This morning, Pro Medicus Ltd (ASX: PME) announced it would be buying back 10.2 million of its own shares. The buyback program is to occur between 1 April 2025 and 31 March 2026. 

This comes after the once-high-flying healthcare technology stock has been heavily sold off. Pro Medicus is down around 33% from its 19 February peak.At the time of writing, the company is changing hands at $198 a share.

What is a buyback?

While ASX investors are more familiar with dividends, buybacks offer another way to return capital to shareholders. A stock buyback involves a company purchasing its own shares on the stock exchange.  Stock buybacks are more common in the United States, although several ASX companies have been known to do them. These include Commonwealth Bank of Australia (ASX: CBA), Qantas Airways Ltd (ASX: QAN), and Santos Ltd (ASX: STO), which all bought back shares in 2023.

Advantages of a buyback vs dividends

There are several advantages to buybacks over dividends. 

Buybacks reduce the number of shares, increasing each investor's proportion of ownership. With fewer shares outstanding, earnings per share (EPS) typically increases. This makes the investment more appealing to investors, potentially raising the stock price. 

Buybacks also offer greater flexibility. In the case of Pro Medicus, management can decide when and how many shares to buy back between 1 April 2025 and 31 March 2026. This can be contrasted to dividends, which management is committed to once declared.

What does Pro Medicus' buyback suggest?

Typically, a company will buy back its own shares when it either has excess cash or considers its stock undervalued. 

Last week, I discussed Pro Medicus' steep share price decline and questioned what it was really worth. 

It appears that the question has been answered, at least in the eyes of management. 

Over the past five years, the company has surged more than 800%. There have been very few material pullbacks in its share price along the way. Management has, therefore, seized this opportunity to buy back shares at a discount.

Should you follow management's lead?

There is no doubt that Pro Medicus is one of the highest-quality businesses on the ASX. Over the past 10 years, it has grown revenue at a compound annual growth rate (CAGR) of 28%, consistently winning and renewing long-dated contracts. 

This trajectory appears set to continue. The business is supported by many tailwinds, including an ageing population and increased diagnostic imaging usage. Pro Medicus also operates in a large addressable market, with Fortune Business Insights estimating the U.S. diagnostic imaging services market to grow from $130.38 billion in 2023 to $206.84 billion by 2030.

Of course, there's still a chance the company's share price could decline further. It is still trading at a price-to-earnings ratio (P/E) of 211, which is well above its five-year median of 123.