Buy-Back of shares refers to the process by which a company repurchases its shares from existing shareholders, usually at a price higher than the market price. Buybacks increase the percentage of shares a firm holds by reducing the number of outstanding shares available in the market.
The buyback of shares is usually done either through the open market or through the tender offer route.
Conditions For The Buy Back Of Shares
The following factors need to be taken into account by the company before it can conduct a buyback of shares:
- Enabling Provisions: The buyback of shares must be authorised by its Articles of Association (AoA). The Articles of Association are the internal constitution of a company that regulates the company’s internal administration.
- Special Resolution: The buy-back must be authorised by a special resolution that must be passed at the general meeting. However, if the buy-back is up to 10% of the total paid-up equity capital and free reserves, the board of directors may authorise the company for such a buy-back by passing a resolution at its meeting (only one such buy-back can be done in a year).
- Buy Back Limit: 25% of the total paid-up equity capital + free reserves, and not more than 25% of the total paid-up equity in that financial year.
- Debt-Equity Ratio: The debt-equity ratio should not fall below 2:1 after the buyback.
- Type of Shares That Can Be Bought Back: The shares and the specified securities should be fully paid up.
- Further, Buy Back: Only one buy-back in a year is allowed.
- Extinguishment of Shares Bought Back: Within 7 days of the completion of the buy-back.
- Further Issue of Shares: No fresh issue is allowed within 6 months of the buy-back (exceptions are Employee Stock Ownership Plans (ESOPs), conversion of debt/preference shares into equity, issue of bonus shares, and sweat equity).
Procedure Of Buy Back Of Shares
- Authorisation by Articles of Association
The first step is to establish that the company’s articles authorise the buy-back of share capital; if they don’t, the articles must be amended in accordance with the Companies Act to include such an authorisation.
- General meeting
The proposal for a share buyback must also be approved by a special resolution passed at a duly convened general meeting if the proposed buyback is more than 10% of the company’s total paid-up equity capital and free reserves.
- Submit form MGT-14 to the Registrar of Companies (ROC)
Within 30 days of the Board Resolution/Special Resolution being passed in the Board Meeting/General Meeting, as applicable, submit Form MGT-14 to the ROC together with the necessary paperwork and fees as specified in the Companies (Registration Offices and Fees) Rules, 2014.
- File declaration of solvency
Before undertaking any buybacks in accordance with the provisions outlined, the company must submit a Form SH-9 (statement of solvency) together with Form SH-8 (letter of offer).
- Letter of offer to the shareholders
The letter of offer must be sent to shareholders after filing it with the Registrar of Companies(ROC). The offer for buy-back shall remain open for a period of ten working days.
- Verification of the Offers
Within 15 days after the offer closing date, the company must complete verification of the offers that were submitted.
- Opening of a bank account
If all resolutions are approved and there are no objections, the corporation opens a separate bank account to deposit the consideration for the buyback.
- Extinguishment of shares/securities
The consideration must be paid within seven days of verification, and the acquired shares must be destroyed within seven days of the buyback’s completion.
- Filing of SH-11
Within 30 days following the completion of the buy-back, the company must file form No. SH. 11 with the Registrar together with the requisite fee and documents.
- Maintenance of the register
The company must maintain a register of its shares and other specified securities which have been bought back in Form No. SH 10.
In addition to the procedures, the rules include the following restrictions for a buy-back:
- The consideration for the buyback must only be paid in cash.
- Once the offer letter has been submitted to the ROC, the company cannot withdraw the buyback.
- Abstain from using money borrowed from banks or financial institutions to repurchase its shares.
- The company shall refrain from issuing any new shares, including bonus shares, until the closure date, except those arising out of any outstanding convertible instruments.
The Objectives Of Buyback
A share buyback is generally used to improve the shareholding of the promoters of the company. There can be other purposes for the buyback of shares. A few of them are:
- Buybacks are advantageous for shareholders. The decrease in the number of shares causes an increase in Earnings Per Share (EPS).
- To improve return on capital, return on net worth, and increase long-term shareholder value.
- To offer shareholders an extra exit strategy when shares are undervalued or thinly traded.
- To increase stake consolidation in the company;
- To deter hostile takeover offers;
- Return cash surplus to shareholders;
- To obtain the optimal financial capital structure;
- To stabilise the share price during instances of sluggish market conditions.
Methods For The Buyback Of Shares
A buyback may be done in the following manner:
- From existing shareholders on a proportionate basis through a tender offer
- From open market
- From odd lot holders
Tender Offer
A tender offer refers to an offer by a company to buy back its own shares or other specified securities with a letter of offer from the holders of the shares or other specified securities of the company. In this method, shareholders are invited to sell their shares at a certain price and within a predetermined time frame. The offered price is typically higher than the market price.
The difference between the market price of the share and the offer price of the share is the premium paid to the shareholders. The purpose of offering the premium is to persuade many shareholders to sell their shares.
In addition to the aforementioned requirements, the following steps/compliances must be met for a buyback using the Tender Method:
- Approval by special resolution or board resolution.
- Opening of an escrow account and deposit of funds prior to or at the time of the buyback;
- File the Draft Letter of Offer (DLOF), fees, and a Solvency Declaration with the Registrar of Companies (ROC) and Securities and Exchange Board of India (SEBI);
- SEBI will provide comments on the Draft Offer Letter;
- Distribution of Offer Letter to Shareholders
- Even if a qualified public shareholder does not receive the tender offer/offer form, he may still participate in the buy-back offer and tender shares according to the Board’s guidelines.
- A non-registered shareholder may also tender his shares for buy-back by providing the properly executed transfer deed for the transfer of shares in his name, the offer form, and any other required transfer documents.
- The proposed buyback of shares must be divided into two categories:
- a category reserved for small shareholders
- the general category for other shareholders
- 15% of the shares proposed for buyback will be reserved proportionally for small shareholders.
Open Market Route
Under this buyback method, the company purchases the shares directly from stock exchanges through an open offer. Under the stock exchange method/ open market method, a company can only repurchase shares that are currently listed on stock exchanges via national trading terminals. The buyback is handled through bidding centres as part of the book-building process. The company shall appoint a merchant banker and advertise the appointment to the public.
The public announcement must be made within two business days of the date of the approval of the resolution by the Board of Directors or the date of the declaration of the results of the postal ballot for a special resolution. The buy-back offer must begin within seven working days of the public announcement date and must end within six months of that date.
The company should make sure that the offer letter, disclosure of the offer to the public, and any other advertisements, circulars, brochures, or promotional materials contain relevant, accurate, and true information. The directors of the company are responsible for the accuracy of the information contained in these materials.
The Open Market Offer differs from other buyback methods like the Tender Offer. In this case, the company buys shares from the open market rather than from investors.
The Advantages Of Buy Back:
- It is an alternative method for reducing capital that does not require approval from the Court/Company Law Board(CLB)/National Company Law Tribunal (NCLT).
- In order to increase Earnings Per Share (EPS).
- To stop unwanted takeover bids.
- Return cash surplus to shareholders.
- Achieving the optimal capital structure.
- To serve the equity more efficiently.
Prohibition On Buy-Back In Certain Circumstances
- A company is prohibited from buying its own shares or securities either directly or indirectly through a subsidiary company, investment company, or group of investment companies.
- It is prohibited from buying its own shares or securities directly or indirectly if it has defaulted in repayment of the deposit or interest or redemption of debentures or preference shares or payment of dividend or repayment of a loan/ interest payable to a bank/ financial institution.
Why Do Companies Buy Back Their Shares?
- Companies can consolidate their ownership through buybacks. In other words, buybacks are the solution for promoters who wish to increase their control of the company. This is especially true when businesses anticipate takeover threats.
- Buybacks are great options for companies with surplus cash and few or no opportunities to use it elsewhere. Through a buyback, the company can use its free reserves and other permitted sources of funds to return money to investors. This act in turn boosts investors’ confidence in the company.
- The buyback strategy is used by the company’s management to rectify the stock price when they believe the stock is undervalued. Typically, the buyback is done at a price higher than the market price.
FAQ’s
- Can a company buy back its shares without passing a shareholder’s resolution?
Yes. A company may buy back shares up to 10% of its paid-up equity capital and reserves, as determined by both the standalone and consolidated financial statements of the company, without the approval of its shareholders. However, if a company intends to buy back more than 10% of its paid-up capital and free reserves, the buyback must be approved by shareholders through a special resolution under the provisions of the Companies Act.
- How does the company buy back its own shares?
A buyback may be done in the following manner:
- From existing shareholders on a proportionate basis through a tender offer.
- From open market.
- From odd lot holders.
- What are the important points to consider before participating in a buyback?
- Buyback participation is voluntary.
- Only shareholders holding shares as of the record date are eligible to tender their shares for buyback consideration.
- Examine the disclosures made by the company in the public announcement.
- Understand the number of shares, quantum, the objective of the buyback, and the maximum buyback price.
- If you are not a registered shareholder, can you tender your shares for a buyback?
Yes, if you submit the properly executed transfer deed for the transfer of shares in your name along with the offer form and any other requisite paperwork. The registrar should get the same along with the buyback offer.
- Should investors accept a share buyback offer?
Investors must analyse the price movement of the shares just before the buyback is announced. Individual investors must consider the size of the offer, price, and duration of a buyback offer. They must also consider the debt-to-equity ratio to understand the company’s fundamentals.
For some shareholders, the buyback offer is beneficial because, usually, the company concerned buys back its shares at an attractive premium (increased value) in an effort to attract more stakeholders.
For instance, let’s assume a company’s stock is currently worth Rs. 500 per share. The company may provide a price of Rs 530-550 or perhaps more in the event of a buyback. This premium will entice investors to return their shares to the company.
- What is the primary difference between dividends and buybacks of shares?
The two ways that companies pay their shareholders when they have surplus funds are through the buyback of shares and dividend payouts. Dividends are returns distributed to shareholders from the company’s profits or earnings. In a buyback process, a company buys back the shares it has issued to its stockholders.
- How to participate in the buyback of shares?
A person’s eligibility to take part in the buyback process is determined by two factors:
- Whether the individual is already a shareholder;
- Whether the shares are in physical or Demat form.
To be eligible to participate in the tender offer buyback, an individual must be an existing shareholder as of the record date of the buyback offer. In the case of an open market offer, any shareholder holding company shares during the buyback period is eligible to participate in the buyback.
The shares in the tender offer can either be in physical or Demat form. While only Demat shareholders can typically participate in a buyback offer, in the case of an open market offer.
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