FINANCIAL DISTRESS

COSTS CAUSES SHAREPURCHASES

FINANCIAL FAILURE
Financial failure means that a company cannot meet

its current obligations as they come due. No sufficient liquidity to satisfy its current liabilities This may occur even when the company has a positive net worth with the value of its assets exceeding its liabilities

FINANC IAL DISTRESS

Is a condition where a company has a difficulty

meeting its promises to creditors This condition brings certain costs I. Direct costs legal and accounting fees II. Indirect costs arise from markets reaction to a company that may not honour its commitments to its securities holders

Causes for financial distress

Higher leverage is the cause of financial distress

Economic factors e.g., industry weakness,

insufficient profits Financial factors, eg., heavy operating expenses, insufficient capital Experience factors lack of business knowledge, lack of line experience and lack of managerial experience Poor work habits, business conflicts

 Fraud

Disaster
Strategy factors., (receivable difficulties,

overexpansion)

SHAREPURCHASES
Share repurchases are a way of providing a return to

shareholders Companies with excess cash to pay higher dividend or issue a special one-time dividend They may purchase shares at attractive prices to shareholders Repurchased shares are recorded at their cost in the books It results in reduction of shareholders equity

BUY BACK SHARES.

ADVANTAGES OF BUY BACK:

Divert shares from a hostile takeover

Divert shares from arbitragers who will get high

gains from highest bidder (hostile bidder) Allows the company to use up its resources no cash left over to bidder even it acquires If the company borrows and repurchases the shares and discourages the bidder to acquire such leveraged entity

IMPLEMENTING A SHARE REPURCHASE PROGRAM

THREE WAYS OF SHARE PURCHASE:

General non-targeted purchases

Targeted share repurchases Self-tender offer General non-targeted purchases:

Buy back a certain number of shares without regard to their ownership Targeted share repurchases to take shares out of shareholders who may sell shares to the hostile bidder

Share repurchase.
Self-tender offer:

- when the target makes a tender offer for its own securities

Buy back of shares - importance

Efficient allocation of resources

Positive signal enhances shareholder value

Price stability bearish market, prices are low- buy

back may increase the prices. Tax advantage higher tax on dividends than the long-term capital gains on buybacks Control ensures consolidation of control Capital structure changes rationalises the capital structure

Disadvantages of Buy back

Unfair advantage to the non-sellers at the cost of

sellers Manipulation may divert to stock market manipulation to guess the reasons for buy back Excessive payment to make attractive offers to raise the promoters stake and hurts the interest of non-promoter shareholders

REGULATION OF BUY BACK companies act

A company can buy back

Not more than 10% shares p.a. board resolution II. More than 10% - special resolution of shareholders required Post-buy back debt-equity ratio cannot exceed 2:1 Should not exceed 25% of total paid-up capital and free reserves of the company No new issue of equity within 6 months of buy back
I.

REGULATION.
Buy back financed by the following means:

I.
II. III.

IV.
V.

Free reserves Share premium Cash generated from the disposal of capital assets Public equity issue for buy back purpose Debenture issue

REGULATION - SEBI
Buy back can be done through following :

I.
II. III.

IV.
V.

Open offer Dutch auction Reverse book building Reverse rights Stock market purchases Promoters cant sell their shares under stock market purchases

REGULATION
Buy back cannot be done through negotiated deals

(no single investor, spot deals, private placement) Buy back handled by Merchant banker responsible for due diligence, pro-rata acceptance of shares, etc.,