Website builder Wix.com (WIX -0.30%) recently announced that its board had authorized a $500 million share buyback program. The move was interesting since the tech company just completed a $200 million share repurchase program last year.
But before the company can start buying back any shares, it must first seek approval from a court, according to Israeli law, where Wix is based. I don't anticipate the company will have trouble getting court approval.
Here are two things to know about Wix's buyback plan.
Image source: Getty Images.
1. It indicates that management is confident about Wix's prospects
Wix's business was booming in the first part of the pandemic as many small businesses moved online amid global lockdowns. Consequently, revenue rose 67% from 2019 to 2021 as the tech company added 1.5 million paid customers.
However, along with its quarterly report in February, Wix gave some of its worst guidance in recent years, saying it expects revenue to grow by only 11% to 13% in the first quarter of 2022 amid a tough comparison to the prior-year period. I was not surprised by this guidance, especially after the big growth the company experienced during the earlier part of the pandemic. Still, investors did not like what the company had to say and sold down the stock.
The stock buyback plan came just in time to ease investors' concerns. Buyback announcements often boost investor confidence and Wix's stock price has risen by more than 8% since the announcement.
There can be many reasons for management to buy back stock. In this case, it seems aimed at enhancing shareholder value after the stock has fallen by more than 65% from its 12-month high.
With the approval of buybacks, management is signaling to investors that the business is doing fine, and will continue to do well. After all, it is risky to spend cash on share buybacks if the firm is not performing well. The buyback announcement reinforces that the leadership team is confident that Wix will generate strong cash flow in the coming years. Management expects free cash flow margins to reach 5% of revenue in 2022 and 8% to 10% by 2023. Wix can reinvest this growing free cash flow to sustain its growth engine.
2. The share buyback could generate good shareholder value
Most of the time, companies aim to build long-term shareholder value by growing their businesses and increasing cash flow. Since the intrinsic value of a company is the sum of all future cash flows it can generate over its lifetime, a higher cash flow will result in a higher value.
But there are other ways to improve shareholder value. One of the more popular ones is a smart buyback -- done when a stock is trading at a reasonably low valuation -- that reduces the numbers of shares being traded.
In the case of Wix, the $500 million buyback plan looks like a smart move. The stock is trading at a low valuation historically. As of this writing, the company has a price-to-sales (P/S) ratio of 4.7. The same metric reached a high of 20 in the last two years.
And it makes sense to carry out a share buyback since Wix has plenty of funds on its balance sheet: $1.7 billion in cash, cash equivalents, short-term deposits, and marketable securities. Spending $500 million on stock would still leave the company with around $1.2 billion, which should be more than enough to operate and invest in the business. My biggest complaint is that management has not given a clear time frame for the repurchase. It is completely up to the company to act as it sees fit -- and that could include not buying any shares.
Still, we can do a simple analysis of the potential impact of the buyback. To create a simple calculation, if you assume that Wix repurchases all the stock at $97 per share (its price as of writing), the $500 million would reduce its share count by 5.2 million, or around 9% of its outstanding shares. We won't know what price Wix pays for shares until it happens, but using the $97 makes the math easy here.
And if we go a step further in that calculation, assuming everything else is equal, the intrinsic value per share would rise by 10% after such a buyback.
