Court Ruling Puts Kibosh on Share Repurchase Disclosure Rule
A decision by the Fifth Circuit Court of Appeals has resulted in the Securities and Exchange Commission’s Share Repurchase Disclosure Modernization Rule being put on hold. But why? A reasonable explanation to the layperson would be that everyone is tired of writing out “Share Repurchase Disclosure Modernization Rule.” Tell the SEC to come back when it’s come up with a less cumbersome name.
In yet another in a recent spate of court setbacks for the SEC, the Fifth Circuit judges actually ruled that the SEC acted “arbitrarily and capriciously” in issuing the rule, a violation of the Administrative Procedures Act. The judges specifically cited the SEC’s lack of response to petitioners’ comments and the absence of an adequate cost-benefit analysis in support of the new rule. The commission’s inability to address the Fifth Circuit’s critiques since the judgment was handed down likely means the repurchase disclosure rule won’t go into effect any time soon.
The development comes at an opportune time for publicly traded companies, as the rule was set to take effect for fiscal quarters beginning after October 1, 2023. It would have required issuers to provide daily share repurchase information in their quarterly reports. Additionally, companies would be required to offer narrative disclosures regarding share repurchase programs, such as the criteria used to determine repurchase amounts. The rule also called for companies to disclose the adoption or termination of Rule 10b5-1 trading plans.
Reading between the lines, the SEC originally developed the Share Repurchase Disclosure Modernization Rule to challenge the commonly held belief that companies use stock buybacks to capitalize on what they see as opportunities to get their own shares on the cheap. It’s a great concept in theory, and it fits with the idea that companies consistently act in the interest of maximizing shareholder value.
In practice, however, we know that listed companies often use buybacks for other purposes – the SEC found as much in a 2020 study on “negative net equity issuance.” For instance, taking shares of its own stock off the market can help companies inflate their earnings-per-share metric. Executive compensation packages can also create incentives for corporate leadership to initiate buybacks that don’t necessarily create value for all shareholders.
As such, reforming repurchase disclosures could serve a dual purpose. First, investors could separate the signal from the noise when it comes to determining if companies believe their stocks are undervalued. Equally important, the prospect of disclosing the rationale behind stock buybacks to the public could deter management teams from moving forward with capital-allocation decisions that don’t serve the best interests of shareholders.
In other words, a technicality has apparently left us with a decision that appears to stymie good governance. We’ll find out if the SEC has any other ideas for pulling back the curtain on share repurchase plans.
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