Managerial Markets

We focus on firms as profit maximizers; for our purposes the details of the goals of a firm aren’t critical, and πmax offers simplicity.

Then there’s the real world of stock buybacks. This is a triangle trade that creates fees and riches. But is that because firms are profitable, or because it’s a complex shell game?

See details in this post on the Wolf Street blog (of Wolf Richter). The basic story is that execs are typically granted stock options that are priced to be “in the money.” They cash in their options, which increases the number of shares outstanding and thus dilutes the value of those held by regular shareholders. So the firm buys the shares back. Begin again.

Oh, and there’s one modest fillip: at present buybacks are of sufficient scale that firms are borrowing to undertake them. That’s right, profits aren’t sufficient. The accounting is sufficiently complex that shareholders don’t complain, and boards are just following industry norms and so aren’t guilty of ignoring their fiduciary duties. But then why should executives worry about profits at all? – it looks as though they can run this shell game for a very long time, long enough to retire.

So maybe our “innocuous” assumption that firms pay attention to costs and profits will prove less useful than in the past.

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