What Are Treasury Shares?

by Brian Lebrecht on September 21, 2012

I have blogged several times over the years about how public companies can re-purchase their own common stock in the market.  Those blogs can be found here and here.

But the question remains, and we have been asked this several times by clients in the last year, “what happens to the stock once we repurchase it?  Is it treasury stock?  Is it retired?  Can we- re-sell it?  If we purchased it in the open market, can we re-sell it as free-trading stock?”

The entire concept of treasury shares is really an accounting concept, and the debate over how to handle them goes back for decades.  (I will quote an article from 1946 several times below).  In some states, the concept of treasury shares has been formally eliminated by law, while in others in languishes in a sort of obscurity.

In 1946, the California Law Review published an article by Henry W. Ballantine entitled “The Curious Fiction of Treasury Shares.”  The article can be found here.  Ballantine is quoted as saying

“Treasury shares are indeed a masterpiece of legal magic, the creation of something out of nothing.  They are no longer outstanding shares in the hands of a holder.”

 Ballantine also quotes a tax treatise

“Can a corporation have ‘ownership’ in itself? . . . Corporation law holds it cannot.  Treasury shares do not have voting rights, dividend rights or distribution rights on liquidation, so what rights, if any, remain?”

That is not to say that treasury shares don’t have a purpose, because they do.  Ballantine explains as follows

“The truth is that ‘treasury stock’ is merely authorized stock which may be reissued as fully paid without some of the restrictions upon an original issue of shares as to consideration and as to preemptive rights, if any.  While often treated by accountants as an asset, such treatment is for record purposes only. . . .  It no more represents a present asset than authorized but unissued shares, being merely the opportunity to acquire new assets if anyone wishes to buy the shares. . .  The principal use of this fiction of already issued shares has been to get around the wooden requirement of some states, that par value shares must be issued at par at all times, which is an arbitrary and unreasonable rule relaxed by the California General Corporation Law.  It would clear away a great deal of needless mystification about treasury shares to treat all reacquired shares as automatically retired and restored to the status of authorized and unissued shares.”

To clarify what Ballantine is saying, reacquired stock use to have some value, at least theoretically, because it could be resold at a price different from (and in most cases, desired to be less than) the par value of the stock.  However, California and many other states did away with the legal concept of par value long ago, eliminating essentially all value that existed in treasury shares.

A more updated publication was a committee on corporate and M&A law in 2012.  It is entitled “United States Treasury Shares Guide” and can be found here.  The Guide provides a more practical outline of how reacquired shares can be treated

“Under the law of some states, including Delaware and New York, a company that repurchases its own shares has two main options: (1) hold them as treasury shares (ie shares that have been authorized and issued but generally are not considered outstanding, or (2) retire the repurchased shares. . . . The concept of treasury shares does not exist in some states, such as California, the laws of which provide that repurchased shares automatically are restored to the status of authorized but unissued shares.”

Another scenario that sometimes arises is when a subsidiary is involved

“… the applicable rules may be somewhat different when shares of a company are purchased by its subsidiary or controlled affiliate.  For example, Delaware law prohibits a corporation from voting its own stock belonging to it.  Stock of a parent corporation belonging to a subsidiary corporation may also not be voted where the parent corporation owns directly or indirectly a majority of the voting stock of the subsidiary corporation.”

The Guide reaches the following conclusion

“For most companies, there is not much practical importance to the decision of whether to retire reacquired shares or hold them as treasury shares.”

In conclusion, then, for the vast majority of companies, the practical answer as to what to do with reacquired shares is to cancel them.  In some instances, such as California, that happens automatically.  In other instances, the company may need to take formal action (such as a directors resolution) to cancel the shares.

 

 

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