How a Company Can Create Solid Shareholder Returns?

We love companies, and we love companies even more when they go out of their way to create more and more value for their shareholders. But what are some ways a company can create value for its shareholders?

Let’s chat about it for a bit.

Share buybacks

Share buybacks have to be my personal favorite type of return a company can offer. When a company buys back its own shares, just like how we buy shares of that company, the company limits the outstanding shares that are currently tradable.

This means there will be fewer shares to be bought and means your share is worth more.

Let's put it in extremely simple terms:

Let's say a group of people has 1,000 bananas available. This means there is enough for the group of monkeys, and the bananas add little to no extra value. But when a group of people limits the available bananas to 500, reducing it by 50%, the bananas become more valuable due to there being less supply yet demand didn’t decrease.

This means that the value of one banana rises due to there being less to get.

This is how it should look like in an ideal situation.

In this example, we see that Starbucks is gradually decreasing its outstanding shares. This means that the shares you own are rising in value due to the decrease of available shares in the market.

Share buybacks also indicate that management think the stock is undervalued, why would management buy at record high levels? This indication could add great value to your investment.

Dividends

Personally, I’m not a huge fan of dividends. Dividends are cash payouts to shareholders every quarter or annually (semi-quarterly, semi-annually). This tells me that they do not consider share buybacks to be good enough or find them too pricey. Putting the money back into the business, like R&D, and getting more products or services out there is my preference if they do not consider share buybacks. Reinvesting in the business to create value this way.

With that said, dividends still create value for investors who rely on them. This often creates a stable income so the investor can either reinvest their money or use it for their personal expenses.

In the dividend case, ideally, we would like to see growth in the yield or payout rate. Here are some examples.

Walgreens Boots Alliance increases its yield over the long run and keeps paying a modest dividend. Investors who rely on their dividend pick this type of stock because the shareholder return via dividends increases over time, creating more and more value for the shareholder through dividends.

Merger and Acquisition Activity

This one is a tricky one!

Mergers or acquisitions take time and a lot of expertise to perform and execute well. Also, companies might have 'dead bodies buried in the closets', meaning that the risk of unaccounted debt or other liabilities is found after the merger or acquisition, ruining the opportunity it once was.

Take Just Eat Takeaway for a second; they took over Grubhub, which turned out to be the worst investment ever. Just Eat saw its stock tank from $100+ down to $15 per share. Just Eat is trying its best to get rid of Grubhub, but the damage is already done. Grubhub is eating away at their assets, revenue, and credibility.

But, there are, of course, upsides! Look at Constellation Software, the giant in acquisitions. Constellation has proven to provide quality acquisitions and creating immense value for its shareholders via these acquisitions. Others like Danaher and Teqnion are doing the same in a different sector and are doing modestly as of now.

By acquiring other companies, they increase their assets, name, revenue, and much more, which will result in more value for the shareholders. Leaving the downside out of the equation, acquiring is a good way to give back to its shareholders, although it is not my favorite one.

As shown above, Constellation Software is driving revenue up like crazy. This can only be done if you’re acquiring good/modest companies, getting them thriving, and benefiting from the thriving business. Constellation Software is known for being successful in their field, acquisitions.

Deployment and return on assets are wonderful!

They can create immense value, but it is risky and tricky to keep up and keep acquiring good or modest businesses.

Conclusion

There are several ways a company can give back value to its shareholders, such as debt reduction and more. The ones I've mentioned here are my top picks for generating solid returns. My personal favorite is share buybacks, followed by mergers and acquisitions, and lastly, dividends. This is just my perspective, so find what works best for you. If you're nearing retirement, dividends might be more appealing.

When considering these factors, it's important to look beyond the surface. Share buybacks, dividends, or mergers alone may seem straightforward, but it's crucial to understand why management is pursuing them and analyze accordingly. This deeper analysis will enhance the value you derive from these strategies. Remember, you don't invest in stocks solely because the price is low, right? ;)

Thanks for reading, my friend! I look forward to our next encounter.