In the first two articles in this series, I highlighted the abysmal record of U.S. companies on share buybacks, which amounts to buying high, never low (you can find parts 1 and 2 here and here). In this final article, I'm going to end on a positive note by recognizing a few companies that understand how to do share repurchases that create value for their shareholders. These companies are worth keeping in your personal watchlist, because they tend to be run by first-rate managements who create value at all levels of their organizations.
Following Buffett's lead
If you don't believe that well-executed share buybacks can drive significant value creation, just listen to Berkshire Hathaway
"The motivation for buying back stock used to be just because companies thought their shares were cheap. Thirty or forty years ago, it was very fertile to invest in companies that were buying back their stock. The most extreme case was Teledyne – we made some money investing there."
Fewer than 1 in 5 companies in the S&P 500
As Buffett alluded to, the companies that demonstrate a sensible approach to buybacks today are a very rare breed -- even the finance whizzes at Goldman Sachs
Utah Medical Products
Former Fool Zeke Ashton extolled the capital allocation performance of small cap Utah Medical Products
Markel is a mid-cap specialty insurer that openly cites Berkshire Hathaway as a model. In Tom Gayner, Markel has a very capable investor as chief investment officer. Markel uses share buybacks sparingly (which is as it should be), but the two most active periods in recent years have been the second to third quarters in 2008 and the same range in 2010. In both cases, the average valuations on the basis of price-to-book value multiples were substantially below the long-term average.
Fairfax Financial Holdings (Other OTC: FRFHF)
Another insurer, Fairfax Financial, belongs on our list. At the 2010 Annual Meeting of Fairfax Financial, CEO Prem Watsa, a guru in his own right, said that he had carefully studied Henry Singleton. Singleton, you may remember from the first article in this series, was the CEO of Teledyne (see Buffett's quote above).
Watsa appears to have done a pretty good job at imitating this role model. Going back to 1996, the two quarters during which Fairfax repurchased the largest amount of stock (in value) were the fourth quarter of 2009 and the third quarter of 2008. During the former, the average price-to-book value multiple of the shares was 1.0; during the latter, it was below 1. While there have been other periods during which the Fairfax's share valuation was even lower, it should be clear that paying book value or less to repurchase the equity of a company that earns a positive economic return benefits shareholders.
Beyond insurers, another likely area to find companies that do intelligent share repurchases is holding companies. Why? In theory, capital allocation is one of, if not the critical responsibility of senior management at all companies. However, at a holding company, it is arguably management's only responsibility. Here's one such company that fulfills that responsibility admirably:
Brookfield Asset Management
Brookfield Asset Management is a Canadian asset management holding company that is intensely focused on compounding shareholder wealth. Brookfield, which operates in the areas of property, infrastructure and renewable energy, manages approximately $100 billion. The company's biggest quarter by far, in terms of buybacks, was the fourth quarter of 2008 ($186 million). However, even these expert capital allocators don't always get it right: The third quarter of 2007 was the second most active quarter ($120 million) -- at much higher valuations.
Do you want to make some money here?
Hopefully, I've convinced you that it is worth identifying and following companies that excel at share buybacks -- a strong sign that management is getting things right elsewhere, too. To track the shares mentioned in this article, click on Utah Medical Products, Markel, and Brookfield Asset Management to add them to your watchlist. You'll get valuable updates as well as immediate access to a new special report, "Six Stocks to Watch from David and Tom Gardner." Click here to get started.
Fool contributor Alex Dumortier, CFA has no beneficial interest in any of the stocks mentioned in this article. You can follow him on Twitter. Berkshire Hathaway is a Motley Fool Inside Value pick. Berkshire Hathaway is a Motley Fool Stock Advisor choice. Brookfield Asset Management is a Motley Fool Global Gains recommendation. The Fool owns shares of Berkshire Hathaway. Motley Fool Alpha LLC owns shares of Fairfax Financial Holdings. Try any of our Foolish newsletter services free for 30 days.