Share Buy-Backs

[DavidC]

Sometimes companies buy their shares back from their share owners.

Is the purpose of this to protect their future owners from double taxation, when the company's future outlook would make investing in itself a good thing?

[buffett]

I'm not sure exactly what you're asking, but this paper from Mauboussin should help you think about this issue.

[DavidC]

Thanks.

Well basically if your company is good to invest in, then theoretically your shareowners would take their dividends and reinvest them into the company by themselves. However, whne this happens they have to pay tax on the dividends, so for tax reasons it's best if the company buys back the shares instead.

Edit: That's my theory and I'm asking if it sounds like it's correct.

[buffett]

[ QUOTE ]
for tax reasons it's best if the company buys back the shares instead [of dividending the cash]

[/ QUOTE ]
Yes, this is absolutely correct, if the only consideration is taxes.

In a perfect world, with management that only made the exactly optimal capital allocation decisions, they would only buy in stock if that were the activity that produced the highest after-tax returns for its shareholders.

E.g., if the stock appeared overvalued and there were no available opportunities to reinvest in the business at a good ROIC, then a dividend may be the best thing to do (letting the shareholders take the tax hit but then giving them the opportunity to make up for it in more attractive investments elsewhere).

[DavidC]

Cool, thanks man. What's up with that avatar, btw?

[DavidC]

A point raised in the first page of that report is that a buyback increases risk to shareholders relative to a dividend (by increasing their investment in a single company). Kinda neat.

[buffett]

my avatar comes from this test