Top of the Morning
William Lazonick of the Harvard Business Review suggests that corporate America’s short-term thinking has kept much of the public shut out from the economic recovery:
Corporate profitability is not translating into widespread economic prosperity.
The allocation of corporate profits to stock buybacks deserves much of the blame. Consider the 449 companies in the S&P 500 index that were publicly listed from 2003 through 2012. During that period those companies used 54 per cent of their earnings—a total of $2.4 trillion—to buy back their own stock, almost all through purchases on the open market. Dividends absorbed an additional 37 per cent of their earnings. That left very little for investments in productive capabilities or higher incomes for employees.
The buyback wave has gotten so big, in fact, that even shareholders—the presumed beneficiaries of all this corporate largesse—are getting worried. “It concerns us that, in the wake of the financial crisis, many companies have shied away from investing in the future growth of their companies,” Laurence Fink, the chairman and CEO of BlackRock, the world’s largest asset manager, wrote in an open letter to corporate America in March. “Too many companies have cut capital expenditure and even increased debt to boost dividends and increase share buybacks.”
Why are such massive resources being devoted to stock repurchases? Corporate executives give several reasons, which I will discuss later. But none of them has close to the explanatory power of this simple truth: Stock-based instruments make up the majority of their pay, and in the short term buybacks drive up stock prices.
On the Homefront
Canadian stocks have been getting creamed. The nation’s benchmark index, the TSX, is in the midst of its longest losing streak in more than a year, falling for five consecutive sessions. During that span, the TSX has given back more than 500 points to fall below the psychological 15,000-level for the first time since late June. In general, September has been cruel for Canadian investors: the TSX is down 4.7 per cent so far this month. A surging greenback has put pressure on commodities and accelerated the sell-off in materials and energy stocks, which are two of the three most heavily-weighted sectors on the index. TSX 60 futures are virtually flat ahead of the open.
The yield on the five-year Government of Canada bond is holding steady around 1.62 per cent.
The loonie is straddling the 90-cent level against the U.S. dollar this morning.
Another big day for BlackBerry. At about 7:00 a.m. (EDT), BlackBerry (BBRY) will release its results for fiscal Q2 2015, the three months ending Aug. 30. Analysts are looking for adjusted earnings per share of -$0.16 on revenue of just under $960 million on the quarter. In its fiscal Q1, BlackBerry posted a small profit attributable to a round of asset sales. Once those divestments are removed from the equation, cash burn — a key metric that analysts will be focusing on to assess the company’s viability — totalled $255 million for the quarter. On Wednesday, the company launched its newest device, the Passport phablet, as well as a productivity-enhancing app known as BlackBerry Blend. While CEO John Chen noted that he was “in the quietest part of the quiet period” at this event, he reiterated that the company’s restructuring process was over and said BlackBerry is “making good progress in all balance sheet items and managing cash very well.” The end of the restructuring process is a bit of a mixed blessing for management. Chen has proven himself very adept at cutting out the fat; now, his challenge is to grow the business. Management will likely face a bevy of questions about the Passport’s potential and the margin associated with the product as well as the status of the upcoming BES12, the new generation of its enterprise mobility management system.
UPDATE: BlackBerry posted a huge bottom line beat, with an adjusted loss of only $0.02 per share. However, revenues came in well below analysts’ expectations.
Major Allergan shareholder pushes for dialogue with Valeant. Just as the battle between Valeant Pharmaceuticals (VRX) and Allergan (AGN) looked to be getting a bit more civil, one of the Botox maker’s institutional shareholders sent a letter to Allergan’s board of directors that blasts its conduct. Matthew C. Halbower, CEO of Pentwater Capital, which owns 1.3 per cent of the firm, said that during Valeant’s hostile takeover attempt “the actions of Allergan’s board have grown increasingly hostile toward its own shareholders.” Pentwater is pushing for management to negotiate with potential suitors — namely, Valeant and Actavis — rather than seek to pull off a large-scale acquisition that would “destroy value for all Allergan shareholders.”
The ripple effects of cost inflation in the oil sands. On Thursday afternoon, Norwegian oil giant Statoil announced that it was postponing the development of its Corner oil sands project in Alberta for a minimum of three years. The company blamed rising input costs — the same reason Total SA gave for shelving its Joslyn oil sands mine in late May — as well as concerns over infrastructure capacity constraints for this decision. This, in turn, prompted the “disappointed” management of Pembina Pipeline (PPL) to stop work on a pipeline that would have linked Statoil’s site to a terminal in Edmonton.
Free trade with EU to be inked? The Comprehensive Economic and Trade Agreement (CETA), Canada’s free trade agreement with the European Union, is set to be signed in Ottawa around noon today. However, an unconfirmed report from German outlet Deutsche Welle claims the deal will not be signed today as planned. A senior Germany official visiting Ottawa told the Globe and Mail’s Bill Curry that the investor-state dispute settlement provisions in the text need to be altered before the nation will get on board with the deal. Many people on both sides of the Atlantic have expressed their misgivings about the ISDS mechanisms in the agreement.
Commentators are often tempted to attach a narrative to the daily gyrations of equity markets. However, on some occasions — like yesterday — there are few to be found, as IG chief market strategist Chris Weston observes. “Still, it’s interesting to ask why the market actually chose to sell off with such ferocity. While some will point to comments from Dallas Fed president Richard Fisher about rates being put up sooner, this makes little sense as both bond yields and interest rate expectations actually fell – not to mention the fact he has been banging this drum for months,” he wrote. “News about Russia drafting a bill to seize foreign assets is certainly one reason, but markets have learnt to cope with these tensions. It was a funny old session, and price action today will therefore be key.”
Japanese inflation was lower than anticipated in August. Though the core rate was up 3.1 per cent year-over-year, this is mainly due to the lingering effect of the sales tax hike implemented in April. Stripping that out, the annual core inflation rate was just 1.1 per cent, two-tenths of a percentage point below the previous reading and a tick shy of the consensus estimate. This print has raised fears that the Bank of Japan won’t see inflation rise to its desired level of two per cent without enacting additional monetary stimulus.
Another measure of German confidence waned, with the nation’s Gfk consumer climate index coming in below expectations at 8.3. “The continued tension with regard to the geopolitical situation, which consumers now see as also posing a threat to developments in Germany, has caused optimism to dwindle further in September,” according to a press release. On Wednesday, when the IFO survey showed that confidence declined for the fifth consecutive reading, IFO President Hans-Werner Sinn bluntly acknowledged that the economic fundamentals in the eurozone’s engine were deteriorating. “The German economy is no longer running smoothly,” Sinn wrote.
The final reading of U.S. Q2 GDP growth is slated to be released at 8:30 a.m. (EDT). Economists are looking for the reading to be revised upwards from 4.2 to 4.6 per cent. Stronger than anticipated spending on health care is expected to be the proximate cause of this pick-up in growth. The advance print showed the American economy expanded at an annualized rate of four per cent quarter-over-quarter in Q2; in the first three months of the year, GDP growth was -2.1 per cent. The final reading of UofM Consumer Sentiment for September will also be published later in the morning.