X and Lee, stock buyback is usually for multiple reasons, including
1) offset shares issued to employees under incentive comp programs,
thereby keeping the number of shares o/s at a relatively constant
level; otherwise, EPS is negatively impacted. 2) Distribute
excess cash to shareholders, in lieu of, or supplemental to,
regular dividends. You say you don't get cash from the buyback?
True, but by increasing demand for stock and controlling supply, it
helps stock price go up instead.
Dividends are paid from Retained Earnings, and not charged against
EPS, so to extent stock buyback is in lieu of (more) dividends, it
is not really a charge against profits. To extent it is employee
compensation, yes it should be looked at as earnings offset...and it
probably already is.
Here's how it works for tax purposes: 5 years ago company gave Whiz
Kid engineer option to buy stock at $50. Today stock is $150, and
WKE exercises option. Company gets $50 for stock. This is not
income to the company.
WKE gets stock worth $150 for $50, and has to pay tax to IRS on the
$100 difference (for current year). Also, Company takes a tax deduction
for the same $100. Company spends $150 to buy back the stock in the
market.
I'm not current on financial accounting rules for incentive stock
options, but you might find discussion in footnotes to the financials.
In any event, it doesn't matter because market knows what is
happening. If the accounting rules changed, the market would change
the P/E it was willing to pay, and stock price would not be affected.
If the tax rules change, that's a different story because cash
flow is affected.
Hope this helps.
Paul |
