Tender offers & buybacks

Tender offers are used when an investor, a group of investors, or an organization wants to buy a significant portion of an issuer’s stock. Outside investors (those with no connection to the issuer) sometimes use tender offers to attempt a hostile takeover. As discussed earlier in this unit, common stock investors maintain voting rights. If an investor accumulates a large enough ownership stake, they may gain enough voting power to influence corporate decisions or push for specific corporate actions.

For a hostile takeover to succeed, the takeover party generally needs to acquire more shares. One option is buying shares in the open market, but that can create a surge in demand. Higher demand can push the stock price up, making the takeover more expensive.

Most hostile takeovers use tender offers to reduce this problem.

Tender offers are direct proposals to buy securities from current investors, usually at a premium to the current market price. For example, to acquire more HP shares in early 2020, Xerox offered HP investors $18.40 in cash and 0.149 shares of Xerox stock for each HP share tendered. At the time, that package was worth about $24 per HP share, while HP stock was trading around $17 per share. The roughly $7 premium was meant to persuade HP shareholders to sell.

Current stockholders decide whether to tender their shares or reject the offer. To be eligible to tender, an investor must be long the stock. Investors with short positions can’t tender stock.

Investors who hold convertible securities can tender only after they’ve submitted irrevocable conversion instructions (for example, an HP convertible bondholder converts the bond into HP common stock).

There are a few key regulations for tender offers:

• Investors must be given at least 20 business days to decide.
• If any terms of the tender offer change (for example, the tender price), the offer must be extended by another 10 business days.

Although we’ve focused on tender offers for common stock, a tender offer can be made for any security. An issuer can also make a tender offer for its own securities. For example, General Electric Company (ticker: GE) issued a tender offer for $5 billion of its outstanding debt in 2019.

Issuers may also repurchase their securities in the open market. When an issuer repurchases its own stock this way, it’s called a stock buyback. Issuers often repurchase shares to benefit stockholders. With fewer shares outstanding, the issuer can report higher earnings per share (EPS) on its financial reports, even if the company’s total earnings stay the same.

For example, assume the following:

ABC Company

• Outstanding shares: 1,000,000
• 2022 annual earnings: $5,000,000

Let’s use the earnings per share formula:

$\text{EPS}=\frac{\text{Annual earnings}}{\text{Outstanding shares}}$

$\text{EPS}=\frac{\text{\$5,000,000}}{\text{1,000,000}}$

$\text{EPS}=\text{\$5.00}$

Now assume ABC Company repurchases 200,000 shares in 2023 but reports the same annual earnings of $5 million. The new EPS is:

$\text{EPS}=\frac{\text{\$5,000,000}}{\text{800,000}}$

$\text{EPS}=\text{\$6.25}$

EPS is a figure many investors and analysts watch closely. Buybacks can increase EPS by reducing the number of shares outstanding, but buybacks also cost money. If the issuer can fund the repurchase and still maintain earnings, EPS will rise.

Stock buybacks became a major political topic in 2020 because many issuers that had been buying back stock later needed financial support from the government during the COVID-19 crisis.