It's been a tough week for buybacks. The Center for Financial Research and Analysis and The Corporate Library, released a study that concludes that some stock repurchase initiatives mask slumping financial performance and boost executive pay. Meanwhile, a client advisory issued by Lehman Brothers' Bob Willens warned that some repurchase programs could threaten the tax-free status of a spinoff.
The CRFA/CL study noted that in some cases, buybacks artificially inflate a company's earnings per share, and camouflage a slowdown. Further, if buybacks are used to "offset multitudinous stock option grants to corporate executives," the repurchase eats away at shareholder value because it forces companies to buy stock in the open market at high prices to cover shares sold at lower prices to executives.
If that wasn't enough to make you think twice about buybacks, a few days later Willens pointed out that buybacks that follow spinoffs are a tricky proposition. That is, if the IRS thinks that a spin-off was used "principally, as a 'device' for the distribution of earnings and profits," the transaction could flunk one of the basic tax rule requirements for keeping the corporate decoupling tax free.
Not to discourage legitimate business transactions, the IRS created safe harbors to guard the tax-free status of spinoffs in light of stock buybacks. That includes making sure repurchased shares are widely-held and bought on the open market, and that in aggregate repurchased shares don't equal or exceed 20 percent of the outstanding stock of the company.
Willens says most companies are fastidious about following the rules and retaining the tax exemption, but he warns that the IRS has stopped giving advanced rulings on the subject.
Given the two new warnings we've received about buybacks, it seems companies should repurchase at their own risk.
|
Video
