Question: Many companies issue large numbers of stock options to executives

Many companies issue large numbers of stock options to executives and other employees. These companies frequently buy back some of their shares on the open market. For example, Microsoft Corp., which was a major issuer of ESOs, bought back over $ 20 billion of its shares over a five- year period up to 2003. In February 2005 ConocoPhillips, a large oil company based in Houston, Texas, announced a $ 1 billion buyback program over the next two years. ConocoPhillips was also a major ESO issuer.

a. Why would firms with large ESO plans buy back their stock? Explain.
b. Normally, companies that buy back their shares do so over time, to avoid the increased demand bidding up share price, thus raising the cost of buying them back. As the shares are bought back, the company then records the reduction in outstanding shares and the cash payment. However, according to an article in The Globe and Mail (January 31, 2006, p. B13), “Watch out for the loophole: buybacks have hidden costs” (reproduced from The Wall Street Journal), many companies have engaged in “accelerated share repurchase.” Under this tactic, firms recorded their total planned buyback all at once at their shares’ current market price, even though they had not yet bought back the shares. This maximized the increase in current earnings per share. Would you, as a potential investor in firms using this tactic, be concerned? Why or why not?

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  • CreatedSeptember 09, 2014
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