The Hindu Business Line : Don't miss the buyback bus

"The SEBI regulations should be amended to require the company to also announce a minimum support price at which the company will accept the buyback offers made by the shareholders."

Buyback announcements never fail to stir curiosity. "Shareholders wonder whether they would benefit more by offering, or by not offering, their shares to be bought back by a company," writes Dr Abid Hussain in his foreword to, Indian Share Buyback Practices & Their Regulation, from Society for Capital Market Research & Development (www.scmrd.org).

The book, authored by Dr L. C. Gupta, Naveen Jain and Anil Kumar notes that the US has the longest history of share buyback, among the countries that allow the practice.

Data from Standard & Poor's show that S&P 500 Q4 buyback activity surged 57 per cent from that of the Q4 2004, by rising to $104 billion in comparison to $66 billion. "For 2005, S&P 500 stock buybacks ended at $349 billion, up 77 per cent from the $197 billion in 2004," informs http://webbolt.ecnext.com. `Over $250 billion' is `awaiting consummation!'

Buyback and the bourses

Europe and Asia began permitting share buybacks in the late 1990s. In India, till 1998, the Companies Act prohibited companies from buying back own shares. One of the special factors that triggered a change was the depressed state of the stock markets then.

"Business houses made a case for share buyback as a possible way of reviving the capital market." They argued that buybacks could inject buoyancy to the bourses because buyback price is `invariably higher than the market price prevailing before the buyback announcement.' Urgently responding, the Government implemented buyback through an Ordinance, promulgated on October 31, 1998. The book summarises international buyback regulations and practices. One learns thus: That in Ontario buyback price can't be above `the last independent price'; that in Germany, companies can hold repurchased shares in treasury; and that in Mexico buyback should not exceed retained earnings.

Why buyback?

A chapter is devoted to `motives behind share buybacks in India'. The most common three reasons are: "Returning to shareholders the surplus cash not required in the foreseeable future; enhancing the EPS (earnings per share); and conveying to investors the management's view that the market is currently undervaluing the company's share." Buybacks also provide an exit route to shareholders, raise promoters' voting power, and raise the debt-equity ratio.

Investors are critical of companies with `mountains of low-yielding surplus liquid assets.' Authors cite the buyback offer of GlaxoSmithKline thus: "Funds required for the buyback will be met out of the free reserves of the company currently deployed in the form of bank deposits and liquid assets." The `under-valuation argument' doesn't appeal all the time. "Reliance Industries (August 2000 and July 2001), Deepak Fertilisers and Petro Corp (May 2002), and Sirpur Paper Mills (August 2002) did not buy even a single share although the market price of shares of these companies was lower than the maximum price for a considerable number of days."

Staying poor!

Do continuing shareholders win all the time? No, they could suffer in the post-buyback period "in terms of lower trading volumes in the shares, lower valuation of stock and subsequent buyback by the companies at a far lower price." Take for example MICO, which made three buybacks, through the tender method, in less than two years (April 2000-January 2002); price fell from Rs 4,200 to Rs 3,800, and to Rs 2,500.

Buyback can be a weapon against takeover threat. An example in the book is of Great Eastern Shipping Corporation that bought back its shares "when its sister concern Gesco faced a takeover by the Dalmias." The authors' study shows that on an average promoters' holdings go up 3-4 per cent after every buyback.

Buyback activity hasn't been much in India, state the authors, after analysing announcements made up to March 2003. They find that not even one per cent of listed companies made buyback offers in a year. Buyback activity tends to rise when the market is depressed and fall during market buoyancy.

In conclusion, the book argues, "The SEBI regulations should be amended to require the company to also announce a minimum support price at which the company will accept the buyback offers made by the shareholders."

Significant research.

BookValue@TheHindu.co.in