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Here’s a fun question

‘Tis often said that management likes share buybacks because it boosts the value of their options. This is easy enough to deal with – their options, or unvested stock, can be adjusted for the number of shares in issue.

So, the question – are they? Do the standard corporate equity plans adjust for equity buybacks or not?

17 thoughts on “Here’s a fun question”

  1. Don’t most companies require people to hold share awards on any significant scale for a couple of years before they can sell them? In which case, the number of shares in issue at the moment of vesting is irrelevant. Options that can be sold as soon as they vest are unlikely to be of sufficient size to move the share price. FWIW, despite working for 20 years, off and on, I never managed to be in a share option scheme that was in the money at the time of vesting

  2. @Diogenes

    Yes, they usually do. But what Tim’s talking about is, once the options (or share awards) have vested, artificially pumping up the price by buying back shares for cancellation. That’s always been a way for executives to boost the value of their own LTIPs.

  3. Most of the companies I deal with adjust their options plans for dividends. So the return is theoretically equal no matter which method of shareholder distribution used.

    There’s a lot of nonsense spouted about buybacks, people seem to think it’s some kind of ‘trick’.

  4. @ Tim,
    No, the standard share incentive plans do not adjust for shares in issue because the buybacks are, despite being largely within the management’s control [albeit they need periodic authorisation by shareholders in AGMs] are less significant than large share issues resulting from takeovers.
    We don’t want to incentivise CEOs to hand out more shares in takeovers by making that into a
    means to boost their own personal wealth.

  5. Do buybacks increase or decrease volatility? That’d alter the valuation in the scheme.

    What about the other Greeks?

  6. Can anyone point to a real example of executives boosting the value of their options by a share buyback? Is this another of those lefty inventions, such as “trickle down” economics? Presumably aaa can give us some case studies

  7. Just looking at Nvidia… They do a lot of share based compensation, so much so that it is dilutive to the share price. In that situation, buybacks make sense simply to restore the status quo. To say that this is management boosting the value of their options is a bit Guardianista

  8. It has long been observed that buybacks can be used to offset the dilution from large option exercises. Of course, the company buys back at market prices but receives the lower option price from the exercise which will shown on the cash flow statement but not the P&L. I’m unaware of any option plan that would decrease an award as shares are bought back so as to keep the option holder’s potential ownership interest constant in percentage terms. It is possible, I suppose, but I think as a recruiting device it would be regarded with some skepticism.

  9. Plus of course the QE that happened in 2009-2016 is exactly the same functionally as the QE that happened during covid. If the latter was monetisation of the deficit (which I think even Tim agrees it was) then how exactly was the earlier QE any different? What marker is there to be able to say ‘This QE is monetary policy and this QE is monetisation of the deficit’?

  10. FWIW all EMI share option schemes I’ve set up include a clause which can adjust the number of options if the share capital changes. Obvious example being that you’d expect options over more shares if the share capital was subdivided. There’s also a rider to this that they need not be adjusted if – in the reasonable opinion of the directors – the value of the option isn’t affected by the change. Obvious example being a fund raising round. There will be more shares but the company will be worth more. Of course EMIs are aimed at smaller companies but I’d be surprised if other schemes didn’t have something similar.

  11. Everyone should like buybacks in the UK. If your shares increase in value, you can get access to that value by selling some, paying Capital Gains Tax at 20% on the gain. If you got the same increae in value via dividends, you’d pay tax at 39.35% (additional rate taxpayers) or 33.75% (higher rate taxpayers).

    This provides a perverse incentive.

  12. Depends who is holding the shares, and via what mechanism, Charles.

    Direct equity holding, without some sort of tax wrapper or intermediary, is pretty rare in the UK, I would imagine. Probably the same as anywhere else. So I doubt that the apparent tax incentive is a major one.

  13. You would like a buyback in situations where otherwise no one was buying your stocks.

    The buyback drives up the price of your stock (or at least keeps it from lowering too.much).

    It’s why companies do buybacks during quiet times – otherwise they’re competing against other buyers.

  14. @Agammamon

    It may be useful to drive up your share price when you are using shares as collateral for loans, but if you’re buying the shares it would be advantageous to get them at the lowest price possible. And don’t forget that the share price is merely the price at which the last transaction took place. If you buy at an artificially high price, and shortly afterwards want to sell, the previous price is little consolation if you now get a much lower price.

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