Total Shareholder Return (TSR) – Definition and Explanation

Understanding Total Shareholder Returns

What is Total Shareholder Return (TSR)?

Total shareholder return is rate of return earned by an investor by investing in stocks of Companies during the investment period.

An investor investing in stocks makes money in two ways; • •

First is the capital appreciation or loss from rise or fall in the share price of the Company.

Second is the dividends earned on the stocks (Dividend yield)

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Why is TSR an important measure?

•

TSR is an effective metric from investors perspective to compare the stock returns of different Companies

•

Share price performance comparison itself may not give the correct picture, as the performance of companies may differ in share price appreciation and dividend yield  Few Companies may have high share price percent change and low dividend yield  While price of other Companies may have low share price percent change and high dividend yield

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How is TSR measured?

•

TSR for one year is calculated as;

•

Total Shareholders Return = P1 – P0 + Dividend P0

Where P1 = Share price at the end of the year P0 = Share price at the beginning of the year

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Example

•

Suppose you have purchased one share of ABC Limited for $100 on 1st Jan 2019. On 31st Dec 2019, the share price is $112. You also earned $5 as dividend during the year.

The Share price return = 12% Dividend yield = 5% Total shareholder return = 17%.

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Drivers of TSR (1/2) If we further break Total shareholders Returns ,we find that TSR is driven by change in Earnings per share, Change in PE multiple and Dividend yield.

Change in EPS

Change in Share price Change in P/E multiple Total Shareholder Returns

+

Dividend Yield

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Drivers of TSR (2/2) If we multiply share price and EPS by no. of outstanding shares, we get Company level TSR (See figure below).

1 Net income growth Change in Market capitalization

+

Total Shareholder Returns

3 Dividend Yield

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2

Change in Market cap/ Net Income multiple (ie; P/E multiple)

1 •

• •

Net income growth Revenue growth is driven by increase in prices or volume growth.

A Company’s growth strategy may differ depending on the industry it caters to.

Growth can be achieved through innovation (e.g.

Microsoft), Improved customer satisfaction (e.g.

Apple), Geographic/ product catalogue expansion (e.g. Amazon)

Leverage

• Leverage may also result in EPS growth and higher shareholder returns as cost of debt is low compared to cost of equity.

• However, as the leverage increases the risk for the shareholders also increases.

• Therefore, understanding the risk and return ratio is important before investing in a highly leveraged Co. Email: Support@skillfinlearning.com

Revenue Growth

• Earlier most corporates focused on G&A reduction through Global shared services model or Outsourcing • Currently, the focus is on cost reduction across the value chain through use of Artificial intelligence, Machine learning, automation etc.

Net Income Growth

Cost reduction

•

Capital efficiency

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•

•

Efficient use of capital is an important driver of cash flows and Return on Invested Capital.

Corporates are focusing on improving their revenue cycle to improve their AR Efficient supply chain management across the value chain to improve cost and manage inventory

P/E Multiple/ Investor expectations

2

•

•

•

Investor expectations on future performance of the Company is a critical driver of TSR. A company which has delivered high growth and return on invested capital in the past may not deliver high TSR, if investors expect decline in operating performance of the company going forward due to changing consumer preferences or change in economic scenario or due to change in management priorities.

Decline in expectations on future performance would be reflected in declining P/E multiple of the Company and hence on TSR and vice versa.

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2

P/E Multiple/ Investor expectations – Example 1

• Netflix has delivered high growth, but low or negative returns/cash flows in the past as it is investing heavily in online content for growth.

• With increasing preference for online video content it is expected to deliver exponential growth in cash flows going forward. This is reflected in share price performance of the during past few years (See Share price performance vs S&P 500).

• In the last 5 years, Netflix has delivered 378% returns as compared to 55% by S&P 500. High valuations are driven primarily by high expectations around future performance.

Source: Google finance

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2

•

• • • •

P/E Multiple/ Investor expectations – Example 2

Pharma industry in India is another example of change in investor expectations. Before the Pandemic, the industry was facing multiple headwinds in the form of Regulations, Pricing pressure, Quality issues etc.

But since the outbreak of Covid 19, investors expect the Pharma Companies to perform better due to rising demand.

Change in investor sentiments is reflected in the increased multiple for Pharma Companies.

See on the right the performance of NIFTY Pharma Index Vs NIFTY 50.

NIFTY Pharma has delivered 24% YTD returns whereas NIFTY 50 has delivered negative returns (-16%) Source: Google finance

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3

• • •

•

Dividend Yield Dividend yield is important to calculate TSR. However, it is not a driver of TSR. Dividend is paid by Corporates out of the cash proceeds generated from the business after meeting the capex requirements and paying off the financial liabilities.

A company making high investment in future growth may not have cash to pay dividends and yet generate high TSR as growth investment today would result in higher cash flows in the future (high multiples driven by investor expectations).

A company with high cash flows in a mature industry (Eg. Power Generation Company) may have low or no growth opportunity. Such Company’s pay high dividend to shareholders as they do not want to retain cash due to limited growth opportunities. TSR for such Companies are relatively stable as investors do not expect much improvement in Earnings growth.

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Summary

TOTAL SHAREHOLDER RETURNS PROFIT IMPROVEMENT through Growth, Margin improvement and Capital efficiency INVESTOR EXPECTATIONS around future performance (represented by earnings multiples) DIVIDEND YIELD, though important is not a DRIVER of TSR

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