Hewlett-Packard (HPQ): The Case Against The Share Buyback

Hewlett-Packard (NYSE:HPQ) is the latest large American company to announce it would buyback many more of its shares. This has become popular once again among the cash rich in the Fortune 500. McDonald’s (NYSE:MCD) and IBM (NYSE:IBM) have become particularly aggressive.

The arguments against share buybacks are old and hardly worth repeating except for the fact that as a rising number of companies adopt the practice returning to the case the these harm shareholders keeps the debate fresh.

HP had revenue of $30.8 billion for the period ending October 31. That is a drop of 8%. Earnings rose 14% to $2.4 billion. HP’s chief Mark Hurd has been particularly brutal cutting costs, making him the Jack Welch of the current decade.

HP’s forecast for its current fiscal was unusually strong. The firm estimates fiscal year 2010 revenue to be about $118.0 billion to $119.0 billion. HP is blessed to have more than $13 billion in cash and that number grows each quarter. HP will make use of some of that money to triple its old share buyback program to $12 billion.

The “pro” argument for buying back shares is that the fewer the shares, the higher the EPS. No one who is a sophisticated investor is fooled much by this. Profits are profits no matter how many shares are outstanding. HP is not giving any money to shareholders by sharply increasing its $.32 dividend which is only a measly .6% yield. HP could help the people and institutions that own shares by moving that payout up sharply or issuing a one-time dividend.

The buyback also says, to some extent, that HP does not need its cash for M&A purposes. That is too bad. The company has bought other tech operations. If it buys back too much cash, the next purchase will be with debt or shares. A debt-based M&A purchase negates the reason for keeping cash on the balance sheet. A stock-based acquisition offsets a share buyback with new dilution.

More and more tech firms are becoming remarkable cash rich. Apple (NASDAQ:AAPL) may be the most visible example. It is not buying back shares, buying companies, or paying a dividend. HP call always point to Apple and claim that it at least is doing something with its cash. Even so, it is an inadequate excuse.

Douglas A. McIntyre