When companies issue shares of stock, they're known as "outstanding" shares and the total amount of shares outstanding is called the "float." A business may decide to repurchase some of its outstanding shares for various reasons, and it records these shares in a particular type of balance sheet equity account called Treasury Stock.
What Is Treasury Stock?
Treasury stock represents shares of stock held by the company rather than by its shareholders. The company might have never sold the shares, or it might have sold, and then repurchased the stock at a later date. If the company buys back its shares, it might choose to retire them permanently or resell them in the future.
How Do Companies Benefit From Selling Stock?
Both public and private companies benefit from selling shares of stock in different ways. Companies raise money by selling stock and can use it to pay down debt. Funds from common stock sales have no interest expense, which helps the company reduce fixed expenses so that they can be profitable with lower sales. When companies issue common stock, they have more liquidity in the form of cash to put towards new investments or use as working capital.
When publicly-held companies want to acquire another company, they can compensate shareholders with stock that the shareholders can turn around and sell to cash out. Public companies often receive a credit rating from a rating agency such as Dun & Bradstreet. If the company has obtained money from selling stock, versus taking on debt, the agency rates the company higher as it sees equity as more financially conservative than taking on additional debt.
Why Do Companies Buy Back Their Stock?
When a company buys back its stock, sometimes it's because the firm has extra cash and chooses to invest that cash in itself. Once a company buys back stock, it also reduces the number of shares outstanding and improves the company's earnings per share, an essential metric to investors.
Companies might have a certain minimum stock price threshold and buy back stock whenever the price dips to this level, which could bring the price back up. Some investors acquire a large number of shares over time, and the company must repurchase them to prevent the shareholder from having a controlling interest in the company and the power to initiate a takeover. Finally, a company may desire to take itself private and must reduce the number of shareholders to do so, which means it must repurchase the majority of its stock.
Where Does Treasury Stock Show on the Balance Sheet?
The balance sheet has a section called Stockholders' Equity, which includes information about the company's common and preferred stock shares, treasury stock and retained earnings. It also includes accumulated other comprehensive income (OCI), which represents money earned on foreign currency fluctuations, hedges and liabilities for a pension plan.
Treasury stock shows as a negative balance, or contra-equity account, in the shareholders' equity section because the company incurred a cost to buy back the shares. The common and preferred shares outstanding represent an influx of money in exchange for the shares and consequently shows as a positive equity balance for the company.
Cynthia Gaffney has spent over 20 years in finance with experience in valuation, corporate financial planning, mergers & acquisitions consulting and small business ownership. She has worked as a financial writer and editor for several online finance and small business publications since 2011, including AZCentral.com's Small Business section, The Balance.com, Chron.com's Small Business section, and LegalBeagle.com. A Southern California native, Cynthia received her Bachelor of Science degree in finance and business economics from USC.