Capital Maintenance and "Financial Assistance" For Purchase of Company's Shares Flashcards
What is capital maintenance?
It is a general principle of company law that once the share capital has been received, it must be maintained - in theory, at least. These rules can be briefly summarised as follows:
A company cannot, generally, reduce its share capital. However, if it wants to do so, there are two ways of doing it:
(1) in the case of a private company, it can do so “by special resolution supported by a solvency statement” (pursuant to ss 662-664 CA 2006).[1] This statement, to be made fifteen days prior to the special resolution by every director, says that the director “has formed the opinion”:
(a) the company will be able “to pay … its debts”, and
(b) (i) that if the company were to be wound up “within” a year, the company could “pay … its debts” “within” a year of the winding up starting, or
(ii) “in any other case, that the company will be able to pay … its debts as they fall due during the year immediately following [the] date [of the declaration of solvency]”.[2]
This “special resolution” must be registered, under s 644 CA 2006, no later than fifteen days after the special resolution.[3] The “statement of solvency” is new. How popular it will be is something that we will need to wait and see about.
(2) “in any case, by special resolution confirmed by the court” (pursuant to ss 645-651).[4] This was the traditional way (ie, court approval – the safest method).
As to the disapplication of s 646 CA 2006: see Sportech PLC Petitioner [2012] CSOH 1158; 2012 SLT 895.
Where companies have large “cash mountains”, it is quite popular for them to return some of this money to the shareholders, by buying up their shares. This helps to keep the shareholders “happy”, which is what the directors’ want.
There can also be a share buy-back where it is felt that the share price is too low in relation to the company’s underlying assets. The aim of this is to boast the individual share price.
Dividends (or “distributions”) must not be paid to shareholders out of capital – they have to paid out of “distributable profits” - see ss 830 (Public and private companies) and 831 CA 2006 (Public companies). As to the general definition of “distributions”: see s 829 CA 2006. A subsidiary company is not, generally, permitted to own shares in its holding company: see s 136 CA 2006. NB the exceptions in ss 138 and 141 CA 2006. Where a public company’s “net assets” fall to, or below, half its called-up share capital, the directors must, within 28 days, call “a general meeting of the company to” look at what should be done – s 656 CA 2006, ie, there needs to be shareholder consultation. Generally, a company cannot purchase its own shares, unless it follows the procedures laid down in Pt 18 of the CA 2006. See the exception in s 659 CA 2006. See also the requirements laid down in ss 690-708 CA 2006. Also, a public company (or its subsidiary), or the public company subsidiary of a private company, cannot purposefully help someone else, financially, to purchase that company’s shares – “financial assistance” – ss 677 – 683 CA 2006(see below).
See too now The Companies (Reduction of Share Capital) Order 2008 (SI 2008 No 1915) (a very short enactment).
 [1] Section 641(1)(a) CA 2006. [2] Sections 642(1)(a), 643(1) CA 2006. [3] Sections 641(1)(b) and 644 CA 2006. [4] Section 641(1)(b) CA 2006.
What sections of the act govern financial assistance?
SS 677-683 CA 2006
[NOTES WILL BE PROVIDED FOR THIS SECTION]
This is an area, which has caused a great deal of difficulty in practice. It follows on from the rules concerning maintenance of share capital. Under changes introduced by the 2006 Act, the rules on “financial assistance” relate now to public companies or their private holding companies, and are now less onerous.
Previously, “financial assistance” related to both public and private companies.
A private company, under the 2006 Act, can now give “financial assistance” for the acquisition of its shares: see s 682(1)(a) CA 2006. (In looking at the case law, you need to bear in mind the old s 151 CA 85 etc applied to private companies.)
What are the basic prohibitions for financial assistance?
There are two prohibited situations:
(i) a public company (or that company’s subsidiary) cannot give direct, or indirect, “financial assistance” to a purchaser of the public company’s shares – prior to, during or after the share acquisition. (s 678 CA 2006); and
(ii) a public company, which is a subsidiary of a private company, cannot give direct, or indirect, “financial assistance” to a purchaser of the private company’s shares – prior to, during or after the share acquisition. (s 679 CA 2006).
Hence, there can be assistance by “a private company”: see s 682(1)(a) CA 2006.
What is the definition of financial assistance?
“Financial assistance” is widely defined to mean “financial assistance by way of”:
“guarantee” “security”, “indemnity”, “waiver”, “release”, or “loan”, or novation or assignation of that “loan” (ss 677(1)(a)-(c) CA 2006). See Barclays Bank plc v British and Commonwealth Holdings plc [1996] 1 BCLC 1 (indemnity); Re Hill and Tyler Ltd [2004] EWHC 1261 (Ch), [2005] 1 BCLC 41 (loan). “Any other financial assistance” - concerned with “material” reduction of “net assets” - “a residual category” (s 677(1)(d) CA 2006) * Chaston v SWP Group [2002] EWCA Civ 1999; [2003] 1 BCLC 675; [2003] BCC 140 para 35 (old law).
Definition of “net assets”: s 677(2) CA 2006
- Chaston v SWP Group [2002] EWCA Civ 1999; [2003] 1 BCLC 675; [2003] BCC 140 para 35 (old law).
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What is the rationale for prohibition?
Shareholder and creditor protection.
Chaston v SWP Group [2002] EWCA 1999; [2003] BCC 140; [2003] 1 BCLC 675, para 31
What is Required?
(i) “Assistance” which is “financial” in nature; and
(ii) that was provided “‘for the purpose of’” a share acquisition or to defray the acquisitions cost.
See Charterhouse Investment Trust Ltd v Tempest Diesels Ltd [1986] BCLC 1, p 10; and Dyment v Boyden [2004] EWCA Civ 1586; [2005] BCC 79; [2005] 1 BCLC 163.
What is the Construction of “Financial Assistance” ?
Construe “financial assistance” pursuant to “the language of ordinary commerce”.
See Hoffman J in Charterhouse Investment Trust Ltd v Tempest Diesels Ltd [1986] BCLC 1, p 10.
See too Barclays Bank plc v British and Commonwealth Holdings plc [1996] 1 BCLC 1, p 40, per Aldous LJ (“financial assistance should be given its normal commercial meaning”); and MT Realisations Ltd (in liq) v Digital Equipment Co Ltd [2003] BCC 415, [2003] 2 BCLC 117 (CA) (“commercial realities”); and Anglo Petroleum Ltd v TFB (Mortgages) Ltd [2007] EWCA Civ 456; [2007] BCC 407, paras (interpretation), paras 1-53 (read Court of Appeal judgement only, which begins on [2007] BCC 407, at p 432.)
What are the Consequences of Breaching Prohibition?
Breach of the prohibition on “financial assistance” has both criminal and civil consequences.
(a) Criminal offence: “imprisonment” and /or a “fine”: see s 680 CA 2006.
(i) indictment – (a) company - “unlimited fine”; and (b) “officer who is in default” - 2 years jail and/or unlimited fine.
(ii) summary conviction – (a) company - fine of “statutory maximum”; and (b) “officer who is in default” - 6 months jail and/or fine of the “statutory maximum”.
“Liability of company officer who is in default”: s 1121 CA 2006.
“Officer” – s 1121(2) CA 2006.
“in default” - s 1121(3) CA 2006.
(b) Civil Consequences: a loan or security granted to provide “financial assistance” is “unenforceable”:
See Re Hill and Tyler Ltd (In Administration) [2004] EWHC 1261 (Ch); [2004] BCC 732, at p 750, para 64-66; [2005] 1 BCLC 41, at p 61, paras 64-66; Anglo Petroleum Ltd v TFB (Mortgages) Ltd [2007] EWCA Civ 456; [2007] BCC 407, paras 54, 83-85 (read Court of Appeal judgement only, which begins on [2007] BCC 407, at p 432.); Paros plc v Wordlink Group plc [2012] EWHC 394 (Comm), paras 80-81.
Can you sever an offending part from a transaction so as not to void it completely?
It may be possible to sever an offending part from a transaction: see Neilson v Stewart 1991 SC (HL) 22, at p 38; 1991 SLT 523; and Carney v Herbert [1985] AC 301 (PC).
What are the main exceptions to financial assistance?
There are 2 main exceptions: (a) “purpose exception”, and (b) no asset/capital reduction.
(a) where giving of financial assistance:
(i) not “principal purpose” (ss 678(2), (4) CA 2006); or
(ii) “part of some larger purpose”(ss 679(2), (4) CA 2006).
(“Purpose exception” – see below)
(b) “financial assistance” by a public company either where:
(i) there is no reduction of “net assets”; or
(ii) the “financial assistance” comes from “distributable profits”.
(S 682(1)(b) CA 2006).
(No asset/capital reduction)
“Distributable profits” – see s 683(1) CA 2006.
[NB This is similar, in certain respects, to the old “whitewash procedure”, under ss 155-158 CA 85, which allowed private companies to “whitewash” any financial assistance in certain circumstances. Whilst this procedure is not applicable under the CA 2006, its validity may still be an issue in relation to private companies prior to the CA 2006, especially where there is a liquidation: see DP Sellar QC, Company Law section in Company and Commercial Law Updates 2006, The Edinburgh Law Review Seminar Series 2006, University of Edinburgh, June, 2006, p 11.]
Other Exemptions
Other exemptions include: a dividend, a “distribution” on “winding up”, “bonus shares”, reduction of share capital, money lending and “employee” share schemes: see ss 681 (“conditional exceptions”) and 682 CA 2006 (“unconditional exceptions”).
What are the purpose exemptions?
[formerly s 153 CA 85]
These are contained in:
(i) ss 678(2), (4) CA 2006 (public companies) and
(ii) 679(2), (4) CA 2006 (public companies giving assistance to private parent companies).
- “financial assistance” either: (i) not “principle purpose”, or (ii) “is part of larger purpose”.
Ss 678(2), (4) and 679(2), (4) CA 2006 (see above).
The “purpose exceptions” have been the subject of some uncertainty.
** Brady v Brady [1989] AC 755 (HL(E)) [deals with the old s 153 CA 85, but still relevant]
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How can you get around the prohibition on “financial assistance” by public companies?
Under the CA 2006, such a company could re-register as a private company.
Ss 89, and 97-101 CA 2006.
