Question

Stock repurchases

There are a number of reasons why a firm might want to repurchase its own stock. Read the statement and then answer the corresponding question about the company’s motivation for the stock repurchase:

Big Walnut Nut Company's management is worried that a private equity firm is interested in purchasing the company. The management has decided the company should repurchase its shares on the open market in an attempt to increase the value of the firm’s stock.

What is the company’s motivation for the stock repurchase?

To adjust the firm’s capital structure

To distribute excess funds to stockholders

To acquire shares needed for employee options or compensation

To protect against a takeover attempt

Which of the following statements would be considered advantages of a stock repurchase? Check all that apply.

At times, the company will repurchase its stock at a price higher than the true value of the stock.

The market generally perceives a stock repurchase as a sign that management believes that the firm’s stock is undervalued.

Stock repurchases are an effective way to alter the firm’s capital structure. Stock repurchases are especially effective when the amount of equity in the current capital structure is significantly greater than that required by the firm’s target capital structure.

Answer 1

Question 1 :

In the given situtation the company is experiencing a hostile takeover from another private equity firm which is interested in the stock traded of the company. So the management of the company should act before it loses the controlling interest of the company which is being obtained by the private equity firm. So the company adopts the method of buy back of shares or repurchase of stock in order to reduce the freely traded stock in the market to prevent the private equity firm from obtaining the controlling interest. So the company's motivation for repurchase of stock is to protect against a takeover attempt.

Question :

The general advantages that accrue to a company during the stock repurchase are:

1. A company may choose to buy back outstanding shares for a number of reasons. Repurchasing outstanding shares can help a business reduce its cost of capital

2.it can also be used as a method for generating more equity capital without issuing any additional shares.

3.If the company feels its stock is undervalued, it can choose to repurchase some or all of the outstanding shares at the deflated price and wait for the market to correct.

So BOTH the options are considered as the advantages of stock repurchase