Public companies that conduct share buybacks are currently facing the prospect of disclosing extensive details about those programs on a quarterly basis, pursuant to rules adopted by the SEC in May 2023. Even though those rules are currently in limbo, they have put activities surrounding repurchases into the spotlight. Corporate secretaries and others who support boards and treasury departments can take this opportunity to think closely about whether the way in which repurchases are carried out align with the board or committee resolutions that authorize the program, and that the minutes reflect a discussion of the objectives and rationale for that authorization.
It is easy to gloss over the resolutions as a run-of-the-mill exercise, but this is an area where you need to proceed with caution. That is because—as explained in this HLS blog—the mechanics of the buyback program can affect whether the articulated objectives are satisfied. The blog goes on to connect a few dots that may not be top of mind for corporate governance practitioners. Here’s an excerpt:
Governance relating to rationale based on valuation
Firstly, if the board and management endorse the share buyback based on the premise that the share price is undervalued, several considerations must be accounted for. Arguably, none is more critical than imposing a share price cap or limit on the buyback. This suggestion arises because research indicates that there is a series of execution products used by companies to implement share buybacks that are not share price constrained. One such set of products are Accelerated Share Repurchases (ASRs), which are guaranteed buyback products, and reportedly 68% are purchased without a cap or collar on the share price. This structure means that the company will buy shares at any price regardless of share price fluctuations. In this scenario how does the governance process ensure that the company’s rationale for the buyback, rooted in a perceived undervaluation, remains intact across all share prices?
Governance relating to rationale not based on valuation
If the board simultaneously approves the buyback without expressing an opinion on valuation, should the board inform shareholders? We contend that it is sound governance to consider whether there exists a responsibility to apprise shareholders. This stance aligns with the widespread understanding, as mentioned at the article’s outset, that if a share buyback is executed when the share price is overvalued, value shifts from long-term shareholders to those selling their shares. Not all shareholders may possess views on the current share price versus valuation metrics, and they may expect the board to make this determination on their behalf. This expectation is not unreasonable, given that shareholders entrust the board with decision-making authority and conflict management in their long-term interests. If the board has not considered the potential value transfer in the event of an expensive purchase price, shareholders ought to be informed. This would empower shareholders to make their own evaluations. Anecdotal evidence suggests that such communication is rarely found in share buyback disclosures.
Governance relating to buyback progress update delays
How does the governance process assess the share price risk for shareholders seeking to “harvest” a dividend if the board’s rationale for the buyback revolves solely around returning excess capital? Does this evaluation include how this added risk is factored into the overall benefits for shareholders compared to dividend alternatives which involve riskless cash?
Lastly, does the governance process possess a comprehensive understanding of the mechanics underlying various share buyback implementation methods? Such understanding is crucial to enable shareholders willing to sell shares back to the company to do so effectively.
While in many cases it makes sense to keep board resolutions for repurchase programs as flexible as possible, if your board has a specific objective in mind, you will want to make sure that what is authorized and carried out fulfills that objective. If disclosure is ultimately required, these disclosures will be closely scrutinized for perceived impropriety. So, you do not want to be on the verge of a filing and realize that there is a mismatch between the board resolutions, the company’s activities, and the public disclosure. Carefully reviewing your minutes will also benefit you in the event of a books and records request, and in any event, will ensure that management is carrying out the board’s intent.
A version of this article first appeared on TheCorporateCounsel.net blog.