It may seem a long way off currently, but for EXRO shareholders, analyzing share buybacks vs. dividends is an exercise worth undertaking given the companies potential growth trajectory and anticipated future profits.
Most long-term investors in the company likely won’t be surprised to learn that EXRO has 600 million shares outstanding and will quite likely approach the 1 billion mark (fully diluted) before achieving substantial profitability. However, once profitability begins, it could grow significantly and rapidly due to the high impact of anticipated licensing deals, which are expected to contribute extremely high profit margins.
Of course, before even considering options like share buybacks or dividends, EXRO would need to address its $100 million in debt. Paying down this liability would be a critical step in securing financial stability and setting the stage for potential shareholder returns.
Understanding a couple of the mechanisms EXRO will have for managing a significant cash reserve will help investors stay informed about future shareholder return strategies. For the purpose of this discussion, we will assume there is no reverse split of the shares. A detailed discussion on that topic can be found here.
When companies like EXRO consider returning value to shareholders, they typically weigh two primary options: share buybacks, dividends, or a combination of both. Each approach offers distinct benefits and potential drawbacks, including significant tax implications for investors. In this discussion, we will explore these mechanisms, outline the specific regulations governing share buybacks, and examine their relevance to EXRO.
Share Buybacks
A share buyback, or share repurchase, occurs when a company purchases its own shares from the open market. This reduces the number of outstanding shares and effectively increases the ownership percentage of the remaining shareholders.
Benefits of Share Buybacks
- Increased Earnings Per Share (EPS): With fewer shares outstanding, EPS increases, potentially boosting stock prices.
- Flexible Returns: Unlike dividends, buybacks do not commit the company to ongoing payments and can be implemented under favorable market conditions.
- Signal of Undervaluation: Companies often repurchase shares when they believe their stock is undervalued.
Rules for Share Buybacks on the TSX and NASDAQ:
Before initiating a share buyback on the TSX, companies must follow specific requirements to ensure compliance:
- Board Approval: The company’s board of directors must approve the buyback plan, outlining the purpose and benefits.
- Filing a Notice of Intention: Companies must file a Notice of Intention to make a Normal Course Issuer Bid (NCIB) with the TSX. This document includes details such as the maximum number of shares to be repurchased and the timeframe.
- TSX Review: The TSX reviews and approves the NCIB application to ensure compliance with regulatory standards.
- Disclosure: Companies are required to publicly disclose their intention to repurchase shares, maintaining transparency for investors.
- Volume Limits: Under the NCIB, companies may repurchase up to 10% of the public float within a 12-month period.
On the NASDAQ (U.S.):
- Board Approval: Similar to the TSX, the company’s board must approve the repurchase plan.
- Rule 10b-18 Compliance: This rule sets limits on the timing, price, and volume of repurchases to prevent market manipulation.:
- Timing: Companies cannot repurchase shares during the opening or closing 30 minutes of trading.
- Price Limits: The repurchase price must not exceed the highest independent bid or the last transaction price, whichever is higher.
- Volume Limits: Companies may repurchase up to 25% of the average daily trading volume (ADTV) of their shares.
- Disclosure Requirements: Companies must report share repurchase activity to the SEC periodically, typically through Form 10-Q or 10-K filings.
Companies must ensure compliance with these regulations to maintain transparency and shareholder trust. For EXRO, operating on both the TSX and NASDAQ in the future would mean adhering to overlapping restrictions, such as ensuring buybacks remain within TSX volume limits while also adhering to the stricter NASDAQ timing and price constraints. This dual compliance could limit the extent and timing of EXRO’s share repurchase activities, especially if its share liquidity or daily trading volume were constrained.
Dividends
Dividends represent direct payments of a portion of a company’s profits to shareholders. Unlike share buybacks, dividends provide immediate cash returns but do not alter the share count.
Types of Dividends:
- Regular Dividends: Paid periodically, often quarterly, from ongoing profits.
- Special Dividends: One-time payments due to exceptional circumstances, such as the sale of a major asset.
This analysis focuses on regular dividends based on profits.
Benefits of Dividends:
- Predictable Income: Dividends appeal to income-focused investors and help stabilize a company’s shareholder base, as these investors typically hold shares for steady income rather than buying and selling to realize profits.
- Positive Signal: Regular dividends suggest steady profitability and financial health.
Tax Implications
For investors, share buybacks and dividends can result in different tax consequences:
- Share Buybacks: In Canada and the U.S., capital gains taxes are incurred only when shares are sold at a profit. Since investors control the timing of the sale, they can potentially defer these taxes. This can be advantageous for those who are not yet ready to realize their paper profits.
- Dividends: Taxed as income in the year received. In Canada, eligible dividends benefit from a dividend tax credit, reducing the effective tax rate. In the U.S., qualified dividends enjoy preferential tax treatment, often at long-term capital gains rates.
** Investors should consult tax professionals to understand the impact based on their jurisdiction and portfolio structure.
Applicability to EXRO
EXRO trades on the TSX and OTC markets in the U.S. While currently focusing on growth, EXRO may consider these shareholder return mechanisms in the future. Achieving profitability and uplisting to the NASDAQ are obvious prerequisites for such discussions.
Companies like EXRO must balance growth investments with shareholder returns. Share buybacks could signal confidence in their valuation, while dividends would demonstrate consistent profitability.
Strategic Takeaways
Both share buybacks and dividends offer unique benefits and considerations for companies and shareholders. For a company like EXRO, the decision to implement one of these strategies in the future will depend on financial performance, market conditions, and shareholder expectations.
Investors should remain informed about the regulatory environment and tax implications to make the most of these opportunities.
