PSU Share Buyback

Forget about taxes, it can bridge the resource gap this fiscal…

The Finance Minister had recently urged PSUs to adopt the buyback route like their private sector counterparts. Buyback involves the company buying back the shares from existing shareholders at a price that is slightly higher than the market price. Typically, companies that are sitting on large cash reserves and do not have any immediate investment requirements can use these funds to buy back their shares. This is useful in two ways. Firstly, it reduces the outstanding equity of the company and hence is positive for the EPS and the price of the stock. Secondly, it is more tax efficient as compared to dividend payouts. Let us understand this aspect better.

The dividend tax on Shareholders… 

The Union Budget 2016-17 imposed an additional 10% tax in the hands of large shareholders who earn more than Rs.10 lakhs annually as dividends. This almost amounted to a triple taxation on dividends. Firstly, dividends are a post-tax appropriation and hence it does not provide a tax shield like other expenses. Secondly, dividends already attract withholding tax which is deducted by the company. Lastly, this new tax on HNIs becomes a third level on large shareholders. Comparatively, buybacks are a lot more tax efficient as they do not entail taxation at multiple levels and long term capital gains are anyways tax free in the hands of the investor. This is a kicker for the shareholders!

Private sector to PSUs… 

When the dividend tax was first announced, it was first the private sector that took the lead in announcing buybacks. Large companies like Wipro, Bharti Airtel and Infratel were among the first off the block to announce share buyback plans. At the behest of the Finance Minister, many PSU companies have also announced buyback plans. Coal India, NMDC, MOIL and NALCO are among the PSUs that have already announced buyback plans. For example, NMDC and MOIL are likely to buy back shares worth Rs.8400 crore and both the companies are 80% owned by the government of India.

Raising resources smartly…

For the government this is a smart way of raising resources. For example, the buyback of NMDC and MOIL will result in an inflow of Rs.6720 core for the government. When larger companies start buying back, the impact could be much larger. The government has been, anyways, struggling to meet its divestment target due to tepid market conditions and weak demand from FPIs. Under these circumstances, buybacks offer a way of raising resources without diluting their stake to private players. Apart from being tax efficient, it also offers much more flexibility in price setting. If taxes on diesel and petrol bailed out the government last year, it could be buybacks this year. ©

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