Earnings recovery likely to be led by the banking sector: IIFL Securities CEO

The equity markets were unimpressed on taxation of buybacks at 20 per cent (for listed entities), increasing minimum public shareholding by 10 percentage points to 35 per cent (under consideration), and disinvestments in CPSEs (taking away liquidity from the markets). Additionally, higher tax rates of nearly 42.7 per cent was not taken well by top income earners.

In the short term it will impact sentiments. However, India is the fastest-growing large economy with a stable democratic government and 1.3 billion population. This is an opportunity not available anywhere in the world, and would continue to attract foreign investment. The Budget has also proposed many foreign investment-friendly measures which will soothe frayed nerves in the long term.

Based on the latest shareholding data, out of the total number of listed companies (including government companies), there are 1,250 companies where promoters’ shareholding is more than 65 per cent. According to our calculation, these companies will have to offload shares worth ₹3.9-lakh crore. This will include giants such as TCS, Wipro, Avenue Supermarts and HDFC Life Insurance, etc.

In order to dissuade the action of avoiding Dividend Distribution Tax (DDT) through buyback of shares by listed companies, it is brought forward to provide that listed companies shall also be liable to pay additional tax at 20 per cent in case of buyback of shares, as is the case currently for unlisted companies. DDT is paid by companies which decide to distribute their profits to shareholders by way of dividend. Currently, DDT is taxed at the rate 15 per cent, but after surcharge and cess, the effective tax rate works out to about 20 per cent.

In the current Budget, it is decided that listed companies shall also be liable to pay additional tax at 20 per cent in case of buyback of shares, as is the case currently for unlisted companies.

Hence, the proposed tax on share buyback is negative prima facie . Currently, a lot of companies, especially high payout companies such as Wipro, had shifted to buyback than pay dividend. Now, with the change in taxation on buyback, these companies will think twice before opting for buyback. IT companies in India have bought back $13 billion of equity since FY16, over and above the $16 billion of dividends, paying out 76 per cent of profits with an average annual yield of 3.7 per cent.

For full Budget 2019-20, the silver-lining are the government’s overseas borrowings plan, reduction in fiscal deficit target and recapitalisation of PSU banks. Fiscal prudence was taken well by the bond market. The equity markets, however, reacted negatively on buybacks (untaxed before, being now taxable) and lack of sops for the hurting sectors.

Most of the allocations have come down or the growth rates have come off, which suggest that the government has taken specific approach towards spending. We expect the earnings recovery to be led by the banking sector, while lower crude prices and favourable monetary policy should kick-start the capex cycle. In the next 6-12 months, we may see things improving.

For retail investors, systematic investment through mutual funds remains the best option. Direct investment into stocks at this volatile juncture without proper research and advise is not desired.

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