4 ms·

the aggregate value of the outstanding stock should go up by $1 billion This isn't quite right. Look at it this way: There is a company that has the following

by harryh 7y ago

the aggregate value of the outstanding stock should go up by $1 billion This isn't quite right. Look at it this way: There is a company that has the following assets 1) $100 in cash 2) $100 in other assets There are 200 outstanding shares, so each share is worth $1. The company spends its $100 in cash to buy back 100 shares. So now its asset list is: 1) $100 in other assets But there are now only 100 shares outstanding so each one is still worth $1. So why do a buyback if it doesn't raise the share price? Two reasons: 1) it returns cash to the shareholders who want it (those that sell the stock) 2) future gains in value will now accrue to fewer shares of outstanding stock

mythz 7y ago
This completely ignores demand which pushes the stock price up in the short-term, and with less shares outstanding, each share has a larger % of the company. i.e. if you buy 50% of a companies outstanding shares, there's no way you're going to be able to acquire the last 50% at the same price and is why when most acquisitions are announced they are purchased at a premium over their current valuation/share price. It's a form of returning capital to shareholders popular in US companies which by-passes US double-taxation of dividends and is often preferred by shareholders as they're able to choose when to realize their capital gains at their optimal convenience and at a cheaper tax rate than regular income. But they're typically performed when the company believes their share prices are undervalued and would like to acquire them at their perceived discount.
- cbdumas 7y ago
  I think the idea is that because there is money going out the door in a buyback, rational investors should value the stock that much lower. And this lowered valuation should balance exactly with the price increase due to increased demand. Not sure it works out like that in practice though.
  - mythz 7y ago
    Investors don't get to value shares, they get to sell them and Buy Backs increases the demand for shares which pushes the stock price up in the short-term at least. A lot of the valuation of public companies are speculative based on their future potential earnings so a loss of unused capital shouldn't affect it too much, it's also a signal that the company believes their shares are currently undervalued, so they believe their Buy Backs are acquiring them at a discount.
    - harryh 7y ago
      When exactly does this pushing up of the stock price occur? When the buyback is announced? When it is actually executed? Sometime in between? What if a company does buybacks on a predictable schedule over years? It seems to me that if the pushing up is as predictable as you say it should be trivial to buy a bunch of shares right before the increase and sell them right after for an easy gain. You should get on that!
      - mythz 7y ago
        > When exactly does this pushing up of the stock price occur? When the buyback is announced? When it is actually executed? Sometime in between? It depends on the size of the BuyBack and whether they're getting them at a discount, but it could go up at announcement as it could encourage other investors to buy shares early in expectation that the Buy Backs will push the price up, it will go up (depended on the size of Buy Back/Market Cap) during execution due to the increased demand. > What if a company does buybacks on a predictable schedule over years? They're only going to perform Buy Backs when they think they're at a low valuation, when they have a high valuation they'll prefer to give out dividends or employ other effective use of capital like M&A to manufacture growth. > It seems to me that if the pushing up is as predictable as you say it should be trivial to buy a bunch of shares right before the increase and sell them right after for an easy gain. You should get on that! You don't get to know exactly when Buy Backs occur, they'll announce that they intend to perform purchase a certain amount of Buy Backs over a specified period and in the next Financial results they'll disclose how many Buy Backs they purchased during the period.
__blockcipher__ 7y ago
This is correct. To clarify even further, the best way to think about this is that a shareholder now owns a bigger share of the company. So even if there isn’t growth, the amount of cash flow your share(s) represent has still gone up. (Just wanted to clarify that the benefit is independent of the ticker price subsequently increasing)
aerophilic 7y ago
Love your example, but to throw this aspect in, the market doesn’t always “value” companies the same way. Therefore, in your above example if the shares were actually being sold at $2 each, then the company is doing a disservice to the investors by buying the stock back. However, if the stock is under pressure (below its “fair” price), say 50 cents in the above example, then by buying the stock back, you are creating true value for your investors. Problem of course is that rarely do people running the company think this way.
- scotty79 7y ago
  > However, if the stock is under pressure (below its “fair” price), say 50 cents in the above example, then by buying the stock back, you are creating true value for your investors. Which means that your company just gambles its money at the stock market by betting on its own price.
- hollerith 7y ago
  harryh's argument can be modified to work regardless of how the market is valuing the company. Cash is easy for accountants to measure. Some other assets, such as the reputation of the company's products, are hard to measure even when they account for most of the company's market value (as in the case of Apple, Inc, whose stock price is currently about 9 times higher than its book value). So assume there is $100 of easily-measured cash. Don't consider the other assets; don't try to measure them; don't pay any attention to the attempts of the accountants to measure them (i.e., don't pay any attention to the company's book value). Assume the market values the company at $200. I.e., the company's market capitalization (stock price times shares issued) is $200. The argument continues by assuming or pointing out that investors are rational and that the SEC and the financial-accounting profession operate to give investors accurate information about how much cash the company has, so the market will value the company after the buy back at around $100. One reason an investor might buy shares is to try to take over the company, i.e., end up with all of its shares. Well, it is well known that the people executing a takeover often depend on getting access to the target's cash and other easily-measured (and consequently easily-sold) assets to help pay for the takeover. Specifically, if the company has $100 in cash, the takeover artist can afford to pay approximately $100 more for the company than if it has $0 in cash. (Specifically, if the target has $100 in cash, the takeover artist can go to one of his friends and says, "Loan me $100 and I'll pay you back with the cash held by the company I am planning on buying.) So since market cap is approximately what it would cost to buy the whole company, it makes sense that a reduction in cash would cause a reduction in market cap of approximately the same amount. Note that even investors who would never contemplate taking over a company can profit by selling their shares to someone who would and does, so they have the same incentive for valuing the company's cash as the takeover artist does: namely, the takeover artist can afford pay more for a company with cash, so the price paid by the takeover artist to the investor will be commensurately higher. Now the fact that management decided to buy the company's shares rather than deploy the cash in some other way does send a signal to the market that management believes the company's stock is good value with the result that the price might end up at $103 instead of $100. We might call that a "second-order effect" of the buyback. Another second-order effect is that fact that if the market knows a buyback is in progess, they'll tend to hold out for a higher price. (In other words, a big purchase tends to drive up the price; the company will spread the buying out over time to try to limit that effect.) But these second-order effect are limited in magnitude; they are very unlikely to cause the price to end up at, e.g., $200.
Jabbles 7y ago
A company is not just worth its assets. All potential future valuations should be included (and some say the stock price reflects this).
- harryh 7y ago
  Ya, when I said "other assets" I was perhaps being overly succinct. I didn't just mean the value of equipment, IP, or whatever, but also the intangible value assigned by the market that is an estimate of the companies future earnings.
  - evancox100 7y ago
    Enterprise value is probably what you're looking for
    - harryh 7y ago
      Yes indeed.

by harryh 7y ago

mythz 7y ago

This completely ignores demand which pushes the stock price up in the short-term, and with less shares outstanding, each share has a larger % of the company. i.e. if you buy 50% of a companies outstanding shares, there's no way you're going to be able to acquire the last 50% at the same price and is why when most acquisitions are announced they are purchased at a premium over their current valuation/share price. It's a form of returning capital to shareholders popular in US companies which by-passes US double-taxation of dividends and is often preferred by shareholders as they're able to choose when to realize their capital gains at their optimal convenience and at a cheaper tax rate than regular income. But they're typically performed when the company believes their share prices are undervalued and would like to acquire them at their perceived discount.

cbdumas 7y ago
I think the idea is that because there is money going out the door in a buyback, rational investors should value the stock that much lower. And this lowered valuation should balance exactly with the price increase due to increased demand. Not sure it works out like that in practice though.
- mythz 7y ago
  Investors don't get to value shares, they get to sell them and Buy Backs increases the demand for shares which pushes the stock price up in the short-term at least. A lot of the valuation of public companies are speculative based on their future potential earnings so a loss of unused capital shouldn't affect it too much, it's also a signal that the company believes their shares are currently undervalued, so they believe their Buy Backs are acquiring them at a discount.
  - harryh 7y ago
    When exactly does this pushing up of the stock price occur? When the buyback is announced? When it is actually executed? Sometime in between? What if a company does buybacks on a predictable schedule over years? It seems to me that if the pushing up is as predictable as you say it should be trivial to buy a bunch of shares right before the increase and sell them right after for an easy gain. You should get on that!
    - mythz 7y ago
      > When exactly does this pushing up of the stock price occur? When the buyback is announced? When it is actually executed? Sometime in between? It depends on the size of the BuyBack and whether they're getting them at a discount, but it could go up at announcement as it could encourage other investors to buy shares early in expectation that the Buy Backs will push the price up, it will go up (depended on the size of Buy Back/Market Cap) during execution due to the increased demand. > What if a company does buybacks on a predictable schedule over years? They're only going to perform Buy Backs when they think they're at a low valuation, when they have a high valuation they'll prefer to give out dividends or employ other effective use of capital like M&A to manufacture growth. > It seems to me that if the pushing up is as predictable as you say it should be trivial to buy a bunch of shares right before the increase and sell them right after for an easy gain. You should get on that! You don't get to know exactly when Buy Backs occur, they'll announce that they intend to perform purchase a certain amount of Buy Backs over a specified period and in the next Financial results they'll disclose how many Buy Backs they purchased during the period.

__blockcipher__ 7y ago

This is correct. To clarify even further, the best way to think about this is that a shareholder now owns a bigger share of the company. So even if there isn’t growth, the amount of cash flow your share(s) represent has still gone up. (Just wanted to clarify that the benefit is independent of the ticker price subsequently increasing)

aerophilic 7y ago

Love your example, but to throw this aspect in, the market doesn’t always “value” companies the same way. Therefore, in your above example if the shares were actually being sold at $2 each, then the company is doing a disservice to the investors by buying the stock back. However, if the stock is under pressure (below its “fair” price), say 50 cents in the above example, then by buying the stock back, you are creating true value for your investors. Problem of course is that rarely do people running the company think this way.

scotty79 7y ago
> However, if the stock is under pressure (below its “fair” price), say 50 cents in the above example, then by buying the stock back, you are creating true value for your investors. Which means that your company just gambles its money at the stock market by betting on its own price.
hollerith 7y ago
harryh's argument can be modified to work regardless of how the market is valuing the company. Cash is easy for accountants to measure. Some other assets, such as the reputation of the company's products, are hard to measure even when they account for most of the company's market value (as in the case of Apple, Inc, whose stock price is currently about 9 times higher than its book value). So assume there is $100 of easily-measured cash. Don't consider the other assets; don't try to measure them; don't pay any attention to the attempts of the accountants to measure them (i.e., don't pay any attention to the company's book value). Assume the market values the company at $200. I.e., the company's market capitalization (stock price times shares issued) is $200. The argument continues by assuming or pointing out that investors are rational and that the SEC and the financial-accounting profession operate to give investors accurate information about how much cash the company has, so the market will value the company after the buy back at around $100. One reason an investor might buy shares is to try to take over the company, i.e., end up with all of its shares. Well, it is well known that the people executing a takeover often depend on getting access to the target's cash and other easily-measured (and consequently easily-sold) assets to help pay for the takeover. Specifically, if the company has $100 in cash, the takeover artist can afford to pay approximately $100 more for the company than if it has $0 in cash. (Specifically, if the target has $100 in cash, the takeover artist can go to one of his friends and says, "Loan me $100 and I'll pay you back with the cash held by the company I am planning on buying.) So since market cap is approximately what it would cost to buy the whole company, it makes sense that a reduction in cash would cause a reduction in market cap of approximately the same amount. Note that even investors who would never contemplate taking over a company can profit by selling their shares to someone who would and does, so they have the same incentive for valuing the company's cash as the takeover artist does: namely, the takeover artist can afford pay more for a company with cash, so the price paid by the takeover artist to the investor will be commensurately higher. Now the fact that management decided to buy the company's shares rather than deploy the cash in some other way does send a signal to the market that management believes the company's stock is good value with the result that the price might end up at $103 instead of $100. We might call that a "second-order effect" of the buyback. Another second-order effect is that fact that if the market knows a buyback is in progess, they'll tend to hold out for a higher price. (In other words, a big purchase tends to drive up the price; the company will spread the buying out over time to try to limit that effect.) But these second-order effect are limited in magnitude; they are very unlikely to cause the price to end up at, e.g., $200.

Jabbles 7y ago

A company is not just worth its assets. All potential future valuations should be included (and some say the stock price reflects this).

harryh 7y ago
Ya, when I said "other assets" I was perhaps being overly succinct. I didn't just mean the value of equipment, IP, or whatever, but also the intangible value assigned by the market that is an estimate of the companies future earnings.
- evancox100 7y ago
  Enterprise value is probably what you're looking for
  - harryh 7y ago
    Yes indeed.