What's Your Stock's Repurchase Premium?

By Will Ashworth | December 23, 2010 AAA

Are you for or against the use of treasury stock? It might be a bit difficult to answer, as it's not a subject that gets much discussion. However, I believe the item found on many balance sheets should be eliminated despite the fact that it tells us something very important at any given time about a company's historical record of repurchasing shares. This is because many companies record treasury shares at cost as opposed to par value and as a result, any quarter's balance sheet will list the number of treasury shares reacquired and the cost of those shares. With this number you're able to figure out your stock's share repurchase premium. (For related reading, check out How Buybacks Warp The Price-To-Book Ratio.)

IN PICTURES: 5 Tips for Reading a Balance Sheet

How to Calculate Repurchase Premium

As I said previously, the number of treasury shares divided into the cost gives you an average price paid per share. You then divide that into the current stock price; the premium is anything above 100%, while a discount would be anything less than 100%. For example, PepsiCo (NYSE:PEP) had 283 million treasury shares at the end of the third quarter and had paid $16.65 billion for them, which is $58.83 a share. Its stock price as of December 10 was $64.90, giving it a share repurchase premium of 10.3%. That's not great but at least it's not a discount. I hope this makes sense. I'll now look at some of Pepsi's peers.

Six Consumer Goods Companies and Their Repurchase Premiums/Discounts

Company

Share Repurchase Premium

Ralcorp (NYSE:RAH) 53.5%
General Mills (NYSE:GIS) 24.2%
PepsiCo (NYSE:PEP) 10.3%
Kellogg (NYSE:K) 0.0%
Con Agra(NYSE:CAG) (4.7%)
Campbell Soup (NYSE:CPB) (4.9%)

Not Everyone Uses Treasury Stock

Did you know that the concept of treasury stock is 75 years old? In 1935, the American Institute of Accountants issued a rule about reacquired shares and it's been a part of balance sheets ever since. Opinion on the subject varies. Some see it as a way to hide poor share repurchases by management. On the surface, this argument seems invalid because the treasury stock line item tells us the cost per share to reacquire them. However, there is something that the line doesn't take into account and that's the reissue of those shares. (Find out some of the negative reasons why a company might repurchase shares in 6 Bad Buyback Scenarios.)

Using Pepsi once more, let's assume the company hits a rough patch and is forced to sell half its treasury stock (142 million shares) to raise cash and because it's not doing well, the shares have dropped in value from $64.90 to $44.90. The sale would net the company $6.4 billion in cash proceeds. The shares themselves cost $8.35 billion to reacquire and the $1.97 billion difference between the two amounts you subtract from "capital in excess of par value." The new treasury share balance is 141 million with cost unchanged at $58.83, while the "loss" of $1.97 billion from reissuing shares disappears without getting anywhere near the income statement. In an effort to remain transparent and avoid this problem, many firms retire their shares immediately instead of hanging on to them.

Five Top Performing Stocks in 2010

Company

% Return YTD

Share Repurchase Premium

Acme Packet (Nasdaq:APKT) 412.9% 924.0%
Chipotle Mexican Grill (NYSE:CMG) 170.2% 196.4%
NxStage Medical (Nasdaq:NXTM) 176.7% 107.2%
DineEquity (NYSE:DIN) 128.8% 25.3%
Crocs (Nasdaq:CROX) 208.5% (57.2%)

An Easier Way

University professors Paul Miller and Paul Bahnson wrote an article in 2008 suggesting accountants create a schedule for quarterly and annual reports that details every dilutive and antidilutive transaction involving a company's shares. After writing this article, I'd have to agree. Keeping track of these transactions as it stands now is a labor-intensive process. It would be nice to be able to open a 10-K and immediately see the cost to shareholders. Those in the investor relations business would probably argue that companies have become more transparent. I'd argue there's still a long way to go.

Bottom Line

I've taken a closer look at the statement of shareholder equity because a reader asked me a question about Aeropostale (NYSE:ARO), whose retained earnings dropped by 70% in the third quarter after retiring 47.5 million shares. It's amazing how intricate it really is - much more so than I'd ever considered before. In my opinion, anything that can make the average investor's research a little quicker, the better off we'll all be. In the meantime, take a closer look at your favorite stock's statement of equity; you never know what you're going to find. (For more, check out 6 Bad Stock Buyback Scenarios.)

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