Retired Shares

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21 Aug, 2024

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Retired shares refer to the shares that have been canceled, do not hold any market value, and are permanently removed from market circulation related to a firm's share capital. The purpose of these shares is to decrease the total number of outstanding shares in the market to increase the ownership stake and earnings per share for current shareholders.

It also aids in promoting the enhancement of a firm's financial metrics enhancement and also to consolidate ownership. Moreover, it signals a company's confidence in its sound financial status, which improves investor sentiments. The constructive retirement and cost method account for retired shares. These shares do not pay dividends, have voting rights, or participate in future stock splits.

Retired Shares Meaning

Retired stocks pertain to shares that have been invalidated, hold no value in the market, and have been permanently removed from circulation concerning a company's share capital.
Companies undertake this action to reduce the overall quantity of outstanding shares in the market, thereby boosting the ownership stake and earnings per share for existing shareholders.
It refers to the cancellation of shares with no market value. In contrast, the company repurchases treasury shares without canceling them, thereby allowing them to remain as an asset on the company's balance sheet.

Retired Shares Explained

Retired shares refer to shares of a company's stock that have been repurchased or redeemed by the company and are no longer outstanding or held by shareholders. Nevertheless, investors may fear future shares dilution if a business has large unsold and authorized shares.

Therefore, despite having no market value, these shares hold value to the old stock certificates. Hence, the SEC issued necessary procedures and guidelines regarding the cancellation, destruction, or storage of canceled certificates of firms to prevent fraudulent trades. It works by permanently removing shares from market circulation. Then the company dramatically reduces the total number of shares. Moreover, it helps reduce share capital, increase earnings per share for current shareholders, and enhance the company's ownership stake. Thus, when a company buys back its shares from the market, it retires them, and they are no longer considered outstanding.

Retired shares have the potential to decrease the number of outstanding shares, which in turn can help minimize dilution. However, this action may also raise concerns among investors.

Journal Entry

Companies make two types of journal entries to retire and cancel shares. Let's list and explain them below:

#1 - Cost Method

The company uses it to manage and handle share repurchases, deploying two sets of journal entries for retired shares

Repurchase of Shares accounting

One has to record the full purchase amount in the treasury stock account. After that, the par value of shares plus the original share issue amount obtained from investors gets ignored.

Suppose company Z repurchased 20000 shares at $4 per share, amounting to one lac dollars. Additionally, the shares have a $0.50 par value.

Repurchase of shares
Treasury stock (Dr.)	-$80000
Cash (Cr)		$80000

Hence, one can see that the repurchased shares lie in the treasury stock column.

Retirement of Shares accounting.

Here reverse the initial stock issue's par value and extra paid-in capital. Retained earnings and paid-in capital absorb any remaining balance until it reaches zero

Suppose now the same company has to retire its 20000 shares which it purchased. Moreover, the original price of per-share issue price was $4.

Retirement of shares
Common stocks (0.50 par) (dr.)	$10000
Additional paid-in-capital (dr.)	$70000
Retained earnings (dr.)	$20000
Treasury stock (cr)		$80000

While retiring shares, company Z issued a $4 share of 20000 in numbers and made the following journal entries:

Cash (debit) ----- - $80000

Common stock (0.50 par) ---- $10000

Additional paid-in-capital $70000

#2 - Constructive Retirement Method:

When there is an expectation that shares will not be reissued in the future, companies employ the constructive retirement method. This approach consolidates the journal entries for the repurchase and retirement of shares into a single set. In the previous example, the journal entries for this method would appear as follows:

Repurchase and retirement of shares
Common stocks (0.50 par) (dr.)	$10000
Additional paid-in-capital (dr.)	$70000
Retained earnings (dr.)	$20000
Cash (cr)		$80000

Examples

Let us look at a couple of examples to understand the topic clearly.

Example #1

Let's assume, Berkshire Hathaway, a publicly traded company in the US, has 1,000,000 outstanding shares. The current market price of each share is $10, making the company's total market capitalization $10,000,000.

Hence, the firm decides to initiate a share buyback program and repurchase 100,000 shares from the open market for $12 per share. After the buyback, the company holds these 100,000 shares as treasury stock.

At this point, Berkshire Hathaway has two options: either keep the treasury stock for potential re-issuance in the future or retire them. If the company chooses to exit the shares, it will no longer consider them outstanding and will permanently remove them from circulation.

Assuming the company decides to retire the 100,000 shares, it reduces the total outstanding shares from 1,000,000 to 900,000. As a result, the company adjusts its market capitalization accordingly, totaling $9,000,000.

Thus, these shares can have an impact on various financial metrics. For instance, the company's earnings per share (EPS) may increase because the payments are divided among a smaller number of outstanding shares. Additionally, the reduction in the number of shares can increase existing shareholders' ownership stake.

Overall, this is a strategy companies use to manage their capital structure, signal confidence in their stock, and potentially enhance shareholder value.

Example #2

Let us imagine a world where TechnoCorp, a renowned tech giant based in Zephyria, announced its plan to retire a significant portion of its shares in 2023. They claimed that the cancellation of 1 billion shares served as a symbolic gesture, commemorating the company's successful completion of a groundbreaking project.

This announcement created a wave of curiosity as people speculated about the nature of the project and even speculated on possible hidden agendas within the business. However, the retirement of shares was purely a fictional element designed to add suspense and increase interest among investors.

Pros & Cons

Let us look at the pros and cons of retired shares:

Pros: It improves the financial ratios and increases ownership and control of existing shareholders. Additionally, it signals the future boost of the firm's prospects.
Cons: It reduces the liquidity of a firm drastically. Moreover, it may also lead to limited options for future funding. For other shareholders, it may lead to dilution of shareholding. Finally, it also severely impacts the stock valuation metrics.0

Effect

Retired shares reduce the number of shares available for trading in the market, which affects the stock prices badly. Hence, it leads to the optimization of capital structure and financial stability for a company. Investors benefit from a higher ownership stake in the company and greater returns.

Retired Shares vs Treasury Stocks

Let us use the table below to compare the two:

Retired Shares	Treasury Shares
It means those shares that have been canceled have no market value.	These shares get repurchased by the company issuing them without canceling them.
They get taken out of market circulation permanently.	Treasury shares function as an asset on a firm's balance sheet.
Moreover, these reduce the total number of outstanding shares.	The outstanding shares do not get reduced by a firm.
They cannot be traded or held for ownership.	A company might reissue or resale these shares in the future.
Its objective is to decrease a firm’s share capital.	Hence, these shares serve the purpose of mergers and issuing of employee stock options.
Owners enhance their ownership stake in the company.	It does not affect the status of ownership.
Investors get their earnings per share enhanced.	Here, the investors do not get their earnings per share enhanced.

Frequently Asked Questions (FAQs)

1. Can retired shares be reissued?

Retired shares are typically not eligible for issuance. When shares are retired, they are usually canceled or permanently removed from the market. However, it's important to note that certain companies may have specific provisions that allow for the issuance of retired shares under certain circumstances. It is essential to review each company's particular laws and regulations to determine the feasibility of resistance.

2. How do retiring shares affect shareholders?

These shares can benefit existing shareholders by increasing their ownership stake in the company and improving financial metrics like earnings per share. It may also positively impact the stock price due to the reduced number of shares available in the market.

3. Can retired shares impact the market price of a company's stock?

Yes, they can impact the market price of a company's stock. By reducing the number of shares available, the company can create a perception of increased scarcity, potentially leading to increased demand and a higher stock price