Treasury Stock

Under the cost method (the most common approach), repurchased shares are recorded at their purchase price as a contra-equity account. Treasury stock reduces total shareholders' equity. If the shares are later reissued at a higher price, the difference goes to additional paid-in capital (APIC). If reissued at a lower price, the deficit reduces APIC or retained earnings. Under the par value method, treasury stock is recorded at par value and the original APIC is reversed — but this method is rarely tested in interviews.

Treasury stock reduces shares outstanding, which increases EPS (same earnings divided by fewer shares). It also reduces book value of equity, which can increase return on equity (ROE). However, it reduces the cash balance and total equity. Companies with large treasury stock balances may even have negative book equity (e.g., Starbucks, McDonald's). In the treasury stock method for diluted shares, proceeds from hypothetical option exercises are assumed to repurchase shares at the average stock price.

Treasury shares remain authorized and can be reissued for acquisitions, employee stock plans, or future offerings. Retired shares are permanently canceled — they reduce the authorized share count. Companies choose retirement when they never plan to reissue, and treasury when they want flexibility. In practice, many companies hold treasury stock for years and use it to fulfill stock option exercises or restricted stock grants.