Understanding the concept of buyback of shares

Understanding Buyback of Shares

Buyback of shares, also known as share repurchase, is a corporate action where a company purchases its own shares from existing shareholders. Under the Companies Act, 2013, buyback is regulated by Section 68, 69, and 70, along with the Companies (Share Capital and Debentures) Rules, 2014. For listed companies, SEBI (Buyback of Securities) Regulations, 2018 provide an additional regulatory framework. Buyback serves multiple purposes including returning surplus cash to shareholders, improving financial ratios, increasing earnings per share (EPS), consolidating ownership, preventing hostile takeovers, and signaling confidence in the company's prospects.

The buyback can be executed through the tender offer route (open to all shareholders) or the open market route (through stock exchanges). Understanding the legal framework and procedural requirements is essential for companies considering a buyback. Vidhi Legal Services provides comprehensive advisory on buyback of shares, ensuring compliance with all applicable regulations.

Conditions and Restrictions on Buyback

The Companies Act, 2013 imposes several conditions and restrictions on buyback. The buyback must be authorized by the company's articles of association and must be approved by a board resolution or a special resolution, depending on the amount. The buyback cannot exceed 25% of the paid-up capital and free reserves of the company. The debt-equity ratio after buyback must not exceed 2:1 (or a higher ratio as prescribed). All shares or other specified securities for buyback must be fully paid-up. The company cannot make a buyback through any subsidiary company or through any investment company or group of investment companies.

The company cannot make a buyback of its own shares if it has defaulted in repayment of deposits, interest on deposits, redemption of debentures, or payment of dividends. The company cannot make a further buyback within one year of the completion of the previous buyback. Vidhi Legal Services helps companies assess their eligibility and comply with all conditions.

Procedure for Buyback of Shares

The buyback procedure involves several well-defined steps. The Board of Directors must first pass a resolution authorizing the buyback and determining the amount, price, and method. If the buyback amount exceeds 10% of the paid-up capital and free reserves, a special resolution of shareholders is required. The company must file a declaration of solvency with the ROC and SEBI (if listed) in Form SH-9. The company must then make a public announcement or send a letter of offer to shareholders. For the tender offer route, the offer must remain open for 10-30 days, and shareholders can tender their shares.

The company must deposit the buyback amount in an escrow account. The shares are purchased and extinguished within 7 days of completion. The company must file a return of buyback with the ROC in Form SH-11. The physical share certificates must be destroyed and entries in the register of members must be updated. Vidhi Legal Services manages the entire buyback process, ensuring compliance with all legal requirements.

Sources of Funding for Buyback

The Companies Act specifies three permissible sources of funding for buyback. The company can use its free reserves (including securities premium account), the proceeds of the issue of any shares or other specified securities, or the proceeds of the issue of shares specifically for the purpose of buyback. The company cannot use the proceeds of an earlier issue of the same kind of shares or specified securities for buyback. The company must ensure that the buyback amount is within the permissible limits and that the debt-equity ratio is maintained.

The buyback can be funded from internal accruals or through a separate issue of shares or debentures. The source of funding has implications for the company's financial position, tax treatment, and compliance requirements. Vidhi Legal Services advises companies on the most appropriate funding source for their buyback.

Tax Implications of Buyback

The tax treatment of buyback has undergone significant changes in recent years. Prior to 2013, buyback was more tax-efficient than dividends for returning surplus to shareholders. However, the Finance Act, 2013 introduced buyback tax under Section 115QA, which imposes a tax of 20% (plus surcharge and cess) on the difference between the buyback price and the issue price. The buyback tax is payable by the company and is in addition to any other tax payable. The shareholder does not pay any tax on the consideration received from buyback, and the buyback consideration is exempt from capital gains tax.

However, if the company is not liable to buyback tax (e.g., unlisted companies below certain thresholds), the shareholder may be liable for capital gains tax. The buyback tax has made buyback less attractive compared to dividends for many companies, though buyback still offers advantages in terms of signaling and capital structure management. Vidhi Legal Services provides comprehensive tax advisory on buyback transactions.

SEBI Regulations for Listed Companies

Listed companies must comply with the SEBI (Buyback of Securities) Regulations, 2018, which provide an additional layer of regulation. The buyback must be approved by the Board and, if the amount exceeds 15% of the paid-up capital and free reserves, by shareholders through a special resolution. The company must file a draft letter of offer with SEBI and make a public announcement. The buyback can be through the tender offer route (open to all shareholders) or the open market route (through stock exchanges).

For the tender offer route, the buyback must be completed within 6 months. For the open market route, the buyback must be completed within 12 months. The company must not raise further capital for one year after the buyback. The company must also comply with insider trading regulations during the buyback period. The buyback must be completed within the prescribed timelines. Vidhi Legal Services ensures that listed companies comply with all SEBI regulations and stock exchange requirements.

Frequently Asked Questions