Can someone please explain the intuition behind this: If the after-tax yield on company funds used to repurchase shares, or the after-tax cost of borrowed funds used to repurchase shares, is greater than the earnings yield, EPS will fall as a result of the repurchase. If the after-tax yield on company funds used to repurchase shares, or the after-tax cost of borrowed funds used to repurchase shares, is less than earnings yield, EPS will rise as a result of the repurchase.
I don’t get how earnings yield and cost of funds used to repurchase related to each other.
Here’s a way of looking at it - you’re trading off costs and benefits.
The “benefit” to the remaining shareholders from repurchasing shares is that they avoid having to pay the EPS to the repurchased shares. The “cost” to them is the after-tax cost of the borrowed funds. So, look at the Earnings Yield that you save from the repurchased shares as the benefit (on a percentage basis) and the after-tax cost of borrowed funds as the cost. If cost > benefits, the EPS drops.
It’s analogous to whether or not you should pay off a mortgage early or invest the funds - the benefit of paying off the mortgage early is that you avoid paying interest on the balance of the mortgage. The “cost” is that you give up the earnings you’d have gotten from investing the funds.