Why tech companies are turning towards share buybacks
IT services major Cognizant Technology Solutions Corp, on Wednesday announced that it would do share buybacks worth $3.4 billion over two years.
IT services major Cognizant Technology Solutions Corp, on Wednesday announced that it would do share buybacks worth $3.4 billion over two years. The announcement came even as Infosys squashed speculations that it was considering a Rs 12,000 crore share buyback program. However, former CFO and member of board of Infosys T V Mohandas Pai has demanded that Infosys take a cue from Cognizant.
These kinds of demand are likely to only accelerate. While share buybacks in itself isn't anything new, this is not a common phenomenon in the till recently fast growing IT services sector. Here are three reasons why technology services companies are being forced to examine or implement share buybacks.
Market Dynamics: Most technology services companies enjoyed double-digit growth rates till recently. However, technological shifts and changes in buying patterns have meant that their growth prospects have dimmed considerably, with most of them recording barely double-digit growth. In the past, companies required large amounts of capital as they kept adding people and business. That isn't true anymore. Cognizant by implementing a buyback seems to be concurring with this assessment on growth prospects.
Shareholder Pressure: Activist shareholders, who are demanding better returns, are forcing companies to extinguish shares through buybacks. This will also ensure better value for the remaining shareholders. And will impose better capital discipline on companies who have not been doing anything with large piles of cash. This will force them to do M&A deals or return money. As Pai points out that Infosys Market Capitalisation has barely gone up in the last 5 years.
Tax efficient distribution of earnings: Share buyback is a more tax efficient way of distributing earnings of the company. While dividends under Rs 10 lakh are not taxable in the hands of shareholders, companies have to pay tax on dividends. A share buyback program is a more tax efficient way of distributing earnings from a company's perspective.