Treasury Shares: The Secrets Behind The Big Buybacks

Introduction

Treasury shares are a part of a company's "Treasury" - much like your own rainy day savings or fund. These shares aren't available to be traded, and the companies don't record them in their balance sheets. In essence, these shares are a part of what can be legally traded in the market, but the company decided to park them in its store (or treasury) for later use.

There are many reasons why companies do that, and mostly it has to do with enhancing their value. When the number of floating shares reduces, the value automatically goes up for all the other outstanding ones.

That apart, treasury shares aren't really valuable in and of their own rights to a company. They are recorded in contra accounts in the balance sheets, and rarely do anything to the financials. Regardless, they are a form of corpus or cushions that companies keep for various purposes.

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What are Treasury Shares?

To understand treasury shares better, it helps to have a peripheral comprehension of how they are created.

Every company is allocated a set number of shares, by the respective regulatory authority, that it can legally float in the market for trade. Some of these shares are restricted and available to trade internally only within the top circles of the company. The other shares, or floating shares, are the ones made available for the public to buy. When the public purchases these shares, they become outstanding shares. These shares give their holders the right to vote and an entitlement to receive dividends against them.

Sometimes, the company may decide to buy back some of the outstanding shares from the public. When this happens - when the company reacquires outstanding shares from the market - they become part of the company's treasury again and are called treasury shares. However, these shares are still considered as issued, as opposed to the stored treasury shares that the company never floated and are still in the treasury (and are also treasury shares, but un-issued).

Reacquired treasury shares have the following properties:

• They aren't outstanding any longer
• They don't give dividends
• They don't confer voting rights

There is usually a restriction on how many buybacks or treasury shares a company can legally have. These restrictions are typically governed by the regulatory authority that allocates them to companies.

Let's take a look now at why companies have the need to operate in treasury shares.

Why do Companies Keep Treasury Shares?

Companies can re-aquire outstanding stock in two ways:

• They can issue a tender with a price quote. The shareholders that accept the price can sell their shares back to the company
• They can acquire all the outstanding shares inchmeal

Some of the reasons a company keeps treasury shares are as follows:

To Enhance Share Value

One of the most logical reasons that companies issue buybacks is to raise the value of the shares. Think of it like this: when there are too many numbers of the same thing in the market, they lose their novelty. A rare thing is always precious. When a company restricts the number of its floating shares, the individual share price automatically shoots up, ensuring better dividends to its shareholders.

To Avoid Hostile Acquisitions or Takeovers

Although this rarely comes to light, sometimes a company may face a takeover threat from another hostile corporate. Since the outstanding shares of a company confer voting rights onto the shareholder, the hostile company may try to acquire as many shares of its target company in the market as possible. By reacquiring the floating shares, the target company has a way of ensuring its safety and ownership by limiting the number of floating shares in the market.

To Acquire or Retain Talent

In order to take the business further and create exceptional strategies for growth, businesses periodically invest in talent to help them achieve their goals. When a suitable professional is found, the businesses may offer a part of their shares to them to serve as an incentive for recruitment. They achieve this through treasury shares that are bought back from the market and offered to the individual they seek to hire.

To Raise Capital

Developing a business often requires capital down the road. By keeping treasury shares, companies retain a kitty of possible finance that they can call upon in the future when their business needs the funds. They can simply issue these treasury shares at a later date and raise the requisite capital from it.

Conclusion

The public can't trade in treasury shares, and they neither pay dividends or give voting rights. Treasury shares, although of little value by themselves, serve a greater purpose in the market and company set up than meets the eye. In addition to serving as a future corpus for a company, they are also a line of defence against takeovers.