Question

Question B8 The company PDR Ltd is listed on the Australian Securities Exchange (ASX). The company conducted an off-market share buyback on October 21, 2011. This share buyback was under tax determination TD 2004/22. The relevant corporate tax rate is 30%. Shareholders were invited to tender their shares between $7.50 and $9.20. PDR's Volume Weighted Average Price over the five days before the first announcement of the buy-back was $8.60. PDR's opening share price on the day of the announcement was $8.57, and its closing share price on the day of the announcement was $8.66. Over the period from the announcement to the close of the buyback, the market index rose 1.25%. PDR announced the buyback price to be $7.50. The fully franked dividend component of the buyback was $4.00. John is an Australian resident shareholder of PDR Ltd who bought one share for $5.20 in 2008. Assume that John's personal income tax rate is 50%. What were the total after-tax proceeds that John received from the buyback? Show all your work.

Answer 1

Answer:

If prior to TD 2004/22, then

Capital component = Buyback price - fully franked dividend

= $7.50 - $4.00 = $3.50

Capital loss = purchase price - capital component

= $5.20 - $3.50 = $1.70

Deemed consideration = $8.60*(1+1.25%) = $8.71

Capital loss = Purchase price of the share - the capital component

= Purchase price of the share - (the deemed consideration – dividend component)

= $5.20 - ($8.60*(1+1.25%)-4)

= $5.20 -$4.71 = $0.49

After-tax proceeds from dividend component = cash dividend + franking credit – taxes on the grossed-up dividend =

$4 + 0.3*($4/0.7) – 0.5*($4/0.7) = $2.857

After-tax proceeds from capital loss or gain = capital component (actual capital component received by shareholders – not for tax purpose) + tax saving from the capital loss

= $3.5 + $0.49*0.5*0.5 (long-term capital gains tax discount) = $3.6225

So, total after-tax proceeds is $2.857 + $3.6225 = $6.48