A buyback sometimes provides a strong signal about the health of a company. It can highlight the conviction of the management on the company’s prospects even as the market is less confident. Public sector units (PSUs), for example, are generally reluctant to use buybacks to enhance shareholder value. So when a PSU goes for a buyback, it makes a case for a closer evaluation. Thanks to the ongoing market correction, some PSUs have announced buybacks and they are worth a look.
Among shipyards, we have always considered Cochin Shipyard as a superior capital allocator. So if the company is coming out with a buyback in the current weak market conditions, after listing barely a year ago, it proves the point.
Cochin Shipyard is a debt-free company and currently sitting on cash to the tune of about Rs 3,000 crore, almost equal to its networth and 57 percent of its market capitalisation.
Unlike its peers, the company has sold growth plans considering its order book of close to Rs 12,000 crore or about 6.7 times its sales. It is adding new shipbuilding facility and increasing its ship repair capacity, which will utilise a considerable amount of its cash.
It will still be left with surplus cash in the interim and going for a larger buyback could prove to be a right step in terms of reducing its cash and improving its return ratios. It has a market capitalisation of Rs 4,892 crore. A buyback of even 10 percent of this would require less than Rs 500 crore, and reduce the networth thus improving its return on equity, which stood at 15 percent in FY18, largely because of the cash on the books.
Moreover, the stock is currently trading at an earnings yield of close to 9 percent based on the current year’s estimated EPS of Rs 32 a share. This is far superior compared to the yield on cash, which after adjusting for the taxes makes little justification for parking money in the banks and other short-term instruments except for the liquidity.
NLC’s stock has corrected about 34 percent this year and is currently trading at 5.5 times the trailing earnings. The dividend yield is about 6 percent.
Formerly known as Neyveli Lignite Corporation, NLC is into lignite-based power generation, making an annual free cash flow of close to about Rs 800-1,000 crore having a debt to equity of 1.3 times, which is one of the lowest in the power generation space.
In fiscal 2018, the company reported a 16 percent return on equity (RoE), which is depressed because of the cash on books and a capital work-in-progress (WIP) of Rs 8,200 crore or 60 percent its FY18 net worth.
The core business is making far better RoE and once the capital WIP is converted, this will start reflecting in the growth as well as return ratios, which are currently ignored by the market.
While lack of immediate growth in revenues has kept a large section of investors away from this company, off late the prices have fallen due to the carnage in mid and small cap stocks.
No wonder, the company now intends to buy back its shares at Rs 88 a share for an aggregate amount of Rs 1,249 crore. This will reduce the equity by almost 10 percent and can easily be funded through the surplus cash in the books. Moreover, this will be value accretive as its shares are currently offering a close to 18 percent earnings yield as against the 8-9 percent it is making on its cash.
Nalco’s shares closed with 10 percent gains after it announced a buyback. During the carnage in the stock market particularly in the mid and small caps, Nalco, the state-owned aluminium producer had fallen by almost 50 percent from the peak to a valuation of 6 times based on FY19 estimated earnings.
Nevertheless, the company has shown its intention to buy back shares. This could be a good initiative considering the company is sitting at close to Rs 3,000 crore of cash and cash equivalent or about 30 percent of its net-worth. Even if a part of this is used, it will provide a huge support to its share prices as well as improve its return ratios. It could prove to be a value accretive exercise considering that the stock is currently offering an earnings yield of close to 16 percent.
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