Telstra shareholders steal a few centimetres

The billion-dollar Telstra share buyback ended up being a bit of a fizzer, even for those who were almost assured of being winners. In a low interest rate environment where investors chase dividends a special deal from Telstra was always going to be popular. But the full story of how the buyback played out tells us quite a lot about our current market.

Put simply…everything went against investors – the discount maxed out, the share price was depressed and even those who wanted ‘in’ were massively scaled back.

As it turned out, it was largely only worth participating in if you were a 0% taxpayer – essentially those with low taxable incomes and super funds in pension phase.

But nonetheless, for those who stood to benefit, it was loose change that was worthwhile bending over to pick up, if you were keen to sell off some of your stock to invest elsewhere.

And the great unknowable – how big a benefit you stood to gain from the likely associated capital loss – will have another value for other investors who don’t immediately stand out as winners.

Discounting and scaling back

Telstra’s share price had slumped since August, when the $1 billion buyback was announced. From highs above $5.70 per share, Telstra spent most of the time post mid-September below $5.40. With the value of hindsight, many investors might have been better off selling into the market before the entire market started crumbling.

Telstra had earlier invited shareholders to sell their shares into the buyback at a discount of between 6% and 14% to the average price of Telstra shares for the five-day period up to October 3 (see Telstra’s special offer, August 18). The discount to the market price was eventually set at the maximum of 14%. Unless you offered to sell your shares at the biggest discount, then you’ll get diddly. If you agreed to sell, but only at a discount of 13% or less, tough. This was largely expected.

There were also massive scale backs, which were highly likely as well. For those who held 925 shares or less, all of their shares were bought back. If you held more than that, your first 925 shares would be bought back, but everything else you offered for sale would be scaled back nearly 70%. For example, if you had 5,000 shares, you could sell your first 925, leaving 4075 remaining. The remainder would be scaled back 70%, so you would only get to sell 30% of the remaining shares, or roughly 1,223 shares.

If the scale back process left you with 370 shares or less, then those small shareholdings would also have been mopped up and bought back.

Investors will begin to see their cash – far less than many had potentially hoped for – from Tuesday, October 14. Shares that weren’t accepted should have been released back to investors from Monday.

So, the final price for the buyback was $4.60 (a 14% discount to the weighted average market price of $5.3418). This was made up of a capital component of $2.33 and a fully franked dividend of $2.27.

For those on 0% tax rates (those earning less than $18,200 a year and super funds in pension phase), it created the following numbers.

The true value of the $2.27 fully franked dividend works out to be a little more than $3.24, after grossing up the dividend for the value of the franking credits, that is, adding back in the 30% tax that the company has already paid. If you are paying no tax, then you might receive a tax return for the franking credits on that of approximately 97 cents a share ($3.24 grossed up dividend value minus $2.27 fully franked dividend).

Therefore, adding the capital component to the grossed up dividend, your after-tax return was closer to $5.57 ($3.24 plus $2.33).

Overall, that would mean a “bonus” to the closing share price of approximately 23 cents a share for 0% taxpayers.

Unfortunately, for those on most tax rates thereafter, they would have been facing losses on a cash basis.

But the value that is a little harder to measure is the benefit of the capital gains tax losses that most will have received. As the capital value is likely to be $2.33 – which will be determined by the ATO later this month – and Telstra has never traded that low, there will be capital gains tax loss for most investors.

Losses have a value, as they can be used to offset or reduce other capital gains. In one sense, the more that you paid for your Telstra shares, the bigger the value of this loss.

Counting the benefits

The benefit of the deal for Telstra and remaining shareholders? Plenty. First, they will potentially get rid of a bunch of shareholders from their books, with many small shareholders selling their shares completely. It costs money to have shareholders, particularly for the massive mailouts. This will only have worked if those who sold all of their shares into the buyback didn’t immediately buy back in.

It was also considered good capital management for Telstra, as a business. If they didn’t have anything better to invest the money in, then they get kudos for returning that cash to investors in a tax-effective manner.

The remaining shareholders get a benefit from the smaller number of shares on issue – this won’t make the company any less profitable, but profits will now be shared among fewer investors, which is known as earnings-per-share accretive.

So, not a big win-win for investors. Super pension funds will have gained, although not quite as much as they might have hoped when it was announced.

But SMSF trustees, in particular, know that investing is a game of centimetres. When you can steal a few centimetres, you do. And the small ground that might have been gained from participating will, as always, be gratefully accepted.

The information contained in this column should be treated as general advice only. It has not taken anyone’s specific circumstances into account. If you are considering a strategy such as those mentioned here, you are strongly advised to consult your adviser/s, as some of the strategies used in these columns are extremely complex and require high-level technical compliance.

Bruce Brammall is director of Castellan Financial Consulting and the author of Debt Man Walking. E: bruce@castellanfinancial.com.au

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