Previously, we talked about how two different 300-baggers have compounded their performances in different ways, with one of them deploying lots of capital to share buybacks to help compound its EPS (earnings per share) well.
In particular, in the last 10 financial years, Autozone deployed 92% of its operating cash flows (OCF) to share buybacks, helping it to achieve an EPS CAGR (17%) that was much higher than its net profit CAGR (10%).
Given that many companies are repurchasing shares these days, how do we know whether their capital deployments to buybacks are effective? Is there a way we can analyse this quantitatively?
Let’s examine this topic today, by comparing the buyback activities of two companies which have been very active on buybacks – MSCI Inc and IDEXX Laboratories Inc.
Both these companies have been cannibalising their own shares in the last decade, buying back ~32% and ~19% of their share counts respectively from 2014 to 2023.
MSCI’s Business
MSCI is a leading provider of critical investment decision data, support tools and services to the investment community worldwide.
The company is best known for its extensive range of financial indices covering various asset classes (like equity, bond and real estate), including the widely used benchmark indices like the MSCI World Index and the MSCI Emerging Markets Index.
For these indices, MSCI sells recurring data subscriptions for them, and also collects license fees for ETF products linked to the indices (e.g. Blackrock’s iShares MSCI World ETF).
On top of that, MSCI also sells subscriptions for other data relating to ESGC (environment, social & governance, and climate) and private assets, and offers portfolio analytics software for risk and return analysis etc.
As MSCI’s business is capital light in nature, it earns a high return on capital employed (ROCE), which was more than 30% in 2023.
This high ROCE enables MSCI to grow fast (with a CAGR for EBIT of 17% from 2014 to 2023), and still has lots of capital remaining to return back to shareholders through share buybacks and dividends.
From 2015 to 2023, MSCI generated operating cash flows (OCF) (before deducting share based compensation (SBC) expenses) of $6.6 billion.
It reinvested $2.4 billion (~37%) of it for growth, mainly inorganically through acquisitions ($1.9 billion), and minorly organically through capital expenditure ($0.5 billion).
At the same time, it also returned $7.8 billion of capital back to the shareholders, which was more than 100% of the OCF (at ~119%), with the shortfall being funded by debt. It returned the capital through both share buybacks ($5.7 billion, or 88%) and dividends ($2.1 billion, or 31%).
MSCI’s Share Buyback Activities
So, have MSCI’s share buyback activities been value accretive to shareholders?
Warren Buffett, in his 2023 shareholder letter, said that “All stock repurchases should be price-dependent. What is sensible at a discount to business-value becomes stupid if done at a premium”.
Let’s look at how much MSCI has been paying for its share buybacks.
As seen in the chart above, MSCI repurchased a lot of shares in 2015, 2016 and 2018 (at ~6-11 million a year) when its share was trading at a relatively lower price, at ~25-30x P/E. When its share price increased significantly in year 2020 and onwards (to >40x P/E), it significantly reduced its buybacks (to less than 3 million shares a year).
If we look at the amount that MSCI deployed to buybacks, in terms of percentage of its OCF, the observation is the same.
In the earlier years, when its shares were trading at lower multiples, it mainly deployed >150% of its OCF on buybacks, with the shortfall being funded by debt.
In the later years, when its shares were trading at higher multiples, it deployed a lower % of its OCF on buybacks.
MSCI’s Buyback XIRR
So, is there a way we can assess the results of the buyback activities of MSCI more systematically, and compare with other companies?
One good way is to examine the XIRR returns achieved by MSCI’s deployment of capital to buybacks.
Now, imagine this situation. Instead of buying its own shares, MSCI deploys the same amount of capital to purchase the same number of shares of another company (call it, Company M), at the same prices. It then holds on to those shares, and at one point of time in the future, sells all the shares held at the market price then.
In such a situation, we can calculate the investment return, in terms of XIRR, achieved by MSCI on the purchase of the shares of Company M, and the subsequent disposal.
This is the same as looking at the investment returns achieved by us investors, when we purchase shares in some companies and sell them subsequently.
As shown in the table above, from 2015 to 2023, MSCI repurchased a total of 36 million of its own shares, at average annual prices of between $63 to $471.
On 12 August 2024, its share traded at a price of $532. This means that the 36 million shares that it had repurchased in the past would have been worth ~USD 19 billion.
Taking into account the cash outflows incurred by MSCI in each of the years from 2015 to 2023 (assuming the buybacks all happened in the middle of the year, for simplicity), and the value of all the repurchased shares in August 2024, the XIRR of the share repurchases was ~25%.
This is a high return, and indicates that MSCI’s capital allocation to share buybacks has been working well and adding value to its shareholders.
IDEXX’s Business
Now, let’s look at IDEXX Laboratories’ share buyback activities, and see how they compare with MSCI’s.
IDEXX is a developer and provider of diagnostic products and services for the companion animal veterinary, livestock, poultry & dairy, and water testing industries.
Supported by its strong switching cost moat and pricing power, it earns a high ROCE, of more than 40% in 2023.
Similar to MSCI, IDEXX’s high ROCE helps it to grow fast (with a CAGR for EBIT from 2014 to 2023 of 17%, same as MSCI coincidentally), and still has lots of capital to return back to shareholders through share buybacks (but with no dividends, unlike MSCI).
From 2015 to 2023, IDEXX generated OCF (before deducting SBC expenses) of $4.6 billion.
It reinvested $1.4 billion (~29%) of it for growth, mainly organically through capital expenditure ($1.0b) and minorly through inorganic acquisitions ($0.3 billion).
For the remaining capital, it returned all of it back to the shareholders through share buybacks, at ~75% of its OCF ($3.5b).
IDEXX’s Share Buyback Activities & XIRR
Let’s now look at how much IDEXX has been paying for its share buybacks.
As seen in the chart above, IDEXX repurchased a lot of shares in 2015 and 2016 (at ~3-6 million a year) when its share was trading at P/E multiples of ~35-41x P/E. When its shares traded at higher price multiples (~50x P/E or more) in the years thereafter, it reduced its buybacks to ~1-2 million shares a year.
However, when we look at how many % of the OCF it deployed to buybacks (as shown in the chart above), in years 2021 and 2022 when its share traded at high P/E multiples of 51-67x, it actually deployed a high % of its OCF to buybacks, at ~100%-150% of its OCF.
It did not choose to deploy the capital in other ways, for example returning them through dividends like what MSCI did.
Because IDEXX allocated much capital to share buybacks even when its share was trading at relatively high price levels, the XIRR that it achieved on its buybacks was ~18% (as of 12 August 2024, as shown in the table below), lower than the ~25% achieved by MSCI.
Conclusion: Evaluating Share Buybacks Effectiveness
In summary, both MSCI and IDEXX had grown their EBIT at a CAGR of ~17% from 2014 to 2023.
Because they both had high ROCE (of ~30% and >40% in 2023), they managed to grow at this fast pace, and still returned lots of capital back to their shareholders through share buybacks (and dividends for MSCI). (Note: That’s why ROCE is such an important factor to focus on in selecting high quality companies to own for the long term, which we have explained here).
During that period, MSCI deployed 119% of its OCF to buybacks, repurchasing ~32% of its shares. Meanwhile, IDEXX deployed 75% of its OCF to buybacks, repurchasing ~19% of its shares. These significant share reductions had helped them to achieve EPS growth that was faster than their net profit growth.
Because MSCI reduced its deployment of capital to buybacks during times when its share was trading at relatively higher valuation multiples, relatively more than IDEXX, the XIRR achieved by MSCI for its buybacks (~25%) was higher than that achieved by IDEXX (~18%).
So, what do you think of these companies’ capital allocations and share buyback executions?
What other companies in your portfolio or watchlist are cannibals, and how effective have their buybacks been?
Let us know your thoughts in the comments below! Or if you have any cannibals in mind that you want us to look at!
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