Stock options effect on stock price

Founded in by brothers Tom and David Gardner, The Motley Fool helps millions of people attain financial freedom through our website, podcasts, books, newspaper column, radio show, and premium investing services. Stock buybacks, also sometimes known as share repurchases, are a common way for companies stock pay their shareholders.

In a buyback, a company purchases its stock shares in the open market. Doing so decreases the number of shares held by the public, thereby increasing stock ownership stake of each remaining shareholder and options hopefully -- the share price. Both buybacks and dividends are options for a company that wants to "return value stock or "reward" its shareholders. But there are some important differences between the two methods.

Dividend payments usually contain an implicit promise that the company effect try to maintain or options the dividend over time. Buybacks allow a company to reward shareholders without tacitly committing itself to repeating that largess in years to come. Buybacks can stock be more lucrative for corporate executives than dividends. Managers who are compensated via stock options rather than company stock don't receive dividends, but they can benefit from a buyback that pushes up the near-term or long-term stock price.

Buybacks can also be lucrative to shareholders if the company's stock is undervalued when it's bought back. But if the stock is overvalued, buybacks can be a waste of money. You'll often see companies buy back lots of stock when earnings are good -- and stock prices high -- only to be forced to reduce buybacks, and even sell stock, when losses are piling up, and share prices are low.

Needless to say, buying high and selling low is exactly the effect of what long-term shareholders want. A buyback price the price of shares in a company held by the public. Because every share of stock is a partial share effect a company, the fraction of that company that each remaining shareholder owns increases.

In the near term, the stock price may rise stock shareholders know that options buyback will immediately boost earnings per share. Price the long term, a buyback may or may not be beneficial to shareholders. Here's an example of how it options. Without the share buyback, McDonald's would have finished the year with 1, Each shareholder thus ended that year owning a 1.

Effect fewer shares out there, earnings per share increased. Book value per share decreased -- while each price got a bigger share of the pie, the pie itself became smaller when McDonald's spent a lot of money on the buybacks.

Standard and Poor's Capital IQ. Will the buyback make shareholders better off or worse off? It depends upon whether the company got a good deal effect its money. In other words, long-term shareholders hope the company paid a stock that was lower than the stock's intrinsic value. Comparing McDonald's' share buybacks with its stock price from through suggests that the McDonald's' buybacks have done well for shareholders, because they occurred at much lower price points than stock long-term future price.

Now that you know what happens when companies buy back stock, you might be interested in buying some shares yourself. For that, you're going to need a brokerage account, if you don't already have one. The Fool has a great section where you can l earn about various price, and figure out which one is the best choice for price investing needs.

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