Transcript:
Easan Arulanantham:
How does the tax on share buybacks affect the market?
Tom Vaughan:
Yeah, part of the negotiated settlement at the moment that we’re hearing about, and again, keep in mind that none of these things we’re talking about have been signed in the law yet. So who knows what happens, but part of it is to tax share buybacks at 1%. So you know, apples buying back $90 billion worth of stock a year right now, they’d have to pay a 1% tax on that. And you know, it’s not taxable right now. And one of the reasons they do buybacks is because they have excess cash. And they got to figure out where to put it, right. Where do they put it? Do they put it into buying their own stock back, when they buy their own stock back, they reduce the number of shares, if earnings stay the same, all of a sudden, their PE ratio, the price to earnings ratio gets lower, and sometimes the market will drive it back up to where it was. And so that’s what you’re trying to do when you’re doing a buyback is to increase the price of your stock. And so buybacks are really big. There’s a tremendous amount of money goes into buybacks, you can put it out as a dividend, right? Where, you know, people might buy that stock because it pays a higher dividend. And that might increase the price. buybacks seem to be more popular or more effective than dividends just be via the fact that there’s more buybacks happening that increase dividends, I mean, just looking, it’s financial engineering, if you just kind of look at what’s happening. The other thing of course, you can go do new projects, new growth, open up new stores, find new, you know, so Apple Car, for example, for Apple, you know, but you’ll and you’ll see all of these happening, you’ll see, you know, but a lot of money is going into buybacks. So if you start to tax buybacks, number one, the markets probably going to react negatively to that. Just because that is part of the reason the markets doing so well, is because these buybacks are happening. And if you add cost to that, it’ll change the the financial engineering answer. And maybe according to some of these reports, you’ll see a higher dividend rate, which doesn’t usually have as much impact on the price as buybacks has.
Yeah. So the Brookings Institution on their from their Tax Policy Center had a report that says like a 1%. share buyback tax, they published this in December of last year, would increase dividend payouts by about one and a half percent. Yeah. And the reason people like buybacks over dividends is you get a lot less bad per se, if you cut your buyback program versus cutting your dividend. So yeah, so if your dividends go down, people, the market does not like that at all. I just asked AT&T, oh, mackerel, they got hammered with their dividend cuts. And yeah, you’re exactly right. I mean, almost nobody says anything. If if Apple went from 90 billion to 50 billion and their buybacks, you know, I don’t people would probably wouldn’t even know, for the most part, if you know, if they cut back their dividend by you know, 1015 20%, Apple’s not a great example, because a huge dividend stock. But yeah, just a redirection, it’s going to force a redirection into a less efficient area. Theoretically, from a financial engineering standpoint, however, some of that could be forced out into new product development, that isn’t being done now. So that might be kind of interesting to see how that plays out. I mean, you get these companies, they just have so much cash flow, they can’t find enough projects, to that they can get the rate of return on that they need versus, hey, apples, basically saying we’re better off taking 90 billion and buying back our stock than putting 90 billion into the Apple car, whatever it is, just because it’s more certain what we’re gonna get out of it over here, versus these are very uncertain, right. But at the same time, the more of these projects that get started, some of them are going to work. And some of them have been radically good for the economy for employment. And so, you know, that could be good. But that’s more of a longer term thing. To see how that plays out. In the shorter term, I would think that 1% increase on the tax 1% tax on the buybacks is going to be a negative to the market and probably respond negatively to that. So we’ll see how it plays out. But it’s, it’s it’s interesting. I don’t have a huge problem with it, especially if it finds some of these other things. It’s not a terrible concept, but the question was how it affects stock market? I think it’ll be negative, at least in the short term.
Easan Arulanantham:
Yeah. Because like you have about 900 or I think it’s $182 billion of buyback last year. And so if you tax us 1% of that, you’re generating a lot of money. Yeah, yeah. And so it pays for stuff, but maybe the calculation is different lowers that. So say it’s only a 15% return, because buybacks get you that but if you dropped out to like 12%, maybe more projects are viable?
Tom Vaughan:
Yeah, exactly. I don’t know, you know, if you look at the negotiations that have gone on in that bill, the one thing that kind of mystifies me is that they were going to close up a little bit of the loophole on this carried interest, which really only affects, you know, the very, very wealthy specifically held hedge fund managers and what have you, just the way that they’re able to declare gains in a certain manner that would normally be income taxed at ordinary income levels, they’re able to cap that out at 23.8%. And they’re trying to fill that and so they, they decided we’re not going to do that. So we’re not going to tax hedge fund managers, we’re going to attack and they replaced it with a tax on share buybacks. That didn’t seem like a good trade. To me, that seems like somebody has a better lobby than somebody else. I don’t know. But that’s kind of interesting as far as that goes, and, and essentially come down to one senator, you know, deciding that this was going to happen, and it could have an impact, you know, so we’ll see how this plays out.
Easan Arulanantham:
Yeah. And I feel we’ll get more like further confirmation really rapidly because they’re pressing this bill quite rapidly through Congress. Yeah. And so maybe in a couple of weeks, we’ll have the actual bill that’s gonna get signed.
Tom Vaughan:
They’re heading into August break. So I think they’re going to try to get this through before that. It has to go through the the parliamentarian, I believe they call it who decides whether some of these things can actually go through the reconciliation process and where they only need 50 votes instead of 60. Some of these pieces might fall off during that period of time, probably not the tax on the buyback.
Easan Arulanantham:
But it seems a lot of this stuff has like some sort of money value associated with it. So most likely, the only one that could get weird is the negotiation of as a group for your prescriptions. Is that a budget item?
Tom Vaughan:
Yeah, that’s right. They’ve tried to squeeze through everything they possibly can because they can’t get 60 votes. Yep, on either sides. But we’ll see how this plays out.