Biden’s Stock Buyback Tax Would Hit the Little Guy

Mutual-fund investors would pay, and the result would be less-efficient allocation of capital.

By Burton G. Malkiel. Excerpts:

"Stock buybacks don’t take money away from pro-growth investments. Most buyback funds are reinvested in the stock market and in private equity, where they can be put to more productive use."

"If the company undertakes an investment with a lower expected return, it will destroy shareholder value."

"If the dollar value of such projects is less than the cash available, any excess cash should be returned to shareholders. The preferred method of returning these excess proceeds is to engage in buying back the firm’s stock (on which the purchase will earn the company’s cost of capital) or by declaring a special dividend. Buybacks are typically preferred to increasing dividends since the company doesn’t have to commit to continuing repurchases. Buybacks also provide flexibility with respect to timing. Unlike a regular dividend, there is no expectation that the buyback will continue."

"Critics say that buybacks substitute for productive investments, thereby harming the economy and its growth prospects. But a study published in the Harvard Business Review covering the years 2007-16 showed that research and development and capital expenditures soared over the same period when shareholder payouts and stock buybacks were rising sharply. The disconnect between robust investment and large cash payments is explained by offsetting equity issuance. Moreover, stockholders who sell their shares use much of the cash received to invest in other companies. Indeed, buybacks permit shareholders to redirect funds to smaller and higher-growth companies, which can improve the economy’s capital allocation by reallocating capital from older, established firms to more innovative ones."

"there is no evidence that firms that engage in buybacks reduce their investments. The Tax Foundation reported that firms that buy back their stock tend to outperform their peers over the next several years."

"Most common stock is held by the mutual (and exchange-traded) fund industry and by a variety of public and private pension plans. Entities such as the California Public Employees’ Retirement System as well as state-run pension plans own enormous amounts of common stocks. These institutions usually reinvest the proceeds from buybacks, and they rely on returns from the stock market to preserve the viability of their programs."