The provisions regulating buy back of shares are contained in Section 77A, 77AA and 77B of the Companies Act,1956. These were inserted by the Companies (Amendment) Act,1999. The Securities and Exchange Board of India (SEBI) framed the SEBI(Buy Back of Securities) Regulations,1999 and the Department of Company Affairs framed the Private Limited Company and Unlisted Public company (Buy Back of Securities) rules,1999 pursuant to Section 77A(2)(f) and (g) respectively. Rationale behind buyback of shares
The equity buy back (or stock buy back) is the repurchase of the shares from the market by the company. There are various reasons for a company to buy back its shares from the market. 1) The management thinks that the company’s shares are undervalued in the market and they expect the company to perform much better than the value currently perceived by the market. 2) The promoters want to increase their control over the company. So, they go for buy back of shares to increase their equity holding in the company. 3) The company can reduce the risk of hostile takeover by buying back the shares. 4) If the company wants to leave a particular country or want to close the company, it goes for buy back of shares. 5) The company can go for buy back to show rosier picture as explained below: * When the company buy back its shares the Earning per share increases as EPS = Profit After Tax / Shares outstanding. After buy back outstanding shares will reduce and subsequently EPS will increase. This will result in reduction of Price Earning (P/E) ratio. For example – Assume a company has 1 million outstanding shares, its market price is Rs 60 and its profit after tax is Rs 4 million. So current Earning Per Share (EPS) is 4 (4,000,000 / 1,000,000) and P/E ratio is 15 (60/4). Now if the company buy back 0.3 million shares, then it is left with 0.7 million shares and profit after tax will still be Rs 4 million. so, EPS after buy back will be Rs 5.71 and P/E ratio will be around 10.51. The lower value of P/E will show that the company is relatively undervalued and will attract more investment.
* The company can improve various other financial ratios by buying back its shares like Return on Assets (ROA) will improve as the asset reduces from the balance sheet as cash is also an asset, Return on Equity (ROE) increase because the company reduces the outstanding equity after buy back. Increase in ROA and ROE are considered positive for the company as they will give the impression of improved performance. CAPITAL STRUCTURE:
The term capital structure refers to the percentage of capital (money) at work in a business by type. Broadly speaking, there are two forms of capital: equity capital and debt capital. Each has its own benefits and drawbacks and a substantial part of wise corporate stewardship and management is attempting to find the perfect capital structure in terms of risk / reward payoff for shareholders. This is true for Fortune 500 companies and for small business owners trying to determine how much of their startup money should come from a bank loan without endangering the business. Let's look at each in detail:
* Equity Capital: This refers to money put up and owned by the shareholders (owners). Typically, equity capital consists of two types: 1.) contributed capital, which is the money that was originally invested in the business in exchange for shares of stock or ownership and 2.) retained earnings, which represents profits from past years that have been kept by the company and used to strengthen the balance sheet or fund growth, acquisitions, or expansion. Many consider equity capital to be the most expensive type of capital a company can utilize because its "cost" is the return the firm must earn to attract investment. A speculative mining company that is looking for silver in a remote region of Africa may require a much higher return on equity to get investors to purchase the stock than a firm such...