversation around buybacks. The
first is that we do not have good ways of thinking about how to
measure them. That is why you have to look at equity issuances.
If you look at like net repurchases, which are repurchases
minus equity issuances, they are much smaller. About 80 percent
of the cash that is distributed through repurchases comes back
in through equity issuances. And about 40 percent of
repurchases are used to repurchase shares that are given to
employees and executives.
Mr. Huizenga. I'm sorry. My time has expired. I would like
to follow up on that, and I am curious to continue the
conversation on this today, disclosure, whether it is front-end
or post-fact. But we will follow up.
And, Madam Chairwoman, I will take a moment, as well, to
just ask unanimous consent that a letter from the National
Association of Manufacturers be inserted in the record.
Chairwoman Maloney. Without objection, it is so ordered.
Mr. Huizenga. Thank you.
Chairwoman Maloney. The gentleman from Georgia, Mr. Scott,
is recognized for 5 minutes.
Mr. Scott. Chairwoman Maloney, listening to this very
informative discussion, I really think that the heart of the
issue here today is this: Why would a company, any company,
make the choice to give back money to their shareholders rather
than making an investment in the future growth of the company?
Companies could choose to improve workers' benefits,
increase training. They could also choose to invest in new
technologies and other actions that would expand the growth of
the company. But why would they not choose these opportunities?
Why do they find them less attractive than returning money to
shareholders through a buyout?
And, so, I think that I want to ask you first, Ms.
Palladino, why is this? What are the factors? It seems to me,
if I am a CEO, how do I gain?
Here is what I think, and I believe the statistics will
point out, that when you buy back that stock, does the price of
the stock increase? That is the bottom line. Could you expound
on that?
I will get to you, too, Mr. Lewis, because I think
fundamentally, this is where we are to get to the truth of the
matter. Because if I am a CEO and I have to make a choice, I
think we need to be honest with this situation. It is clear
that the CEO is the CEO to make more money and profits. I think
that is why they buy back the stock. But correct me if I am
wrong, Ms. Palladino.
Ms. Palladino. No, thank you. That is an excellent point,
and I appreciate the question.
I think that we see really two reasons why executives are
engaged in the volume of stock buybacks that we see today. One
is the issue that both myself and Professor Fried spoke about,
which is that corporate executives have to increase their own
compensation because they do not have to disclose that they
have conducted stock buybacks until about 10 or 11 weeks after
the close of the quarter.
I think at a deeper level, though, we are talking about an
imbalance of power in our economy where we have activist
investors, we have large pools of capital, that are putting
tremendous pressure on boards and CEOs to return capital as
quickly as possible to shareholders without considering the
effect that has on the workforce.
Mr. Scott. Mr. Lewis, do you have a counter to what she is
saying, or do you agree with her?
Mr. Lewis. I actually do not agree with her. My view is
fairly simple. I think CEOs have particular expertise in things
that they are very good at, and they make investments in the
businesses that they know best. The idea of taking excess cash
that they no longer have productive investments in their own
business and finding new investment opportunities probably
leads to less valuable investment choices in the long run than
if you were to give it to somebody who actually is an expert at
evaluating those new technologies. So, it is one way of taking
money from firms that really do not have a good use for it and
putting it in the hands of other entrepreneurs who actually
have a valuable use for it.
Mr. Scott. Mr. Fried, where do you come down on this?
Mr. Fried. People invest in new companies with the hope of
making a profit. They bargain for arrangements that give them
the right to throw out the board if the board does not hire a
good CEO and does not deploy the money wisely. That is why
people invest in companies.
When a company no longer has a way to profitably deploy
money, then the right thing to do, from the point of view of
the shareholders who originally put money in, is to send it
back. And that is why we see capital flowing out of companies.
Mr. Scott. And Ms. Grice? My time has expired?
Chairwoman Maloney. Your time has expired. We will go to a
second round.
Mr. Hill, you are recognized for 5 minutes.
Mr. Hill. Thank you, Madam Chairwoman, and I appreciate
your great leadership of this subcommittee and picking this
timely topic to talk about. I think this is the third time that
we have addressed the stock buyback issue during this Congress.
I have some slides I wanted to run through quickly just to
set the stage.
This first one talks about growth investment, because I
have heard from my friends that people are not investing in
their companies; that instead, they are using that money
imprudently to invest in stock buybacks. This is since 1990,
and you can see in 2018 that we are at a really almost all-time
high at 17 percent in the S&P 500.
Let's go to the next slide. Stock buybacks, as was noted in
everybody's opening testimony, did increase after tax reform.
In my view, this is a positive thing. Buybacks are tied to the
growth in profits in corporate America, so the more profitable
companies are, the more they might consider a stock buyback.
And certainly, the 2017 impact of the tax reform caused, in the
S&P 500, more cash to be re-invested in the United States. And
in addition to investing in people and capital investment, they
did invest in buying their stock back. So, I view this as sort
of a transitory period.
Most of that money, I would say, when you look at it, came
from just 20 stocks in the S&P 500, Madam Chairwoman, and those
20 stocks had the most money trapped offshore. So, that money
came back into the United States and they did participate in
the stock buybacks.
Let's go to the next slide. The pace of investment, as I
say, over the long haul is still in that range. Investing in
companies, you see the December 2017 tax enactment, but growth
has only grown. This is growth in companies in R&D, capital
expenditures, and research. It has all been a positive story in
the last 30 years.
Let's go to one more slide. And then, the S&P 500 cash
return payout ratios, a dividend's net of buybacks. You can see
that the return of cash historically is still in that historic
range where it has been. And I just would argue whether it is
paid back in stock buybacks or dividends, it is good for
investors, and who does gain here are the investors in our
pension plans and our 401(k) plans. This money does not go
nowhere. It goes back out into our economy, as Mr. Coffey
argued.
And I read in your materials that you have a great
background in intrinsic investing. I wanted to read a quote
from someone whom you admire, that you put in your marketing
materials, Warren Buffett. Warren Buffett, CEO at Berkshire
Hathaway, says, ``Stock buybacks are sensible for a company
when its shares sell at a meaningful discount to conservatively
calculated intrinsic value--which you have in your testimony--.
Indeed, disciplined repurchases are the surest way to use funds
intelligently. It's hard to go wrong when you're buying dollar
bills for 80 cents or less.''
Do you agree with that, Mr. Coffey?
Mr. Coffey. Absolutely.
Mr. Hill. Good. And he says, don't forget, companies who do
that inefficiently are what? Are they punished by the market if
they overpay?
Mr. Coffey. Absolutely.
Mr. Hill. Thank you, Mr. Coffey.
Also, I noted that a company in my State was referenced.
And Ms. Grice, thank you for coming and advocating today on
behalf of the workers at Walmart. I live in Arkansas, which is
the home to Walmart's headquarters, and I am proud to have them
headquartered there in our State.
And I don't think anybody has worked harder to meet this
dual effort of trying to invest in their employees since the
tax plan was announced. They have made over $4.5 billion in
workforce increases and raised wages, and tried to address many
of the challenges that you talked about in your experience in
South Carolina, which I really took quite fully from your
testimony.
Doug McMillon, who is the CEO there, started out as a
teenager earning minimum wage, unloading trucks in the
distribution center up there in northwest Arkansas, so I really
believe that he understands that balance that is so important
to raise wages, which is why 60 percent of their employment is
now full-time, which I think is one of the highest in the
retail industry. They are a major employer, and I think, in a
major way, committed to expanding opportunity for their
managers and for their workers. I was looking at total wages
and benefits of their hourly, full-time employees, and when you
include the benefit package that Walmart offers, it looked like
it was over $19 per hour.
Professor Lewis, I wondered--and ``Anchor Down,'' by the
way; I am a Vanderbilt graduate, so God bless Vanderbilt Law
School.
SEC Chairman Jay Clayton said it was not in the purview of
the SEC to make these decisions about capital allocation, when
he has testified and been in public. Do you agree it is not the
Commission's view to try to determine asset allocation?
Mr. Lewis. Yes, I do.
Mr. Hill. Well, my time is running out, Madam Chairwoman. I
will follow up in writing, and I thank the witnesses. This has
been an excellent hearing. Thank you.
Chairwoman Maloney. Thank you.
The gentleman from California, Mr. Vargas, is recognized
for 5 minutes.
Mr. Vargas. Thank you very much, Madam Chairwoman, and I
want to thank all of the panelists who are here today.
My good friend from Arkansas just said that companies are
punished if they do not buy a dollar for 80 cents, and I think
that certainly would be true. But, Mr. Coffey, I think I have a
timing issue here. Now, you said, if I heard you correctly,
that if a company had a short-term financial scheme in your
portfolio, you would remove them from your portfolio if they
did that. But how would you know that before they repurchased
their stock? How would you define that if there is no notice to
you? How would you know that as opposed to the rest of the
market?
Mr. Coffey. That is a fantastic question. Actually, one of
the things that companies are required to file, in addition to
the 10-K and 10-Q, which provides a quarterly and annual
reporting, is also the proxy statement, which outlines the
board-approved compensation plan for the executives. And, so,
we look at that, and we look at it when buying a company. We
look at executive compensation. We look at how companies are
incentivized. And then, we also look at their activities, and
it takes time. It is not immediate. It takes time. If we bought
a company in a quarter--
Mr. Vargas. But that is my point, if I may interrupt you
just for a second. You find out about it afterwards, right? I
think you would find out about it after it happened.
Mr. Coffey. Or, before we purchase it.
Mr. Vargas. By that point, the executive could have in fact
enriched himself or herself. You are finding out about it and
you want to remove them from the portfolio, which is fine, but
it has already happened.
Mr. Coffey. Or, we find out before we even purchase it. In
our due diligence, we are looking at a company and we are
reviewing those results and we are trying to make a decision as
to who we buy, and we do a risk-reward assessment, and we pick
the company that has the best corporate governance.
Mr. Vargas. Thank you. I don't want to run out of time.
Mr. Fried, I want to ask you about that, because you talked
about timing, and I do have that concern. It does seem like an
executive--and you noticed that a number of the actual
repurchases are from employees, executives. Isn't there
potentially a real timing issue here?
Mr. Fried. The timing issue that I focus on in my written
testimony is the timing of disclosure around the firm's
repurchases of its own stock. So, if you are a corporate
insider, you have to disclose within 2 days the details of
every trade. If you are a firm, you disclose several months
later, and it is on an aggregate monthly basis, so you cannot
see individual trades.
That means that the people who are making the repurchase
decisions can go into the market when the stock is dipped, buy
up a bunch of shares, which benefits them because they own
stock in the company, but it comes at the expense of public
investors, generally.
They can also apply pressure to the price when they are
selling to boost the price. We cannot see it. We cannot see it
because we do not see the individual trades. We cannot apply
Rule 10b-5. We cannot apply the anti-manipulation laws because
we cannot see what is happening.
Mr. Vargas. Would you disagree with that, Mr. Coffey?
Mr. Coffey. There are a couple of ways that we do know.
There are obviously 8-K disclosures. There is also Form 4,
which indicates insider buying and insider purchasing. We do
not know it immediately, but we know it within enough time to
react to it. And investors do find--
Mr. Vargas. But you are reacting after.
Mr. Coffey. Of course, after. We don't know that--
Mr. Vargas. I think that is the problem.
Mr. Coffey. But I do not think it prevents us from actually
acting in a way that is in the best interest of our
shareholders. The information is given to us, and the Street
reacts to it. In Form 4, we see it. We know insider buying; we
know insider selling. It is a powerful signal.
Mr. Vargas. Ms. Palladino, would you agree with that?
Ms. Palladino. No. I think the fact that buybacks are not
disclosed until the end of the quarter, and they are only
disclosed on a monthly basis--and I have looked at this in my
own research--means there is simply no way to know if
executives are taking advantage, as Professor Fried said, of
the fact that they have used corporate funds to conduct a
buyback and personally benefitted. And in my own research, I
have found a strong, significant relationship between increases
in use of corporate funds on stock buybacks and the increase of
insider share selling for their own personal gain.
Mr. Vargas. I think I will end it right there with one
caveat. My good friend from Arkansas did mention Vanderbilt, so
I have to mention, Mr. Fried, that I think you were one year
behind me at Harvard Law School. You were Class of 1992?
Mr. Fried. Thank you for paving the way for me, yes.
[laughter]
Mr. Vargas. You had more black hair then, and so did I.
Thank you.
Chairwoman Maloney. Thank you.
The gentleman from Ohio, Mr. Davidson, is recognized for 5
minutes.
Mr. Davidson. Thank you, Madam Chairwoman. And thank you to
our witnesses. I appreciate the discussion of an important
feature of America's capital markets frankly, the private
ownership of capital.
Let's be clear. The owners of the firm are not the
managers. The owners of the firm are the shareholders, and so
the shareholders own that capital. And, of course, they hire
the managers collectively to find a return on it. In fact, the
return on the invested capital is largely the point of putting
the capital at risk.
And I guess I would just like to make the point that, when
you look at the capital structure--let's go straight to the
balance sheet. Some of the viewers maybe are not familiar with
the standard assets equal liabilities plus equity. And, so, the
firm might have some cash on the books, and a whole host of
other assets, but the capital structure is largely comprised of
a combination of liabilities and equity, the equity being the
shares, and the liability potentially being the debt.
Right now, in the current capital markets, debt capital is
far less expensive than equity capital. Far less expensive. So
if your job, as a manager of a firm, is to get a return on the
invested capital, wouldn't it be rational to use less expensive
capital as long as you don't hurt the performance of the firm
by over-levering the firm?
Anyone might find in their own personal household, for
example, that some debt might make some sense. Maybe it is okay
to have a mortgage on the house. But too much debt creates real
risks. But, if you are in an all-cash position, you are all
equity, it is more expensive to operate. You can get a better
return on the invested capital. You can certainly get a better
return on equity.
Mr. Coffey, you highlighted that, frankly, at the time
people buy shares back, you cannot really be sure whether their
decision to buy them back is righteous or not. It might make
sense for a firm to buy the capital back and lower their cost
of capital and put the returns there, and over time, you can
see the fruit of that.
What do you find is in the data that you have collected,
under the current rules of the game, what is the holding period
that you can start to see, did that share buyback prove to be
the right decision by management on behalf of the shareholders
or not?
Mr. Coffey. Over the course of our experience, again, we
are long-term holders; we are lower turnover. I think, within
our first year, we will be able to start seeing results.
The first thing that we will do, and this is important in
our process, is we actually go visit management. If you are
engaging in a share buyback or any other capital allocation
activity we do not agree with, we have a conversation. If we do
not see the results showing up in quarterly earnings after a
certain period after we made our initial investment, usually
after that first year, we are asking, where are the results,
and are we making progress, and are there better investment
opportunities?
Mr. Davidson. Right, and that is one of the things. When
you look, you are buying equities, frankly. When you look at
publicly traded companies, there is that pressure, you have to
deliver results inside a year. Inside a quarter in some cases,
right? But some of the capital projects that are out there,
depending on the industry, take aerospace or energy for
example, you are not even looking at a positive cash flow event
for 5 to 10 years.
You are looking at, how do you assess that? And who is in
the best place, who is supposed to be in the best place, to
assess the performance of the firm? The owners are supposed to
be. That is why they hire or fire the management.
Mr. Lewis, as you have highlighted the important functions
of share buybacks, I guess that is one thing I had not heard as
much, is the cost of capital and how that affects the
performance of the firm. How does that fit with the rest of the
analysis that you have provided thus far and the concerns in
the publicly traded space for the cost of capital?
Mr. Lewis. You are right. I did not actually address the
role of using share buybacks to basically optimize your capital
structure, but it is one of the important features that a CEO
and a CFO, one of the tools they would have at their disposal
to try to get to a better mix, a better blending of debt and
equity financing. And as you point out, debt financing is
typically less expensive than equity, largely because interest
payments generate a tax shield, and dividend payments to
shareholders are not tax deductible at the corporate level. So,
when you look at the two, there is a natural preference.
Mr. Davidson. Opposite cash flow consequences for the firm.
And I think opposite consequences for our economy if we impair
the ability to just keep part of our capital markets. Thank
you, and my time has expired. I yield back.
Chairwoman Maloney. Thank you very much.
The gentleman from Illinois, Mr. Garcia, is recognized for
5 minutes.
Mr. Garcia of Illinois. Thank you, Madam Chairwoman. I
would like to begin with Ms. Grice and your powerful testimony
today. Your story is representative of so many workers at
Walmart and other companies around the country. You described
doing years of stressful work at low wages, not controlling
your work schedule and being able to plan around it for family
purposes. And you said that your starting wage, if I heard you
correctly, was at $7.78 per hour. For how many years did you
earn that wage?
Ms. Grice. Well, I don't even think I made that wage for a
year because I moved up pretty quickly with the company. I was
one of those people whom management looked at as a good leader,
so I did not stay in that position long, making $7.78. That was
back in 2013 when I started, and I started out with $7.78 an
hour.
Mr. Garcia of Illinois. How many years total did you work
there?
Ms. Grice. I worked for Walmart for 4 years.
Mr. Garcia of Illinois. Four years?
Ms. Grice. Four years; yes, sir.
Mr. Garcia of Illinois. I can imagine that you were pretty
outraged to read about the $20 million in buybacks that
Walmart's board authorized through 2018 and 2019. The Roosevelt
Institute found that if Walmart had redirected $10 million of
that toward one million employees, they could have given those
employees an hourly wage increase of over $5.66 an hour.
When Walmart issues stock buybacks, the largest gains go
toward a small handful of wealthy individuals. A single family,
the Waltons, own roughly half of Walmart's shares. The Walmart
Company's net worth is estimated to be around $201 billion.
I also want to focus on the additional stress that an
unreliable schedule can add when you are working a minimum or
hourly job like yours, Ms. Grice. Raising a family, arranging
for childcare, juggling a second job, or taking night classes
to pursue another career can be challenging enough, even if
your hours are predictable. It is tougher still when you do not
have reliable scheduling.
But, clearly, Walmart is prioritizing shareholders over the
interests of the millions that it employs. And you mentioned
your colleague, Cat Davis, who filed a shareholder proposal
demanding hourly employees be considered for Walmart's board.
Can you tell me what it would mean for employees like you
to have more of a voice in how a giant corporation like Walmart
is run?
Ms. Grice. Well, it would mean a lot for us. There are a
lot of things that go on in these stores that the corporate or
home office has no clue about. So, being able to have someone
who is inside those stores day to day, who knows exactly what
goes on--the blatant disrespect, not getting full-time hours,
not being able to get full benefits because you are part-time--
means there is a lot that an associate would be able to bring
to the board of directors.
Mr. Garcia of Illinois. I also want to talk about another
aspect of your testimony. Last month, the activist hedge fund,
Elliott Management, launched a campaign to pressure AT&T to
increase its stock buybacks and split its cash flow between
debt and payments and buybacks. As of June 30th, AT&T had $22
billion in free cash flow available.
Ms. Palladino, when a company like AT&T has a cash flow of
that size on hand, what are some of the long-term investment
options available to it?
Ms. Palladino. I appreciate you bringing that up, because I
think that the letter from Elliott Management about AT&T really
highlights the kind of pressure that we know that activist
investors are bringing on companies like AT&T, in which they
call for an increase in stock buybacks. Because they are
virtually unregulated, they are able to call for that increase.
And, essentially, they called for a reduction in the workforce.
With that kind of free cash flow, a company like AT&T could
provide broadband, invest in upgrading our nation's
infrastructure for the economy that is coming for the 21st
Century, and, of course, continue to support an innovative and
developing workforce.
Mr. Garcia of Illinois. Thank you very much. I think my
time has run out. Madam Chairwoman, I yield back.
Chairwoman Maloney. I would like to thank all of our
witnesses for their testimony today.
Is Mr. Hollingsworth here?
Mr. Huizenga. Mr. Hollingsworth is here.
Madam Chairwoman, I would like to submit a letter from the
American Securities Association into the record.
Chairwoman Maloney. Without objection, it is so ordered.
Mr. Huizenga. Thank you.
Chairwoman Maloney. The gentleman from Indiana, Mr.
Hollingsworth, is recognized for 5 minutes.
Mr. Hollingsworth. I apologize for being late. I wanted to
ask Dr. Lewis about a few things. Number one, what in the short
run determines an employee's wage?
Mr. Lewis. What are the short-run determinants of an
employee's wage?
Mr. Hollingsworth. Yes.
Mr. Lewis. I assume employees' wages are based on a market
for labor.
Mr. Hollingsworth. Right. Supply and demand.
Mr. Lewis. Supply and demand.
Mr. Hollingsworth. Yes. As demand goes up, and supply is
relatively static, wages go up, right? As demand falls, and
supply remains relatively static, most likely it gets
translated into wages, right? And, ultimately, that price
clears the market?
Mr. Lewis. Right.
Mr. Hollingsworth. It is not an altruistic offering by a
corporation that determines an employee's wage. In the short
run, it is the supply and demand.
In the long run, it is the marginal productivity of labor.
As we increase the productivity of American workers, which we
have done a fantastic job of over the last 40 years, that
marginal productivity of labor continues to go up, and we can
compensate labor in more enhanced ways through wages. I think
it is really important to remember this.
The second thing I want to talk about is, is there any
impact, is there any material impact, I should say, on a
company's profit and loss statement, on their income sheet,
from these corporate buybacks?
Mr. Lewis. There has been a lot of discussion about the
ability of sort of share buybacks to increase earnings per
share.
Mr. Hollingsworth. It is an increase in earnings per share,
but that is not an increase in the earnings of the firm.
Mr. Lewis. You are correct.
Mr. Hollingsworth. In aggregate, the firm earns X, and then
it uses a portion of that after-X income/after-X cash flow to
purchase its shares, and may increase the earnings per share,
but it does not change the aggregate earnings of the firm?
Mr. Lewis. I was going to get to that, yes.
Mr. Hollingsworth. Okay. Sorry. I did not mean to cut you
off.
Mr. Lewis. Basically, the argument is that earnings per
share are sort of artificially increased through a share
repurchase program. The problem with that thinking is that is a
completely mechanical adjustment. The firm is exactly the same
firm before the buyback as it was after the buyback.
Mr. Hollingsworth. You are just dividing it by fewer
shares?
Mr. Lewis. You have a little bit less cash around, but the
operations of the firm are still intact. You are still
generating exactly the same cash flows from your business as
you were before.
Mr. Hollingsworth. That is exactly right. I think that is a
really important concept to remember because it would not be in
a firm's interest--it is not as if a firm says, gosh, we have
generated a certain amount of aggregate income, and we are
looking for ways to deploy that aggregate income or cash flow,
right? We can pay it back in dividends; we can reinvest it in
the business; or, alternatively, we can buy our own shares
back, which reduces the denominator of the number of shares
outstanding.
But, it is not as though they are going to say, well, we
should go back and maybe add more costs to our income sheet. It
is not a choice--it is a fake choice to say, oh, gosh, this is
a choice between wages and whether we buy more shares back. It
is a real fake choice, because one is an income sheet-driven
thing, right? Supply and demand for labor, wages, employee
costs, personnel costs, et cetera.
The other is, what are we doing with after-tax cash flows
in order to reinvest, enhance the returns to investors going
forward, which makes our shares more attractive over the long
run, and makes the business better over the long run if they
plowed that back into the business or they plow that back into
driving up those earnings over time, right?
Mr. Lewis. That is right, if they plow it back into
business in productive opportunities.
Mr. Hollingsworth. That is exactly right. And, so, I think
it is really important to remember both. In the short run,
wages are not affected by company policies. Wages are affected
by the supply and demand of labor in that particular area, for
that particular set of skills.
In the long run, us increasing the skills set of
individuals, making them more productive--Americans are the
most productive workers around the world, but we can make them
even more productive with tools and capabilities, better
training, better education, et cetera--increases their wages
over time.
But it is not companies making a decision that gosh, we
have some extra money lying around, maybe we should just go pay
people more. Ultimately, that is going to be determined in
whether that price, that wage, clears the market or not.
And I think it is really important to remember that these
things that affect the income statement are separate than
decisions about what we do with excess capital after they flow
through the income statement. We have already made the revenue.
We have already paid all of the costs of goods sold. We have
already paid all of our overhead, whatever that may be. We have
generated X at the bottom line, and now we are going to decide,
how do we reinvest that?
Whether we invest that in lowering the number of shares
outstanding, whether we invest that in buying more equipment,
whether we invest that in new opportunities--buying new
businesses, for example--that is a separate decision than, oh,
gosh, maybe we should go back and use some of this bottom line
to add more to our costs. They will not do that unless it is
necessitated by the supply and demand in the market, right?
Mr. Lewis. I would agree with that.
Mr. Hollingsworth. Right. Thank you. With that, I will
yield back.
Chairwoman Maloney. Thank you. And I would like to thank
all of our witnesses for your testimony today.
The Chair notes that some Members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 5 legislative days for Members to submit written questions
to these witnesses and to place their responses in the record.
Also, without objection, Members will have 5 legislative days
to submit extraneous materials to the Chair for inclusion in
the record.
This hearing is adjourned.
[Whereupon, at 12:05 p.m., the hearing was adjourned.]
A P P E N D I X
October 17, 2019
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