AMAZON.COM is the world’s fourth most valuable company, based on its stock market capitalization. At that size, it isn’t about to get bought by another company. It doesn’t pay a dividend. The last time it repurchased its own shares was seven years ago.
Now, imagine this continued—no buyout, no dividend, no stock buybacks—until the sad day arrives when Amazon goes the way of buggy whip manufacturers. Result: There’s a good chance its shareholders would, over the company’s history, have collectively made no money. Sure, some investors would have bought low and sold high. But in aggregate, investors would have got pretty much zilch.
This is not to pick on Amazon—it gets a bigger slice of my income than any other retailer—but rather to highlight two key points. First, most companies eventually disappear. Second, before that happens, we should want them to return as much cash to shareholders as possible.
In my investing lifetime, I’ve seen countless companies fall from grace. At their peak, corporations like IBM, Wal-Mart, Microsoft and General Electric seemed unstoppable. Yes, they’re still huge companies. But they no longer inspire awe and their brightest days are likely behind them.
This is all too common. It isn’t that companies necessarily grow complacent. Rather, new competitors emerge with cheaper, faster, better ways of doing business—and the old guard is swept away by a “gale of creative destruction,” to use the memorable phrase from economist Joseph Schumpeter.
Consider the 90 years through December 2016. According to a study by Hendrik Bessembinder, a professor at Arizona State University, there were almost 26,000 publicly traded U.S. companies during this stretch. They were listed for an average of just seven and a half years. Some of the companies that disappeared would have been bought out—but many others would have been delisted as they struggled financially on their way to extinction. In fact, only 36 stocks were around for the full 90 years.
To get a sense for corporate America’s constant upheaval, check out the American Business History Center’s ranking of the largest U.S. companies, based on revenues. Hit the replay button at the top of the page and you’ll see how, over an astonishingly short 24 years, General Motors and Ford Motor were toppled from the top of the ranking, while Apple, Berkshire Hathaway and Amazon soared to claim three of the top five spots.
We look around us and imagine that today’s largest corporations will always be with us, but that simply isn’t the case. That brings me to my second key point: We should want companies to return cash to shareholders—and preferably lots of it.
Yes, today, there’s a disdain for dividends, because they’re immediately taxable, though usually at a favorable rate. Yes, there’s widespread sentiment that management should be left to reinvest corporate profits. While this might make sense in a corporation’s fast-growing early days, it’s not desirable over the long haul.
Why not? Take General Motors, which was delisted from the stock market in 2009 after filing for bankruptcy. The share price when it was delisted was 61 cents, down from $93 less than a decade earlier. (Since late 2010, a new GM stock has been trading, but that was the result of a subsequent initial public offering.)
As Bessembinder notes in his paper, GM paid out more than $64 billion in dividends over the decades prior to its bankruptcy, plus it repurchased its shares on multiple occasions. That means that, even though the stock ended up worthless, its shareholders still made money. “GM common stock was one of the most successful stocks in terms of lifetime wealth creation for shareholders in aggregate, despite its ignoble ending,” Bessembinder writes. In fact, over the 90 years that his study covers, GM ranked eighth among all U.S. corporations when it came to creating wealth for investors.
What does all this mean for you and me? The biggest lesson: It’s imperative to diversify. To protect ourselves against the gales of creative destruction, we need to spread our money across a slew of companies, rather than hitching our fortunes to a few companies that may end up in the corporate graveyard.
I would also think twice before reinvesting a corporation’s dividends solely in that company’s stock. I used to be a fan of dividend reinvestment plans, where you can automatically reinvest your dividends in additional company shares. Indeed, that’s how I first got started as an investor. Problem is, if most companies eventually disappear, you really want to take your dividends and spread them across a slew of companies. That way, you won’t be plowing ever more money into a company that—in all likelihood—will one day disappear.
Follow Jonathan on Twitter @ClementsMoney and on Facebook. His most recent articles include Crazy Like a Fox, Guessing Game and Improving the Odds. Jonathan’s latest books: From Here to Financial Happiness and How to Think About Money.