This article does not cite any sources. Stock repurchases are used as a tax efficient method to put cash into shareholders’ hands, rather than paying dividends, in jurisdictions that how to buying stock capital gains more favorably. Sometimes, companies do it when they feel that their stock is undervalued on the open market.
The United Kingdom equivalent of treasury stock as used in the United States is treasury share. Treasury stocks in the UK refers to government bonds or gilts. When shares are repurchased, they may either be canceled or held for reissue. If not canceled, such shares are referred to as treasury shares.
Technically, a repurchased share is a company’s own share that has been bought back after having been issued and fully paid. The possession of treasury shares does not give the company the right to vote, to exercise preemptive rights as a shareholder, to receive cash dividends, or to receive assets on company liquidation. Treasury shares are essentially the same as unissued capital and no one advocates classifying unissued share capital as an asset on the balance sheet, as an asset should have probable future economic benefits. Treasury shares simply reduce ordinary share capital. In an efficient market, a company buying back its stock should have no effect on its price per share valuation. If the market is not efficient, the company’s shares may be underpriced.
In that case a company can benefit its other shareholders by buying back shares. If a company’s shares are overpriced, then a company is actually hurting its remaining shareholders by buying back stock. One other reason for a company to buy back its own stock is to reward holders of stock options. Call option holders are hurt by dividend payments, since, typically, they are not eligible to receive them. Buying back stock reduces the number of outstanding shares. Accompanying the decrease in the number of shares outstanding is a reduction in company assets, in particular, cash assets, which are used to buy back shares.
On the balance sheet, treasury stock is listed under shareholders’ equity as a negative number. The accounts may be called “Treasury stock” or “equity reduction”. One way of accounting for treasury stock is with the cost method. In this method, the paid-in capital account is reduced in the balance sheet when the treasury stock is bought. When the treasury stock is sold back on the open market, the paid-in capital is either debited or credited if it is sold for less or more than the initial cost respectively.