Thursday, July 31, 2014

Share Buybacks

In the first quarter of 2014, S&P 500 companies repurchased about $160 billion of their own shares. Companies may be motivated to repurchase shares because of slow domestic growth, which can make share repurchases an attractive alternative for corporations. Another motivation mentioned in the article  is that share repurchases may be used to readjust a company's capital structure. In the past several years, the stock market has increased in value, which has likely increased the equity weight of a company's capital structure. As a result, a company's capital structure may be too heavily tilted toward equity. A share repurchase can reduce the equity, thus restoring the capital structure to the optimal level.

A point about share repurchases addressed in the article that is particularly near and dear to us is research that finds companies are not particularly good investors. In fact, companies tend to undertake repurchases when company stock valuation is at a peak instead of when company stock is undervalued. One reason for this contradiction may be that as company performance increases, cash held by the company increases, as well as the stock price. As a result, companies have cash available when its stock price is high, which is the worst time to buy stock.