Why do listed companies buyback common equity? - some analysis from India

Why do listed companies
buyback common equity?
Some analysis from India

The basics of buybacks
 Executive management may propose a buyback of equity to board
 Board/Board committee deliberates and passes a resolution
 Certain buyback programs will require shareholder approval
 Key parameters for a buyback program -
A. Maximum number of shares that can be bought back
B. Maximum amount of capital that can be spent for buying back shares
C. Maximum price that can be paid for buying back a share
D. Start and End date for buyback program
E. Class of equity
F. Method of buyback: Open market/Tender/Accelerated(US)
Neeladrinath Sarangi, HKU MBA

Mechanics of a buyback program
 There are typically, regulatory limits on some of the parameters -
A. Upto 25% of fully paid-up shares may be repurchased
B. Upto 25% of equity capital (and free reserves) may be spent on buying back
securities. If greater than 10% is to be spent, shareholder approval is required.
C. A buyback program may extend over a maximum of 12 months (reduced further)
D. A buyback program deals with only a single class of equity
E. A buyback program cannot be launched within 12 months of a previous program
 Backdoor entry for increasing promoter shareholding/delisting – not granted!?
 Debt covenants dealing with leverage may limit buyback size
 Buyback may be financed by share premium, free reserves and other classes
of equity capital

Equity capital history
Date
Class of
shares
No. Of
shares
Face Value $ Premium $
No. of
shareholders
Jan 2000 Class A 100 10 0 9
Jan 2000 Class A 85 10 0 7
Mar 2002 Class B 5 200 0 2
Mar 2002 Class B 5 200 100 2
Sep 2006 Class A 1,000,000 10 110 7
Oct 2006 Class A 500,000 10 120 5
Oct 2006 Class A 200,000 4 50 2
Jul 2007 Class A 10,000,000 10 130 49
Jul 2007 Class A 10,000,000 10 135 40
HKU MBA & Company
Date (all in $,
except Date)
Class A
equity (FV)
Class B
equity (FV)
Class A
equity(Prem)
Class B
equity(Prem)
Retained
earnings
Jan 2000 850 0 0 0 0
Mar 2002 850 1,000 0 500 10M
Oct 2006 5,800,850 1,000 70,000,000 500 100M
Jul 2007 105,800,850 1,000 1,420,000,000 500 1000M
Offered equity Paid-up equity Equity raising
Date (all in $,
except Date)
Class A Fully
Paid-up
Class A Partly
Paid-up
Class B Fully
Paid-up
Class B Partly
Paid-up
Jan 2000 850 0 0 0
Mar 2002 850 0 1,500 0
Oct 2006 65,000,850 10,800,000 1,500 0
Jul 2007 1,515,000,850 10,800,000 1,500 0
Promoters & associates 2nd round promoter infusion with superior rights
2nd round with existing Class A shareholders A public company; equity investment by new shareholders
Shares may be repurchased via
private agreements thus far

Equity capital history
Date
Class of
shares
No. Of
shares
Face Value $ Premium $
No. of
shareholders
Nov 2010 Class A 50,000,000 10 140
>49,
Everybody
Dec 2010 Class A 50,000,000 10 100 1,000,000
HKU MBA & Company
Date (all in $,
except Date)
Class A
equity (FV)
Class B
equity (FV)
Class A
equity(Prem)
Class B
equity(Prem)
Retained
earnings
Dec 2010 605,800,850 1,000 6,420,000,000 500 10B
Offered equity Paid-up equity Equity raising
Date (all in $,
except Date)
Class A Fully
Paid-up
Class A Partly
Paid-up
Class B Fully
Paid-up
Class B Partly
Paid-up
Dec 2010 7,015,000,850 10,800,000 1,500 0
Initial Public Offering
1.1 0.8
2.3
0.5
5.3
Retained earnings
Revaluation
reserve
Translation reserve
Contingency
reserve
Remuneration
reserve
Remaining
Maximum buyback size determination for common stock (Class A)
Capital limit:
Fully paid-up capital = (7,015,000,850+1,500) = 7,015,002,350
Free reserves = 5,300,000,000
25% of fully paid-up capital and free reserves = 0.25 * 12,315,002,350 = $ 3,078,750,587.50
Securities limit:
Number of fully paid-up class A shares = 60,500,085
25% of number of fully paid-up class A shares = 15,125,021.25 shares
Hence upto 15,125,021 shares may be repurchased using upto $ 3,078,750,587.50
Structuring a buyback
Shares may be repurchased only via
regulated transaction when listed

The Holy trinity of a buyback
Buyback
Buyback
Price
Buyback
size
Number
of
shares

Visualizing the buyback
X axis: Range of buyback price
Xmin = $100; Xmax = $200
Y axis: Number of shares repurchased
Ymin = 0 shares; Ymax = 15,125,012 shares
Z axis: Capital utilized in buyback program
Zmin = $0; Zmax = $ 3,078,750,587.50
Xmin = $100; Xmax = $300
Zmin = $0; Zmax = $ 3,078,750,587.50
Xmin = $100; Xmax = $600
Zmin = $0; Zmax = $ 3,078,750,587.50
Successful buyback Partially “successful” buyback An even lesser “successful” buyback
Software by http://www.math.uri.edu/

 Maximum buyback price usually based on price levels over the weeks leading
upto the management recommendation
 Too high – remaining shareholders penalized
 Too low – poor acceptance rate, viewed unfavorably
 Buyback not permitted if there are pending dues/unmet obligations and likely
default in the following year
 Buybacks cannot be launched when there is an issuance of the same class of
equity capital, a scheme of amalgamation or restructuring.

 Withdrawal of buyback program not permitted after public announcement.
 Controlling shareholder and insiders cannot deal in equity securities after
passage of buyback resolution except as part of buyback.
 Escrow account
a. Security for performance of obligations
b. POA to manager of the buyback
c. Used to collect penalties in case of contingencies
 Repurchased equity is extinguished/added to treasury stock

Consequences & costs of a buyback
program
 No further capital raising by issue of same class of equity for 6mo/24mo
 Corporate actions such as stock splits, bonus issue of shares and other
transactions affecting equity capital cannot be initiated during the buyback
program
 No new buyback programs for 12mo from close of previous, unless shareholder
approval / 100% utilization
 Appointment of financial intermediaries – manager of the buyback, banks
 Auditor involvement & fees; Coordination with share registrar
 Compliance officer with supporting staff
 Director & other transaction party liabilities; Due Diligence responsibilities

Consequences & costs of a buyback
program
 Preparation and filing of offer documents, printing, dispatch of letters and
forms to shareholders; processing of received tenders (for tender buybacks)
 Escrow commitment (~25%, graded by size; Cash+BG+Liquid Secs)
 Periodic disclosures (SE announcements & SE+Secretarial filings) on actual
repurchases; Significant administrative costs
 Other disclosures: not repurchasing proportionate quantity (open market
buybacks)
 Controlling shareholder declarations – intention & recent transactions
 Failure of transaction if disclosed minimum not achieved; Minimum usually set
as 0 shares

Different methods of buyback of listed
equity
Share buyback
Open Market
method
Stock
Exchange
Book
building
Tender
method
Tender
If buyback size ≥15%
of paid-up equity
capital + Free
reserves
Privately
negotiated
transactions/
Block deal/
Bulk deal/ Off-
market

The Tender method of buyback
 Entitlement on a proportionate basis
 15% reservation for small shareholders
15%
85%
34
20
30
10
6
SHP, Number of shares
Con.SH
SH1
SH2
SSH1
SSH2
Shareholder Category
Holding on
record date
Entitlement Max tender
Con. SH Other 34 7 (35%) 34
SH1 Other 20 4 (20%) 20
SH2 Other 30 6 (30%) 30
SSH1 Small 10 2 (10%) 10
SSH2 Small 6 1 (5%) 6
Total 100 20 80
Buyback of 20 shares
Buyback of
20% of
common
equity
The Tender offer
15% of
buyback size =
3 shares

The Open Market method of buyback
Stock Exchange:
 Company opens share account with stock broker (usually the brokerage
business of the manager of the buyback)
 Company management is advised by the manager of the buyback and
repurchases shares
 The repurchase transactions are done just as other transactions on the “floor”
of the exchange
 Daily/Weekly reporting of actual repurchases via stock exchange
announcement by the company after close of the day’s trading
 Until recently, no legal/regulatory penalty to force repurchase of shares after
buyback launch; Now 50% is mandatory, some force majeure exceptions

Book building:
 Shareholders as on record date, invited to bid on their holdings
 Actual/Final buyback price determined after book has been built
Shareholder
Holding on
record date
Bid quantity Bid price $
Con. SH 34 9 10.00
SH1 20 4 9.95
SH2 30 22 11.05
SSH1 10 4 10.05
SSH2 6 5 9.90
Total 100 44
Bid price $ Bid quantity
Accepted
quantity
Shareholder
9.90 5 5 SSH2
9.95 4 4 SH1
10.00 9 9 Con. SH
10.05 4 2 SSH1
11.05 22 0 SH2
Total 44 20
Bidding Book building
Shareholder Repurchased Price $
Consideration
$
SSH2 5 10.05 50.25
SH1 4 10.05 40.20
Con. SH 9 10.05 90.45
SSH1 2 10.05 20.10
Total 20 10.05 201.00
Buyback results
Buyback of 20 shares, Maximum price: $10.50;
Buyback size: $250.00
Ascending

Book building:
 Limiting of successful bids by number of shares, maximum price or consideration
Bid price $ Bid quantity
Accepted
quantity
Shareholder
9.90 5 5 SSH2
9.95 4 4 SH1
10.00 9 9 Con. SH
10.05 4 2 SSH1
11.05 22 0 SH2
Total 44 20
Book building
Shareholder Repurchased Price Consideration
SSH2 5 10.00 50.00
SH1 4 10.00 40.00
Con. SH 9 10.00 90.00
SSH1 0 0 0.00
Total 18 10.00 180.00
Buyback resultsAscending
Shareholder Repurchased Price Consideration
SSH2 5 10.00 50.00
SH1 4 10.00 40.00
Con. SH 1 10.00 10.00
SSH1 0 0 0.00
Total 10 10.00 100.00
Buyback results

Stock price movement over the buyback
period
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
1 91 181
ScaledtoAveragepriceonopendate
Trading days from Buyback offer open date
Price movement in major buyback programs in FY2010 & FY2011; Each colour represents an
open market- stock exchange buyback program
Price rallies in
the months
following the
launch

Relationship between HPR and
Completion rate
0%
20%
40%
60%
80%
100%
120%
140%
-100% -50% 0% 50% 100% 150% 200%
Completionrate
HPR
LOESS
Sample
Pertains to Open market-stock exchange buyback programs from Apr 1, 2007 to Jan 31, 2013
HPR: Holding period return (proxy for trend of share price during buyback period); LOESS: Locally weighted scatter-plot smoothing

Completion rate
SUMMARY OUTPUT
Regression Statistics
Multiple R 0.69793
R Square 0.487106
Adjusted R Square 0.460111
Standard Error 0.262575
Observations 21
ANOVA
df SS MS F Significance F
Regression 1 1.244098 1.244098 18.04467 0.000435
Residual 19 1.309964 0.068945
Total 20 2.554063
Coefficients Standard Error t Stat P-value Lower 95% Upper 95% Lower 99.0% Upper 99.0%
Intercept 0.623523 0.059303 10.51414 2.33E-09 0.4994 0.747646 0.45386 0.793185
HPR -1.01475 0.238883 -4.2479 0.000435 -1.51474 -0.51476 -1.69818 -0.33132
The ANOVA results indicate that although the regression could explain only 46.01% of the relationship in the HPR range [-50%,+25%], there
is a strong, significant relationship as evidenced by F and t Stats of Intercept and HPR being beyond Significance F and Lower 99.0% and
Upper 99.0% of Intercept and HPR respectively.

Completion rate
S.No HPR Compl R HPR Rank
Compl R
Rank
d dsq
1 -68.92% 11.56% 1 5 -4 16
2 -26.19% 100.00% 2 28 -26 676
3 -25.81% 100.00% 3 29 -26 676
4 -16.66% 100.00% 4 27 -23 529
5 -13.58% 100.00% 5 26 -21 441
6 -11.05% 49.80% 6 17 -11 121
7 -10.75% 94.48% 7 24 -17 289
8 -10.47% 12.79% 8 6 2 4
9 -7.93% 50.97% 9 18 -9 81
10 -6.23% 33.13% 10 13 -3 9
11 -0.45% 100.00% 11 30 -19 361
12 0.35% 98.04% 12 25 -13 169
13 1.05% 64.48% 13 22 -9 81
14 3.15% 58.62% 14 21 -7 49
15 3.46% 66.43% 15 23 -8 64
16 7.42% 29.16% 16 11 5 25
17 30.46% 6.73% 17 2 15 225
18 36.18% 18.20% 18 9 9 81
19 38.08% 31.33% 19 12 7 49
20 43.95% 6.38% 20 1 19 361
21 45.24% 9.62% 21 3 18 324
22 54.18% 42.85% 22 14 8 64
23 57.19% 49.59% 23 16 7 49
24 59.59% 52.03% 24 19 5 25
25 73.82% 14.42% 25 7 18 324
26 85.74% 58.26% 26 20 6 36
27 139.40% 18.48% 27 10 17 289
28 149.89% 10.91% 28 4 24 576
29 155.46% 46.54% 29 15 14 196
30 155.74% 15.29% 30 8 22 484
Sum 6674
Spearman’s rank correlation coefficient -0.4848
t value -2.9327
p value 0.9935
Null hypothesis Rejected
The test results indicate that the probability that the
null hypothesis (Spearman’s coefficient = 0; There is no
correlation between HPR and Compl R) is true is 0.65%.
We may thus assume that there is a strong negative
correlation between HPR and Compl R. In other words,
the holding period return over the buyback period and
completion rate of the buyback are inversely related.
Increase in prices are linked to lesser amounts deployed
in actual share repurchases.
Compl R: Completion rate

Why do listed companies buyback their
equity?
Stated management rationale for buyback – the usual reasons!
“Company’s stock is undervalued”
“Improvement in EPS, ROE and other vital metrics”
“Returning excess cash to shareholders”
“Maximize shareholder value”
…
…
etc

Looking at the data...
April 1, 2004 March 31, 2012

The stats
 155 buyback programs were announced over the period.
 86.5% of all buybacks were via open market route.
 Average size of buybacks was INR 189.45 Cr. If RIL’s INR 10,440 Cr buyback in
2012 is not included, average size is INR 122.89 Cr.
 Average size of buybacks via tender route was INR 172.18 Cr, while that via
open market route was INR 115.11 Cr. The RIL 2012 buyback has not been
considered for this statistic.
 Average completion rate of buybacks was approximately 62.63%.
 Average completion rate of buybacks via tender route was 85.09%, while that
via open market route was 58.74% approximately.
1 Crore
= 10 Mn
Source: Analysis of data from Bloomberg, PRIME Database and company filings

The sample sets
 Listed companies with market capitalization > INR 100 Cr as of Mar 31, 2012
 Split into three sample sets
NBB
•Never announced buyback
program
•126 firms
BBN
•Announced atleast one buyback
•Observations pertaining to the
year of the buyback
announcement
•25 firms
BBY
•Announced atleast one buyback
•Observations pertaining to the
year(s) other than those with
the buyback announcement(s)
•25 firms
Financial data from FY05 to FY12
1 Crore
= 10 Mn

Base set characteristics
48%
11%
23%
17%
Sample composition by 2012 Mcap
Microcap Smallcap Midcap Largecap
66
176
226
210
24
70
88
21
158
41
0 1
40
124
0
50
100
150
200
250
Micro Small Midsized Large
Numberoffirmsinsample
2012 Revenue (INR Cr)
Microcap Smallcap Midcap Largecap
BB and NBB sample sets selected from base set

Sample of non-buyback firms
-20,000
-15,000
-10,000
-5,000
0
5,000
10,000
15,000
20,000
25,000
30,000
-1,00,000 -50,000 0 50,000 1,00,000 1,50,000 2,00,000 2,50,000 3,00,000 3,50,000 4,00,000 4,50,000
2012NetIncome(INRCr)
NBB Firms
Bubble size: 2012 Market cap (INR Cr)

Sample of buyback firms
-500
0
500
1,000
1,500
2,000
2,500
3,000
3,500
-5,000 0 5,000 10,000 15,000 20,000 25,000 30,000
2012NetIncome(INRCr)
BB Firms
Bubble size: 2012 Market cap (INR Cr) Note: RIL not included in this representation.

Market trend and buyback
announcements
0
2
4
6
8
10
12
0
1,000
2,000
3,000
4,000
5,000
6,000
Apr 2004 Apr 2005 Apr 2006 Apr 2007 Apr 2008 Apr 2009 Apr 2010 Apr 2011
Buybackannouncements
CNX500
Buyback announcements CNX 500

Buybacks - Industry breakdown
Industry Size (INR Cr) % Number % Average Size (INR Cr) Avg Size rank
Diversified 13,863.84 47% 10 6% 1,386.38 1
Pharmaceuticals 3,428.67 12% 18 12% 190.48 3
Energy 2,917.96 10% 6 4% 486.33 2
FMCG 1,509.97 5% 8 5% 188.75 4
Construction & real estate 1,491.72 5% 9 6% 165.75 6
Media 1,257.66 4% 9 6% 139.74 7
Automobiles 1,076.17 4% 6 4% 179.36 5
Materials 848.39 3% 17 11% 49.91 11
Chemicals 750.07 3% 12 8% 62.51 8
Information Technology 557.97 2% 18 12% 31.00 15
Financial services 507.66 2% 12 8% 42.31 13
Capital goods 409.21 1% 10 6% 40.92 14
Telecommunications 382.61 1% 9 6% 42.51 12
Jewellery 158.62 1% 3 2% 52.87 9
Logistics 87.33 0% 3 2% 29.11 16
Electrical & Electronics 66.86 0% 4 3% 16.72 17
Other 50.00 0% 1 1% 50.00 10
Total 29,364.71 155

Buybacks - Industry breakdown
The majority of share buybacks in India are by a few firms in a few industries. There are some firms which pursue buybacks every few
years.
Industry Number of serial
Buybacks
Firm 1 Firm 2 Firm 3 Firm 4
Diversified 7 SRF Reliance Inds Bhagyanagar Ind Ltd
Pharmaceuticals 9 FDC GSK Amrutanjan Abbott India
Energy 4 R Infra
FMCG 5 Godrej CP HUL
Construction & real estate 2 Rain Commodities
Media 4 Deccan Chronicle ETC Networks
Automobiles 0
Materials 7 Jindal Polyfilms HEG Monnet Ispat
Chemicals 5 ICI India GeeCee Ventures
Information Technology 6 Mastek Avantel Softsol
Financial services 8 Indiabulls CRISIL India Infoline Apollo Finvest
Capital goods 2 AveryIndia
Telecommunications 6 MRO-TEK Sasken Valiant
Jewellery 2
Goldiam
International
Logistics 2 Aegis Logistics
Electrical & Electronics 0
Other 0

equity?
Is it to do with Cash? Are buybacks initiated by companies
with high cash levels or excess cash?

Cash levels and Buybacks
Distribution
parameter
BBY BBN NBB
Q1 0.44% 1.00% 0.82%
Q3 6.00% 5.00% 4.80%
Mean 1.74% 2.51% 2.35%
Count 24 79 563
Unadj Skew 1.77 3.74 4.22
Unadj Kurtosis 2.78 17.86 25.06
Unadj Mn 2.53% 4.18% 4.02%
Skew 0.90 0.52 0.38
Kurtosis 0.08 -0.87 -0.95
Separate variance t test Paired t test
BBY NBB BBY BBN
Mean 1.74% 2.96% 1.74% 2.50%
Variance 0.000122 7.55E-05 0.000122 0.000106
Observations 24 369 24 24
Pearson Correlation NA -0.1552
Hypothesized Mean Difference 0 0
df 25 23
t Stat -5.29 -2.28
P(T<=t) one-tail 8.87E-06 0.01608
t Critical one-tail 1.71 1.71
P(T<=t) two-tail 1.77E-05 0.032159
t Critical two-tail 2.06 2.07
0
10
20
30
40
50
0% 1% 2% 3% 4% 5% 6%
Numberofobservations
Cash as % of total assets
Distribution of observations
BBY BBN NBB
Cash levels prior to buyback announcements for BBY,BBN and
the same for NBB at the time of announcements by BBY, BBN
NBB has higher cash level
as compared with BBY in
the buyback years
BBN in the years without
buyback has higher cash
level as compared with
BBY in the buyback years
Comparing the sample distributions
Are the means of the
populations different?

Cash growth and Buybacks
Distribution
parameter
BBY BBN NBB
Q1 -19.79% 8.54% 1.07%
Q3 68.26% 71.61% 59.03%
Mean 17.46% 32.98% 26.97%
Count 17 44 379
Unadj Skew 3.49 2.03 3.45
Unadj Kurtosis 14.17 5.92 21.56
Unadj Mn 33.80% 46.55% 42.57%
Skew 0.49 0.49 0.30
Kurtosis 1.25 -0.69 -1.11
BBY NBB BBY BBN
Mean 17.46% 26.97% 17.46% 34.14%
Variance 0.043075 0.029248 0.043075 0.031992
Pearson Correlation NA -0.20149
Df 17 16
t Stat -1.86 -2.29
P(T<=t) one-tail 0.040081 0.017914
t Critical one-tail 1.74* 1.75
P(T<=t) two-tail 0.080161 0.035827
0
10
20
30
40
50
0% 1% 2% 3% 4%
3 year CAGR of cash
Distribution of observations
NBB BBY BBN
Cash growth prior to buyback announcements by BBY,BBN and
over the same periods for NBB
Comparing the sample distributions
* This test is single tailed and at 5% significance level, null hypothesis is rejected.
NBB has higher cash
growth as compared with
BBN in the years without
buyback has higher cash
growth as compared with

Excess cash and Buybacks
BBY NBB BBY BBN
Mean 6.55% 7.52% 6.55% 8.30%
Variance 0.002473 0.00111 0.0024732 0.0014199
Pearson Correlation NA 0.030465
Df 24 23
t Stat -0.95* -1.39*
P(T<=t) one-tail 0.17654 0.088174
t Critical one-tail 1.71 1.71
P(T<=t) two-tail 0.353079 0.176348
Excessiveness of cash measured in terms of current liabilities. Excess cash = Cash as a % of current liabilities. The primary motive for a firm to hold
cash is to meet its current liabilities and thus maintain adequate solvency.
Excess cash prior to buyback announcements for BBY,BBN and the same for NBB at the time of announcements by BBY, BBN
No statistically significant
difference in excess cash
levels between NBB and
difference in excess cash
levels between BBN in the
years without buyback and
* These tests are single tailed and at 5% significance level, null hypothesis are accepted for both.

Excess cash in NBB
Is excess cash retained by NBBs for pursuing strategic investments such as acquisitions, expansions, restructuring and diversification?
Compare
• 3 year CAGR of cash just prior to a “jump” in investing cashflows of NBB firms in jump years
with
• 3 year CAGR of cash of NBB firms in years without jump.
“Jump”: 33% increase in investing cashflows in a fiscal year.
0
3
6
9
0% 20% 40% 60%
Distribution of 3yr cash CAGR prior to jump in NBB sample
Mean n
NBB (in years without jump) 22.54% 192
NBB (in years with jump) 31.09% 101
Standard deviation of NBB (without jump) 0.1544
Z score 0.5539
difference in 3 year CAGR
excess cash between NBB
firms in years with jump
and NBB firms in years
without jump
P ≈ 29% for computed Z score

equity?
Are buybacks a substitute for dividends?

Earnings and Dividend growth
 If buybacks are capital distributions in place of dividends, there should be a change in earnings-dividend relationship after the
buybacks.
0
1
2
3
4
5
6
-70% -30% 10% 50% 90% 130% 170%
Dividend growth over 1FY / Net income growth over 1FY
Pre Buyback Post Buyback
Separate variance t test
Mean 33.72% 37.29%
Variance 0.1061506 0.3575202
Observations 29 31
Hypothesized Mean
Difference
0
df 47
t Stat -0.29
P(T<=t) one-tail 0.386645
t Critical one-tail 1.68
P(T<=t) two-tail 0.773289
t Critical two-tail 2.01
difference in the ratio of
dividend growth to net
income growth in a BB
firm before buyback and
after buyback
Are the means of the populations different?

equity?
Are buybacks pursued to boost RoE and other return metrics?

RoE before and after Buybacks
0
1
2
3
4
5
6
7
8
-30% -21% -12% -3% 6% 15% 24% 33%
Change in ROE over 1FY
Mean -1.49% -5.88%
Variance 0.0244401 0.0155523
Observations 43 32
Hypothesized Mean
Difference
0
df 73
t Stat 1.35
P(T<=t) one-tail 0.090361
P(T<=t) two-tail 0.180723
difference in the quantum
of change in RoE in a BB
firm before buyback and
after buyback

equity?
Are buybacks a means of signaling to the market and
influencing the stock price?

Price performance of stock being
repurchased
 Analysis of excess returns in 22 buyback programs across industries, market
cycles and completion rates
 Excess return = Daily return on stock being repurchased / Daily return on
comparable sectoral index on the same day
 Excess return computed on days when shares were actually repurchased
during the lifetime of the buyback program
 Volatility is computed as standard deviation

repurchased
 Key metrics
 Measurement intervals
ADER
VADER
AIDPV
1yr Pre
Post BR
BB period
BB days
1yr Post
Average daily excess return of stock having buyback program
Volatility of the average daily excess return of stock having buyback program
Average of the intraday price movement (high-low) as a % of the day’s low
The entire calendar year prior to the date of board resolution on the buyback
From the board resolution date till the date of commencement of the buyback
From the commencement of the buyback till its closure
On the days in the BB period when shares of the company were bought back in the NSE
The entire calendar year from the date of the closure of the buyback

repurchased
 None of the selected 22 firms have issued or redeemed significant number of
shares (except via the buyback) in the 1yr Pre and 1yr Post period
 If buybacks allowed firms to influence the share price, atleast for the
duration of the buyback,
ADER for BB period and especially on BB days should be higher than for 1yr Pre.
Further, VADER and AIDPV for BB period and BB days should be lower than for 1yr Pre.

repurchased
Groups Count Sum Average Variance
1yr Pre 22 -0.01519 -0.00069 2.82E-06
Post BR 22 -0.01198 -0.00054 5.48E-05
BB Period 22 0.003474 0.000158 5.83E-06
BB days 21 0.012383 0.00059 2E-05
1yr Post 19 0.003281 0.000173 3.77E-06
ADER : 1 factor ANOVA
Source of
Variation
SS Df MS F P-value F crit
Between
Groups
2.48E-05 4 6.21E-06 0.348161 0.844761 2.461698
Within
Groups
0.0018 101 1.78E-05
Total 0.001825 105
difference in the excess
return of the stock before
the buyback, during the
buyback and after the
buyback

repurchased
1yr Pre 22 0.588934 0.026770 5.94562E-05
Post BR 22 0.582528 0.026479 0.000155699
BB Period 22 0.507383 0.023063 6.72996E-05
BB days 21 0.487227 0.023201 5.42118E-05
1yr Post 19 0.535391 0.028178 0.000178637
VADER : 1 factor ANOVA
Source of
Variation
Between
Groups
0.000434 4 0.000109 1.07221304 0.374304 2.461698
Within
Groups
0.010231 101 0.000101
Total 0.010666 105
difference in the volatility
of excess return of the
stock before the buyback,
during the buyback and
after the buyback

repurchased
1yr Pre 22 1.14558 0.052072 0.000208
Post BR 22 1.209345 0.05497 0.000326
BB Period 22 1.145743 0.052079 0.000438
BB days 21 1.062154 0.050579 0.000751
1yr Post 19 0.92275 0.048566 0.000109
AIDPV : 1 factor ANOVA
Source of
Variation
Between
Groups
0.000454 4 0.000114 0.306544 0.873004 2.461698
Within
Groups
0.037416 101 0.00037
Total 0.037871 105
difference in the intraday
price volatility of the
stock before the buyback,
during the buyback and
after the buyback

equity?
If buybacks are not about returning cash, dividend
substitution, return metrics, signaling to the market…etc,
what could they be about?

equity?
How about earnings volatility? And cashflow volatility?
Rather than being a substitute for dividends, could they
be complements?

Earnings and cashflow volatility Vs
Buybacks
 Company managements typically avoid increasing or decreasing dividends
significantly in a fiscal year to avoid surprising shareholders. Management of
shareholder expectations means just meeting their linear extrapolations of
earnings growth.
 In this context, if a company experiences earnings volatility, distributing it
through dividends is a challenge. Perhaps, some of these firms opt to
distribute such volatile earnings by buybacks rather than dividends to avoid
drastically changing investor expectations on dividends. While special
dividends may allow for distribution of such excess earnings, it nonetheless
tends to affect investor expectation, despite management’s highlighting the
unique circumstances behind such special dividends.
 Volatile earnings have two components: accrual and cash flow. Dividend
decisions are typically read from the net income angle by investors and hence
tend to be accrual based.

Earnings and free cashflow volatility Vs
Buybacks
 To test the distribution of volatile earnings hypothesis, the volatility of net
income and cashflows for firms which have pursued buybacks (and also pay
dividends) with firms which have not pursued buybacks (but pay dividends)
has been compared.
 Volatility has been computed for each reporting year as the absolute
difference between that year’s net income or free cashflow as the case may
be with the average net income or free cashflow (as the case may be),
expressed as a % of the later

Earnings volatility
0
20
40
60
80
100
120
0% 80% 160% 240% 320% 400%
Net income volatility
BB firms NBB firms
BB Firms NBB firms
Mean 54.76% 89.83%
Variance 0.3790985 3.0421384
Observations 169 1053
Hypothesized Mean
Difference
0
df 695
t Stat -4.90
P(T<=t) one-tail 6.08912E-07
P(T<=t) two-tail 1.21782E-06
Large, statistically
significant difference in
the volatility of net
income between BB firms
and NBB firms
NBB firms have higher
volatility of net income as
compared with BB firms

Free cashflow volatility
BB Firms NBB firms
Mean 2300.92% 485.45%
Variance 14672.423 787.41087
Observations 136 1053
Hypothesized Mean
Difference
0
df 137
t Stat 1.74
P(T<=t) one-tail 0.04189035
P(T<=t) two-tail 0.0837807
0
50
100
150
200
250
300
0% 300% 600% 900% 1200%
FCF Volatility
BB firms NBB firms
Large, statistically
significant difference in
the volatility of free
cashflow between BB
firms and NBB firms
BB firms have higher
volatility of free cashflow
as compared with NBB
firms

equity?
 Cash levels have little to do with share buyback decisions taken by firms
 Share buybacks are distributions to shareholders over and above dividends
 Buybacks have marginal to no significant effect on financial return metrics.
Financial return profile is likely to be inferior post buyback as against
reporting periods prior to the buybacks
 Buybacks have no positive (adjusted) effects on the stock. There is no alpha
returns or reduction in risk. Shareholders and investors do not buy into
management’s signal about the undervaluation of the stock.

equity?
 Firms opt to distribute earnings to shareholders via share buybacks when their
free cashflow is highly volatile and this volatility is poorly reflected in accrual
accounting based net income on which dividend decisions are read by
shareholders. Such firms have very little requirement to hold cash and
managements prefer to return such excess free cashflow to shareholders.
 However not all such firms may use share buybacks to distribute abnormal
cashflows, with some managements using special dividends, increasing
dividends or accreting cash, anticipating future opportunities.

Thank you

Why do listed companies buyback common equity? - some analysis from India

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