What’s in the SEC’s Final Share Repurchase Rule?

Earlier this month, the Securities and Exchange Commission (SEC) released their finalized rule on share repurchases, also known as stock buy backs. The rule updates disclosure requirements for an issuer’s share repurchase activities.

Background

In brief, share repurchases occur when a company decides to repurchase their own shares from the market. Shares are repurchased for a variety of business reasons and occasionally for nefarious purposes. As a result, companies have to disclose their share repurchase plans. The issue of share repurchases has become contentious as competing interests debate who benefits from the repurchases. Traditionally, companies engage in share repurchases when they determine that their stock is undervalued. When shares are repurchased the predominate response is an increased value of the outstanding shares. As a result, the increased value benefits shareholders. Some argue, however, that instead of efficiently returning capital to investors, issuers should invest that money in better wages, increased benefits, or additional research and development.

The SEC’s rationale for the rule was that companies may be repurchasing shares for nefarious purposes, so investors need exceedingly detailed data about the share repurchase process. The rule appears to disregard the prevailing academic view that companies are engaging in this process for appropriate reasons. Unfortunately, these new requirements, coupled with the new 1% excise tax on share repurchases, will be costly and either deter businesses from using the process or pass the costs on to customers and shareholders. This will ultimately place the interests of shareholders against other stakeholders, including employees.

BPC had hoped that the SEC would consider the implications of their new rule (and tax) on the broader economy. A BPC white paper on share repurchases in July 2022 posited a novel approach to how share repurchases could be analyzed. The paper argued that the politics surrounding share repurchases should be dispensed with and share repurchases should be evaluated under a “dynamic approach” that ensures the most efficacious use of capital. The paper noted academic studies which found that when companies redeploy capital, they can increase savings, investment, and purchasing power. The paper also noted that share repurchases can be the catalyst for growth in small companies who are the leading job creators and are at the forefront of innovation. In sum, “repurchases affect far more than just the employees and shareholders of one company.”

So, what’s in the rule?

First, there is a required disclosure of daily purchases, as well as a company’s repurchase policies and procedures, on a quarterly or semi-annually basis. The daily purchases requirement includes a tabular disclosure of an issuer’s repurchase activity aggregated on a daily basis. This includes the:

• Class, average price, and total number of shares purchased including those purchased as part of an issuer’s repurchase plan;
• Aggregate maximum number or dollar amount that are or may be purchased on the open market; and
• Total number purchased as intended to qualify under the “safe harbor” provisions (Rule 10b-8) and to satisfy the “affirmative defense conditions” (Rule 10b5-1(c)).

In addition, the issuer must disclose any policies and procedures, including restrictions, on officers and directors.

The SEC’s rationale for the tabulated daily data was that the monthly data in the aggregate, as previously required, was not useful enough for investors to determine why companies were engaging in share repurchases. As a result, the new rule requires issuers to disclose the objective or rationale for engaging in repurchases. However, to accommodate the additional burden on issuers, the SEC allows for quarterly reporting of the daily aggregated data instead of monthly.

Second, the rule requires a narrative disclosure of an issuer’s objective or rationale for the repurchases, and the processes or criteria used to determine the amount of repurchases. The SEC’s reasoning for this provision was that investors are unable to easily determine the true motivation of an issuer’s repurchase decision. The SEC argues that while there may be a dual purpose, if an issuer only discloses the least objectionable reason or comes up with reasons that hide their business decisions from competitors, investors won’t have decision useful information.

Third, there is a required disclosure, using a “checkbox” on an issuer’s filings, for any repurchases within four days, before or after, the announcement of an issuer’s repurchase program or plan. This includes tabular data disclosure indicating whether certain officers and directors purchased or sold shares that are subject to an issuer’s plan or program. As an accommodation to the issuer, the SEC revised its proposal from a 10-day window to only a four-day window of review.

As for the implementation of the new rule, issuers will be required to start collecting this data October 1, 2023, and will have to include it in their fourth quarter filings.

Conclusion

Unfortunately, the finalized rule did not dispense with the politics surrounding share repurchases. It did not adequately explain why it relied on one assessment of the academic literature on share repurchases while disregarding other studies. Instead, it left the markets with a rule unsupported by the evidence, especially given the seemingly disregarded 2020 SEC staff review that came to a different conclusion on the effect of share repurchases. Further, the rationale for the rule does not appear to adequately explain how the benefits of the rule outweigh the substantial costs to issuers.

Aside from the certainty of litigation over the procedural deficiencies under the Administrative Procedures Act, there are substantive issues in question under both the First Amendment’s prohibition against compelled speech and the 2022 U.S. Supreme Court case West Virginia v. EPA. In that case the court held that under the major questions doctrine, agency action may be invalidated if it involves an issue of national significance and is not based on clear congressional authority. In this instance, the SEC’s rule has questionable statutory support on a topic that is arguably of national importance. Under review of the First Amendment’s prohibition against compelled speech, the rule requires more than just the disclosure of data, which is what the SEC has historically required, it also requires the disclosure of an issuer’s rationale and objectives for engaging in repurchases. The rationale and objectives have long been considered confidential business decisions. The SEC’s claim that the additional disclosures are needed to support investor demand and broader transparency is not overly compelling nor supported by the evidence discussed in the rule.