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Buyback of Shares & Other Specified Securities: Essential Conditions Explained

Overview of Buyback of Shares

The process of a corporation repurchasing its own shares from its shareholders is called buyback. A company that had previously issued shares, after paying some of its shareholders, absorbs the portion of its ownership that was previously held by many investors. There are a variety of reasons why a company may take this step. Some of these could be increasing the company's finances, a consolidation of ownership or lower valuation etc.

  • When any company has to buyback its share from its shareholders, then this process can make it appear in a good form to a great extent, which increases the attraction of investors and it can attract investors by making it look good.
  • If we talk about what does share buyback mean, the answer to this question for many companies is that it basically avoids the possibilities of acquisition or takeover by another party.
  • Many companies choose to buy back their shares every year to recover the value of their equity.
  • There are many companies that offer stock options to their employees.

If we talk about the reasons why companies choose the option of share buyback, then companies choose share buyback only to ensure that a certain level of outstanding shares is maintained. 

Conditions for Buyback of Shares:

The essential conditions for the buyback of shares are as follows:

  1. Authorization in AOA:

    The company’s articles of Association should explicitly approve share buybacks. Without such an arrangement, the AOA should be revised to incorporate the essential authorization.
  1. Limits of Buyback:

    By Board Resolution: The Company can buy back shares up to 10% or less of the total paid-up equity capital and free reserves through a Board Resolution. By Special Resolution: Buyback of shares exceeding 10% but up to 25% of the aggregate of paid-up capital (both equity and preference) and free reserves requires approval through a Special Resolution. The explanatory statement for the Special Resolution should include the points specified in Section 68(3) of the Companies Act 2013 and Rule 17(1) of the Companies (Share Capital and Debentures) Rules 2014.
  1. Debt Equity Ratio:

    The post-buyback obligation value proportion of the organization can’t surpass 2:1. This arrangement guarantees that the company keeps a healthy relationship between obligation and value after the buyback.
  1. Fully Paid-Up Shares:

    Only the company can buy back paid-up shares in a financial year.
  1. Cooling Period:

    No offer of buyback can be made within one year from the date of closure of the preceding offer of buyback. This cooling-off period prevents frequent and consecutive buybacks.
  1. Completion Period:

    Every buyback, whether through a Special or Board Resolution, must be completed within one year from the resolution’s passing date.
  1. Restriction on Issuing Similar Shares:

    Following the completion of a buyback, the company cannot issue the same kind of shares, including right issues, within 6 months, except for bonus issues or the discharge of subsisting obligations like conversion of warrants or stock option schemes, sweat equity, or the conversion of preference shares or debentures.
  1. Withdrawal of Offer:

    Once an offer of buyback is announced to the shareholders, it cannot be withdrawn. This rule ensures the commitment and fairness of the buyback process.

Methods of Buyback of Shares:

Some of the most common ways through which a company in India can buyback its shares are as follows:

  1. Tender Offer:

    Under this, a company buys back its shares from its existing shareholders on a proportionate basis at a specified time or within a fixed period.
  1. Open Market (Stock Exchange Mechanism):

    In an open market offer, any company buys back its shares directly from the market. This process of buy back involves buying back a large number of shares and is executed over a period of time through the company's brokers.
  1. Fixed Price Tender Offer:

    The company enters into this method of buy-buying shares in India through a tender. All shareholders who want to sell their shares can submit them to the company. As the name suggests, the price is set by the company. If we talk about duration then the tender offer is for a specific period and usually it is a very short period of time.
  1. Dutch Auction Tender Offer:

    This is very similar to a fixed price tender but instead of a price fixed by the company and allocated in the tender, here the shareholders can choose from a number of prices offered by the company. The minimum price of the stock is linked to the prevailing market price at that time

The Procedure of Buyback in Open Offer:

  • Step 1: After the offer letter is submitted to ROC in form SH-8, within 20 days, the offer letter must be dispatched to all equity shareholders.
  • Step 2: The offer period will be a minimum of 15 days & a maximum of 30 days from the date of dispatch of an offer letter. However, the offer period can be less than 15 days if all the members agree. 
  • Step 3: During the offer period, shareholders interested in buyback will surrender their shares.
  • Step 4: After the offer period closes, the company shall comply with the following
  • Step 5: The company must deposit the entire buyback amount in a separate account called Escrow.
  • Step 6: Verification must be completed within 15 days from the closure of the open offer, and payment must be made within 7 days after verification. 
  • Step 7: Within 21 days of closure of open offer communication to the shareholders whose buyback is rejected and return their share certificate.

Drawbacks of Buyback:

Many times the payment of dividends does not ensure good flexibility for the company. Dividends must be paid on specific dates and must be paid to all common shareholders. Whenever a company buyback shares it ensures a greater level of flexibility.

  • Dividends need to be distributed to every shareholder but when shares are bought back then the dividend can be paid only to those shareholders who choose it.
  • Apart from this, basically dividend means that the companies have to pay Dividend Distribution Tax or (DDT). In such situations, when tax is levied on Rs 10 lakh from dividend, investors will have to pay additional tax.
  • When shares are bought back, the tax rate depends on the period for which the security is held.
  • If shareholders buy back the shares after holding them for one year, they will have to pay 10% tax on their income.
  • If the sale is made within 1 year of holding the shares, short term capital gain of 15% is applicable.
  • As you are aware of the definition of share buyback, you will have a fair idea of what it means for companies but it is also an attractive proposition for investors.
  • When any company buys back its shares, the number of shares outstanding decreases and the Earnings per Share or EPS increases.
  • If a shareholder no longer owns his shares, it means that he has a larger percentage of ownership of the company's shares and a resulting higher EPS.
  • For those who decide to sell their shares, buyback means they can sell their shares at whatever price they have agreed upon.

Formalities to be followed for Buyback-

There are certain pre and post buyback formalities that need to be followed in a buyback. Such process is discussed in details below-

Pre-buyback Formalities-

  1. The company's articles must authorize such buyback. However, if the articles are silent then it can be amended by passing a SR in the GM.
  1. A special resolution must be passed in the company authorizing the buyback.
  1. A company is allowed to buy back up to 25% of the paid-up equity share capital and free reserves in a financial year.
  1. The total ratio of secured and unsecured loans outstanding on the company after the buy-back does not exceed twice the paid-up capital and its free reserves. In simple words, after such buyback the debt equity ratio of the company can be maximum 2:1.
  1. All shares or other specified securities subject to buy-back are fully paid up.
  1. A declaration of solvency is required to be filed with the Registrar of Companies (ROC) signed by at least two directors of the company, one of whom shall be the managing director, if any, in Form SH-9.
  1. It is necessary to file an affidavit stating that the board of directors of the company has made a thorough investigation of the affairs of the company as a result of which they have formed the opinion that it is and will not be able to meet its liabilities. Should be declared insolvent within a period of one year from the date of declaration adopted by the Board.
  1. The company which has been authorized by a special offer must, before buying back the shares, file an offer letter in Form No. SH.8 with the Registrar of Companies, duly dated and signed on its behalf. The board of directors of a company shall consist of at least two directors of the company, one of whom shall be the managing director, where there is one.

Formalities after Buyback:

  1. The company shall maintain a register of buybacks in Form SH-10 containing the following particulars-
  • Details of shares and securities purchased.
  • Consideration paid for shares or securities bought back.
  • Date of cancellation of shares or securities.
  • Date of liquidation and physical destruction of shares or securities.
  1. The company shall, after completion of the buy-back, file a return in Form No. SH.11 along with fee with the registrar.
  1. A certificate in Form No. SH.15 is also required to be attached to the return, signed by two directors of the company including the Managing Director, if any, certifying that the trading in securities has been done in compliance with the rules. has been. Provisions of the Act and rules made thereunder.
  1. Where a company buys back its own shares or other specified securities, it shall liquidate and physically destroy the shares or securities bought back within seven days of the last date of completion of the buy-back.
  1. After completion of the buyback, the company will not make any further issue of the same shares and securities including bonus issue, conversion of warrants, allotment of new shares except stock option schemes within a period of six months of the buyback. , Conversion of sweat equity or preference shares or debentures into equity shares.

Important Points Related to Buyback:

  • The buyback price is very important. As a stock exchange, you need to know exactly the price at which your shares will be bought back by the company.
  • Premium is another factor, the buyback price is defined as the difference between the share price of the company and the price on the date of offer. If the value of the stock of the company you own or its carrying premium exceeds the offer, you can sell your shares.
  • The size of the buyback offer is also very important as it shows that the company is willing to give up shares for the sake of shareholders and the health of the company.
  • It is important to track multiple dates in the buyback process, from announcement, opening, closing to verification of tender forms, date of approval and disposal of bids.

In addition to tracking all these factors, it is very important that shareholders also look at the company's track record of profitability, its leadership and outlook, and its growth path and take responsibility based on extensive research.

Conclusion:

Thus it can be concluded that Indian companies announce buyback in response to undervaluation position of their stocks in capital markets and they are will supported by availability of sufficient cash balance available for the same. Thus, on one hand premium offered in term of buyback prices announced offer and exit opportunity for shareholders and on the other hand it offers and opportunity for the company to use it liquidity position to extinguish its share today and issue them again in future.

It prevents takeovers and mergers, thus preventing monopolization and aiding the survival of consumer sovereignty. On the other hand, buybacks can help in manipulating the record by inflating share prices, the Price-Earnings Ratio, earnings, and shares, thus misleading shareholders. Therefore, knowledge of the impact of buybacks becomes vital, and every shareholder must reconsider all their views before purchasing shares of companies involved in the buyback process.

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