Buy Back of Shares
http://www.indianmba.com/Occasional_Papers/OP78/op78.html
What is buyback?
Buyback is reverse of issue of shares by a company where it offers to take back its shares owned by the investors at a specified price; this offer can be binding or optional to the investors.
Why companies buyback?
* Unused Cash: If they have huge cash reserves with not many new profitable projects to invest in and if the company thinks the market price of its share is undervalued. Eg. Bajaj Auto went on a massive buy back in 2000 and Reliance's recent buyback. However, companies in emerging markets like India have growth opportunities. Therefore applying this argument to these companies is not logical. This argument is valid for MNCs, which already have adequate R&D budget and presence across markets. Since their incremental growth potential limited, they can buyback shares as a reward for their shareholders.
* Tax Gains Since dividends are taxed at higher rate than capital gains companies prefer buyback to reward their investors instead of distributing cash dividends, as capital gains tax is generally lower. At present, short-term capital gains are taxed at 10% and long-term capital gains are not taxed.
* Market perception By buying their shares at a price higher than prevailing market price company signals that its share valuation should be higher. Eg: In October 1987 stock prices in US started crashing. Expecting further fall many companies like Citigroup, IBM et al have come out with buyback offers worth billions of dollars at prices higher than the prevailing rates thus stemming the fall.
Recently the prices of RIL and REL have not fallen, as expected, despite the spat between the promoters. This is mainly attributed to the buyback offer made at higher prices.
* Exit option If a company wants to exit a particular country or wants to close the company.
* Escape monitoring of accounts and legal controls If a company wants to avoid the regulations of the market
What is buyback?
Buyback is reverse of issue of shares by a company where it offers to take back its shares owned by the investors at a specified price; this offer can be binding or optional to the investors.
Why companies buyback?
* Unused Cash: If they have huge cash reserves with not many new profitable projects to invest in and if the company thinks the market price of its share is undervalued. Eg. Bajaj Auto went on a massive buy back in 2000 and Reliance's recent buyback. However, companies in emerging markets like India have growth opportunities. Therefore applying this argument to these companies is not logical. This argument is valid for MNCs, which already have adequate R&D budget and presence across markets. Since their incremental growth potential limited, they can buyback shares as a reward for their shareholders.
* Tax Gains Since dividends are taxed at higher rate than capital gains companies prefer buyback to reward their investors instead of distributing cash dividends, as capital gains tax is generally lower. At present, short-term capital gains are taxed at 10% and long-term capital gains are not taxed.
* Market perception By buying their shares at a price higher than prevailing market price company signals that its share valuation should be higher. Eg: In October 1987 stock prices in US started crashing. Expecting further fall many companies like Citigroup, IBM et al have come out with buyback offers worth billions of dollars at prices higher than the prevailing rates thus stemming the fall.
Recently the prices of RIL and REL have not fallen, as expected, despite the spat between the promoters. This is mainly attributed to the buyback offer made at higher prices.
* Exit option If a company wants to exit a particular country or wants to close the company.
* Escape monitoring of accounts and legal controls If a company wants to avoid the regulations of the market