Sunday, December 02, 2007

The Mystery Behind Mastek's Buyback

On 29 October, Mastek made the following announcement:

http://tinyurl.com/ynu79f

Text:

Mastek Ltd has informed BSE that the members of the Company will consider to approve the following Special Resolution by way of Postal Ballot:

- Approval of Board of Directors (which expression shall Include a Committee of Directors of the Company constituted for the purpose) for the purchase of the Company's fully paid up Equity shares each of a face value of Rs 5/- to the extent not exceeding 25% of the Company's paid up Equity Share Capital at a price not exceeding Rs 750 Per equity share from the Open Market through Bombay Stock Exchange Ltd and National Stock Exchange of India Ltd and the total aggregate amount to be expended by the Company for the Buy-back not exceeding Rs 65 crores, i.e. within 25% of the Company's fully paid-up Equity Share Capital and Free Reserves as per audited Balance Sheet as on June 30, 2007, subject to necessary provisions & approvals.

The Board of Directors has appointed Mr. V V Chakradeo, Practicing Company Secretary as the Scrutinizer for conducting the Postal Ballot process in a fair and transparent manner.

The Postal Ballot form duly completed and signed, should reach the scrutinizer not later than the close of working hours on November 26, 2007. The results will be announced on November 27, 2007.

END

Why did the company give a maximum price of Rs 750 per share for its buyback, even though the current market price is Rs 280 per share. Indeed, adjusted for stock splits and bonus issues, this company has not seen its stock price hit Rs 750 in the last seven years.

So, could this be gimmick? How can we ascertain this? (Hint: The company has done a buyback before. What happened then?)

Does the buyback make sense at a small premium to current stock price? Why? Why not?



14 comments:

Anonymous said...

I think this is a very sophisticated way to transfer money from the company to the promoters. Most of the promoters are sitting on ESOPs and if the company cash can be used to buy 25% of the equity there will indeed be a price movement in the upward direction making the esops valuable. Anyway the mcap is only 800 cr and close to 20% is in cash & inv. This is a good way to prop up stock price. Maybe its time to load up on the stock considering that management is incentivised by a high stock price and they have sufficient cash in the company to achieve the means

Alpha Investor said...

I think its just a gimmick to support the share price. maybe because the upcoming results are possibly worse than the street expects them to be. A lot of companies have in the past announced such buy-backs without actually buying a single stock from the open market. E.g. GTL, one of the two SRF group companies, etc.

Anonymous said...

I do agree with Anonymous. Management has granted some lakhs of options in last 3 years to "eligible employees" and to decrease the dilution of valuation of company, it is buying back the shares. From management's perspective, its a win-win game at the cost of other shareholders. However, buy-backs are not value destroying for reatail and other shareholders as such. When company finds its shares being traded at lower than intrinsic value, buy-back is a potent tool to increase shareholder value and fend-off any potential corporate raider. It would be a good use of surplus cash by buying the shares of company from market and taking them out of circulation. It props up the share price, share holding percentage of existing shareholders who do not tender their shares and shows that management shares teh view of increasing owner's wealth. In fact share buy-back is one the parameters applied by great Warren Buffet to buy any company. But intention of buy-back must to correct the inefficiency of market which is underpricing the stock and not to correct the past follies of management and reward it for its incompetence.

In case of Mastek, latter seems to be the case.Had the capped the price near to 20-25% premium of market price, it would be fine but fixing maximum price at a ridiculously high of 750/- reflects management's inefficient use of capital.

Thanks
Ashish

Sanjay Bakshi said...

Ashish,

The buyback is thru the market purchase route. The maximum price of Rs 750 is so far away from the current price, that if the company does start buying the shares in the market, the buyback will be over (i.e. the money sanctioned for the buyback will finish) well before the price reaches anywhere even close to Rs 750.

So, the Rs 750 price is meaningless.

Or is it?

I am not prepared to think its a gimmick yet. After all, the company has done a buy back before. Moreover the buyback was closed in a short time period.

Alpha Investor said...

Correction: The reference to GTL is incorrect. The company did complete its buyback offer at a price that was at almost at a 70% premium to the mkt price, when it was first announced.

SRF is the correct example. The company announced a buyback at Rs.250 when the mkt price was below Rs.200 per share. More importantly, the company's financials were deteriorating rapidly. The company, I think bought a couple of thousand shares, as against the proposed buyback of 1.4 million shares.

Anonymous said...

Hello sir,

My comment was based on some of the recent buy-backs that were announced on BSE. I am citing here two cases of recent buy-back offers, first one was from ANG Auto and second one was from Hindustan Unilever Ltd.

1.ANG Auto board recommended for approval by the shareholders a proposal to buyback its own shares by the Company upto 25% of Paid-up Capital and Free Reserve of the Company, at a price not exceeding Rs 215 per shares from existing shareholders through Stock Exchange(s).-> In this case closing price on the day of announcement was 166/-.

2.The Target Company announces its intention to buy-back its fully paid-up equity shares of face value of Re 1/- each (Equity Shares) from the existing registered shareholders / beneficial owners of the Equity Shares of Target Company (Buy-back.) through the open market, pursuant to Article 169A of the Articles of Association of the Company and in accordance with Sections 77A, 77AA and 77B of the Companies Act, 1956 (the Act) and the Securities and Exchange Board of India (Buy-back of Securities) Regulations, 1998 (the Buy-back Regulations) at a price not exceeding Rs 230/- per Equity Share (Maximum Offer Price) payable in cash, for an aggregate amount not exceeding Rs 630 Crores (Offer Size) i.e. within 25% of the existing Paid up Equity Share Capital and Free Reserves of the Company as on December 31, 2006 (the date of the last audited accounts).-> Here target company's (HUL's) share price was 227/-.


In both of the above cases, the maximum offer price and closing price on the day of announcement were not very much different(30% premium in ANG Auto's case and almost no difference in HUL's case).
So here managements are expressing their views that the current valuations given to their respective companies are below their intrinsic or fair values. So it makes sense to buy back the shares. However in case of Mastek, premium is about (750-280)/280=170%, which is quite high and as you said,meaningless. Hence either the stock is highly underpriced (TTM P/E=7.8, P/BV=2.8) and market itself should have come to realise this or management is committing some mistake. Though valuation wise Mastek is cheap but still cheaper stocks, from IT sector, like Prithvi(TTM P/E = 5.2 and P/Cash per share= 1.5) are available in the market.

Given the two cases of ANG Auto and HUL and availability of comparable but cheaper stocks made me think that this offer is not appropriate. I am not saying that ANG Auto and HUL's buy backs will create value for share holders but given their offer wrt to that of Mastek, they seem to be having shareholders' interest in mind.

Please do comment on this sir and correct me if I am wrong.

One question for you sir, is their any cap/floor for buy backs? I mean in both of my mentioned offers, maximum buy-back could be till 25% of total equity, can't it go further? And what is the minimum offer limit??


Thanks a ton again for replying
Ashish

Rohit Chauhan said...

Prof bakshi
this is what i think is happening -

promoters hold 40.4% of the company. in addition employees also would have some holding. with a buyback of 25% at such a high price, there is a possibility of a high participation. still it is unlikely that there would be a 100% participation. In that case the promoters/ employees can liquidate their holding in excess of 25%.

I have not analysed the company and do not have a fix on the instrinsic value. However by quoting such a high price the management may achieve the following

- signal the market that the stock is undervalued
- sell their holdings at a good price without reducing their % holding by a proportional amount
- if the price is below intrinsic value, then benefit the shareholders.

quoting the high price is a win-win situation for the promoters. if below intrinsic value only then it benefits the shareholders who cannot cash out completely

infosys has done similar (though not same) thing in the past by buying back and listing it via ADR's. promoters were able to encash their holding and at the same time ADR float increased reducing the differential in the price

regards
rohit

Sanjay Bakshi said...

Rohit, you wrote, "with a buyback of 25% at such a high price, there is a possibility of a high participation. still it is unlikely that there would be a 100% participation."

That can't be true because the buyback is not going to happen at that high price of Rs 750. That's because its structured as a buyback from the Open Market, and not as a Tender Offer. The company has one year to complete the buyback by buying shares in the market and is under no obligation to buy it on any specific day...

Value Architects said...

The co is sitting on cash which forms a quarter of its mktcap. The cash build up has taken in last few yrs. Also the co is throwing in additional 30-40c as FCF. Satiating infrastructure buildup needs, FCF will go up further.

The co needs to deploy this - either as dividends or acquisitions (itself or others)

By making offer at 750 - they are buying a 12 month option - as in this timeperiod the value accretion may enhance the value forward. Not to say that mgmt may not be interested in setting a floor for the price!

Per se, the co is one of the cheapest ones. The pros are holding decent stake, the dilution over yrs hasnt been much over yrs. And the pros HAD exhibited ways to use market follies, by buybacking successfully and "very aggressively " earlier too! The possiblitiy of it being a srf-kind of gimmick is looks unlikely.

Sanjay Bakshi said...

I noticed a lot of skepticism in this thread about management's motives behind a Rs 750 anchor..

When a company's stock is undervalued, and the management buys back shares below value, then, not only one should look at the arithmetical effect of the value-accretive buyback, one should also look at management in a positive light. For, a management of a company willing to have a smaller managerial domain in the interests of its owners, must be given credit.

The company has done a buyback before. Now it wants to do another one. These were good decisions in my view.

The decision to put in Rs 750 as anchor may or may not be a gimmick - I do not know, but in the absence of info, I would not like to condemn management - not at this stage at least.

madhavan said...

Given a limit of Rs 65 crore, the company would be able to buyback 8% of its equity at current price of Rs 280. There's no way it can buy 25% of equity, unless the share price drops to Rs 90.

At Rs 90, the PE would be about 5. Plus a 25% buyback. Time to back the truck? Let's all hope the dollar gives another shock or two

Ragu said...

The buy back announcement is certainly intriguing. As you said, it would be instructive to look at the last time there was a buy back at Mastek. I realize that Sanjay made a post about the earlier buy back but here's some details for people that might be interested. This was proposed in May of 2004(authorized for Rs 10.83 crore at a maximum of Rs. 320/share).
Result: Buy back for the entire authorized amount completed with 3,99,848 shares being bought back in total. Interestingly, a bulk of the repurchase happened within about a month of the buy back announcement(300,898 @ 269.98 by June 30, 2004). This does not look like an attempt to prop up the share price(they actually went ahead and bought back shares for the *entire* authorized amount). Based on that buy back alone, I'd say that management intentions re. buy backs are honourable.

Far as I can see, the promoters' stake in the company has hovered around 40% or thereabouts which isnt suggestive of any selling into the strength(for what its worth, the buy back prohibits the promoters from selling their shares back to the company). Based on the above, I'd suggest the Rs.750 limit of a maximum buy back price is worthy of investigation.

One other indication of whether management is aligned with shareholders: executive compensation. In this case, Sudhakar Ram's compensation is tied entirely to the net profits of Mastek group(not a meaningless, non-controllable metric like share price but a metric that actually bears some relationship to operating performance). I would have preferred it to be based on ROE(reading Buffett has that kind of effect), but this is certainly defensible.

I will post my thoughts on whether a buy back at a slight premium to the prices(at the time the announcement was made) makes sense.

Best,
Ragu

Sanjay Bakshi said...

An interesting article published in NYT on buybacks in general and also the "gimmick" factor in particular:

http://tinyurl.com/yo6f2t

Anonymous said...

lokks like all gimmicks... mastek has been sending out all kinds of mixed signals to somehow wrench the stock price up... we get to hear news like mastek plans to bring out more shares to help them buyout companies in the US... on the other hand they bring out news of buyback... now that sure dont make much sense to me...