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When a company decides to buy back its shares from the shareholders, it is known as the buyback of shares.
A share buyback or stock buyback or share repurchase is a corporate action where the company repurchases its outstanding shares from the shareholders of the company.
There are multiple reasons why a company decides to buy back its shares. We’re going to discuss all the reasons behind the buyback of shares in the following points:
- Reward to shareholders:
As the distribution of dividends is considered as a reward to the shareholders where the company give either cash or bonus shares, share buyback is also a form of rewarding shareholders for their trust in the company.
- To boost the Share Price:
It is usual that after the share buyback by the company, the share price increases. The reasons behind the increment in share price could be many and one of them is an increase in the financial ratios like EPS.
- To improve the financial statements:
A share buyback is a quick-fix for financial statements of the company as when the company buy back its shares and it leads to a reduction of outstanding shares in the market and as the number of outstanding shares is used in the formula (as a denominator) of various financial ratios to calculate the financial position of the company.
Like, EPS = Net Income/ no. of outstanding shares
So, if the denominator would decrease in the above formula, the value of EPS would increase and in turn, it will show that the company’s financial health is all okay.
- To increase shareholding of the promoters:
24×7 the promoters of a company are wary about the hostile takeover of their company as if the shares of the company are held mostly by the general public, anyone can buy those shares and take over the company.
This is also the reason behind buying back the shares of the company as it reduces the chances of hostile takeovers if any occur.
- Undervalued Shares:
Many a time, companies genuinely think that their shares are undervalued; they buy the shares at a low price and then decide to re-issue them at a later stage when the share price seems good and not undervalued to the company.
By the time a company does not buy back its shares, the shares are called ‘Outstanding Shares’. But post-share buyback, the shares fall under the category of ‘Treasury Shares’.
Now, let’s understand what companies do with these treasury shares.
Either company keep them as treasury shares or retire them or reissue them to the public.
The retirement of treasury shares is simply the cancellation of shares, and the shares can’t be issued again at later date. The company can reissue them to the company’s employees or the general public in the future either as a bonus or in exchange for money.
Generally, the share prices of the stock go upward post-share buyback. We’ve discussed one or two reasons above but let us revise them back to get a clear understanding of how does share buyback affects the share price.
As you know that the financial ratios strengthened after the buyback. And this leads the investors to think of buying the stock and this increasing demand for the stock among the investors leads to an increment in share price.
Buying back shares shows the confidence of the company in its business model and this also gives hope to the investors that the company will do something big in the future hence the demand for the shares increases in the stock market.
Yes, it is. Buy one needs to know why a company is buying back its shares as to know the intention of the company behind buying is more important than the price, the company is offering in exchange for the shares.
Conclusion
The share buyback, Share repurchase, and stock buyback – all are the same terms that indicate the buying back of outstanding shares by a company.
There are so many reasons, why a company buys back its shares and one should know the exact intention of the company behind share buyback before dealing with the company.
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