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Buy back of securities


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Buy back of securities

  1. 1. BUY BACK OF SECURITIES – AN OVERVIEWINTRODUCTIONShare capital is a very essential part of a company, listed or unlisted. Share capital can be oftwo types i.e. equity share capital or preferential share capital. The share capital of acompany has to be subscribed by one or more persons. After the share of a company hasbeen allotted to the subscribing members, the subscribers have no right over the moneygone as proceeds of the shares subscribed. All that the shareholder has is the right to voteat the general meetings of the company or the right to receive dividends or right to suchother benefits which may have been prescribed. The only option left with the shareholder inorder to realise the price of the share is to transfer the share to some other person.But there are certain provisions in the companies act which allow the shareholders to selltheir shares directly to the company and such provisions are termed as buy back of shares.Buy back of shares can be understood as the process by which a company buys its shareback from its shareholder or a resort a shareholder can take in order to sell the share backto the company.HISTORYPrior to the amendment of the 1999 of the companies act there was no way a companycould buy its shares back from the shareholders without a prior sanction of the court(except for the preferential shares). The laws as to the buying of its share by the companieswere very stringent. Some of the ways by which a company could buy its shares back wereas follows:-(i) Reduction of share capital as given in sections 100 to 104.(ii) Redemption of redeemable preferential shares under section 80.(iii) Purchase of shares under an order of the court for scheme of arrangementunder section 391 in compliance with the provisions of sections 100 to 104.(iv) Purchase of shares of minority shareholders under the order of the company lawboard under section 402(b).
  2. 2. Though there were ways by which a company could buy its shares back from theshareholders but it could not be done without the sanction of the court. This was done toprotect the rights of the creditors as well as the shareholders. But the need of less complexways of buying its shares back by the company was always felt. The much needed change inthe companies act was brought about by the companies amendment act 1999.Sections 77A,77AA and 77B were inserted in the companies act by this amendment.REASONS FOR BUY BACKIn the words of the working group which recommended the introduction of buy back in thecompanies act:“It is an erroneous belief that the sole reason for buy back is to block hostile take-overs. Inthis connection it is pertinent to list five reasons why the bank of England favoured themaking of law to allow companies to repurchase their shares of which blocking take-overwas only one:(i) To return surplus cash to shareholders(ii) To increase the underlying share value(iii) To support the share prices during temporary weakness.(iv) To achieve or maintain a target capital structure.(v) To prevent or inhibit unwelcome take-over bids.Briefly a company resorting to the buy back may have surplus cash, and it may not havefound the right avenue to invest such surplus cash, during such period of dilemma thecompany may decide to return the surplus cash by buying back its shares, with a hope thatat a later time when the company brings on an expansion the investors do not loose theirfaith in the company. Secondly the company might as well think of buying its shares with aview to increase the value of the shares which after the process of buy back still remain inthe market. For after the shares are bought back the number of marketable shares becomeless and thus the prices increase. Thirdly, at times there is a slump in the share market dueto no fault of the company. Though the slouch may be temporary but may have continuedfar too long .The management then may decide to give value to the shareholders and buyback there shares at a price higher than the market price. This is generally done to instillfaith in the minds of the shareholders. Saving a company from hostile take-over has alwaysbeen seen as a major force behind bringing about this amendment, the company may usethe surplus cash available in buying back its shares and bringing the number of floatingshares down, resulting in the suitor not finding it a worthy investment or a profitable
  3. 3. acquisition. These could be certain reasons why a company may resort to buy back of itsshares.RESOURCES OF BUY BACK:The companies amendment act 1999 under section 77A prescribes for the sources of buyingback of shares or other specified securities by a company, which are as follows-:i) Free reserves- a company may buy back out of its free reserves but a sum equalto the nominal value of the shares so purchased must be deposited in the capitalredemption reserves account.ii) Securities premium account.iii) The proceeds of any shares or specified securities.No buy back of any shares or securities shall be made out of the proceeds of an earlier issueof the same kind of shares of same kind of securitiesCONDITIONS FOR A BUY BACK :Sub clause (2) of section 77A enshrines the conditions for a buy back, which are as follows :a) It should be authorised by the articles of association of the company.b) A special resolution has been passed at the general meeting of the companyauthorising the buy back.If the buy back is or less than 10 percent of the total paid up equity share capital, aresolution at the general meeting is not needed to be passed rather a simple boardresolution is enough.Provided that no offer of buy back shall be made within three sixty five days reckoned fromthe date of proceeding offer of buy back.c) The buy back is or less than 25 percent of the total paid up equity share capitaland free reservesd) The ratio of debt owned by the company is not more than twice the capital andits free reserves after such buy back.e) All the shares or other specified securities for buy back are fully paid up.
  4. 4. f) The buy back of shares or other specified securities listed on any recognisedstock exchange is in accordance with the regulations made by the securities and exchangeboard of India in this behalf:g) The buy back in respect of shares and other specified securities other than thosespecified in the aforesaid clause is in accordance with the guidelines specified.DISCLOSURE IN THE EXPLANATORY STATEMENT :Notice of the meeting at which a resolution for buy back is proposed to be passed has to beaccompanied by an explanatory statement stating –a) a full and complete disclosure of all material factsb) the necessity for buy backc) class of securities intended to be bought back under the buy backd) the amount to be invested under buy back.MODES OF BUY BACK :Buy back of shares or other specified securities can be done through various sources whichhave been illustrated under sub section 5 of section 77A, they are as follows:-a) From the existing security holders on a proportionate basis orb) From the open market, through ;i) stock market ii) book building process c) From odd lots, that is to say where the lot of securities of a public company, whose shares are listed on a recognised stock exchange, is smaller than such marketable lot, as may be specified by the stock exchange; orc) by purchasing the securities issued to employees of the company under a schemeof stock option or sweat equity.DECLARATION OF SOLVENCY:Where a company has passed a special resolution under clause b of sub-section (2) or aboard resolution has been passed under some circumstances to buy back its own shares orother specified securities, under the section, it shall before making such buy back ,file withthe registrar and the securities and exchange board of India a declaration of solvency in the
  5. 5. form as may be prescribed and verified by an affidavit to the effect that the board has madea full enquiry into the affairs of the company as a result of which they have formed anopinion that it is capable of meeting its liabilities and will not be rendered insolvent within aperiod one year of the date of declaration adopted by the board, and signed by at least twodirectors of the company, one of whom shall be the managing director, if anyREGISTER OF SECURITIES BOUGHT BACK :Section 77A(9) prescribes for the manner in which a register shall be maintained a registerof shares so bought back and enter therein the following particulars:-i) the consideration paid for the securities bought back. ii) the date of cancellation of securities iii) the date of extinguishing and physically destroying of securities. iv) other particulars as may be prescribed.The shares or the securities so bought back shall be physically destroyed within seven daysfrom the last date f completion of such buy back.PROHIBITION ON FURTHER ISSUE OF SHARES AFTER BUY BACK :Every buy back shall be completed within twelve months from the date of passing thespecial resolution or the board resolution as the case may be. After the buy back iscompleted the company is not allowed to issue the bought back shares for the period of sixmonths by any means including further issue of shares under section 81(1)(a) of thecompanies act 1956. It may however issue bonus shares or discharge its subsistingobligation of converting preference shares or other specified securities into equity shares.PROCEDURE FOR BUY BACKa. Where a company proposes to buy back its shares, it shall, after passing of thespecial/Board resolution make a public announcement at least one English National Daily,one Hindi National daily and Regional Language Daily at the place where the registeredoffice of the company is situated.b. The public announcement shall specify a date, which shall be "specified date" for thepurpose of determining the names of shareholders to whom the letter of offer has to besent.c. A public notice shall be given containing disclosures as specified in Schedule I of theSEBI regulations.d. A draft letter of offer shall be filed with SEBI through a merchant Banker. The letterof offer shall then be dispatched to the members of the company.
  6. 6. e. A copy of the Board resolution authorising the buy back shall be filed with the SEBIand stock exchanges.f. The date of opening of the offer shall not be earlier than seven days or later than 30days after the specified date.g. The buy back offer shall remain open for a period of not less than 15 days and notmore than 30 days.h. A company opting for buy back through the public offer or tender offer shall open anescrow Account.PROHIBITION OF BUY BACK IN CERTAIN CIRCUMSTANCES :Section 77B holds the restrictions on the companies to buy back its shares. No companyshall buy its own shares or other specified securities –a) through any subsidiary company including its own subsidiary company.b) Through any investment companies or group of investment companies.PENALTY :If a company makes default in complying with the provisions the company or any officer ofthe company who is in default shall be punishable with imprisonment for a term which mayextend to two years, or with fine which may extend to fifty thousand rupees, or with both.The offences are, of course compoundable under Section 621A of the Companies Act, 1956.