Why Do Indian Companies Repurchase Their Shares?

Abstract

The study explores the share repurchase behaviour of Indian firms in the context of many hypotheses propounded in the existing literature related to share repurchases. The sample consists of non-financial firms comprised in the S&P BSE-500 Index for the period 2003–2017. The repurchase sample consists of 115 repurchases. A Tobit regression model is used to identify firm characteristics associated with repurchasing firms.

Unlike prior studies in India, this study finds strong evidence of share undervaluation as the main motive for the Indian companies to repurchase shares. The share repurchasing companies in the sample (excluding those that have repurchased shares in the year 2017) have provided an average return of nearly 60 per cent during the year after the repurchase. The findings of the study can be used by fund managers and investors for stock picking.

Keywords

Share repurchases share undervaluation signalling hypothesis excess cash

Introduction

Share repurchases have emerged as an important means of distributing cash by companies to their shareholders. In developed markets, such as the USA, the share repurchases are gradually overtaking dividends as a preferred means of corporate payout (Grullon & Michaely, 2002). Share repurchase activity has also picked up in other developed markets such as the UK, Japan, Canada, Germany, etc. However, in these markets, share repurchases have not reached the level observed in the USA. The reason is the difference in the economic and institutional factors prevailing in these other developed countries. In emerging markets, dividends remain the primary method of payout to shareholders.

The current study explores the share repurchase behaviour of Indian firms in the context of many hypotheses propounded in the existing literature related to share repurchases. Share repurchases are not as widely used in India as these are used in developed countries. India is different from other countries in another important respect. Studies elsewhere differentiate the share repurchase behaviour of dividend paying and non-dividend paying repurchasing firms. In India, almost all firms that repurchase are dividend payers.

Researchers have put forth many hypotheses relating to the kind of companies that resort to share repurchases and the circumstances under which they repurchase. Some important hypotheses are excess capital hypothesis, signalling hypothesis, recapitalization hypothesis, substitution hypothesis and financial flexibility hypothesis.

The excess capital hypothesis states that firms repurchase shares to distribute excess capital. This hypothesis is closely related to the free cash flow hypothesis of Jensen (1986). According to this hypothesis, firms must distribute excess cash to shareholders to avoid agency costs of overinvestment whereby managers are motivated to invest excess cash in projects that have negative net present value.

The signalling hypothesis posits that firms repurchase shares when they find their shares to be undervalued by the market or when the price of their shares does not reflect their improved operating performance. Share repurchases provide a signal to the market about the existence of such circumstances.

According to the recapitalization hypothesis, firms repurchase shares when their actual debt-equity ratio is less than the target ratio (Dittmar, 2000). Repurchase of shares increases the relative proportion of debt in total capital.

Substitution hypothesis means firms prefer to distribute cash to their shareholders through share repurchases than through dividends. If the substitution hypothesis holds, firms would use funds that are otherwise available for increasing dividend to repurchase shares. Relative tax benefits to shareholders associated with share repurchase and lack of stable cash flows are the main driving factors behind substitution of share repurchases for dividends.

Share repurchases are also considered as a flexible means of distributing cash to shareholders. Empirical evidence shows that dividends are sticky in nature. Managers are reluctant to cut down on the existing level of dividend to avoid the adverse impact of dividend cut on the share price. They are, therefore, very conservative when they decide to increase the quantum of dividend. However, share repurchases are viewed differently by the shareholders. Firms, therefore, prefer to use share repurchases to deploy temporary cash flows.

Unlike earlier studies in India, this study finds strong evidence of support for the undervaluation hypothesis of share repurchases. The findings of the study can be used by investors and fund managers for stock picking. The share repurchasing companies in the sample (excluding those that have repurchased shares in the year 2017) have provided an average return of nearly 60 per cent during the year after the repurchase.

The rest of the article is organized as follows. The second section presents the literature review. The objectives and the rationale of the study are explained in the third section and the fourth section, respectively. The fifth section covers the data collection and the methodology used. The sixth section presents empirical evidence. The seventh section concludes the paper and the managerial implications of the study are presented in the eighth section.

Literature Review

Prior studies on share repurchases found different characteristics associated with repurchasing firms and also found support for a particular hypothesis related to motives for share repurchases. However, the weight of the evidence is in favour of the signalling hypothesis.

Very early studies, by Dann (1981), Vermaelen (1981), Asquith and Mullins (1986), Comment and Jarrel (1991) and Ikenberry, Lakonishok, and Vermaelen (1995), find that share repurchases are mainly driven by the managerial perception of shares being undervalued by the market. Dittmar (2000) examines the share repurchase motives of US firms over the period 1977–1996. He finds that throughout the sample period, firms repurchase stock to take advantage of potential undervaluation and in many periods, to distribute excess capital. However, firms also repurchase stock, during certain periods, to alter their leverage ratio, fend off takeovers and to counter the dilution effect of stock options.

Jagannathan and Stephens (2003) examine the characteristics of the US firms that make infrequent, occasional and frequent share repurchases. They find that frequent repurchasers are large in size, have less variation in operating income, have higher institutional ownership and higher dividend payout ratio than infrequent repurchasers. Undervaluation is the main motive for repurchases by infrequent repurchasers.

The empirical evidence in favour of the undervaluation hypothesis also gets support from some management surveys. Nearly 86 per cent of the financial executives covered by the survey carried out by Brav, Graham, Harvey, and Michaely (2005) repurchased shares when they believed that the shares were undervalued. Some earlier surveys by Mitchell, Dharmawan, and Clarke (2001) and Baker, Powell, and Veit (2003) find that the most highly cited reasons for repurchasing shares of common stock are consistent with the signalling hypothesis, specifically the undervaluation version of this hypothesis.

Some other studies, however, identify a motive other than undervaluation behind share repurchases. Kahle (2002) examines how stock options affect the decision to repurchase shares. Firms announce repurchases when executives have large numbers of options outstanding and when employees have large numbers of options currently exercisable. Once the decision to repurchase is made, the amount repurchased is positively related to the total options exercisable by all employees but independent of managerial options. Lee and Suh (2011) examine the patterns and determinants of share repurchases by firms in seven countries—Australia, Canada, France, Germany, Japan, the UK and the US. Overall, their evidence lends support to two hypotheses, namely the excess capital hypothesis and the temporary cash flow hypothesis. Boudry, Kallberg, and Liu (2013) study a sample of Real Estate Investment Trusts (REITs) and find that poor investment opportunities are related to higher levels of share repurchases. Conditioning on investment opportunities, they find that the level of cash is positively related to repurchases only for low investment opportunity set firms.

Some studies on stock repurchases have also been carried out in India. Chatterjee and Mukherjee (2015) examine the price behaviour of stocks around share buybacks and find that average abnormal returns are not statistically different in pre- and post-announcement periods. Seal and Matharu (2018) study the long-term performance of share buybacks in India and find that share buyback firms outperform the benchmark index in the long run. Hyderabad (2013a) tests the free cash flow hypothesis in stock repurchase decisions of Indian companies and finds that deployment of excessive resources is the primary motive for stock repurchases. In another paper, Hyderabad (2013b) does not find any evidence confirming the substitution hypothesis. Reddy, Nangia, and Agrawal (2013) find no evidence of signalling effect in India. They observe that repurchasing firms have a lower price-to-earnings ratio in the post-buyback period.

These studies either examine the post-buyback behaviour of stocks or test a specific hypothesis related to stock repurchases such as the excess capital hypothesis, the signalling hypothesis and the substitution hypothesis. There is no study that examines the stock repurchases by Indian companies in a holistic manner and from different perspectives. For example, there is no study that examines which firm-related characteristics are closely related to share repurchase decisions. The present study attempts to fill this gap.

Objectives

The article explores the share repurchase behaviour of Indian firms in the context of many hypotheses propounded in the existing literature related to share repurchases. These hypotheses represent the alternative motives that drive share repurchases by companies. Some important hypotheses are excess capital hypothesis, signalling hypothesis, recapitalization hypothesis, substitution hypothesis and financial flexibility hypothesis.

Rationale

Share repurchases have emerged as an important means of distributing cash by companies to their shareholders. In developed markets such as the USA, share repurchases are gradually overtaking dividends as a preferred means of corporate payout (Grullon & Michaely, 2002). Share repurchase activity has also picked up in other developed markets such as the UK, Japan, Canada, Germany, etc. Many hypotheses have been propounded in the existing literature as motives for share repurchases. It is of interest to explore the common reason behind share repurchases. A large number of studies that deal with firm characteristics closely related to share repurchase decisions have been conducted outside India. The study examines these firm characteristics in the Indian context as no such study has been carried out in India.

Data and Methodology

Data

The sample for the study has been selected from the universe of companies comprised in the S&P BSE-500 Index. The S&P BSE-500 index, consisting of 500 stocks, represents nearly 93 per cent of the total market capitalization on the Bombay Stock Exchange (BSE). It covers all 20 major industries of the economy. The sample excludes banking companies and financial institutions as their payout policy is regulated by the government. The period of the study is 2003–2017. There are very few share repurchases made by Indian companies before 2003. However, cash flow volatility, one of the variables used in the study is based on the cash flows of the past 3 years. Due to this, the effective sample period is 2006–2017. The repurchase sample consists of 115 repurchases.

In line with the earlier studies, the following variables have been used in the study.

The dependent variable is the repurchases-to-assets ratio (REP). It is measured as the ratio of the amount spent on repurchases in a year to the value of total assets at the beginning of the year.

The following variables represent the firm characteristics that are associated with share repurchase.

The ratio of the market value of a firm’s assets to the book value of its assets (MBR) is used as a measure of undervaluation in testing the undervaluation hypothesis. Firms with low MBR have been shown to earn abnormal returns in periods subsequent to repurchase (Ikenberry et al., 1995). A low MBR may indicate stock undervaluation. The share repurchase is expected to have a negative relationship with MBR.

Firm size (TA) is measured as the natural logarithm of the book value of assets. Stock undervaluation is closely related to the existence of information asymmetry between managers and investors. The degree of information asymmetry is generally higher for smaller firms as their stocks are not analysed by the stock market analysts to the same extent as those of large-sized firms. The stocks of small-sized firms are likely to be undervalued and small-sized firms are expected to repurchase their stocks more than the large-sized firms. The share repurchase is expected to have a negative relationship with TA.

Leverage (LEV) is measured using the debt-to-equity ratio defined as long-term debt divided by the book value of shareholders’ funds. It is used to test the recapitalization hypothesis whereby firms with lower leverage repurchase shares to recapitalize. The share repurchase is expected to have a negative relationship with LEV.

CASH measures the amount of cash held by the firm scaled by total assets. Under the Excess Capital Hypothesis, firms with higher cash balances are expected to repurchase more. The share repurchase is expected to have a positive relationship with CASH.

Return on assets (ROA) measures operating profitability. Lee and Rui (2007) find a positive relationship between transitory components of earnings and share repurchases. The proxies used in prior literature for temporary cash flow include both operating profit and non-operating profit. The share repurchase is expected to have a positive relationship with ROA.

Stock return (SRET) is the return on the stock for 1 year prior to repurchase. It is used as a proxy measure for undervaluation in testing the undervaluation hypothesis. One indication of undervaluation is a history of low-stock returns. The largest decline in the stock performance of repurchasing firms occurs in the year prior to the repurchase announcement (Ikenberry et al., 1995). The share repurchase is expected to have a negative relationship with SRET.

Table 1.

Description of Variables

Variables	Definition	Expected Sign
Dependent Variables
Repurchase to assets ratio (REP)	Amount of money spent on repurchases in a year divided by the value of total assets at the beginning of the year
Explanatory Variables
Market-to-book ratio (MBR)	Market value of a firm’s assets divided by book value of assets	–
Firm size (TA)	Natural logarithm of book value of a firm’s assets	–
Leverage (LEV)	Long-term debt divided by book value of shareholders’ funds	–
Cash (CASH)	Amount of cash held by a firm divided by the value of total assets	+
Return on assets (ROA)	Earnings before interest and taxes divided by the book value of assets	+
Stock return (SRET)	Return on the stock during the year prior to share repurchase	–
Non-operating profit (NOPER)	Income other than income from operations divided by the value of total assets	+
Cash flow volatility(CFVOL)	Standard deviation of operating cash flows in 3 years prior to share repurchase divided by the value of total assets	–
Institutional ownership (IO)	Percentage of a firm’s share capital held by institutional investors	+

Source: The author.

Non-operating profit (NOPER) is the income other than from operations scaled by the value of total assets. It is used as a proxy measure for temporary cash flows. Jagannathan et al. (2000) and Dittmar (2000) find a positive relationship between share repurchases and non-operating profit. The share repurchase is expected to have a positive relationship with NOPER.

Volatility of cash flows for a year (CFVOL) is measured as the standard deviation of operating cash flows in the previous 3 years. The cash flows are scaled by the value of total assets. Cash flow volatility is a measure of the business risk of a firm. Firms with higher CFVOL are expected to retain more cash and repurchase less. The share repurchase is expected to have a negative relationship with CFVOL.

Institutional Ownership (IO) is the percentage of a firm’s share capital held by institutional investors. Institutional shareholders have an incentive to monitor the firm’s management (Shleifer & Vishny, 1986). Presence of excess cash may motivate managers to invest in unprofitable projects that may result in a reduction of shareholders’ wealth. Higher dividends or share repurchases lower the free cash available to managers and bring about financial discipline. A positive relationship is, therefore, expected between institutional ownership and share repurchases.

A dummy variable SRETD is used to capture the asymmetry in the effect of negative and positive lagged stock return on share repurchases. The dummy variable assumes a value of 1 if the lagged stock return is negative and a value of 0 otherwise.

Description of all the variables used and their expected signs are presented in Table 1.

Methodology

Besides carrying out a univariate analysis, the study estimates the following multivariate Tobit regression model to identify the firm characteristics that are significantly associated with the amount of share repurchases. The Tobit model has been used because the dependent variable REPR has a zero value for a non-trivial fraction of the population. However, it is roughly continuously distributed over positive values.

\begin{array}{l} R E P R_{i t} = β_{0} + β_{1} T A_{i t} + β_{2} M B R_{i t} + β_{3} C A S H_{i t} + β_{4} R O A_{i t} + β_{5} L E V_{i t} + β_{6} S R T E T_{i t} + β_{7} N O P E R_{i t} \\ + β_{8} C F V O L_{i t} + β_{9} I O_{i t} + β_{10} S R E T D_{i t} + ε_{i t} \end{array}

Empirical Evidence

Relative Use of Share Repurchases and Dividends for Shareholder Payout

The relative use of dividends and share repurchases by firms in India is analyzed by dividing the firms into four categories according to their payout policy. Firms in category A neither pay dividend nor do they repurchase shares. Firms in category B pay dividend only and do not repurchase shares. Firms in category C only repurchase shares and do not pay any dividend. Firms in category D pay dividend as well as repurchase shares.

Table 2.

Relative Use of Dividends and Share Repurchases for Shareholder Payout

Year/Type	A		B		C		D
Year/Type	N	Per Cent	N	Per Cent	N	Per Cent	N	Per Cent
2006	28		208	98.6	0	0	03	1.4
2007	31		260	98.9	0	0	03	1.1
2008	46		260	97.7	0	0	06	2.3
2009	40		280	94.0	0	0	18	6.0
2010	47		284	94.7	0	0	16	5.3
2011	43		314	97.8	0	0	07	2.2
2012	43		321	96.7	0	0	11	3.3
2013	44		326	96.7	0	0	11	3.3
2014	43		334	96.5	0	0	12	3.5
2015	47		343	99.7	0	0	01	0.3
2016	46		345	98.9	0	0	04	1.1
2017	80		295	92.2	01	0.3	24	7.5
Total	538		3570		01		116

Source: The author.

Table 2 presents the number (N) and percentage of sample companies adopting one of the four payout policies over the period 2006–2017. Payout policy of A firms neither pay dividend nor do they repurchase shares. Payout policy of B firms pay dividend only and do not repurchase shares. Payout policy of C firms only repurchase shares and do not pay any dividend. Payout policy of D firms pays dividend as well as repurchase shares. For the calculation of percentages, the payout policy of A firms is excluded.

Out of the firms that pay dividends, only a small percentage of firms repurchase shares. Share repurchases are made only by companies that pay dividend also. There is only one repurchasing firm that has not paid any dividend in the year 2017 but has repurchased shares. The companies that pay dividends only distribute an average of 3.3 per cent (median 1.8%) of their assets as cash. On the other hand, firms that repurchase shares in addition to dividend payment distribute an average of 9.7 per cent (median 5.6%) of their assets as cash.

Low use of repurchases by Indian companies can be attributed to strict rules imposed by the Securities and Exchange Board of India (SEBI) that companies intending to repurchase shares have to comply with. Another reason could be that the use of stock options as a tool of compensation is not as common in India as it is in many other countries.

Flexible Nature of Share Repurchases

Table 2 also reveals that the policy of paying dividend only is the most stable payout policy. There is not much fluctuation in the percentage of firms that pay dividends only over the years. The percentage of companies that supplement dividends with share repurchases fluctuates significantly from year to year. This implies that companies use repurchases as a flexible means of distributing cash to their shareholders. On the other hand, as suggested by theory, dividends are sticky in nature.

Table 3.

Share Repurchases and Change in Dividends

Year	Number of Repurchasing Companies	Number of Companies that
Year	Number of Repurchasing Companies	Increase Dividend	Decrease Dividend	Maintain Dividends
2006	02	01	00	01
2007	03	01	01	01
2008	06	04	01	01
2009	18	09	03	06
2010	16	11	00	05
2011	07	05	01	01
2012	11	03	05	03
2013	11	01	06	04
2014	12	08	02	02
2015	01	01	00	00
2016	04	03	01	00
2017	24	13	06	05
Total	115	60	26	29
%	100.0	52.2	22.6	25.2

Source: The author.

Substitution of Dividends by Share Repurchases

To test whether firms finance share repurchases by reducing dividends, the study analyzes the number and percentage of repurchasing companies that increase, decrease and maintain the level of dividends in the year in which these companies repurchase shares. The analysis is presented in Table 3.

Table 3 shows that 52.2 per cent of the companies have increased dividend and 25.2 per cent of the companies have maintained the dividend in the year of share repurchase. The evidence indicates that share repurchases are not used by companies as a substitute for dividends.

Difference Between Firm Characteristics of Repurchasing and Non-repurchasing Firms

To differentiate repurchasing and non-repurchasing firms, the variables described in ‘Data and Methodology’ section are used to represent the firm characteristics. In this analysis, the study uses only three categories of companies: companies that neither pay dividends nor repurchase; companies that pay dividends only; and companies that pay dividends as well as repurchase shares. The fourth category of companies that repurchase shares but do not pay dividends is not considered since their number in the sample is only one.

Table 4 presents the mean and median values of the key variables that represent the firm characteristics for different categories of payout by the sample firms over the period 2006–2017.

Among dividend paying companies, companies that also repurchase shares have a larger size, higher ROA and higher non-operating income. However, these have a lower market-to-book ratio, lower level of leverage, lower lagged stock returns and lower cash flow volatility. The two sets of companies are comparable in the amount of cash holding and institutional ownership.

Table 4.

Firm Characteristics and Payout Policy

Variable	Companies Neither Repurchasing nor Paying Dividends		Companies not Repurchasing but Paying Dividends		Companies Paying Dividends as well as Repurchasing
Variable	Mean	Median	Mean	Median	Mean	Median
TA	7.55	7.61	7.95	7.82	8.11	7.89
MBR	5.75	2.52	4.40	2.80	4.15	2.24
CASH	0.07	0.03	0.08	0.03	0.08	0.03
ROA	3.59	2.75	9.76	8.31	12.27	9.60
LEV	1.03	0.48	0.63	0.36	0.46	0.26
SRET	0.36	0.12	0.37	0.14	0.31	0.19
NOPER	0.02	0.01	0.02	0.01	0.03	0.02
CFVOL	0.10	0.06	0.07	0.05	0.07	0.05
IO	15.34	12.28	17.15	15.14	17.15	15.74

Source: The author.

Table 5.

Difference in Firm Characteristics between Dividend Paying Repurchasing and Non-Repurchasing Firms

Variable	Companies not Repurchasing but Paying Dividends		Companies Paying Dividends as well as Repurchasing		z-Stat
Variable	Mean	St. Dev.	Mean	St. Dev.	z-Stat
TA	7.95	1.47	8.11	1.48	−1.12
MBR	4.40	5.52	4.15	6.67	0.39
CASH	0.08	0.11	0.08	0.10	0
ROA	9.76	7.94	12.27	9.50	−2.75
LEV	0.63	0.92	0.46	0.55	3.12
SRET	0.37	0.85	0.31	0.72	0.86
NOPER	0.02	0.03	0.03	0.04	−2.61
CFVOL	0.07	0.08	0.07	0.08	0
IO	17.15	12.02	17.15	9.50	0

Source: The author.

The statistical significance of the difference in the mean values of the firm characteristics between dividend paying repurchasing companies and dividend paying non-repurchasing companies, based on the values of the variables in Table 4, is presented in Table 5.

Firms that repurchase differ significantly from those that do not repurchase in ROA, LEV and NOPER. Repurchasing firms are more profitable, have lower leverage and a higher non-operating income.

Multivariate Analysis

To better understand the significant difference in the firm characteristics of dividend paying non-repurchasing companies and dividend paying repurchasing companies, a Tobit regression is carried out. In this regression, the dependent variable is the amount of share repurchases and the explanatory variables are the same as those used in the univariate analysis.

The results of the Tobit regression are presented in Table 6.

Share repurchases are positively related to firm size, return on assets, non-operating income, stock returns and cash flow volatility. These are negatively related to market-to-book ratio, level of cash and leverage. The direction of relationships is consistent with expectations with the exception of firm size, stock return and cash flow volatility. Firm size has a significant positive relationship with share repurchases, which indicates that large firms make more share repurchases. The evidence is consistent with the findings of Jagannathan and Stephens (2003) but inconsistent with the undervaluation hypothesis. Lagged stock returns are also positively related to share repurchases though the relationship is not statistically significant. The positive and statistically significant coefficient on the dummy variable that captures the asymmetry in the effect of negative and positive lagged stock returns indicates a positive relationship between negative stock returns and share repurchases. The signalling (undervaluation) hypothesis posits that firms repurchase shares when they find their shares to be undervalued by the market or when the price of their shares does not reflect their improved profit performance. Undervaluation is measured by MBR. The regression results show a statistically significant negative relationship between repurchases and MBR indicating that low MBR (undervaluation) leads to higher share repurchases. Profit performance is measured by ROA and NOPER. The regression results show that both of these have a significant positive relationship with share repurchases. This, together with a statistically significant positive relationship of share repurchases with negative SRET indicates that improved profit performance is not reflected adequately in stock returns and MBR, which is resulting in higher share repurchases. This provides a strong support for the undervaluation hypothesis. More profitable companies (with higher ROA and higher NOPER), that are undervalued by the market (with low MBR and negative SRET) are more likely to repurchase shares. There is a weak support for recapitalization hypothesis as the negative relationship of leverage with share repurchases is not statistically significant. Similarly, there is a statistically insignificant positive relationship of share repurchases with cash flow volatility indicating no support for the financial flexibility hypothesis. Further, the negative relationship of the level of cash with share repurchases is not consistent with the excess capital hypothesis. Institutional ownership also seems to have no influence on share repurchases.

Table 6.

Results of Tobit Regression

Variable	Coefficient	p-value
C	−0.431	0.0000
TA	0.010	0.0178
MBR	−0.002	0.0976
CASH	−0.076	0.2022
ROA	0.004	0.0000
LEV	−0.011	0.2516
SRET	0.011	0.1083
SRETD	0.044	0.0010
NOPER	0.705	0.0002
CFVOL	0.0115	0.8839
IO	0	0.7424

Source: The author.

The study also analyzes the movement of ROA and NOPER for 3 years prior to the year of repurchase. The results are presented in Table 7. The years are identified as −1, −2 and −3 depending on their distance from the year of repurchase.

Table 7 shows that for repurchasing companies, both ROA and NOPER show an increasing trend prior to share repurchase.

Applicability of Excess Capital Hypotheses

Many earlier studies in India and outside have found the existence of excess cash with the companies as the main driver of their repurchase activity. However, this study does not find any evidence supporting the excess capital hypothesis. First, the univariate analysis shows no significant difference in CASH between repurchasing and non-repurchasing companies. Second, the multivariate analysis finds the explanatory variable as non-significant in explaining the variation in the amount of repurchases (REP). Finally, the study analyzes whether companies accumulate cash during a period of 3 years prior to the year of share repurchase. It is observed that the cash balance to total assets ratio declines from 0.10 in the year −3 to 0.097 in the year −2 and further to 0.094 in the year −1.

Table 7.

Movement in ROA and NOPER of Repurchasing Firms Prior to Repurchase

Variable		Year
	−1	−2	−3
ROA (%)	11.94	12.24	11.65
NOPER	0.0333	0.0330	0.0294

Source: The author.

Conclusions

Out of the Indian companies that pay dividend, only a small percentage of firms repurchase shares. Share repurchases are made only by companies that pay dividend also. For Indian companies, the policy of paying dividend only is the most stable payout policy. Indian companies use repurchases as a flexible means of distributing cash to their shareholders. Share repurchases are not used by Indian companies as a substitute for dividends. In India, more profitable companies (with higher ROA and NOPER) that are undervalued by the market (with low MBR and negative SRET) are more likely to repurchase shares. For repurchasing Indian companies, both ROA and NOPER show a rising trend over a period of 3 years prior to share repurchase.

The significance of ROA and NOPER in both univariate and multivariate analysis combined with their positive movement in 3 years prior to the year of repurchase lend credence to the applicability of undervaluation hypothesis in India. Further support for this hypothesis is provided by the statistical significance of MBR and SRETD in the Tobit regression. The share repurchasing companies in the sample (excluding those that have repurchased shares in the year 2017) have provided an average return of nearly 60 per cent during the year after repurchase reflecting their undervaluation at the time of repurchase. This study does not find any evidence supporting the excess capital hypothesis.

Managerial Implications

Managers of equity mutual funds, portfolio managers providing portfolio management services, managers managing the investment portfolios of banks and companies and individual investors can use the findings of the study to enhance their returns by identifying undervalued companies among those whose shares are being repurchased. Share repurchasing companies with low market-to-book ratio, high return on assets, high non-operating income and negative stock returns can be good buys as such companies have been shown to report very good post-repurchase stock price performance.

Footnotes

Acknowledgement

The author is grateful to the anonymous referees of the journal for their extremely useful suggestions to improve the quality of the article. Usual disclaimers apply.

Declaration of Conflicting Interests

Funding

The author received no financial support for the research, authorship and/or publication of this article.

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