What is A Buyback?
Buyback is a process, where the company or its promoter group buy their own shares at a premium or at market price from their shareholders. The buyback process is also known as stock repurchase. When a buyback occurs, it reduces the number of common share on the open market.
A company can buyback their shares in several modes like, they could buyback share in open market, through a tender offer, through private negotiation or other modes.
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Why company buyback their own shares?
Most of the listed company had raised their capital by issuing preference and common shares and it is common that company wants to give the money back to the common share holders. Other than that there are many reasons for buyback in the company’s prospective.
Employ The Unused Cash
Company with huge cash reserve and low debt, uses the unused cash for buyback purpose. Mostly matured company with less future expansion plan tends to buyback their share, for better management and decision making, including rights to vote, as all the common shareholders own a small portion of the company.
Reduce The Cost of Equity
Corporate action like dividend payout is a cost of equity, which can be higher than the debts and to reduce the cost of equity, company with huge unused cash buyback their own share from the common share holders.
Defend The Stock Price From Fall
Recession hit stocks, or stocks with some bad news falls continuously and to defend that the promoter group generally brings buyback to build confidence in their investors.
Stock Is Undervalued
Companies generally bring buyback, if they beliefs their stock is undervalued and that’s also a very good opportunity for them to bring investor’s confidence back into the stock.
Criticism of Buyback
Companies sleeping with larger pile cash generally brings buyback, where they see no growth opportunity, so its an issue for growth investors looking for increase in revenue and profit.
Sometimes buyback of share puts the management in difficult position, if the economy turns downwards and they may face financial issue, that is difficult to cover.
Others criticize buyback and allege that some company use buyback to artificially inflate the share price of the company.
Conclusion
Buyback is a better way to compensate the shareholders instead of dividend or bonus where investor can choose, what to do with the share. It is also a good indicator that company is able to repurchase its share and maintains a good valuation to the share. It is also observed that company with regular buyback offer, outperforms the broader market.
