Buy back or pay forward?

Jim ONeill LONDON – When British Prime Minister David Cameron asked me to lead a review into the problem of antimicrobial resistance, the last thing I expected was that accepting the position would lead me to question one of the most popular tools for corporate financial management: share buybacks. The problem of antimicrobial resistance is a serious one. Left unaddressed, it could be responsible by 2050 for the deaths of some ten million people a year, more than currently die of cancer, along with an astonishing $100 trillion in economic damage. Fortunately, however, there is much we can do to mitigate the threat – provided that adequate resources are made available. One important avenue to pursue is the development of new drugs. In a forthcoming paper, the Review on Antimicrobial Resistance estimates that bringing new antimicrobials to market and improving their administration will cost about $25 billion – a significant sum, but one that pales in comparison to the costs to society if the problem is not checked. It is also roughly what two of the world’s largest pharmaceutical companies will spend this year buying back their own shares. While the review has yet to come up with recommendations for financing the development of new drugs, it seems clear to me that it is well within the capacity of the pharmaceutical industry to contribute. A common argument made by drug companies is that they need to be guaranteed a reward if they are to invest in developing medicines that are unlikely to deliver the kind of returns that other investments may provide. The only sure way to guarantee drug development, the argument goes, is to allow prices to rise until demand matches supply. And yet there is a good reason why the pharmaceutical industry can and should play a major role in financing something like a common “Innovation Fund” to provide financing for early-stage research into solving the problem of antimicrobial resistance. And that reason is one that I became familiar with during my years at Goldman Sachs: enlightened self-interest. Six years after the eruption of the global financial crisis, the banking industry is still widely blamed for the catastrophe. And, as a result, banks are being hit with regulatory constraints that limit some aspects of their business. I suspect that if the industry had shown greater leadership on issues – for example, excessive executive pay – they would have found themselves in a much more favorable environment today. The same is true of the pharmaceutical industry. Share buybacks can sometimes be legitimate, but on other occasions they do not seem justified – especially when considered from the standpoint of enlightened self-interest. In December, the pharmaceutical giant Merck spent $8.4 billion to acquire Cubist Pharmaceuticals, a Massachusetts-based drug-maker that specializes in combating Methicillin-resistant Staphylococcus aureus (MRSA), a bacteria that has become resistant to many types of antibiotics. In early March – less than three months after the acquisition – Merck announced it would close down Cubist’s early-stage research unit, laying off some 120 staff and perhaps crippling its efforts to introduce new drugs into the pipeline. Three weeks later, Merck announced that it would spend an additional $10 billion to buy back some of its shares. It is difficult for an outside observer not to draw a connection between the two decisions. Of course, dubious buybacks are not confined to the pharmaceutical industry. Apple is another good example. The company’s latest quarterly sales results show how the company has become something more than a technology firm; it is now a major middle-class Chinese consumer brand. Within a year, China will likely be a bigger market for its products than the United States. And yet, even more striking than this confirmation of the still-rising importance of the BRIC (Brazil, Russia, India, and China) economies is the sheer size of Apple’s ongoing buyback program. In April, the company announced it had authorized an additional $50 billion to be used for repurchasing shares, bringing the total to $140 billion. Coming at a time when the technology industry is under increasing scrutiny in the developed world as governments struggle with budget shortfalls and rising debt, this seems to me to be a questionable decision. Companies’ ability to minimize their global tax burden, while boosting their earnings per share through buybacks – in some cases financed with debt – does not strike me as a stable trend. When companies are genuinely unable to identify areas of research and investment that would help their business (and employees and clients), they are better off returning the savings to shareholders in the form of higher dividends than authorizing buybacks. Or, better yet, in a world confronted with a host of problems – from climate change to antimicrobial resistance – industry leaders should begin asking themselves how they can contribute to averting the crises of the future. The writer is a former chairman of Goldman Sachs Asset Management, Copyright: Project Syndicate

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Buy back or pay forward?