Shareholders rewarding firms that pay back cash not firms that invest

11th November 2013

The shares of companies which return cash to investors are being rewarded with investment support but those which devote resources to capital expenditure may be suffering.

The trend may be reflected in the low level of capital expenditure in 2013, which is expected to drag on growth in the Eurozone, UK and Japan.

In a paper issued this week, Schroders chief economist Keith Wade says: “Corporate capital spending has disappointed this year and is likely to have contracted in the UK, the Eurozone and Japan. Despite the strength of profits and cash flow business capital expenditure (capex) has also disappointed in the US and there are concerns that the recent shutdown in Washington will cause firms to pull back on capital spending once more.

The paper suggests shareholders are rewarding dividends, not capital expenditure.

It adds: “Uncertainty about demand may well be a key factor holding back capital expenditure, but firms may also be deterred by shareholder reaction to their spending plans. Companies who have relatively low capex have outperformed those with high capex. Those who return cash to shareholders either through buybacks or dividends have been rewarded with outperformance.”

The paper also asks whether this is shareholders’ fault or the fault of quantitative easing.

“Shareholders may be to blame, but we would see this as one of the downside consequences of quantitative easing as low bond yields have forced investors to seek income elsewhere. As a consequence companies are increasingly being run for cash, an outcome which may suit shareholders today, but is likely to be at the expense of weaker productivity and growth tomorrow.”

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