When Wipro announced its buyback, analysts immediately pinned it on the new dividend tax. Announced in the Budget, companies now have to pay 10% additional tax on dividends above 10 lakh besides the 20% distribution tax. For a company like Wipro, where promoters hold 73.4% stake, this tax has compounded matters. Considering last year’s dividend of 2,945.5 crore, the company might have to pay 172.7 crore on top of the 592.4 crore paid last year. A buyback though can save it close to 765 crore besides enhancing shareholder value. By reducing the number of outstanding shares, Wipro can not only log better earnings per share, it can also increase book value per share and possibly net a higher valuation. Even if it chooses not to cut the dividend, a buyback will help it distribute the 21,000 cash on the books (50% of total assets) in a tax-efficient manner.
Tax efficiency though is not the only reason here. Many companies are readying buyback plans to deploy surplus cash and improve return ratios. For instance, Dr Reddy’s, which is sitting on close to 4,000 crore cash, is meeting on April 18 to discuss a buyback. Even if the pharma company uses half this cash, it will improve its return on equity (FY15) by 600 basis points, taking it to about 29%.
In the case of aluminium producer Nalco, poor demand and pricing environment had pulled down its stock price from 45 to 30 by mid-February. But the low price brought some good news. Seeing that PSU shares were trading cheap, news came about that the government was considering a buyback in Coal India, NMDC, BHEL and Nalco. Without the buyback and post the dividend tax, Nalco may not make more than 8% on its surplus cash. On the other hand, its own stock offers an earnings yield of 11% and dividend yield of 5%. Little wonder then that the Nalco board will meet soon to discuss the issue.
In fact, buybacks could exceed the FY16 quantum of 1,708 crore if the government’s PSU plan materialises. In the private space too, there is potential for more companies to join the bandwagon. Excluding banks and financials, 61 companies from the BSE-200 universe are sitting on positive cash. If we add current investments to the HY16 numbers, these companies are sitting on cash and cash equivalents of around 329,000 crore (9% of market capitalisation) or 32% of total assets, which indicates that large part of assets (cash and other market investments) are not yielding much.