NYSE Euronext (NYSE: NYX) recently unveiled two new initiatives aimed at increasing shareholder value. The exchange announced a 20% increase in its dividend rate along with a new $1 billion share buyback program. The moves are designed to help shareholders realize value in their investment that has declined more than 30 percent from its 52-week highs. However, the aggressive financial policies have some ratings agencies concerned.
The S&P ratings agency cut its outlook on the NYSE to negative from stable after the announcement of these new initiatives. Although the firm expects the exchange's cash flow generation to support the new capital distribution policy, the share buyback will widen the gap in the company's tangible equity, which is already negative, given the substantial goodwill on the balance sheet from the 2007 merger with Euronext.
In English, S&P is concerned that the NYSE may be taking on more than it can handle with a dividend. The NYSE also has a negative tangible asset value on its books due to the amount of goodwill (intangible assets) that it incurred when it acquired Euronext in 2007. The share buyback program will only further widen this gap since the company will be repurchasing its own equity and lessening that portion on the balance sheet while the goodwill remains the same. Finally, shareholders are also likely to demand more buybacks in the future given the exchange's strong cash flow generation.
However, there are also many positive sides to the announcement. Share buybacks tend to increase shareholder value by decreasing the number of outstanding shares. Since earnings remain constant, this results in an increased earnings-per-share number. The move demonstrates confidence in the company by management and the board of directors. Buybacks are designed to help shareholders assign a fair multiple to the target stock when it is trading below peer or intrinsic valuation.
Meanwhile, the effect of dividends on shareholder value continues to be a hotly debated topic. Nobel prize winners in the 1960's suggested that dividends were irrelevant and investors shouldn't care either way. However, dividends give investors the only true return on their capital. Recent research has also shown that companies issuing dividends tend to be more disciplined users of capital and give investors a higher return with less risk over the long term.
In the end, this news is both good and bad for the NYSE. The initiatives will likely increase value for shareholders but may come at cost of maintaining strong balance sheet. However, given the strong cash flows at the company this may be worth the effort since the firm won't find itself in any real risk in the future.
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