Best Buy's Short Interest: Not As High As It Seemed

Sep.18.07 | About: Best Buy (BBY)

At first glance, the short interest figures for Best Buy (NYSE:BBY) give the appearance (at least for us it did) that many investors were betting against the company heading into earnings. After all, over the last two months, short interest in the stock increased from 16.7 million shares to 68.6 million shares as of August. That's an increase of 310%.

However, we found that the biggest loser on the gain in Best Buy this morning is Best Buy.

click to enlarge

First a little background -- on June 27th, Best Buy announced a $3 billion accelerated stock buyback with Goldman Sachs. The way an accelerated buyback works is that the company enters into an agreement with a broker (in this case Goldman Sachs) to immediately buy back a certain amount of stock. The broker sells the stock to the company, and maintains a short position on their books, which they will then cover over time.

However, the broker doesn't bear any price risk on the stock between the time when they sell it to the company and when it is fully covered. Once the position is flattened on the broker's books, they settle up with the company over the difference between the price of the stock at the time of the buyback and the average cover price. If the average cover price is higher than the buyback price, the company pays the broker the difference. If the average cover price is lower than the buyback price, the broker pays the company the difference.

In the Best Buy example, the price of the stock on June 27th was $46.64, so if the average cover price by Goldman Sachs is greater than $46.64, Best Buy pays Goldman the difference. If the average cover price is below $46.64, Goldman pays Best Buy the difference.

What then, you may ask, is the reason for the accelerated buyback? One reason is that since many announced buybacks never actually get done (and most investors now know this), a company may announce an accelerated buyback to give the impression of greater conviction.