7.11: Dividends and use of other profits Flashcards
How is a dividend funded?
Made out of profits available for that purpose rather than capital.
Any distribution must be paid out to holders of preference shares before whatever remains is split equally between holders of ordinary shares.
Directors must consider whether the company has incurred losses that have eroded the profits available for distribution, using the company’s most recent annual accounts.
What is a dividend and when is it paid to shareholders? Is it an automatic right and where is it governed?
The dividend is the reward paid to shareholders for their investment in a company’s equity, which provides them with a return on their investment.
The payment is not an automatic right. The process of recommending and declaring a dividend is governed by a company’s articles.
What is a dividend?
A dividend is a distribution of a company’s earnings to shareholders, usually in cash, as a reward for their investment.
What are the steps for paying a dividend?
Board Approval – Directors (the board) recommend the amount for the dividend.
Declaration – An ordinary resolution is passed by shareholders. Shareholders cannot declare an amount more than that recommended by the directors, but they can substitute a smaller amount.
Once declared, it cannot be retracted.
Payment – Shareholders receive the dividend.
What is a ‘buy back’ of shares?
A buy back of shares is where the company buys some of its own shares from existing shareholders. Once the shares are bought back, they are cancelled and the company’s share capital reduced accordingly.
- lucrative for investors as shareholders take back more shares
What legal duties must directors follow under the Companies Act 2006?
Directors must:
Act within their powers.
Promote company success for the benefit of shareholders.
Exercise reasonable skill and care.
Declare any personal interest in dividend payments.
What statement best summarises any potential liability attaching to the directors and shareholders relating to the assurances given at the time the buy-back occurred?
The seller of the shares and the directors may be required to personally contribute to the company’s financial losses and the directors may face criminal liability.
What is the principle of maintenance of share capital?
It means that a company’s share capital cannot be returned to shareholders, protecting creditors in case of insolvency.
This is why liability arises when directors authorise dividends from profit that aren’t available.
What are accumulated and realised profits, and why are they important?
Accumulated profits: Net profits after deducting past losses.
Realised profits: Profits that have actually been received, not estimated.
Only accumulated and realised profits can be used for dividends to avoid unlawfully reducing share capital.
What happens if a dividend is unlawfully paid?
Shareholders may have to repay if they knew it was unlawful.
Directors can be personally liable if they approved it knowingly or if the company was insolvent at the time.
What are alternative ways companies use their profits besides dividends?
Increasing production capacity.
Expanding marketing efforts.
Funding research and development.
Saving profits to strengthen cash reserves.
Buying back shares if reinvestment does not generate higher returns.
What is a share buyback?
A company repurchases its own shares using post-tax distributable reserves, reducing the number of shares in circulation and increasing the value of remaining shares.
What is the process for a company to buy back shares?
Check the company’s articles for restrictions.
Board and shareholder approval through resolutions.
Submit buyback documents to Companies House within 28 days
When can a company fund a share buyback using capital?
If distributable reserves are insufficient, a buyback can be funded using capital, but requires:
A solvency statement from directors.
An auditor’s report confirming legality.
No restrictions in the company’s articles.
Define an unlawful dividend.
If a dividend is paid when there are insufficient distributable profits or distributable reserves, it is an unlawful distribution.
What does a dividend become once declared?
Once declared, the dividend becomes a debt of the company owed to the shareholders and cannot be withdrawn.
