Share buybacks by corporate issuers are governed by the Securities Exchange Act of 1934 under Rule10b-18, titled Purchases of Certain Equity Securities by the Issuer and Others. The primary purpose of the rule is to minimize market impact from an issuer's repurchases by limiting how, when, at what price and how many shares a company's common stock can be bought back. Dubbed as the "safe harbor" rule, it also protects issuers from liability for market manipulation if the law's four conditions are followed.
Manner of Purchase Rule
During any single day, an issuer may purchase all shares from only one broker or dealer. Complying with the purchase manner condition reduces the possibility of a perception of widespread demand for the securities. However, to execute the repurchases, the broker or dealer can engage with other brokers or dealers if the firm itself is busy or cannot match the trades, as long as the status of the issuer as its client does not change.
For non-solicited shares (i.e., shares purchased without the issuer's initiation), more than one broker or dealer can be used. According to the Securities and Exchange Commission, the case for non-solicitation must be made based on the facts and circumstances of each purchase transaction.
No issuers are allowed to make the opening trade under the timing condition. For companies whose shares' average daily trading volume (ADTV) is worth more than $1 million or whose public float value is more than $150 million, they can trade up until the last 10 minutes before the close of the regular session.
Companies whose shares have less than the prescribed values must be out of the market 30 minutes before the close. The different restrictions recognize that more liquid securities are less susceptible to manipulation even if they stay longer in the market.
Separately, the law's general exclusion of issuers from participating in market opening and closing reflects the common understanding that, at such times, market activity is often viewed as a significant indicator of the trading direction.
An issuer can repurchase its common shares only at a price that is no higher than the current independent bid or the last independent transaction price, whichever is higher. Previously, the price limitation applied to issuers variably depending on their securities types, such as exchange traded, NASDAQ, etc.
The amendments to the Rule by the SEC in 2002 made the price condition universal to all securities. Without such a price limitation, an issuer could lead the market into an inflated value for its shares through increased repurchase bids.
The section of the law concerning trading volume, which limits the amount of shares an issuer can purchase on a single trading day, has been streamlined after the same SEC amendments. It now requires that an issuer may simply not purchase shares exceeding 25 percent of the stock's four-week ADTV.
Prior to the change, shares that a company bought back in block out of open market in privately negotiated transactions with other shareholders were not included in a same 25-percent limitation. The reason for backing the exception was that if the selling shareholders had put such a block of shares in the open market, information from TheFreeLibrary.com suggests, it would have imbalanced the market's supply and demand, driving down stock price. However, two other concerns from the SEC overrode the block-sale effect.
In eliminating the exception, the SEC argued that companies had aggressively pursued block purchases to enhance market ratios of their stock by reducing the number of shares outstanding and the massive buying had unjustifiably driven up prices of their stocks in many cases. While block purchases are now accounted for an issuer's daily purchase volume, they are also included in the ADTV calculation.