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When a company that is cash rich uses that cash to buy back some of their stock or begins to issue a dividend, how does that usually affect share price? Is it a "wash" or is share price usually affected. Any historical companies you know of here that went through this?

In my particular case I'm wondering about Apple, who said today (about 3 times in their earnings call) that they "are actively discussing the best uses of our cash balance." Because Apple isn't big on acquisitions (and very selective), the likelihood of the former I think is fairly high, hence my question.

People say the best thing Apple can do is "buy Apple", because 1/4 of their company valuation is cash (i.e. 100B out of 400B). So, with a company that has a structure like this ratio, perhaps similar to other companies in the past (ratio-wise), can you offer any insight on what typically happens to share price as this money is used to some extent for share buybacks or dividends? Is it a "wash" or is it boost for share price? Please note also unusual in Apple's case is an extremely low PEG ratio -- very low P/E, and an earnings growth rate now near 100%. People don't believe that rate can continue because of their large size, however because smart phone penetration is 5% world-wide, and the huge inroads they are making in the corporate and home PC space (with iPad and Macs), I think that growth rate is realistic for several years if it helps in the historical company cash-> buyback/dividend comparison, on which I have no background.

Thanks, Ray

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IBM is famous for spending lots of money on stock buyback to keep the stock price higher. The technique works, and investors in growth stocks generally prefer a high market prices to a taxable dividend payment.

Dividends are ways to return shareholder value when a company generates a lot of cash, but doesn't have alot of growth. Electric and gas companies are a classic example of high-dividend companies.

  • Thanks duffbeer for providing this example and contrast. Do you have a feeling on what percentage effect IBM's actions have had on share price? Would you say it is 5%, 10%, 20%? Thanks. – Ray K Jan 25 '12 at 4:32
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So far buying of own by own companies like Apple, is concerned it will surely raise the price of the script.

At some level, the share prices are a factor of supply and demand at a given price. Apple being a very demanded script, its supply in the market goes down with the buy back. After a while, this will surely make the script price rise. It also depends at what price the buy back is affected. If the buy back is done at a right price, it will help the existing shareholder. If a very high price is paid, it will erode shareholders wealth.

Hence each buy back needs to be studies separately. There are several and at times complex variables which determines if the buy back is good for continuing shareholders or not.

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    Natwar -- Thanks for your thoughts/comments. I haven't heard the term "script" or "script price" before used for shares/stock. Can you what the meaning / connotations are? Also, per your last sentence, do you have any thoughts on how Apple will execute this, and if they will do it "well", causing a boost in stock price? Thanks. – Ray K Jan 25 '12 at 4:36
  • script or script price is same as stock price. Here in India, we use script more. it is just that, no difference, really. :) – Natwar Lath Jan 25 '12 at 16:49
  • I do not have any thought on how Apple is going to execute it. The present trend is such that the company want to extract all the juice for them, leaving very little for the investor. – Natwar Lath Jan 25 '12 at 16:50
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If a company is valued correctly, then paying dividends should lower the share price, and buying back shares should leave the share price unchanged.

If the share price is $100, and the company pays a $10 dividend, then either its cash goes down by $10 per share, it is has to borrow money for the same amount, or some mixture. Either way, the value of the company has gone down by $10 per share.

If the share price is $100, and the company buys back 10 percent of its shares, then it also has to find the money, just as for the dividend, and the value of the company goes down by 10 percent. However, the number of shares also goes down by 10 percent, so the amount of value per share is the same, and the share price should stay unchanged.

Now there are psychological effects. Many people like getting paid dividends, so they will want to own shares of a company paying dividends, so the share price goes up. Similar with a share buyback; the fact that someone buys huge amounts of shares drives the price up. Both effects are purely psychological.

A buyback has another effect if the shares are not valued correctly. If the company is worth $100 per share but for some reason the shareprice is down to $50, then after the buyback the value per share has even gone up. Basically the company buys from stupid investors, which increases the value for clever investors holding on to their shares. If the shareprice were $200, then buying back shares would be a stupid move for the company.

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    If the buyback is paid for with cash in the bank (as opposed to debt financings) then buybacks should cause an increase in stock price per a profitable company. This is because, after the buyback is complete, earnings are now split across a smaller number of outstanding shares, resulting in a higher yield. All other things being equal, the price will rise to maintain the same yield as before. – Michael Feb 16 '15 at 18:16

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