Borders’ February 16th, 2011 bankruptcy filing was the result of bad timing and bad decisions, as reported by the “Wall Street Journal” and others.  The recession that started in 2008 cut a swath through the ranks of bricks and mortar retailers, as consumers cut out discretionary purchases, taking out such big names as Linens ‘N Things, Circuit City, Mervyn’s,  The Sharper Image and Wickes Furniture.  And Borders was slow to diversify to on-line sales, having turned over its internet operations to Amazon in 2001, and only taking back its Borders.com website in 2008.

One truly poor bad decision that has been just a minor mention in most press coverage of its recent bankruptcy filing was Borders’ heavy stock repurchases: nearly $600 million dollars worth over for the three fiscal year period ending 2/3/2007.  For perspective, the share repurchases over these three fiscal years is nearly three times the amount it owed in aggregate to its top ten unsecured creditors at the time of its recent bankruptcy filing.

Companies typically choose to repurchase their stock to accentuate the growth of their earnings per share, anticipating that they can reduce the number of shares more than the added interest expense reduces their net income. And if that happens, the reasoning goes, then stock holders will be rewarded with a higher stock price, and in a very tax efficient way.

This sometimes works beautifully, and an example that I have used in my Introductory Finance class is Coca-Cola’s share repurchases for the ten year period from 1987 to 1997.  Over that stretch Coca-Cola’s net income increased an average of 16.3%, and due to an ongoing program of share repurchases, its earnings per share increased an average of 18.7%.  Better yet, Coca-Cola’s stock price had average annual gains of 30.2% over those ten years, as institutional and individual shareholders clamored for a decreasing supply of Coca-Cola shares.  (For more about the Coca-Cola share repurchase, go to https://www.rudofskyassociates.com/finance.html and press on the widget to hear a 4:30 voice recording)

The difference between Coca-Cola and Borders is that Coca-Cola was consistently profitable over that stretch, and it also had a well-defined and winning strategy in place, which meant no surprise alternative uses for all that cash.  The share repurchase algebra fell apart for Borders because it ran a $151 million loss in fiscal 2007, and reducing the number of shares can’t accelerate your earnings per share growth, if your earnings per share isn’t positive to begin with.

In conclusion, if all the cash that was used to repurchase shares in the middle of this past decade had instead been used to somehow strengthen or restructure the company on a more proactive basis – perhaps by either launching a more competitive eBook reader  or by closing some of their many unprofitable stores earlier – Borders’ creditors, employees and shareholders all probably would have been better served.