What Corporate Cash Use Helps Stocks Most in the Pandemic?

What’s the best use of corporate cash to generate stock appreciation? Share buybacks? Research and development (R&D)? Dividends?

Betcha guessed buybacks. Sorry. It’s how much a company uses its cash in mergers and acquisitions (M&As), at least in recent pandemic times. That’s according to a study from Goldman Sachs. “M&A represents a flexible way to deploy cash on a shorter time frame,” wrote David Kostin, the firm’s chief US equity strategist, in the research note.

Indeed, companies that use most of their cash for M&As have a record as being the best-performing group. During 11 of the past 19 quarters, they have outpaced companies prioritizing other uses, such as dividends, R&D, or buybacks. That means the trend goes back through 2017. In fact, the M&A-centric cash disbursers have outperformed the S&P 500 by nearly 4 percentage points annually during that period.

Narrowing the focus to the pandemic, Goldman screened S&P 500 names from each sector with the highest cash M&As as a share of market cap over the last completely reported four quarters—meaning starting in 2020’s third period, right after last year’s disastrous second quarter.

For more stories like this, sign up for the CIO Alert daily newsletter. 

Among the top M&A-tilted cash spenders are casino operator Caesars Entertainment, biotech outfit Gilead Sciences, bank holding company PNC Financial, and telecom giant AT&T.

Just how these acquirers will fare going forward remains to be seen, frankly. Caesars spent $8.4 billion on buyouts during the past four quarters. A lot has to do with the recovery of casinos, which have regained some popularity but still are below their pre-pandemic attendance. The company remains in the red for the year, although it eked out a small profit in the second quarter and is expected to do the same for the third, when it reports after the markets close Tuesday.

Caesars has a long history of M&A activity, which has made it the largest US casino corporation. In April, Caesars bought online betting operator William Hill for just over $4 billion. Of course, these additions weren’t solely from cash; a lot of leverage was involved, too. With a large debt load, Caesars had better bet that casinos come back really strong. Investors are wagering that it will: The stock is up 51% this year.

Gilead laid out $23 billion on M&A during the four quarters, or 27%. Deals included Forty Seven for $4.9 billion (specialty: seeking to use the immune system to fight cancer), Immunomedics for $21 billion (same area), and MYR GmbH for $1.5 billion (hepatitis treatments). Gilead is solidly profitable, and just beat analysts’ projections for its most recent quarter. The stock is up 16.3% year to date, and at a price/earnings (P/E) ratio of 11, remains quite affordable.

Goldman even believes that a proposed 1% surcharge on buybacks could aid M&As and wouldn’t harm the bull market. Reason: Even more cash would go into acquisitions. (A previous Democratic proposal to increase the corporate income tax from its current level of 21% would have shaved 5% from S&P 500 earnings, Goldman had estimated. That plan appears to be dead, though.)

“We expect a possible buyback tax would have a limited impact on the overall equity market, although on the margin it would represent a tailwind to other cash spending uses,” Kostin writes.