Be Skeptical of Stock Buybacks

They don’t necessarily guarantee higher share prices for investors.

Berkshire Hathaway recently made headlines when it began buying shares of its own stock for the first time in company history. Berkshire is far from alone. Stock-repurchase programs have hit near-record highs, with buyback authorizations on track to reach $540 billion this year, according to Birinyi Associates. That would make 2011 the third-best year for buybacks.

The argument in favor of share repurchases goes like this: When a company buys and then retires outstanding shares, it drives up earnings per share and, in theory, should boost the share price. A buyback gives existing shareholders a larger cut of the profits, and hints to those thinking of purchasing new shares that company executives—the classic insiders—think their stock is undervalued.

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Former Staff Writer, Kiplinger's Personal Finance