Buy back shares, offer good premium, repeat. Can TCS give investors risk-free return this time, too? – The Economic Times

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SynopsisThis is the fourth share buyback by TCS in five years. The latest one is the largest at INR18,000 crore. When the company launched a buyback in 2017, it made for a smooth sailing for short-term traders and investors with a 15% gain. The next two buybacks yielded similar results. What’s in store this time around?

Wednesday, January 12. Software giant Tata Consultancy Services (TCS) was at it again — for the fourth time in five years. As the company announced it would buy back up to 40 million shares (1.8% of the total paid-up equity) at INR4,500 per share, investors quickly took out their calculators to do a simple arithmetic on the offer’s value proposition.

As it turned out, the buyback price was 16% higher compared to TCS’s traded price of INR3,860 at the time of the announcement. Clearly, on the face of it, the offer looks lucrative. But does an announcement of a share buyback by a company give investors short-term risk-free returns? Does this mean that the stock will certainly rise 16% to INR4,500 from the present levels? The answer is hidden in past buybacks.

Among all buybacks in the last five years, the latest one is the largest at INR18,000 crore. The very first time, when the company announced buyback in February 2017, it offered to repurchase shares worth INR16,000 crore. The buyback price then was INR2,850, which was at a 15% premium compared with the then traded price of INR2,400. In the next two months, the stock raced its way to the buyback price of INR2,850, making it a smooth sailing for short-term traders and investors with a 15% gain.

The next two buyback journeys had a similar narrative. In 2018, shares were bought back by TCS at a price of INR2,100 per share, again at a 15% premium to the prevailing stock price back then. In December 2020 also, TCS announced a buyback. The share price on the announcement day was INR2,714 against the buyback price of INR3,000. In both these cases, the stock quickly climbed towards the buyback price in just two months.

TCS buy back history@2x

The historical charts and price actions suggest that the buyback offers short-term traders and investors a nearly risk-free proposition. They also suggest that the last buyback in 2020 roused substantial retail-investor interest.

What’s in store for retail investors?
This time around, good retail response could be expected, but analysts say one should wait for the acceptance ratio before taking a short-term view. In the last three buybacks by TCS, the acceptance ratio was 100%. In simple terms, this means investors who wanted to encash their shares at the buyback price got accepted.

There are two important things in a buyback. One is the record date, and the other is the acceptance ratio. The former is the date on which you should hold shares of TCS in your demat account to be eligible for the buyback. The record date is yet to be announced. Acceptance ratio is the number of shares accepted in a buyback against the total number of shares tendered. The market regulator, Securities and Exchange Board of India (Sebi), mandates that 15% of the total buyback size be reserved for small investors holding up to INR2 lakh in shares.

In the current round, out of the 40 million shares set for buyback, 6 million will be reserved for small investors. This means if you own less than 51 TCS shares, you will get the benefit of the reservation.

Apart from the likelihood of a strong response to the latest buyback, performance of the share between the buyback announcement date and the actual buyback date (when investors began tendering their shares) in the past rounds suggests handsome gains for investors.

According to analysts at Jefferies India, the buyback size is 10% larger than earlier. Yet, they believe that while the buyback may be a near-term catalyst, the stock’s rich valuation multiple offers limited scope for rerating relative to its growth.

TCS vs. Infy
The CNX Nifty IT index, along with other broader indices, has been witnessing a good rally. It took off from 11,000-odd levels in March 2020 to hit a high of 39,500 in January 2022. The index has given a fresh breakout on technical charts, with its two heavyweight stocks, TCS and Infosys, breaking out.

TCS on point and figure chart@2x

The technical chart of TCS suggests that it was already bullish and had a pattern target of INR4,500 even before the company announced buyback at the same price.

Nifty IT index@2x

As per Bloomberg data, shares of TCS are trading at a one-year forward price-to-earnings multiple of around 31 times. In Q3 FY22, TCS reported a sequential revenue growth of 4% in constant-currency terms, beating the consensus estimate of 2.1% by a mile. However, in this parameter it lagged peer Infosys, which reported a sequential revenue growth of 7% in constant-currency terms. But TCS’s deal-win momentum continues to be strong and its demand outlook is expected to be robust.

While TCS is set to clock a 15% year-on-year constant-currency growth for FY22 (quite a respectable number on a standalone basis), it could underperform Infosys for the third year in a row, rightly raising some concerns on relative underperformance.

Buyback benefits
When a company accumulates surplus cash and has no alternative investment opportunities or is not looking at any acquisition, then it can go for a buyback of its own shares.

In buybacks, the shares are repurchased by the company from the existing shareholders usually at a price higher than the prevailing market price and are shown in the financial statements as treasury stocks. After the buyback, while the number of shares outstanding in the market reduces, these can be sold later if the company decides to do so.

A buyback exercise reduces the capital base of a company and results in higher earnings per share. Analysts say a buyback sends a positive signal to the markets. It sends a message that the promoters and the management believe that the share is undervalued and the company doesn’t need cash to cover future commitments such as interest payments and capital expenditures.

Even if retail investors do not tender their shares, in the long term they would tend to gain from the rise in share price on strong fundamentals of a company that has been consistently rewarding its shareholders.

(Graphics by Sadhana Saxena)

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