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This paper examines stock repurchases from an agency perspective by identifying agency costs across three dimensions — interest conflicts and information asymmetry, managerial discretion, and the use of alternative mechanisms to mitigate agency conflicts. We use ownership structure as a proxy for interest conflicts and information asymmetry, employ cash balance and free cash flow as two measures of managerial discretion, and consider cash dividends and interest-bearing liabilities as alternative vehicles for distributing cash. We find that a monitoring structure motivates managers to mitigate agency costs through stock repurchases. Particularly, monitored firms with higher levels of cash balance prefer cash dividends to stock repurchases, whereas monitored firms with more cash dividends repurchase more shares because of their stronger incentive to mitigate agency costs. However, when firms have a very high level of dividends, they substitute stock repurchases for dividends to avoid a dividend cut in the future.

As stock-option holdings increase, managers alter their firms’ payout composition, choosing stock repurchases rather than dividends to return cash to shareholders. Prior research presents two competing explanations for this behavior: the flexibility hypothesis and the shareholder power hypothesis. In support of the flexibility hypothesis, I document that this executive stock-option incentive to repurchase stock as a substitute for dividends is stronger when firms have weak shareholder rights and when information asymmetry is severe. In addition, I find that option-induced repurchases are associated with lower shareholder wealth when shareholder rights are weak or when information asymmetry is high. These firms also perform worse in the following year but show higher total payouts to shareholders. Overall, this paper provides a comprehensive picture of managers’ option-driven repurchase behavior.

We examine whether firms tend to buy back their stocks to a greater extent when the managers learn there will be positive earnings impacts. We use a two-part model (Duan et al., 1983) to address this issue. First, we use a Probit model to estimate the decision of stock repurchase. Then we use Koenker and Bassett's (1978) quantile regression to estimate the dollar amount of stock repurchases. We find that when the earnings impacts are in the low quantiles, stock repurchases and earning impact are positively correlated. However, when the impacts are in the high quantiles, the relation becomes reversed.

Prior studies have examined repurchase decisions (i.e., whether to repurchase or not) and the determinants of repurchase amount (i.e., if yes, then how much is the repurchase amount), separately. However, this approach overlooks the fact that, in practice, firms most likely will take both decisions into consideration simultaneously. We argue that to ignore simultaneity features in repurchase decisions could lead to suspicious conclusions. In this study, we incorporate the two related decisions referenced above into a panel data sample selection model and analyze the determinants of stock repurchases. Further, we test whether managers make use of inside information in determining the timing of repurchases. We first find that the decision whether to repurchase is correlated with the decision of how much to repurchase. This finding supports the position that the omission of either decision when analyzing the data could lead to incorrect inferences. Second, we find cash, leverage, and market-to-book (MKBK) ratios are the most important factors related to firm repurchase transactions. More importantly, we find that leverage plays the key role in determining the dollar amount of repurchase. That is, financial structure is a firm's main concern when facing a repurchase decision. Third, we find that the larger the firm size is, the greater the amount of stocks firms will repurchase. Finally, we find that earnings shock plays no role in the decision to repurchase.

This chapter adopts a behavioral approach to explain why firms prefer dividends over stock repurchases (a tender offer auction) as a payout mechanism despite the significant tax disadvantage that dividends yield. We suggest that different shareholders might have different preferences toward stock repurchases, which may stem from differences in their financial literacy, their diverse discount factors, or from similar other idiosyncratic preferences. This divergence of behavior may lead to differences in the number of shares the various groups of shareholders would agree to sell under the tender offer. If the shareholders cannot coordinate so that they all buy the same number of shares, and if the firm makes an underpriced offer, then a value transfer would occur from those who bought more to those who purchased fewer shares. The stockholders, not knowing a priori to which category they belong, will object to this cash disbursement mechanism and may prefer dividends. This chapter develops a formal two-stockholder model that proves the above assertions.