Corporate stock repurchase and share buyback programs

Stock repurchasing has become a fundamental aspect of both high yield company strategies as well as the public trading of stock in general. This work will first explain the reasons why a company might choose to develop a stock buyback strategy and what challenges and restrictions they face in doing so. The work will then go on to develop a case study style understanding of the repurchasing strategies, in both 2006 and 2008 of Microsoft. The stock repurchasing strategy of Microsoft is in part in response to its history as a venture capital investment. Individuals who invested in the past and continue to retain interest in the company are clearly expecting continual payoffs, if not a windfall at least growth of payment reflective of company success.

Stock Repurchase Strategies

Shock buyback strategies are functional economic choices made by some publicly traded companies to first identify when it is believed that there are surplus stock being traded for the company and attempt to take such stock out of trade. The company may do so for several reasons but ultimately it does so to resolve this problem, in a similar way as currency circulation is tightly controlled. When there are to many physical bills in circulation they tend to reduce the actual value of the currency. In other words surplus currency must be removed from the market either by retirement or by strategies that leave the currency in a position where it is no longer being circulated, such as when currency is being held in a collection. Stock repurchasing can also result in either solution, retirement or retention within a stock package that will not likely be traded, such as in an employee benefits package. (Wadhani, 1999, p. 186)

A number of studies have shown that stock repurchases result in a positive market reaction (see Dann 1981; Vermaelen 1981). In the absence of agency considerations, if a firm is, on the average, at an optimal capital structure situation, any change in capital structure should result in a systematic negative return. However, if the agency conflict between the shareholder and the manager is not fully resolved, a stock repurchase will increase the managerial share of the equity and therefore improve the incentives for aligning his interest with that of the remaining stock- holders (unless, of course, if the management is already entrenched). This factor could be the driving force for positive stock market reactions to cause stock repurchase decisions. (Swanson, Srinidhi & Seetharaman, 2003, p. 105)

As is suggested above, there are several reasons why a company might develop a share buyback or repurchase strategy. The primary reason for doing so is to reduce the number of shares on the publicly traded market which then makes those remaining more valuable, paying out greater per share dividends to investors without creating an undue burden upon them. The company might also be seeking a way to strengthen its stock in general by reinvesting in its own shares rather than by reinvesting in another strategy with profit surplus that has a lower yield and shows a lower fundamental pay out over either the short or long-term. A tertiary reason for developing a company share buyback strategy might be to allow employee stock ownership, that is secondary to individual stock trading and is sheltered to some degree as a part of a benefits and/or compensation package. Finally, a company may choose to develop a buyback strategy in an attempt to bolster stock prices for available publicly traded stock, when such stocks are in a slump and not meeting investor expectations. (Mccarthy, 1999, p. 91)

The strategy is in fact on the rise, creating a whole new set of challenges for those who regulate stock transactions i.e. The Stock Exchange Commission or the SEC. The practice must be done under the auspices of public and legally accepted formularies that are first and foremost completely free of potential insider trading, or trading done with insider knowledge which is in fact illegal. Companies must follow very specific guidelines, defining the scope, scale and length of time that the buyback strategy will take and then must follow through with this strategy regardless of its effects. The reason for the increased popularity of such plans is that they seem to be one of the most successful ways of redirecting unused profit to the system without actually paying out in dividends the amount of the profit earned. The company becomes more fundamentally valuable without a loss and without pay outs that may create an issue of double taxation for shareholders, including in many cases their own employees. (Mccarthy, 1999, p. 91) Managers also clearly stress that excess cash held by the company is best re-circulated through stock repurchasing rather than dividend percentage increases, which managers find troubling and fundamentally difficult to manage, as they often mean that percentages must remain at the level they have been raised to which might not reasonably reflect the need of the company for equity in leaner times.

An open market stock repurchase program is a popular method used by management to increase value to stockholders. Management can buy back stock, raise dividends, increase capital spending, or make acquisitions to deploy the excess cash. In an Institutional Investor (August 1997, p. 31) survey of 1,600 chief financial officers on what they would most want to do with the excess cash, the most popular response (36.2%) is to buy back stock, while the least popular response (2.1%) is to raise dividends. In another survey by Institutional Investor (July 1998, p. 30) the most commonly cited motivation by CFOs for repurchasing stock was "to add value for shareholders." (Liano, Huang & Manakyan, 2003, p. 97)

Shareholders have significant expectations in today's market, and this is especially true of those who rely heavily on a non-diversified portfolio, holding only a few key stocks rather than a smaller quantity of many. These individuals sometimes have significant influence in the company and build considerable loyalty to it, one will also note in the case of Microsoft its history is in venture capital. The management of shareholder expectations is a highly challenging aspect of the publicly traded company and dividends are intentionally limited to reflect the need for the company to retain cash during lean times or reinvest in other ways during periods of transition. If dividend payments are inflated at every turn of the market or the business itself the management of this trend is often matriculated up, rather than both ways. (Silva, Goergen & Renneboog, 2004, p. 27)

Microsoft

Some industries prefer, through historical experience in their particular trade not to make grand announcements about stock repurchasing plans but simply to implement them as needed. (Giambona, Giaccotto & Sirmans, 2005, p. 351) Other industries on the other hand have such a broad social interest and such a large variety of shareholders that announcements of share repurchasing plans is a must, at least in the relatively open arena of the shareholder communication networks. One such company is Microsoft. Microsoft has developed and utilized stock repurchasing strategies in recent years and done so in a very public manner. The stock buyback that was announced at year close of 2004 that was formally intended to repurchase over $30 billion dollars in Microsoft stock was completed at the close of 2006 and a new stock buyback program was announced that would repurchase $40 billion in Microsoft stock. According to the 2008 annual report by Microsoft the results were successful and will continue until 2011:

(in millions)

Year Ended June 30, 2008-2007-2006

Balance, beginning of year 9,380-10,062-10,710

Issued 173-289 106

Repurchased (402) [HIDDEN] (754)

Balance, end of year 9,151-9,380-10,062

(1) All amounts repurchased in fiscal year 2008 were repurchased under the repurchase plan approved by our Board of Directors on July 20, 2006.

(2) Approximately 155 million shares of common stock for approximately $3.8 billion were repurchased under our tender offer in the first quarter of fiscal year 2007. All other amounts repurchased were repurchased under the repurchase plan approved by our Board of Directors on July 20, 2006.

(3) All amounts repurchased in fiscal year 2006 were repurchased under the repurchase plan approved by our Board of Directors on July 20, 2004.

(MSFT Annual Report 2008, "Note 16 Stockholder Equity" http://www.microsoft.com/msft/reports/ar08/10k_fr_not_15.html)

Microsoft also demonstrated an unconventional trend increasing dividend payout per share from, .10-.11 cents over the year 2008. (MSFT Annual Report 2008, "Note 16 Stockholder Equity" http://www.microsoft.com/msft/reports/ar08/10k_fr_not_15.html) the stock repurchase then seems not to have completely met their intended goal of cash influx and investor demands. The strength of such an action is clearly demonstrative of the strength of the company and moved their stock prices forward, despite the fundamental slump associated with the recession of the period.

Many people have a great deal of social and economic interest in the aspects and the running of this company, in part because it is simply so well-known and has influence over many lives as the largest provider of personal computer operating systems and software in the world. ("Gates, Bill," 2007) the company is in fact considered a regional financial backbone, in the Seattle-Redmond area where its world headquarters are. The whole region and to some extent the whole world takes notice when Microsoft announces financial strategies and changes or when stocks rise or fall.

The software maker said it would buy back $20 billion through a tender offer set to be completed on Aug. 17. The company said that its board of directors has also authorized the company to buy back up to $20 billion worth of stock through June 2011. The company said it has completed the $30 billion stock buyback announced two years ago. "With our share repurchase programs announcement today, we reaffirm our confidence and optimism in the long-term future of the company and continue to execute on our strategy of returning capital to shareholders," Microsoft Chief Financial Officer Chris Liddell said in a statement. For its tender offer, Microsoft is using what is known as a modified Dutch auction, in which those who want to sell shares can indicate how many shares they want to sell and at what price. Microsoft said it will pay no more than $24.75 per share and not less than $22.50. The buyback offer, which is expected to begin Friday and run through Aug. 17, could see the software maker repurchase up to 808 million shares, or about 8.1% of all outstanding shares. (Fried, July 20, 2006, http://news.cnet.com/Microsoft-plans-massive-stock-buyback/2100-1014_3-6096631.html)

It must also be noted that Microsoft was embroiled in appeals litigation regarding the anti-trust lawsuit filed against it in 1999. The appeals were successful to some degree and Microsoft was able to restructure to meet the demands of the court, which applied a judgment against it, declaring it a monopoly in large part based on its proprietary software tactics. The restructuring included good faith actions such as shareholder equity improvement as well as many other fundamental changes, that protected Microsoft as well as the public from its exponential growth over the years. (Unites States vs. Microsoft Current Case http://www.usdoj.gov/atr/cases/ms_index.htm) Other changes that have appeared on the horizon for Microsoft include changes to their system that provide software as service, a function previously developed by other software and OS providers that allows users to share fundamental spaces on the web and elsewhere, and allies Microsoft with some partners that have previously been fierce competitors. Microsoft seeks with this move to build greater diversity in its offerings and grow in the direction that other service providers have, such as in the wealth of new marketing standards made popular by the world wide web, such as search functions and live applications.

In a series of presentations to partners and financial analysts last summer, Microsoft execs invariably emphasized that software as a service opens rich new opportunities to "monetize" the costs through online advertising. The foundation plank of all advertising is touching the most people and making sure that "everybody on the planet can participate in your software," Ballmer says. The global ubiquity of the web fills that need perfectly. The "Live" applications platform of the cloud is an ideal medium for targeting individuals and very small businesses, Ballmer says. "These are generally ad monetized apps, and because of that, there's synergy in sharing data and features among the apps at this level ... These are services like identity services, contact lists -- this is the layer where our social graph of your relationships lives, along with your presence and rendezvous, [and] communication services. Perhaps most importantly, our advertising platform lives at this level," he says. Customers, independent service providers, and Microsoft will share ad revenues. (Orr, 2007, p. 46)

In 2009 it remains to be seen if such tactics will also feed the growth of the company, as many previous competitors sought to provide such services as shared platforms, search and social networking capacities as fundamental tactics of growth parallel to Microsoft's previously proprietary standards and massive size and success. In other words other companies sought to support the software as service venue as a result of the need to compete with Microsoft as a monopoly. Microsoft felt no need to branch out in this way as its success was self sustaining. Yet, now Microsoft seems to need to be in a race to reformat the way they offer services, as the market tightens and people become less and less willing to invest in products by Microsoft simply because they are the only ones availed in the formats that exist. (Orr, 2007, p. 46) Though this does not have a great deal to do with stock buybacks it does create a full picture of the fundamental way in which Microsoft has announced the desire to make massive changes, during this period, including increased dividend payments as well as share repurchasing to bolster its position during some challenging financial and legal times.

Venture Capital Investment

Though Microsoft has long left the field of venture capital investment, one of the main reasons for the stock repurchasing tactic as well as the increased dividend payments has to do in part with Microsoft's history as one of the greatest proofs that venture capital investment can be successful. When Microsoft went public a great deal of investors were taking a marked risk in investing. These same shareholders, if they held on still feel the need to show returns on their investment that at least rival those they experienced early on, which were exponential.