1. WHAT IS BUYBACK?
Buyback of shares ordinarily means company that issued the shares repurchasing them. The company pays the shareholders the market value of the shares and reclaims the previously distributed ownership. The reasons behind buy back of shares by a Company could be:
- Substantial shareholding implies widespread ownership and higher costs to the company. So in order to serve both the motives that is to bring compactness in ownership and reduce the cost of capital, buyback of shares comes into the picture.
- The market price of the shares can be highly undervalued due to various reasons. Hence a buyback supports the correction of the market price.
- The buyback of shares can also make a company’s financials look more attractive. With a reduced number of shares, the Earning per Share of the company looks more attractive.
- Buyback is often used if the promoters of a company are planning to increase their shareholding.
A Company having excess fund and does not have any good investment solution and considering it that unused Cash is costly for the Company therefore by using that Cash Company can Bay back its shares from the Market, though Companies do buybacks for various reasons, including company consolidation, equity value increase, and to look more financially attractive.
In India, a company can only buyback upto 25% of its paid-up equity capital, and can finance this share buyback using the company’s free reserves, securities premium account, proceeds of an issue of shares or other specified securities. After the share buyback, the company cannot issue the same kind of shares for a prescribed period. Instead of getting lured by the company’s premium price, one should consider factors like the need for a buyback, the company’s growth prospects and future performance, and one’s own individual investment goals, holding capacity, and appetite for risk. Once you’ve thought through all these options, only then you must decide whether you want to keep holding your shares or sell them to the company in the buyback.
2.TAX AND REGULATORY FRAMEWORK
Companies Act, 2013
Section 68-70 of the Act provides power to the Companies to purchase its own “securities” subject to certain conditions and restrictions laid down therein:
The buy-back is authorised by its articles;
A special resolution is passed at a general meeting of the company authorising the buy-back if the quantum of buyback is more than 10% of paid-up equity capital and free reserves of the company otherwise authorisation by way of Board Resolution is sufficient;
The buy-back is twenty-five per cent or less of the aggregate of paid-up capital and free reserves of the company;
The ratio of the aggregate of secured and unsecured debts owed by the company after buy-back is not more than twice the paid-up capital and its free reserves;
All the shares or other specified securities for buy-back are fully paid-up;
Income Tax Act, 1960
Section 115QA of the ITA introduced w.e.f. June 1, 2013 contains provisions for taxation of a domestic company in respect of buy-back of shares (within the meaning of Sec. 68 of the Companies Act, 2013). In effect, the incidence of tax stands shifted completely to the Company and not the recipient of the buyback proceeds.
Before the enactment of Finance Act (No 2), 2019, this section was not applicable to shares listed on a recognized stock exchange. The Finance Act (No 2), 2019 has amended section 115QA of the ITA with effect from 5th July, 2019 extending its provisions to cover distributed income on buy-back of equity shares of a company listed on a recognized stock exchange as well.
Presently the tax rate under Section 115QA is 20% + 12% surcharge + 4% cess thus making the effective tax rate to be 23.296% on the distributed income (As on the date of this article!!).
Section 10(34A) of the ITA provided for exemption to a shareholder in respect of income arising from buy-back of shares w.e.f. April 1, 2014 (i.e. Assessment year 2014-15). The Finance Act (No. 2), 2019 has also made consequential changes to section 10(34A) of the ITA extending the benefit of exemption of income from buy-back to shareholders in respect of shares listed on recognized stock exchange as well.
In short, buy-back amount received is tax exempt in the hands of shareholder and taxable in the hands of Company @ 23.296% on the distributed income.
SEBI Buy Back Regulations, 2018
These regulations are applicable for listed Companies. The same is required to be complied by the Listed entities over and above the provisions mentioned for the same in Companies Act, 2013.
A listed company can buy back its shares in any of the following manners:
- From the existing shareholders on a proportionate basis through the tender offer;
- From open market through: (i)Book building process (ii) Stock exchange;
- From odd lot holders.
- During pendency of buy back, promoter group are restricted from dealing in shares on the stock exchange or off market, including inter – se transfer promoters
- Buy back through open market operations to be restricted to 15% of paid up capital + free reserves (both on standalone and consolidated basis)
- No public announcement of buy back can be made during the pendency of any scheme of amalgamation or compromise or arrangement pursuant to the provisions of the Companies Act.
- Company cannot not raise further capital for a period of one year from the expiry of buy back period, except in discharge of its subsisting obligations.
3.VALUATION REQUIRMENT IN BUYBACK
In Listed Companies
- No methodology prescribed under SEBI Regulations for listed companies.
- However, the board needs to determine a fixed price in a tender offer or a maximum price in case of open market operations.
- Typically, Buy-Back is generally offered at a premium to the market value / book value per share but how much premium is a decision vested completely with the board.
In Unlisted Companies
As per Income Tax Act: No methodology prescribed for fixing the buy-back price however reference check to Rule 11 UA valuation / Fair Market Valuation principles to be kept in reckoning from a good governance perspective.
It is imperative to note that Section 115QA of ITA speaks about taxation on distributed income under buy-back which is calculated on consideration paid by the company on buy- back of shares as reduced by the amount which was received by the company for issue of such shares. Though the law may be silent on calculation of buy-back price but Rule 40BB of Income Tax Rules does speak about the second part of the equation viz., amount received by the company in respect of issue of share.
As per Companies Act, 2013: No methodology prescribed for fixing the Buy-Back price but generally will be the Fair Market Value as per International Valuation Standards. Further
Section 68 read along with its rules require a disclosure in the explanatory statement of the notice to shareholders meeting for the basis of arriving at the buy-back price. Ordinarily a valuation report may be obtained from a Registered Valuer to rely upon basis for Buy-back price. Based upon analysis of Rule 17 of Company (share Capital and Debentures) Rules and International Valuation Standard (IVS): –
Basis of arriving at the buy-back price can be based upon by getting a valuation report by the Registered Valuer.
- Rule suggested to apply Net Assets Method (NAV) based upon: –
NAV workout from: –
-Audited account which is not more than 6-month-old from the date of offer document; or
-Unaudited account not older than 6 months from offer document subject to limited review by Auditor of the Company.
- However, valuer can depart from the law subject to if he follows International Valuation Standard (IVS para60.1). A valuer may still issue valuation report based upon DCF method, under Income approach basis when there are departures in circumstances only if valuation performed in accordance with IVS.
Conclusion: –
Unlisted company must get valuation report from registered valuer, before buy-back to form basis for buy-back, However, listed company has to follow SEBI (Buy-Back of Securities) Regulation 2018.
For companies, buying back shares is a tax-effective way of rewarding the shareholders. During the process, the company pays a tax of 20% on the buyback amount. Additionally, the investors have to pay no capital gains tax on the money received through the buyback of shares.
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Disclaimer: The entire contents of this article are solely for information purpose and have been prepared on the basis of relevant provisions and as per the information existing at the time of the preparation by the Author. The Author of this Article does not constitute any sort of professional advice or a formal recommendation. You are kindly requested to verify and confirm the updates from the genuine sources before acting on any of the information’s provided herein above.
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