It’s been one heck of a rollercoaster for the stock markets ever since the outbreak of the pandemic. Indian giants, especially the ones under the Nifty50 and the SENSEX play a huge role in moving the markets. While some have lost tremendously, some have come out of it as winners. IT giants have surely emerged as the major champions. And just recently, the mega TCS buyback was announced to pass on this win to its shareholders.
Tata Consultancy Services Ltd. announced this repurchase on 7th October 2020. They sanctioned an INR 16k cr worth of buyback to reward its stakeholders. This includes a total of 5.33 crore shares or 1.42% of the total paid-up equity. The buyback valuation is INR 3k per share making the tech giant the first company after Reliance Industries to cross INR 10 lakh cr market capitalization.
And note, this is not the first buyback announced by the giant. The IT giant had previously made buybacks worth around INR 16k cr each in 2017 and 2018 as part of its long-term capital allocation policy of returning excess cash to shareholders. And, of course, the buybacks were conducted at a premium to the company’s market value.
But is this what was expected of TCS? The pandemic has made winners of the IT giants. TCS alone has come at 4.5% revenue growth. These companies have tons of cash lying around. So, with approx INR 50k cr net cash in their hands, TCS decided to use a small chunk of it to reward the shareholders. But is a 16k cr. worth buyback (a sheer 1.42% of paid-up equity) going to have a positive impact on the stocks of TCS? Well, stocks are currently at 27 times two years forward. In the last three months alone, the stock price has skyrocketed by 20%. Nonetheless, the buyback is a positive development for the IT sector. It could be a precursor for other IT companies to follow suit – Wipro did make an announcement a few days after the TCS buyback! It has almost INR 30k cr of net cash.
Taxes and Buy back of shares
They say, nothing is certain except death and taxes. Much like TCS, huge companies having high distributable cash, generally reward its stakeholders in two ways:
- Declare dividend; or
- Purchase its own shares (i.e. buyback its shares)
Earlier, the amount distributed as buyback of shares was chargeable to capital gains in the hands of shareholders while the companies were not liable to pay any tax. And being treated as capital gains, the income tax was paid at lower rates on buyback of shares. So, to avoid taxes, companies started resorting to buybacks instead of declaring dividends. As an anti-tax avoidance measure, the government introduced Section 115QA in the Finance Act, 2013. So now the companies are liable to pay tax on the buyback of shares while the shareholders do not have to pay any tax on the same. This move made buybacks and dividends alike from the tax perspective of the companies.
But after the Budget 2020, dividends and buybacks are no longer at par from the tax perspective of a company.
So what changed? The government removed the 10% DDT aka Dividend Distribution Tax payable by the companies. The dividend is now taxable at the hands of shareholders and not the companies. As a result, promoters and high shareholders now have to pay as high as 40% tax (highest tax slab) on dividends. Also since the income is taxable in the hands of the shareholder, TDS at a rate of 10% (if the amount exceeds INR 5000) would be applicable. On the flip side, shareholders are exempt from paying any taxes in case of buybacks.
This said buybacks have emerged as the better choice of returning capital to shareholders in comparison to dividends. And looks like the Indian Government agrees too. Recently, Centre has asked at least eight state-run companies to consider share buybacks in the current financial year. The companies asked include miner Coal India , power utility NTPC , minerals producer NMDC and Engineers India Ltd. Besides, being tax-friendly for promoters to take the cash out, buybacks also boost companies’ financials, which is another positive. The trending ‘buyback’ route will lure cash rich firms to fundamentally improve investor confidence.