Dividends & Buybacks: A Peculiar Potion

Old Mr. Buffett, a rather clever fellow with a fondness for fizzy drinks and sensible shoes, once made a terrible blunder. It was back in ’67, a year when trousers were wide and opinions even wider. He agreed – agreed! – to hand out dividends. A measly ten cents a share, you understand, but enough to make him wince like a badger poked with a stick.

He realized his mistake quicker than a jackrabbit spots a carrot. That ten cents, he grumbled, could have been transformed into mountains of money if only reinvested. So, he offered shareholders a rather cunning deal – a sort of ‘swap your pennies for promises’ scheme involving debentures. A whopping 32,000 of them took the bait, leaving behind the sensible sorts who understood that real wealth grows, it doesn’t just appear.

From that day forward, Mr. Buffett vowed to keep his hands off the dividend pot. Yet, a curious thing! He secretly adores dividends from the companies he invests in. He calls them “the secret sauce” – a rather messy metaphor, if you ask me – that makes Berkshire’s returns so spectacularly large. But there’s a catch, a tiny little wrinkle. He despises handing them out himself.

When Buybacks Are Brighter

Now, the tax people, those rather stuffy chaps in grey suits, have a peculiar fondness for long-term investments. Both dividends and capital gains get a favorable nod if you hold on for a bit. It’s like they’re rewarding patience, which is a rare and wonderful thing.

Share buybacks, you see, work their magic over time. You only pay tax once, if you decide to sell for a profit. And for those earning a comfortable living (between $49,450 and $545,500, if you’re keeping score), the tax rate is a mere 15%. Spouses filing jointly can enjoy the same rate on income under $613,700. A rather pleasing arrangement, wouldn’t you agree?

When a company has a surplus of cash, they can choose to grow through buybacks, dividends, or acquisitions. Mr. Buffett, a man of simple tastes and even simpler logic, declared buybacks “probably the best use of cash” – but only if the shares are cheap. It’s like snagging a particularly plump worm for a hungry robin. He cheered Apple’s $100 billion buyback program in 2018, saying they were unlikely to find a better use for their money.

But beware! Ill-advised buybacks can leave investors feeling rather foolish. Take Sears, a once-mighty titan that crumbled into dust. They spent $6 billion on share repurchases in 2005, and the shares promptly plummeted by 99%. A truly dreadful outcome. Perhaps that $6 billion could have been spent on something useful, like inventing a self-folding sock.

We’ll never know, of course. But it’s safe to say shareholders would have been better off receiving that $6 billion in dividends.

Buybacks are generally a clever move if management is repurchasing shares below book value – that is, what’s left after you’ve subtracted all the debts from the company’s assets. Think of it as calculating a person’s net worth, only for a business. Mr. Buffett’s rule of thumb? Buy back shares when a company is trading at below 1.2 times book value. If that’s the case, buybacks are “probably the best use of cash.” It’s a rather sensible notion, really.

2026-02-07 18:12

When Buybacks Are Brighter

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