HSBC and BP Announce Share Buyback Plans
Big companies including HSBC and BP have engaged in massive share buybacks recently.
On Wednesday, HSBC initiated its intended $1 billion share buyback in an effort to reallocate surplus capital and compensate its shareholders. To facilitate the process, the worldwide lender listed in London has selected Merrill Lynch International to manage it. The program has the potential to eliminate up to 2 billion HSBC ordinary shares, which is anticipated to result in an improvement in the average earnings per share. HSBC has indicated that Merrill Lynch will conduct trading activities relating to the buyback autonomously from HSBC and will buy shares “on exchange.”
In the same vein, BP has announced that it exceeded profit expectations and plans to buy back up to US$1.75 billion in shares.
Is it good or bad for investors? Let’s discuss in this article.
What is a share buyback?
A share buyback, also known as a stock buyback or share repurchase, is when a company uses its own money to buy back some of its shares from the open market. This reduces the number of outstanding shares in circulation.
Top Reasons Why Share Buybacks Appeal to Investors Like Warren Buffet
- Typically, a buyback instills confidence in investors, including Warren Buffet, since it demonstrates that a company is confident in its prospects and has excess cash to invest. The reasons why investors may like a stock repurchase are:
- Increase the value of remaining shares: By reducing the number of shares in circulation, a company can increase the value of the remaining shares.
- Return cash to shareholders: Share buybacks can be a way for a company to return cash to shareholders without paying dividends.
- Improve financial ratios: By reducing the number of outstanding shares, a share buyback can improve financial ratios like earnings per share (EPS) and return on equity (ROE).
- Offset dilution: If a company issues new shares through stock options or other equity compensation, a share buyback can offset the dilution to existing shareholders.
- M&A activity: A share buyback can be used as a defensive measure against hostile takeovers or as a way to finance mergers and acquisitions.
Why Investors Might Not Always Favor a Stock Repurchase
Investors might not be in favour of a stock repurchase. Take BP’s example Despite the better-than-expected profit results, the company’s share price fell, possibly due to disappointment from investors over the size of the share buyback.
That may be because there are currently calls for the energy giant to pay higher windfall taxes, which may put additional pressure on the company to manage cash flow and balance competing priorities.
Other reasons why a buyback might not be efficient
- Lack of growth opportunities: A share buyback could signal that the company is not investing in growth opportunities or has no other attractive investment options.
- Financial health: If a company is using debt to finance the buyback, it could put the company’s financial health at risk if it cannot generate enough cash flow to service the debt.
- Misaligned incentives: Management may have personal incentives to boost the stock price in the short term through a share buyback, even if it is not the best long-term decision for the company.
- Overpaying for shares: If a company overpays for its shares, it could end up destroying value for shareholders by reducing the company’s overall worth.
- Artificial boost to EPS: Share buybacks can artificially boost earnings per share (EPS) by reducing the number of shares outstanding, even if the company’s underlying earnings haven’t improved.
- Reduced dividends: If a company uses cash for share buybacks, it may reduce its ability to pay dividends to shareholders.
In summary, share buybacks can be a way for companies to reward shareholders and signal confidence in the company’s prospects. They can also be used to improve financial ratios and offset dilution. However, investors should be aware of potential risks, such as overpaying for shares, reducing dividends, and artificially boosting EPS