The Power of the Capital One Stock Buyback

Some investors love them, others hate them, but regardless of which camp you find yourself in, the reality is that share buybacks have an ability to boost shareholder value significantly. The news out of Capital One Financial (COF) last week hardly got any attention, but I wanted to point it out in the face of all the negativity surrounding the banking sector.

Despite the gloom and doom forecasts that the U.S. consumer is dead and everybody is facing home foreclosure and default on their credit card and student loan debt (exaggeration intended), Capital One announced a $2 billion share buyback and a dividend increase of 1,289% (to $1.50 per share annually). One has to think the COF board thought long and hard before increasing the company’s annual dividend from 0.2% to 3%. If there was any reasonable chance of a capital shortfall in the future, they would have surely treaded more slowly. The only thing worse than cutting your dividend is doing so only months after initiating one (the prior $0.11 annual dividend was immaterial).

At the beginning of 2007, a $2 billion buyback would have only retired 6% of COF’s shares, but today it represents 11% of the company (nothing to sneeze at). How much of an impact can a buyback like this really have in such a negative environment for financial stocks? Isn’t news of a buyback irrelevant when we are facing the increasing loan losses in 2008?

You might be quick to answer “yes” but looking back at 2007, it appears that the 38% drop in Capital One’s stock was severely overdone. How can that be? Believe it or not, Capital One’s book value per share rose by 1% during 2007. An even more important metric, net tangible assets per share (book value excluding goodwill), rose by 9% during 2007. This was due to a combination of large stock buybacks and lower than anticipated deterioration in Capital One’s asset base.

As the data I have compiled here on COF shows, there is plenty of value in the financial services sector, despite almost constant fear that the financial services industry in our country is falling apart.
Below are Capital One’s shareholder metrics for the twelve months ended 12/31/07. Similar numbers in 2008 would not surprise me, although most of Wall Street seems to think otherwise.

Full Disclosure: Long shares of Capital One at the time of writing

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2 Thoughts on “The Power of the Capital One Stock Buyback

  1. Anonymous on February 5, 2008 at 9:10 PM said:

    I consider myself barely mediocre in understanding economics.

    With that in mind, my read of the quoted table is that while the company is through tough times (equity, earnings down) it is taking care to protect its investors.

    While admirable to that extent, the real question I would ask myself is what is the likelyhood for the business to continue its bad course and, respectively, for how long can they sustain fighting that trend.

    And why, in fact, are they doing it?

    To protect shareholders or to boost price, which, although serving the first is a different beast altogether?

    Thanks for raising the interesting topic and taking the time to educate those of us with only basic level of understanding :-)

  2. Chad Brand on February 6, 2008 at 5:41 AM said:

    Here is how I would think about it. Although the market over the short term moves based on fear, emotion, headlines, etc, over the long term things like earnings and book value are all that matters. Financial stocks are valued on book value by most investors because the accounting rules for calculating earnings distort the picture oftentimes by including lots of non-cash items.

    While the market is focused on rising loan losses and delinquencies, the reality is that companies such as Capital One are still wildly profitable, are working hard to preserve shareholder value (as trhey should), and will continue to be, even if the near-term negatives continue for a while.

    Because of this, in many instances there is unlikely to be a large decrease in shareholder value despite the stock prices having been crushed over the last 6 months or so.

    As a value investor, this is what people should focus on; how much value is actually being destroyed versus how much the share price is dropping. The two are not always similar, because markets are very inefficient in the short term, only to be more accurate over the long term.

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