A consumer company with surplus cash earning 7% pre-tax can pay a special dividend or buy back shares at 25x earnings. What happens to EPS under each, and how does tax shape the choice?

The buyback cuts EPS from Rs 20.00 to about Rs 19.67, and the special dividend to Rs 18.69 with Rs 25 a share paid out. The director is wrong at this price: the shares yield 4.0% against 5.25% after tax on the cash, so the buyback only adds to EPS below about 19x. Before tax, neither route changes shareholder value. The choice turns on how each route is taxed in shareholders' hands, which must be checked against current rules.

Imagine you hold a fixed deposit paying 5.25% after tax and use it to buy out a partner's share of a shop that earns 4% on the price you pay. Your income per share of the business can fall even though there are fewer partners. A buyback lifts EPS only when the earnings yieldEarnings per share divided by the share price, the inverse of the P/E ratio. of the shares bought exceeds the after-tax return the cash was earning. Bhagirath's shares yield 1 over 25, 4.0%. The cash yields 7% less 25% tax, 5.25%. The breakeven P/E is 1 over 5.25%, about 19.0x; above it, buybacks dilute.

Both options spend the same cash, so both lose its after-tax interest: Rs 1,000 crore times 5.25% is Rs 52.5 crore, taking net income to Rs 747.5 crore. The buyback retires 2 crore shares, leaving 38 crore, so EPS is 747.5 over 38, Rs 19.67, down 1.6%. The dividend leaves 40 crore shares, so EPS is Rs 18.69, down 6.6%, but each shareholder holds Rs 25 of cash per share that the buyback holder does not.

Before tax, no. The company was worth Rs 20,000 crore including the cash; after paying Rs 1,000 crore out, the remaining business is worth Rs 19,000 crore. Spread over 38 crore shares that is Rs 500 each, exactly the buyback price, so a buyback at fair value moves EPS without creating any value. Had Bhagirath traded at 15x, Rs 300 a share, the same buyback would have lifted EPS to about Rs 20.39, still without making anyone richer if Rs 300 were the fair price. Value moves only if the shares are bought below or above what they are worth.

Taxes are where the two routes truly differ, and the rules change often, so treat this as a framework and confirm the current position with the latest Finance Act and a tax adviser before using it. The question to ask is who pays tax on the payout, at what rate, and whether the shareholder can offset the cost of the shares given up. In India, dividends have for some years been taxed in the shareholder's hands at the shareholder's own rate. Buybacks have moved between a tax paid by the company and, more recently, treatment of the proceeds as income in the shareholder's hands, with the cost of the tendered shares available as a capital loss. Under any regime, a buyback lets shareholders choose whether to take cash, while a dividend forces cash on everyone, including those in high tax brackets who would rather not receive it.

The right answer to the board therefore has three parts: at 25x the buyback slightly dilutes EPS, neither option changes value before tax, and the tax treatment for Bhagirath's actual shareholder base, promoters and institutions alike, should decide the route.