There was a queue to invest in the preference shares of IFCI offering a yield of 10.5 per cent and the issue garnered more than Rs 300 crore within the first half-hour of the opening of the issue. Meanwhile, the IFCI stock goes abegging today at a dividend yield of more than 12 per cent.The irony is not complete. Anyone picking up the preference shares is implicitly saying that he/she is not bothered if there is no market for it for the next three to five years.
If one had given a similar option in IFCI's equity, its IPO would not have got even 10 per cent subscribed. Interestingly, even as the equity carries the potential of appreciation of more than 30 to 50 per cent in addition to the yield, there are no buyers.
IFCI is one of a number of corporates that might want to correct this anomaly.
Not buying quoted equity from the markets, but it own stock. Doing this would enable the financial institution to buy a bigger bargain and hence better value which brings me to say that if there has been one bignegative fallout of the political instability for the stock market (read fresh elections), it is this : the inability of the government to come to any conclusion on the question of allowing corporates to buy back their own stocks.
Look at it from the other point of view. By restricting corporates from this kind of financial freedom, we compel them to lend in the inter-corporate deposit market. Here there is a risk. A company if it is lucky may get the money back on time or never. A safer alternative would be in permitting these companies to invest in their own stocks. Not only does the company not see its money disappear down some financial hole but actually sees value created instead.
I find it truly surprising. The finance minister confesses that he doesn't understand why the stock market has been selling below its fair value. Let me humbly tell him because, among other reasons, the government has been dragging its feet in permitting cash-rich companies to buy back their own stocks. My analysis is thatonce the cash-flush companies are permitted to invest in their own equity, their stocks will rise. It will, I believe, also pull up the stock of a number of other companies selling far below their intrinsic worth even though they may not be considering a buy back. In short, the effect will have a sweeping impact throughout the market. Let me prove this. When the global stock markets collapsed in October 1997, the saviors were not the Fed or the US government; the saviors were Intel and Microsoft. Both companies responded immediately as the market collapsed. They announced that they would buy their own stock as they considered them to be excellent investments. The rest of the world was inspired: the markets rallied. India had to bask in the reflected inspiration. In the absence of any laws which permit share buyback to be legal, we had to twiddle our thumbs and pray that the improved boom would sweep across the sub-continent as well.
Of what use is this buyback? Let me give you a classic example. Between1984 and 1993, Coca Cola bought back 570 million of its own stock for an aggregate $ 8.6 billion. As a result, Coca Cola spent $1.82 per share on the repurchase. In 1993, the company posted an earnings per share of $0.84; this would have been $0.68 had the repurchase not transpired. In other words, Coca Cola was willing to spend $1.82 a share in return for an incremental earning of $0.16 per share : 8.7 per cent. No big deal, one would say.
But wait a minute. In 1993, the stock market was willing to value Coca Cola at a p/e of 25, which means that for a $0.16 increase in its EPS, the market capitalisation increaded $4! If Coca Cola grew consistently at 15 per cent upto 2006, the incremental market capitalisation per share arising out of the share buyback would be $ 14.50. This is an amazing return from an investment of $ 1.87 per share.
But wait, the story is not over. Warren Buffet, the man with the silver touch, is on the board of Coca Cola and he played a role in getting the Coca Cola management to buyits stock back aggressively as a means of better investment. Result: In 1988, Coca Cola was discounted 18 times on the market. In 1993, it was valued 25 times. In 1997, 40 times. Not surprisingly, the late Roberto Goizueta often said that his actual job was not selling more cola bottles but managing shareholder's wealth. Look for the Indian equivalent. BPL reported a profit after tax of Rs 66 crore for first nine months of 1997-98. Earnings per share should safely cross Rs 30 for this fiscal as the stock languishes around Rs 100. Even if the company buys back a million shares at an average price of Rs 150, it would mean an outgo of a mere 20 per cent of its bottmline (not retained earnings) and a reduction in its equity by Rs 1 crore. My hunch is that the impact on the stock price would be far in excess of the impact on the earnings per share - which is the alchemy which makes the exercise a strong win-win. So when does our government swing into action? Maybe someone ought to make this part of his manifestoin the coming elections. u
Copyright © 1998 Indian Express Newspapers (Bombay) Ltd.
