Securities Industry Essentials (SIE) ExamKnowledge of Capital MarketsMedium
A company has 10 million shares of common stock outstanding. If the company's board of directors decides to repurchase 1 million shares from the open market, this action will result in:
- AA decrease in the company's stock price.
- BA decrease in the company's debt-to-equity ratio.
- CAn increase in earnings per share (EPS).
- DAn increase in the number of outstanding shares.
Show answer & explanationAnswer & explanation
Correct answer: C. An increase in earnings per share (EPS).
When a company repurchases its own shares, the number of outstanding shares decreases. With fewer shares outstanding, and assuming earnings remain constant or increase, the earnings per share (EPS) will increase.
Why the other options are wrong
- A. Share repurchases typically signal confidence and can support or increase the stock price due to increased EPS and demand.
- B. Share repurchases use cash, which reduces equity, potentially increasing the debt-to-equity ratio, not decreasing it.
- D. Repurchasing shares reduces the number of outstanding shares, it does not increase them.
Share Repurchase (Buyback)
A share repurchase, or buyback, is when a company buys back its own stock from the open market, reducing the number of outstanding shares.
- Reduces outstanding shares.
- Can increase EPS and ROE.
- Often seen as a way to return value to shareholders.
Memory trick: Buyback: 'Boosts' 'Earnings' by 'Reducing' shares.