Stock market uncovered: What are share buybacks?

Julie Brownlee, Fsp Invest, 22 Sep. 2014

Tags: share buyback, what is a share buyback, why share buybacks, listed companies, shares, share buybacks,

When a company lists of the stock market, it issues shares in its company. Investors buy these securing a stake in the fortunes of the company.

But companies don’t just issue shares, sometimes they also buy them back. This is a share buyback.

So what is a share buyback? And why would a company buyback some of its shares?

Let’s take a closer look…

What are share buybacks?

A share buyback is exactly that – a company buys back shares in the company.

The idea behind a share buyback is that companies are effectively returning cash to their shareholders. Sometimes companies pitch this to shareholders as an alternative to paying out a cash dividend.

If a company wants to embark on a share buyback programme, it must get the nod from its shareholders first.

Why a company buys its shares back

There are three main reasons why a company buys its own shares back…

Reason #1:
The company may think its shares are cheap.

By buying back shares it reduces the number in circulation. This should help the company’s share price rise as investors who want to buy shares in the company have less shares to invest in.

Reason #2:
There can be tax benefits from buying back company shares back with borrowed money.

Reason #3:
Share buybacks can sometimes boost chief executives’ bonus payments.

The idea behind this is by reducing the number of shares in circulation, the earnings per share figure should rise. Earnings per share is often the basis of chief executives performance measure.

If earnings per share rises, the chief executive and other board members could be in for a nice bonus.

So there you have it, what share buybacks are.

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