What Is Treasury Stock?
Treasury stock refers to previously outstanding stock that was reacquired by the issuing company from its stockholders. This reduces the total number of outstanding shares distributed in the open market. Although treasury stock remains issued, it is excluded from dividend distributions and the calculation of earnings per share (EPS). It is also known as treasury shares or reacquired stock.
Key Takeaways
- Treasury stock is formerly outstanding stock that has been repurchased by the issuing company and held in its treasury.
- It functions as a contra equity account, reducing total shareholders’ equity on a company’s balance sheet.
- The two common methods of accounting for treasury stock are the cost method and the par value method.
Unlocking the Concept of Treasury Stock
Treasury stock is recorded in the contra equity section of the shareholders’ equity on the balance sheet. Since it represents shares repurchased from the market, it reduces shareholders’ equity by the cost of these shares. Treasury shares are also denied voting rights and are not included in EPS calculations. There are regulations limiting the repurchase amount, governed by regulatory authorities like the Securities and Exchange Commission (SEC) in the United States.
Treasury stock can be either retired or held for potential resale in the market. Retired shares are permanently canceled and cannot be reissued. Non-retired shares may be resold for stock dividends, employee compensation, or additional capital raising.
Methods of Share Repurchase
- Tender Offer: Buying shares from investors at a price above market value, often at a premium.
- Direct Repurchase: Acquiring shares on the secondary market as regular investors do.
Methods for Recording Treasury Stock
When stock is originally issued, the equity section is credited, increasing accounts like common stock and additional paid-in capital (APIC). The corresponding increase in asset is recorded as a debit in cash or other assets using double-entry bookkeeping.
When stock is repurchased, it reduces total shareholders’ equity in one of two ways:
-
Cost Method: The purchase expense debits treasury stock and credits cash. If resold, it credits treasury stock and debits cash accordingly.
-
Par Value Method: The treasury stock debits the value at par with the cash credited for the repurchase. Adjustments are made to APIC, reflecting excess paid by shareholders before par value.
Cost Method
This method uses the repurchase price and ignores par values, common with publicly traded companies. The decrease in shareholders’ equity results from the debit to treasury stock and the credit in the cash account. If resold, the reverse debiting and crediting occur.
Par Value Method
This method decreases both the common stock account by the par value and the APIC account by the paid excess over par, with cash credited for the repurchase amount.
Purpose and Benefits of Treasury Stock
Why do companies repurchase their stock? Reasons include:
- Resale for Capital: Companies can raise future capital by reselling treasury stock, aiding growth and investments.
- Increased Shareholder Value: Decreasing outstanding shares typically increases shareholder value and interest, deterring hostile takeovers.
- Share Retirement: Retirement boosts existing shareholders’ ownership stakes by permanently reducing the share count.
Hypothetical Illustration of Treasury Stock
Assume ABC Company initially issued 5,000 shares of stock at $41 each, with a $1 par value. The company’s balance sheet would present:
- $5,000 in common stock
- $200,000 in common stock APIC
ABC repurchases 1,000 shares at $50 each, creating a treasury stock account valued at $50,000.
Account Adjustments
Cost Method
| Account Type | Debit | Credit |
|---|---|---|
| Treasury Account | $50,000 | Cash: $50,000 |
Par Value Method
| Account Type | Debit | Credit |
|---|---|---|
| Treasury Stock: 1,000 shares x $1 | $1,000 | |
| Common Stock APIC: 1,000 shares x $49 | $49,000 | |
| Cash | $50,000 |
Both methods reduce shareholders’ equity by $50,000 each. Assume initial equity was $500,000; post-repurchase brings it down to $450,000.
Understanding Retired Shares
Retired shares are treasury stocks that have been repurchased using retained earnings and are permanently canceled. Unlike other treasury shares, retired shares can’t be reissued and hold no market value.
Bottom Line
Treasury stock consists of shares repurchased by the issuing company, reducing the number of outstanding shares. Methods like tender offers or direct market repurchases are commonly used to do so. Companies retain these shares to boost shareholder value, raise future capital, or completely retire them. Check the shareholders’ equity section on a company’s balance sheet to find treasury stock details.
Related Terms: Share Buyback, Retired Shares, Contra Equity Account.
References
- Kotler, Harry. “Treasury Stock; A Corporate Anomaly”. Cleveland State Law Review, vol. 1, no. 2, 1952, pp. 10-11.
- PwC. “U.S. Financing Guide: Chapter 9: Share Repurchase and Treasury Stock: 9.3 Treasury Stock”.
- U.S. Securities and Exchange Commission. “Stock Buybacks and Corporate Cashouts”.
- Accounting Tools. “The Cost Method of Accounting for Investments”.
- LibreTexts Libraries. “Principles of Accounting: 14.2: Analyze and Record Transactions for the Issuance and Repurchase of Stock”.
- PwC. “U.S. Financing Guide: Chapter 9: Share Repurchase and Treasury Stock: 9.4 Share Retirement”.
