In announcing a $50-billion share buyback on Tuesday, Google-owner Alphabet Inc (GOOGL.O) confirmed a paradoxical dynamic: its core advertising business is so profitable, and so dominant, that it has few options for usefully deploying its cash.
Alphabet reported record earnings on Tuesday, leaving its cash pile at about $135 billion, up $18 billion over the last year.
A surge in internet usage during the pandemic helped propel the Google search and YouTube advertising businesses that account for most of it revenue and profit.
But antitrust investigators in the United States and elsewhere allege that Google gained dominance in online ads using anti-competitive practices, and lawsuits are piling up. That could leave Google wary of spending its money on big acquisitions that are related to its existing businesses, as they would likely be blocked on antitrust grounds.
"Fears of an increased regulatory clampdown on the company might have seen Alphabet tread more carefully when deciding what to do with their cash pile," said Samuel Indyk, analyst at uk.Investing.com.
Alphabet Chief Financial Officer Ruth Porat on Tuesday did not rule out making deals, though.
"Our primary use of capital continues to be to support organic growth in our businesses followed by retaining flexibility for acquisitions and investments," she told analysts.
Betting on unrelated businesses, while easier from a regulatory standpoint, would be unlikely to yield anything close to the returns enjoyed by Google. And spending on internal projects has limits too: Alphabet has sunk tens of billions into the its "other bets," including autonomous vehicle company Waymo and blue-sky projects such as failed internet service Loon, but few are close to being viable businesses.
Like many fast-growing tech companies, Alphabet has never paid a dividend, preferring instead to return cash to shareholders through buybacks. Alphabet bought back $31 billion in shares in 2020, 69% more than the year before, according to Jefferies analyst Brent Thill.
The 2020 buyback amounted to 73% of its free cash flow, up from 59% in 2019, he said.
Unlike dividends, which can lock a company into long-term fixed payouts to shareholders that are difficult to reduce, buybacks also give Alphabet the flexibility to adjust the flow of cash returned to investors at any time if it needs the money for other purposes.
Some analysts say Alphabet shares are priced low relative to peers. Alphabet shares trade at about eight times sales over the last year, while shares of Facebook Inc (FB.O) are at 10 times and Microsoft Corp (MSFT.O) at 12 times.
Taking some shares off the market and stoking prices through the buyback, one of the largest ever on Wall Street and almost twice the company's previous highest authorization, could help close the gap with rivals.
"This (buyback) is a sign their stock is undervalued and a tougher regulatory environment for M&A," Thill said. Alphabet shares rose as much as 6.1% to touch a record high of $2,431.38 on Wednesday.
Company leadership would benefit from higher shares under their new compensation plans. Five senior executives including Porat over the last year received stock awards that will vest, if at all, based on how Alphabet shares perform relative to the S&P 100 in the coming years.
Alphabet is far from the only company with plenty of cash and antitrust and other challenges hampering its potential use. Apple Inc (AAPL.O), Amazon.com Inc (AMZN.O), Microsoft Corp (MSFT.O) and Facebook Inc (FB.O) have more than $300 billion combined.
Share buybacks have been rising, both in the amount of repurchases and the number of companies doing them, though activity remains below pre-pandemic levels.
About one-third of S&P 500 companies have issued quarterly results as of Tuesday, reporting $52 billion in buybacks in the first quarter, according to Howard Silverblatt, senior index analyst with S&P Dow Jones Indices. Those companies reported $42.8 billion in buybacks in the fourth quarter.
The calculation on buybacks versus dividends could change with U.S. President Joe Biden's new tax proposals, which aim to boost the levy on capital gains from stock investments but leave taxes on dividends and interest unchanged.