The biggest losers of Nykaa bonus issue are IPO retail investors

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Nykaa’s decision to issue bonus shares to shareholders will hit them with an additional tax burden if they sell their holdings.

The impact on investors who bought the shares of FSN E-Commerce Ventures, which owns Nykaa, during the initial public offer a year ago is three times higher than those who invested before the IPO.

According to a Moneycontrol calculation, if IPO investors liquidated their holdings in Nykaa at Rs 210 per share on November 14, they would not only register a Rs 915 long-term capital loss but would also end up paying tax of Rs 157.50 on the gross profit of Rs 1,050 from the sale of the five bonus shares.

To make it clearer, assume you bought one share of Nykaa during the IPO at Rs 1,125. After the bonus issue, you were issued five additional shares for which the cost of acquisition is zero for tax purposes.

Now, if you sold all six shares on November 14 at Rs 210 per share, you would book a loss – classified as long-term capital loss – of Rs 915 on the share you bought during the IPO.

For the five bonus shares, your total profit – classified as short-term capital gains – would be Rs 1,050 (Rs 210 x 5). Under Indian tax laws, long-term capital losses cannot be set off against short-term capital gains (STCG).

This means you will have to pay a STCG tax at 15 percent on the realised profit, which is equal to Rs 157.50. Thus, the net short-term profit will be Rs 892.50. For the entire transaction, the net realised loss turns out to be Rs 22.50

Now assume there was no bonus issue and you sold one share on November 14. The share price (not adjusted for bonus) would have been Rs 1,260. You would have made a profit of Rs 135 (Rs 1,260-Rs 1,125).

The Nykaa stock price has appreciated since the bonus issue. If you had liquidated one IPO share plus five bonus shares on November 10 at the prevailing price of Rs 175, your net realised loss would be Rs 206.

Also read: The good, bad and ugly of Nykaa’s bonus issue

It’s not that the decision to issue bonus shares has no negative tax impact on pre-IPO investors. Assuming they also liquidate their holdings at Rs 210 per share, their total tax impact would also be higher than if there was no bonus issue.

However, since their original cost of acquisition was much lower, they end up paying only a third of the extra taxes – Rs 52.50 – that IPO investors would pay. Moreover, the profit that they end up booking more than makes up for it.

The calculation shows that against a loss of Rs 22.50 for IPO investors, pre-IPO investors including Fidelity, Harindarpal Singh Banga, Narotam S Sekhsaria, Sunil Kant Munjal, TPG, and Lighthouse would still end up making Rs 900-1,100 for a similar transaction.

Also read: Nykaa’s bonus issue | What does it mean for the company’s corporate governance record?

The decision taken by the Nykaa board hurts retail investors the most. Fund managers and analysts are questioning the intent behind and the timing of the bonus issue.

“Clearly, Nykaa fails the smell test,” Shyam Sekhar, founder of iThought, which runs portfolio management and investment advisory services, said in a tweet. “When a company with founders from the investment banking industry does this, it is like a 9/11 fire alarm for corporate governance in India. Clearly, the independent directors have failed in their duty. Shareholders are victims.”

Also read: Sekhsaria, Lighthouse sell while Norges Bank picks stake in Nykaa

On November 10 when Nykaa traded ex-bonus, over 80 million shares changed hands on the National Stock Exchange and the BSE. That compares with the one-month average volume of 6.3 million shares.

Lighthouse India Fund, Gopal Gaonkar, and Narotam S Sekhsaria were among the sellers, while Segantii, Norges Bank and Aberdeen Standard Asia Focus were among those who bought Nykaa shares.

Disclaimer: The views and investment tips expressed by investment experts on Moneycontrol.com are their own and not those of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.