Question

Compare and contrast the effects of dividends vs. stock repurchases, the pros and cons of each, and how the managers decide between the two.

Answer 1

When a Company has surplus cash it can either distribute it as dividends or go for share repurchases.

Dividends are cash paid to investors which directly comes in their hands. The investors can use the dividend money to buy more shares but the taxes paid on dividends reduce their gain. The gain is certain in the case of dividends.

Buybacks are advantageous from the point of view of taxes. The shareholders participating in the buyback program will not have to pay any taxes, until and unless they sell the shares. Buybacks increases the EPS of the company and companies engage in buybacks in the case the shares of the company are undervalued.

Choosing between the two depends on the company and the current situation.