The buy back of shares was prohibited in India until October 31, 1998. Indian companies were permitted to buy back their own shares by the Companies (Amendment) Ordinance, 1998. The Ordinance inserted two new sections (77A and 77B) in the Companies Act, 1956 which laid down the provisions and restrictions elating to buy back of shares. Under the new provision, a company may buy back its own shares or other specified securities from its free reserves, securities premium, securities premium account, or the proceeds of an earlier issue other than a fresh issue of shares made specifically for buy back purpose.
Buy back is permitted only when the company satisfies the following conditions.
1) It is authorized by its articles.
2) A special resolution has been passed in the general meeting of the company authorizing the buy back.
3) The buy back does not exceed 25 per cent of the paid up capital and free reserves of the company.
4) The debt equity (including free reserves) ratio is not more than 2:1 after such buy back.
5) All shares and other specified securities are fully paid up.
6) The buy back is in accordance with the SEBI regulations framed for the purpose.
It is further stipulated that a company that has defaulted on repayment of deposit, term loan, redemption of debentures/preference shares, and so on will not be permitted to buy back shares. Buy back of shares through subsidiary companies or investment companies is also prohibited.
Following the promulgation of the Companies (Amendment) Ordinance, SEBI issued regulations on the buy back of shares by listed companies on November 10, 1998. The facility of buy back of securities by listed companies was introduced to increase liquidity in securities and to enable companies to enhance shareholders’ wealth.
SEBI relaxed buy back norms in 2001. Companies can now buy back shares up to 10 per cent of the equity capital and free reserves just by a board resolution, without seeking shareholders’ approval. The moratorium on the fresh issue of shares after a buy back program was reduced to 6 months from the earlier 24 months. On October 25, 2001, SEBI relaxed the yearly creeping acquisition limit by promoters to 10 per cent for 5 per cent till March 2002.
These relaxed norms led to a spurt in buy back activity. The biggest buy back earmarked in 2001 was that of Reliance Industries Limited (RIL) – to the tune of Rs 1100 crore at Rs 353 per share. The other large buy backs were Bajaj Auto (Rs 720 crore) followed by Raymonds (Rs 486 crore), GE Shipping (Rs 150 crore), and Indian Rayon (Rs 143 crore).
Buy back activity spurted in 2001-02 with 30 offers amounting to Rs 2,509 crore. It was not only cash rich companies which resorted to buy backs. Even multinational companies (MNCs) who made the highest ever buy back and open offers in 2001-02 were among them. Most open offers made by MNCs carried the intention of delisting their securities from the stock exchanges and converting themselves into 100 per cent subsidiaries. Out of the 30 open offers by multinational companies, 24 were for delisting and 6 were on account of a change in management. Since April 2000, 53 companies have been de-listed from the exchange, of which 38 are MNCs.
Most blue chip companies such as Cadburys, Reckitt Benckiser, Philips and others offered to buy back shares at more than 25 per cent premium to market to market price. This move was on account of various reasons. One of the reasons cited is that these MNCs were forced to go public by the government in the late 1970s. Now there were no restriction or obligations for them to remain listed on the domestic exchanges. Another reason cited is that with stringent listing requirements, MNCs found it both difficult and expensive to adhere to these requirements. These de-listings were done as a part of a cost cutting exercise and not for shutting down of the Indian operations. Moreover, the center has been liberalizing foreign direct investment (FDI) norms since the early 1990s. MNCs can set up 100 per cent subsidiaries or increase the parent’s stake in their existing subsidiaries associates, or affiliates by way of creeping acquisition, or an open offer.
These de-listings are a loss to the domestic investors who not only part with the shares at a depressed price but are also are deprived from participating in the future growth of these companies. The exit of these companies took place when there was dearth of good quality paper. Moreover, it had adverse impact on market capitalization, liquidity as well as volumes at the exchanges.