AMZN Buyback

Amazon.com (AMZN) is trading up 3.2% today after announcing a $500 mln share buyback, but upon closer inspection this financial decision ranks right up there with how the company used to spend $1.10 for every $1.00 of revenue. With the stock trading at a current P/E ratio of nearly 40, its earnings yield is a meager 2.5%. This compares to a US 10-Year Treasury that currently pays 4.8% on an annual basis.

As the following very basic example assumes, AMZN would be better off just putting the money in some investment grade corporate bonds. We realize this example makes a lot of assumptions, but it still illustrates that shareholders would be better served if AMZN opted to put the $500 mln to some other use.

Let’s assume that AMZN has $500 mln lying around burning a hole in its pocket.  If they take that $500 mln and actually buy back stock, the share count will decrease by 17.2 mln shares.  If earnings over the next four quarters were to equal earnings over the last four quarters, the earnings per share would increase from $0.74 to $0.77 due to the lower share count.  Now let’s assume that AMZN takes that $500 mln and decides to invest the money in investment grade corporate bonds.  With investment grade bonds currently yielding 97 basis points above the 10-Year, AMZN would pick up a yield of 5.77%, which translates into $28.85 mln. Again, if we assume that earnings remain the same, spreading that $28.85 mln across the 419 mln shares would increase EPS by $0.07 from $0.74 to $0.81 per share!  Which choice makes more sense to you?

Comments

[Mark]

I agree with the basic concept (that buybacks aren't always the best use of excess cash) but with a 55% tax rate both options (buyback vs bond) result in about the same EPS impact .