At present, there are only minimum and maximum number of shares that a corporate needs to buy to satisfy the norms. The companies misuse the guidelines to jack up the stock price without actually buying back enough shares. Now, Sebi plans to close this loophole. Under the new norms, a firm will not be allowed to close its buyback offer until a definite quantity of shares has been bought back.
We (Sebi) have taken feedback from merchant bankers. The amount of shares bought back will be linked to the cash flow of the company. Corporate can close a buyback only after a definite quantity has been bought from the open market, an official familiar with the proposal said.
In 2011-12, for instance, out of the 16 announced buyback offers, there were only 5 offers where the actual amount bought back was more than half of the announced size of the buyback. In 11 other cases, the actual amount was much lower than the announced size.
There are certain issues in buybacks through the open market purchase. We plan to announce necessary changes in due course, the official said. In their inputs to Sebi, merchant bankers have expressed concerns in stipulating a definite quantity to be bought back, arguing that it would actually depend upon the free cash flow available with the company.
Companies typically resort to buybacks when they feel the existing stock price is much lower than the share's intrinsic value.
A share buyback announcement typically helps in pushing up the stock price. As per the existing norms, companies can pick either the tender offer route or the open market purchase route to buybacks. Nearly 90% of the buybacks are done through the open market channel.
In a tender offer, a company makes an offer to buy a certain number of shares at a specific price directly from shareholders. In February 2012, Sebi amended the norms under the tender offer by making it mandatory for companies to disclose the buyback ratio. This ratio indicates the percentage of market value that is being reduced by the share buyback activity.