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Thursday, January 19, 2012

Why did Reliance announce a share buyback?

Regular readers of this blog know that I am biased against any company that has ‘Reliance’ in its name. So it should not come as a surprise that all actions by the Ambani brothers are viewed through a lens of strong suspicion by me.

If you are a dyed-in-the-wool Reliance investor, please don’t take umbrage at my tirade. Just ignore it. If you are considering an entry into this erstwhile darling of the Indian stock market, please read through and then decide.

The performance of Reliance companies have been less than stellar during the past couple of years. The stock market has punished all the group company stocks, including those of the big daddy of them all, RIL. The Ambani brothers have become wealthy beyond belief and have acquired notoriety by using various dubious means to circumvent the rules and accumulate the shares of their own companies. The hammering of Reliance group stock prices has dented their considerable personal wealth.

What better way to make a little extra cash than to announce a buyback before announcing Q3 results? RIL’s Q3 results – to be announced on Jan 20 ‘12 – is not expected to be great. That may lead to further selling of a stock that has already lost more than a third from its 2009 peak. The buyback announcement caused a price spurt – providing a nice opportunity to make a few extra bucks.

What will happen to small investors holding the stock? Not much – unless they use the current price spurt to book profits. Buybacks are a method used by companies ostensibly to ‘reward’ shareholders. How? Usually, the bought back shares are extinguished – which means they cease to exist. So, the equity capital of the company gets reduced and correspondingly, the EPS increases. The P/E ratio becomes lower, making the stock look more attractive valuation-wise.

But it all depends on how much of the equity capital gets bought back and extinguished. A similar buyback was announced six years back, but only a small percentage of the total equity capital was bought back. If it is a tiny percentage this time as well, it will have little or no effect on the EPS or P/E. RIL is likely to buy the shares from the open market – which means small investors will get no particular benefit.

A share buyback can be an indication that the management thinks that the shares are undervalued. It can also mean that the company is bereft of ideas about what to do with their money to enhance growth. More likely the latter, based on the totally unrelated ‘di’worse’ifications that the elder Ambani has undertaken of late – into sectors like retail, telecom, media.

Make no mistakes. The refinery business has been – and continues to be - a cash cow. But refinery margins are coming down and the gas business has been mired in controversies. None of the unrelated businesses have performed well so far. Technically, the chart looks weak and the stock price can fall to its 2009 low.

Related Posts

Why rely on Reliance?
1:1 Bonus announcement by Reliance Industries - is it good news for investors?

6 comments:

Din said...

Thanks

NABC said...

The lowest price of RIL in 2009 was in January 2009 (pre-bonus). It touched Rs 533.55 in Jan'2009. So if I adjust this pre bonus price to post bonus then it will be Rs 267.

The CMP of RIL is 790 and if you are saying that the stock will touch 2009 low then it will slide to Rs 267. Right? It means we are predicting a downfall of another 66% in the stock price. Trust you have noted the impact of that to the stock market considering RIL constituting more than 15% of the Sensex?

Also if the stock is hammered during last one year or so and has underperformed the broader market does not mean the company has become worthless. With this parameter, L&T, which has also been hammered, should be considered a worthless entity. But it is not that straight.

Regarding entering into unrelated businesses and diversifications, how will they increase the shareholders’ wealth otherwise? If they don't diversify then their risk of depending on a single business will be huge and the same set of analysts will criticize them for this.

Regarding allegations of using everything to its advantage are nothing new. These have been there since Dhirubhai's time (I remember 1990 when stock was hammered big time just because of these reasons) and will continue to exist. But RIL has not fudged its accounts to produce revenue of Rs 2.5lac and to become the most valuable company of the country. This is an achievement for sure.

I respect your views but I do not agree in case of RIL and I am not a diehard fan of RIL either. I liked to see the value instead when everyone is behind a company/stock market for that matter.

Sanjeev Bhatia said...

You were bang on Subhankar Da. Reliance has indeed posted dismal numbers and now even moneycontrol is saying that Buyback seems to be cover up for poor results.

Maybe we will see that reaction on monday. Lets see if it drags Nifty along with it..

Dot on Target, Da.

Subhankar said...

@Din: You're welcome.

@NABC: For some one who isn't a die-hard fan, you appear to know a lot about RIL! Disagreements lead to discussion, which in turn leads to knowledge. So, opposite viewpoints are always welcome.

But you should get your facts correct. Jan '09 low was 533.55 AFTER bonus adjustment. The pre-bonus price was 1067. There is no guarantee that RIL stock will fall to 533 - it is just a possibility.

Where exactly did I say that the company was worthless? On the contrary, it was clearly mentioned that the refinery business continues to generate a lot of cash. Their margins are deteriorating.

About di'worse'ification, all I can say is that the best companies in the world stick to their knitting and do what they know best. Think of Microsoft, TCS, Ferrari. At some point, all large companies face slow down in growth. Those that di'worse'ify, usually revert to their earlier business - or suffer the consequences.

@Sanjeev: Thanks. RIL did fall, but the fall didn't bring down the Nifty much because some of the other Nifty constituents did better.

Avinash Jain said...

As far as Market is concerned With the downfall, Reliance holds More than 15% of the Sen-sex. So it definitely Affects Market if Reliance Stocks have further Downfall. There are not much Expectations from Q3 Results. So it seems to be a Good Strategic move By Reliance to Declare Buyback And keep the prices up for now. But the company will go for a mass buyback in order to keep its Stock Valuation-wise Attractive, Won't that will eliminate the possibility of the Stock going to its Lowest price of 2009 , i.e 533.55 ? I find it only possible if Q3 Reports of happen to be showing worst.

Subhankar said...

You are quite correct in your assumption that RIL will try to keep their share prices propped up. Let us see how much they actully buy back.

I made the comment about touching the 2009 low based on technical charts. If the Nifty falls a lot from here - and there is no guarantee that it will - RIL will be a likely leader in the fall.

A flood of FII money can throw all analysis out of the window. But the fundamentals certainly don't point to a sustained rally.