Buyback or re-purchase of shares by companies is carried out to distribute the cash surplus which it does not aim at deploying for any expansion or capital expenditure in near future. The announcement of a buyback signals a current strong financial footing of the firm. There are several aspects to a share buyback which as an investor or shareholder in the company, cannot be ignored.
1. Buyback reflects that the position of the stock is undervalued as the cash reserves and surplus is indicative of the fact that the company does not has to service any future capital expenditure etc.
2. For the company, it means lesser number of outstanding shares or less capital base after the buyback of shares and so an increase in the earnings per share or EPF.
3. For the investors, the announcement of the buyback is a boost up in the sense that it views the company's working i.e distribution of excess cash to shareholders over further enhancement of business activities as a big positive i.e. likely to sustain the market price of the stock.
4. Dividend payment and capital appreciation benefit is prolonged for a period of time after the buyback: It is to be noted that buybacks are also tax-wise efficient in comparison to dividends which attract a comparable amount of tax.
When does the companies' announce buybacks
In an ideal scenario, any company going for a buyback of its shares from the company's shareholder and promoters or just limiting it to shareholders as in the case of future PC Jewellers IPO, the market price of the stock should be in undervalued in light of the company's future business earnings. That is in a condition when the underlying intrinsic value is deemed as higher against the trending share price.
Taxation of gains from buyback
Usually the gains accrued from selling back the shares to the company are taxed as per the slab that exist for capital gains. And in a more general case is more tax-efficient.
Factors to look upon when considering a buyback
1. Buyback size: The number of shares of the total equity which the company will buy back. Higher is the size more can be the chances for profits for the shareholder.
2. Offer period for the buyback: The volume or the percentage of equity which the company will buyback from its shareholder and promoters is announced.
3. Offer price in the buyback: Also, taking into account, the current market price as well as the intrinsic value for the stock taking into all the fundamentals of the stock, the offer price at which the stock will be bought back by the company is also announced.
It is to be noted that investors needs to tap the buyback offer after careful examination as investors in a general case see an arbitrage opportunity in the buyback but may sometime be trapped as its limited to a certain extent i.e there exists an acceptance ratio.
4. Acceptance ratio: Not all the shares that an individual shareholder tenders in a buyback are accepted for sale and there remains some risk. As per the SEBI directive, the acceptance ratio is higher for the retail investor class and lesser for institutional class as it to an extent depends on the number of shares tendered by promoters of the company.
Investors with exposure upto Rs. 2 lakh worth of the stock are deemed as retail investors.