Before we start discussing the Microsoft case here is a teaser for you.
You have started a hotdog outlet with 5 of your friends in a remote area and it is at present just generating $100 a profit every day which you shares equally with your friends.
For you it is a decent return on initial investment $2000 you invested in the beginning.
One day one of your friends come and declares that he is willing to buy share if any of you is willing to sell and set the price range of 1800 to 2100. The lowest bid will be accepted first.
What will be the first thoughts on your mind?
- Why he wants to increase his share in the company.
- Is there are opportunities which I can’t see.
- Next will be what will be the future of the Hotdog selling business.
The same mechanism is at work in Microsoft buyback of shares worth $20 billion through Dutch auction starting from July 21st to August 17th.
The price range of proposed dutch auction is $22.50 and $24.75
There are two mechanisms at work here –
First Microsoft wants to give the least possible amount to its share holders and it is for the shareholders to decide how they perceive company’s future.
Suppose the company is willing to buyback 1000 shares in the market and it received bids for 100000 shares. The break-up of 100,000 shares is as follows
A $ 22.50 - 100 shares
B $ 23 - 700 shares
C $ 23.25 - 200 shares
D $ 23.50 - 10000 shares
E $ 24 - 89000 shares
The Microsoft will just pay $22.50 for 100 shares, $23 for another 700 shares and finally $23.25 for the last 200 shares it wants to purchase. The people who want to sell at $23.50 won’t able to sell any of their shares.
Secondly by buying back shares from open market, the management is increasing the worth of remaining stockholders holding (jargon) in the company, more often than not it ended up increasing promoters holding in the company as they control the decision making at the highest level and have better information about future prospects of the business.
What will happen to Microsoft share at Wall Street?
Historically once the company starts buying back, the prices of the shares rises as investors believe that the company has something in tank.
Personally I believe that the range is on the lower side as Microsoft share is already been traded at $24 (1st August, 2006) and shareholders have a very low incentive to sell their holding in the company.
Looking in terms of return buyback will increase the earning per share (EPS) and enable the investors a higher return than the present range of $0.26 to $0.37.
The good thing the buy back will do to Microsoft shares is that it will increase the support price of the shares in open market. As per the historical trends and technical charts – that data is less relevant in the present case as none of the companies before had that much strength as Microsoft does now.
Finally the to my mind the real gainers of this buy back will be the one who won’t sell their stocks as technically tech stocks are bottomed out after the thrashing they received since April this year. Secondly Microsoft will be launching its next version of operating system – Vistas early next year so that will help in boosting the bottom line.
Boris Mann did his Master’s in finance. He regularly advises clients on personal finance issues. He is a contributing writer on Financial issues for Write Term Papers .com. You can contact him for college term papers and other financial queries at Write Term Paper .com.
