Question

Article link: The Envelope, Please: The 2012 Capital-Deployment Awards - CFO

Is it reasonable to conclude from reading the article that firms would achieve higher TSR by making acquisitions or stockpiling cash? Why or why not? What additional information would you need to properly assess the impact on shareholder wealth of the various capital deployment choices described in the article?

Answer 1

Yes, it’s reasonable to conclude that firms would achieve higher TSR (total shareholder return) by making acquisitions. The article compared TSR for the following capital deployment strategies – making acquisitions, stock buybacks, and building up cash balances. As per the findings, TSR was the highest in purchases and lowest in the case of building cash balances.

TSR is the total return of a stock that an investor holds. In other words, it is the internal rate of return for the cash flows to the investor during the holding period of the stock.

With acquisitions, companies can pursue growth by finding the desirable investment opportunities. This leads to an appreciation of stock price in the long run leading to higher TSR. Acquisitions are nothing but growth investments. When the decision is made carefully, it will lead to long-term capital gains for the stockholders after properly analyzing all the risks.

In terms of other information required to properly assess the impact on shareholder wealth of the various capital deployment choices, the following information would be useful:

1. Risk – What is the quantum of risk present in each of the capital deployment strategy?

2. Dividends – What was the TSR of the companies who paid dividends even after reporting flat growth in earnings and cash flows? What will be the TSR if only those companies considered paid tips only after writing a significant positive change in revenues and cash flows?