A move by Tata Consultancy Services to buy back shares would put pressure on top companies in the IT sector to follow suit, said Ravi Menon of Elara Capital.
In an interview to CNBC-TV18 on Wednesday evening, outgoing TCS chief N Chandrasekaran said that investors had suggested a buyback and the board would take a final call. The company confirmed this morning it would consider doing a buyback on February 20.
While Cognizant recently announced a USD 3.4 billion buyback plan, Infosys is being pressured by two of its ex-CFOs to consider a share buyback.
This comes amid rising concerns that IT companies are struggling to put excess cash to investment use in a growth-challenged environment.
Read: TCS board to consider buyback on February 20
A CNBC-TV18 analysis outlines two potential scenarios. In a 10 percent buyback, TCS can buy back shares up to Rs 7,500 crore, or 1.5 percent of its market cap, after board approval. In a 25 percent buyback, TCS can buy back shares up to Rs 18,500 crore, or 3.9 percent of its market cap, after a nod from shareholders.
Chandrasekaran, who is leaving TCS to take charge of the Tata Group, said that every tech company has a large cash balance and TCS does not want to be short of cash should it decide to make acquisitions. He said he agreed with the view that cash should be returned to shareholders.
Read: EXCLUSIVE: Here's why N Chandrasekaran is bullish about TCS and IT sector
Dipan Mehta, BSE Member, said structural problems in the IT industry remain and a buyback won't change that. Mehta said that while the TCS stock may get a bump in the short-term, the buyback would not ensure profitability in the long term.
Sanjay Dutt, Director of Quantum Securities, said the buyback would be a positive development. "Managements are finally waking up to fact that if you have cash on the books with no alternative use, it's high time you give back money to shareholders," Dutt said.
Below is the verbatim transcript of Ravi Menon, Sanjay Dutt, and Dipan Mehta’s interview to Latha Venkatesh, Sonia Shenoy, and Anuj Singhal on CNBC-TV18.
Sonia: We have woken up to this news flow just now that Tata Consultancy Services (TCS) will be considering a share buyback. What are your first thoughts, of course the buyback generally puts a floor to the stock, but how do you see the stock take this news flow?
Menon: I think it is positive. The return ratio should look up after this. People have been talking about company increasing dividend payout, I think it should be a positive. I think this will also put pressure like you said on other firms to do similar actions. Infosys is sitting out cash which is equivalent to 70 percent of its trading 12 month cost.
Latha: At the moment how will you play it, there has to be a number isn\\'t it for the market to react, what will you price in?
Menon: My price target for TCS currently is Rs 2,800 and I think that factors in anything like this that could happen.
Anuj: You have been a bear on largecap IT and we remember talking about the Infosys buyback that at best it could put a floor but do you get a sense that with TCS now out and maybe Infosys at some point also declaring a buyback, things could start to look a bit better for the IT stocks, the IT bellwethers?
Mehta: I think definitely. As I heard Latha say that it puts a floor on the price, brings in the arbitragers, so, they will start trying to asses if they can buy in the secondary market and offer as a buyback to the company. So, those activities do start but end of the day I think there are structural problems for the industry and a buyback is not going to change that, it is not going to change the future corporate profitability growth and these things certainly are going to still remain in the minds of the investors.
So, you could have a temporary bump up in TCS and other IT stocks. However, that does not necessarily mean that the long term trends for these companies has changed. So, I would say that depending upon how the news flow is in terms of exact specifics of the buyback, any appreciation which takes place in the stock could be a good opportunity for long term investors to still exit from the IT companies. Of course the shareholders should offer the shares in the buyback because I think they will get a side premium as compared to the market.
Latha: The numbers here say reserves in surplus Rs 65,000 crore and Reema writes that they can do up to USD 3 billion for a buyback. What will this mean, they still have a decent amount of pile left, so, do you expect it will be 10 percent or 25 percent?
Menon: I think it is more likely to be 10 percent rather than 25 percent. They would also require to keep at least USD 2 billion in cash minimum. All of these firms have been averse to debt, so, I don’t expect it to go up to 25 percent.
Latha: What kind of peer pressure does this put on IT companies, will the peer pressure to announce a buyback be only on Infosys or will it extend to all of them and would even Mindtree, Persistent Systems, Cyient, all of them have to jump in?
Mehta: I think largecap IT certainly there will be pressure from the shareholders to follow suit. Midcap IT companies still need to keep cash in the books because they are still looking at M&A activities and there are many smaller targets which they keep on acquiring in order to generate inorganic growth. However, in terms of larecap IT, the options available for inorganic growth also are limited. So, there will be pressure to absorb the cash by way of a buyback. So, you could just see the top three or four companies going in for a buyback. The others would do maybe something like in a name sake, nothing major and it would impact the stock price or the equity structure.
Latha: With the announcement of TCS buyback, the expectation is there will be similar announcements from the other IT biggies. How would you look at it as a longer term investor? It\\'s time to get rid of the stocks, time to buy?
Dutt: I think what the management is trying to do right now and what whole situation is that you are kind of putting a floor to most of the IT stocks particularly the bigger ones. However, we spoke a few days back and I was optimistic on the technology space because most of the negatives had played out including things like corporate governance etc, in Infosys.
I believe this is a positive development. The management is finally waking up to a fact that if you got cash in books, you don\\'t have any alternate use, you have acquisition in place etc or you cannot find something. It\\'s high time to start giving money back to the shareholders because its ultimately shareholders\\' money and that is exactly what is the main bone of contention in Infosys also. Therefore, it\\'s a positive development for the sector and particularly for the large IT companies.
Sonia: What would be the pecking order look like because for now TCS has kicked it off but do you expect the others to follow suite and in terms of your favourites, what do they be now?
Dutt: I would stick with Infosys and as long as Vishal Sikka and his team are not jumping ship with this whole corporate governance hoo-ha but as long as the management sticks on and nothing worse gets there. I think Infosys is definitely worth looking at at this point of time and adding to long-term portfolio.
Of course TCS is in good shape too but between the two large IT companies I would grade Infosys as number one at this point of time on my buy list in case I need to have IT in my portfolio.
For the full interviews, watch accompanying videos.