Intro to Finance: Dividend Policy - Share Repurchases, Open Market Tender Offer Dutch Auction

What This Is

Share repurchases are a way for companies to return value to their shareholders by buying back their own shares on the open market, through a tender offer, or a Dutch auction. This can be a strategic move to increase earnings per share, reduce the number of outstanding shares, or signal confidence in the company's future performance. For example, Apple (AAPL) has a history of share repurchases, buying back over $200 billion worth of shares between 2012 and 2020.

Key Formulas & Symbols

• Repurchase Price (RP) = Number of Shares × Market Price where RP = repurchase price, Number of Shares = number of shares repurchased, Market Price = market price per share.
• Total Repurchase Cost = RP × Number of Shares where Total Repurchase Cost = total cost of repurchasing shares.
• Share Repurchase Ratio = (Number of Shares Outstanding - Number of Shares Repurchased) / Number of Shares Outstanding where Share Repurchase Ratio = ratio of shares repurchased to outstanding shares.
• Tender Offer Price = (Number of Shares Tendered × Market Price) / Number of Shares Tendered where Tender Offer Price = price at which shares are repurchased in a tender offer.
• Dutch Auction Price = (Total Amount of Repurchase × Number of Shares Tendered) / Number of Shares Tendered where Dutch Auction Price = price at which shares are repurchased in a Dutch auction.
• Share Price After Repurchase = (Number of Shares Outstanding - Number of Shares Repurchased) × Market Price where Share Price After Repurchase = new share price after repurchasing shares.
• Earnings Per Share (EPS) After Repurchase = (Net Income - Dividends on Repurchased Shares) / (Number of Shares Outstanding - Number of Shares Repurchased) where EPS After Repurchase = new earnings per share after repurchasing shares.

Step-by-Step Calculation

1. Determine the number of shares to be repurchased and the market price per share.
2. Calculate the total repurchase cost using the repurchase price and number of shares repurchased.
3. Calculate the share repurchase ratio to determine the percentage of shares repurchased.
4. If using a tender offer or Dutch auction, calculate the tender offer price or Dutch auction price.
5. Calculate the new share price after repurchasing shares.
6. Calculate the new earnings per share after repurchasing shares.

Common Mistakes

• Mistake: Confusing the repurchase price with the market price.
• Correction: The repurchase price is the price at which shares are repurchased, while the market price is the current price of the shares on the open market.
• Mistake: Not considering the impact of repurchasing shares on earnings per share.
• Correction: Repurchasing shares can increase earnings per share by reducing the number of outstanding shares.
• Mistake: Assuming a tender offer or Dutch auction is always the best method for repurchasing shares.
• Correction: The choice of method depends on the company's specific circumstances and goals.

Exam / CFA Tips

• Tip: Be prepared to calculate the share repurchase ratio and its implications for earnings per share.
• Tip: Understand the differences between a tender offer and a Dutch auction, and when each is used.
• Tip: Consider the impact of repurchasing shares on a company's financial statements and ratios.

Quick Practice Problem

Apple (AAPL) repurchases 10 million shares at a market price of $150 per share. What is the total repurchase cost?

Answer: $1.5 billion (10 million shares × $150 per share)

Explanation: The total repurchase cost is calculated by multiplying the number of shares repurchased by the market price per share.

Last-Minute Cram Sheet

• The repurchase price is not the same as the market price.
• The share repurchase ratio is calculated as (Number of Shares Outstanding - Number of Shares Repurchased) / Number of Shares Outstanding.
• A tender offer is a method of repurchasing shares where shareholders submit their shares at a fixed price.
• A Dutch auction is a method of repurchasing shares where the company sets a price and shareholders submit their shares at that price.
• The new share price after repurchasing shares is calculated as (Number of Shares Outstanding - Number of Shares Repurchased) × Market Price.
• The new earnings per share after repurchasing shares is calculated as (Net Income - Dividends on Repurchased Shares) / (Number of Shares Outstanding - Number of Shares Repurchased).