Guapo
05-11-2009, 12:40 PM
It wasn’t so long ago when a penny stock company announced they would buy-back their own shares from the open market, it would frequently send their stock soaring. Stock buy-backs were in vogue among investors then, much like reverse mergers are today.
The purpose of a buy-back is to reduce the float. Investors like them because if a company does indeed buy-back a substantial percentage of its stock, it will increase the PPS. An actual stock buy-back would result in wind-fall profits for investors. Stock buy-backs however have usually left stockholders sadly disappointed.
The truth is, penny stock companies rarely do substantial stock buy-backs. They may declare or imply such, but they seldom buy-back a sufficient amount of stock to affect the PPS. There are several reasons why they don’t:
1. Insufficient cash
2. Few if any benefits
3. Buy-back announcements increase the buy-back price
4. A better method of reducing the float
1. Insufficient cash
The primary headache of almost all penny companies is a lack of cash. They simply do not have the money to do substantial buy-backs. Even successful companies often have narrow profit margins and can’t afford to spend money on projects not directed toward generating additional income.
Many penny companies have little or no income from what we would consider normal business activities. They manage to keep their doors open by selling stock. It’s business suicide for a legitimate company surviving from the sale of its stock to suddenly reverse course and begin buying it back from the open market.
Fly-by-night companies whose sole purpose is selling stock never do them of course.
Penny companies often dilute their floats to hundreds of millions or several billion shares, sometimes even more. A buy-back that would substantially reduce a float that large would cost tens of thousands of dollars, hundreds of thousands or perhaps even a million or two, depending on how large the float is. Very few penny companies, even the profitable ones, have that kind of money to spend buying back their stock.
2. Few if any benefits
In some circumstances I suppose a company could benefit from a stock buy-back. Large stable companies with sufficient cash could do them, perhaps for tax purposes or to generate favorable publicity. They would be relatively small buy-backs though, I think.
However a penny company with little or no income has no need to worry about a large tax bill. A stock buy-back doesn’t enhance the company’s reputation either since the only people who know much about the company are the few investing in or trading the stock.
Once the buy-back is over, the stock is likely to decline if there’s no support (good financials for example) at the higher PPS. Astute investors understand this and many of them will take their profits. Traders too will be all over the stock like fleas on a dog. They’re in the game solely for a quick score, so when the buy-back is done or nearly so, they’re selling. The PPS is then likely to retrace and over time it may eventually fall all the way to the level before the buy-back.
The company therefore has spent a lot of money and gained nothing from the buy-back except heartfelt gratitude from a lot of ecstatic (former) stockholders.
3. Buy-back announcements increase the buy-back price
Let’s suppose you are the CEO of a penny stock company and you want to do a stock buy-back. Would you (a) announce to the world you will buy-back shares or (b) do it quietly to avoid drawing extra attention to the company?
If you like to throw away cash and enjoy your stockholders' adulation, you will choose (a). If you abhor losing money and understand the concept of supply and demand, you will select (b).
Why?
If you plan to buy-back the stock at .0100 per share for example, the minute you reveal your intentions, the stock will become less available and thusly more expensive.
How does this work? Once stockholders know the company is buying back the stock, they won’t sell their shares so quickly. They understand the PPS will move higher as the float is reduced. They will hold to make a larger profit. Other people will understand too and jump on the bandwagon.
The stock may move to .02, .05 or .10 for example as you do the buy-back. As the price climbs you are paying more and more for the shares. By announcing the stock buy-back you have only increased your cost.
4. A better method of reducing the float exist
It’s called a reverse split.* Reverse splits are inexpensive and can be done quickly compared to stock buy-backs.
The purpose of a buy-back is to reduce the float. Investors like them because if a company does indeed buy-back a substantial percentage of its stock, it will increase the PPS. An actual stock buy-back would result in wind-fall profits for investors. Stock buy-backs however have usually left stockholders sadly disappointed.
The truth is, penny stock companies rarely do substantial stock buy-backs. They may declare or imply such, but they seldom buy-back a sufficient amount of stock to affect the PPS. There are several reasons why they don’t:
1. Insufficient cash
2. Few if any benefits
3. Buy-back announcements increase the buy-back price
4. A better method of reducing the float
1. Insufficient cash
The primary headache of almost all penny companies is a lack of cash. They simply do not have the money to do substantial buy-backs. Even successful companies often have narrow profit margins and can’t afford to spend money on projects not directed toward generating additional income.
Many penny companies have little or no income from what we would consider normal business activities. They manage to keep their doors open by selling stock. It’s business suicide for a legitimate company surviving from the sale of its stock to suddenly reverse course and begin buying it back from the open market.
Fly-by-night companies whose sole purpose is selling stock never do them of course.
Penny companies often dilute their floats to hundreds of millions or several billion shares, sometimes even more. A buy-back that would substantially reduce a float that large would cost tens of thousands of dollars, hundreds of thousands or perhaps even a million or two, depending on how large the float is. Very few penny companies, even the profitable ones, have that kind of money to spend buying back their stock.
2. Few if any benefits
In some circumstances I suppose a company could benefit from a stock buy-back. Large stable companies with sufficient cash could do them, perhaps for tax purposes or to generate favorable publicity. They would be relatively small buy-backs though, I think.
However a penny company with little or no income has no need to worry about a large tax bill. A stock buy-back doesn’t enhance the company’s reputation either since the only people who know much about the company are the few investing in or trading the stock.
Once the buy-back is over, the stock is likely to decline if there’s no support (good financials for example) at the higher PPS. Astute investors understand this and many of them will take their profits. Traders too will be all over the stock like fleas on a dog. They’re in the game solely for a quick score, so when the buy-back is done or nearly so, they’re selling. The PPS is then likely to retrace and over time it may eventually fall all the way to the level before the buy-back.
The company therefore has spent a lot of money and gained nothing from the buy-back except heartfelt gratitude from a lot of ecstatic (former) stockholders.
3. Buy-back announcements increase the buy-back price
Let’s suppose you are the CEO of a penny stock company and you want to do a stock buy-back. Would you (a) announce to the world you will buy-back shares or (b) do it quietly to avoid drawing extra attention to the company?
If you like to throw away cash and enjoy your stockholders' adulation, you will choose (a). If you abhor losing money and understand the concept of supply and demand, you will select (b).
Why?
If you plan to buy-back the stock at .0100 per share for example, the minute you reveal your intentions, the stock will become less available and thusly more expensive.
How does this work? Once stockholders know the company is buying back the stock, they won’t sell their shares so quickly. They understand the PPS will move higher as the float is reduced. They will hold to make a larger profit. Other people will understand too and jump on the bandwagon.
The stock may move to .02, .05 or .10 for example as you do the buy-back. As the price climbs you are paying more and more for the shares. By announcing the stock buy-back you have only increased your cost.
4. A better method of reducing the float exist
It’s called a reverse split.* Reverse splits are inexpensive and can be done quickly compared to stock buy-backs.