TCS buyback

Why use the excess cash reserves to buyback?

On 20th Feb 2017, Tata Consultancy Services (TCS) Ltd announced US$ 2.3 billion (Rs 16,000 Crore) share buyback. The share buyback, if successful, will be India's biggest buyback, surpassing Reliance Industries' 2012 share buyback of US $ 1.5 billion (Rs 10,400 crore). A share buyback is when a company offers to purchase shares from the shareholders and extinguish those shares. This reduces the equity base of the company.

Why is the IT Industry under pressure?

The decision comes at a time when India's largest software services provider is under pressure of losing revenue from its clients in the US. The US revenues accounts for 65 per cent of the $155 billion industry. The pressure is from the new H1-B Visa bill that limits the number of visas and increases the cost. Infosys is also being pressed with a demand for share buyback. Shareholders demand utilization of surplus cash for improving shareholder value rather than paying hefty pay hikes to the chief executive and severance package to departing employees.

Why a Buyback?

Share buybacks typically improve earnings per share as the number of shares in the company reduces. This is the reason why a buyback is preferred over higher dividends. It also returns surplus cash to shareholders and supports  or improves share price when the company predicts a fall in the revenues.

Assessment

Proposed measures by the Trump administration is expected to hurt the profitability of IT companies, which have been facing slow growth over the past two years. With IT firms holding large cash reserves, it seems like a buyback is a last resort measure to counter the possibility of fall in revenues and share prices. More companies may use this strategy to maintain its share prices. But how long can this method mask the contraction of the IT industry? This method seems to be unsustainable as cash reserves are also limited.