Buy back is a process through which a company re-purchases its own shares or other specified securities (“Securities”). One may have come across ‘buy back’ as means for an Investor to exit a company, under the investment agreements.
A company may consider buying back its issued Securities for one or more different reasons, including:
- to consolidate ownership in order to regain control;
- to restructure the capital of the company;
- to increase the value of equity of the company;
- to improve per share earnings or net worth of the company;
- to get rid of surplus cash;
- to reduce the risk of aggressive takeovers.
The board of directors of JustDial recently approved a buyback proposal worth Rs 220 crore. After this, the shares of JustDial jumped 10 per cent on the BSE as per a news report.
Who can be the seller?
A company may buy back its Securities from the existing Security holders of the company; or the open market for public companies whose Securities are listed on the stock exchange; or its employees (by purchasing the Securities issued to them pursuant to any ESOP scheme or sweat equity). A few companies, including Apple, seem to have enriched their shareholders by strategic buy-back of its Securities at lower prices.
Where can the consideration come from?
A buy-back purchase may be made by a company out of its free reserves; or securities premium account; or proceeds of issue of its Securities. Companies have been specifically prohibited to utilize any money borrowed from banks or financial institutions for the purpose of buying back its Securities.
What are the preliminary conditions?
Since company buy-backs are regulated by inter alia the Companies Act, 2013 (“Act”), a company contemplating re-purchase of its Securities may want to check its eligibility to do the same. Under the Act, following may be a few fundamental prerequisites for such a company:
- Its articles of association expressly authorize a buy-back.
- The Securities for which buy-back is proposed, are fully paid-up.
- The proceeds of an earlier issue of Securities will not be used for repurchasing the same kind of Securities.
- The company will not issue the same kind of Securities (including allotment of new Securities) for a period of six months after a buy-back, unless there is a certain standard exception (like issue of sweat equity).
- The debt to equity ratio of the company will not exceed 2:1 after buy back.
- The company will not use more than 25% of its paid up capital and free reserves to do a buy back.
Are there any specific prohibitions?
The Act prohibits buy-back under certain circumstances. For instance, a company is prohibited from re-purchasing its Securities:
– through any subsidiary company including its own subsidiary companies and/ or through any investment company; or
– if it is defaulting in repayment of any liabilities (payment on deposits accepted, debentures issued, term loan, dividends) or interest payable on such liabilities. The company may only buy-back its Securities 3 (three) years after such default has been remedied.
It is also evident to note that a company may re-purchase its Securities only if it has correctly filed its annual returns, financial statements, and declared the payment of dividends.
Any procedural issues to be kept in mind?
– Where the buy-back is of more than 10% (ten per cent.) of the total paid-up equity capital and free reserves of the company, a special resolution is required to be passed authorizing the buy-back. However, a buy-back of 10% (ten per cent.) or less may be authorized just by passing a board resolution to that effect. The buy-back should be completed within 1 (one) year of passing the special resolution or the board resolution, as the case may be.
– The offer letter for buy back of securities signed by at least two directors, is required be filed with the registrar of companies. Thereafter, the company is required to dispatch the offer letter to the relevant Security holders. The offer letter will remain valid for a maximum of 30 (thirty) days from the date of dispatch.
Will this suffice for a listed company?
No. A listed company can buy back its Securities from the open market. Buy-back of listed Securities is required be made in accordance with the regulations made by the Securities and Exchange Board of India (“SEBI”). Accordingly, the SEBI (Buy back of Securities) Regulations, 2018 are required to be adhered to by listed companies in addition to the provisions of the Act.
A listed company is also required to make the requisite filings with the SEBI informing the particulars of the buy-back offer along with a declaration of solvency before proceeding with the buy-back of its Securities.
While “buy-back” may be a right, often available to certain shareholders of an unlisted company, it remains an option, seldom exercised. One of the primary reasons may be that investors seldom seek exit from a company which is doing well and has enough cash/ reserves to pay for a buy-back.