Equity Finance

Question 1

There are three ways shares can change hands:

Answer 1

1. Allotment
2. Transfer
3. Buyback

Question 2

Allotment

What is allotment?
What would the company do after allotting the shares?

Answer 2

Allotment: the company creates new shares and gives them to an existing shareholder or new shareholder in return for payment.

The company will issue the share certificate and enter the person on the register of members (or amend their existing entry to show their increased shareholding)

Question 3

Allotment: Difference between allotment and issue

At what point does allotment occur?

What are the conditions for this?

When are the shares issued?

Answer 3

Allotment: When a person acquires the unconditional right to be on the register of members (s.558, CA 2006)

• The shares have been transferred and paid
• A board resolution has been passed to register the transfer.

Issue of shares: shareholder is entered on the register.

More important is allotment.

Question 4

Allotment: Investor’s interests

How would an investor make a return on their investment?

Answer 4

• selling his shares to another investor, or back to the founder
• acquisition – the company is sold to another company and the investor’s shares are sold to the acquirer
• IPO – the company is listed on a stock exchange, where shares can be sold to the public

Note: usually private companies will restrict ability to sell shares.

Question 5

Allotment

The three questions a solicitor must consider when working out the procedure to allot shares are:

Answer 5

1. Are there any constitutional restrictions on allotment?
2. Do the directors have authority to allot?
3. Are there any pre-emption rights?

Question 6

Allotment: Constitutional restrictions

What is the authorised share capital (ASC) and in what situation does it apply?

When the ASC applies, where is it found in the company’s constitution?

Answer 6

An upper limit on the number of shares a company can have. It applies to companies incorporated before 1 October 2009 that didn’t update their articles.

Memorandum of association for pre-CA and the articles post-CA.

Question 7

Allotment: Constitutional restrictions

Companies incorporated before 1 October 2009 will have the ASC clause in their articles unless they were updated. How can you remove the ASC clause?

Even companies incorporated after 1 October 2009 may have an equivalent clause that limits the number of shares the company can have. How can you remove such a clause?

Answer 7

Ordinary resolution.
Special resolution.

Note: this is an exception to the rule that the company’s articles can only be amended by special resolution.

Question 8

Directors’ authority to allot: private company with one class of share

Section 550 of CA 2006

How can a director of a private company with one class of shares obtain the authority to allot shares?

Suppose the company’s articles restrict the director’s s.550 power to allot shares. How can this restriction be removed?

The company must have one class of shares both before and after allotment

Answer 8

By board resolution only, unless incorporated pre-CA 2006, an ordinary resolution is also required (to ‘activate’ s.550).

A special resolution.

Question 9

Director’s authority to allot: s.551

Section 551 of CA 2006 applies to public companis and private companies with more than one class of shares.

How can the directors obtain the authority to allot shares in these circumstances?

In either case, what must be stated?

Answer 9

Authority to allot

• Articles (generally or for a specific allotment)
• Ordinary resolution (generally or for a specific allotment).

Required information
- Maximum number of shares the directors may allot;
- Date on which the authority expires, which cannot be more than five years from the incorporation date (for authority by articles) or from the resolution (for the OR).

If the authority expires, it can be renewed by ordinary resolution with the same requirements (max. number of shares and date of expiry).

Note: this is an exception to the rule that the company’s articles can only be amended by special resolution.

Question 10

Allotment: Pre-emption rights

What must the company do before allotting equity securities to a person (s.561 CA 2006)?

How can private companies exclude pre-emption rights?

Answer 10

It must offer them to existing holders of ordinary shares on the same or more favourable terms

Provisions in the articles (either generally or for specific allotments)

Enables existing shareholders to retain their percentage shareholding in the company, as they must be offered shares proportionately the number of shares they already hold.

Equity securities = Ordinary shares and rights to subscribe for or convert securities into ordinary shares.

Question 11

Allotment: Pre-emption rights - exercise

UOL has the following shareholders: Emma - 600 shares. Farha - 300 shares. Geeta - 100 shares.

The board proposes to allot 500 more shares to a third party in return for $1000 cash. How many shares must the board offer to each shareholder?

Pre-emption rights are also called rights of first refusal over shares which are being allotted.

Answer 11

Emma - 300 shares (60% of 500).
Farha - 150 shares (30% of 500)
Geeta - 50 shares (10% of 500)

Question 12

Allotment: Pre-emption

When a shareholder is offered new shares in accordance with pre-emption, what are the requirements of the offer?

Answer 12

• The offer must state the period of acceptance, which cannot be less than 14 days.
• The offer cannot be withdrawn within that period.

If any or all shareholders do not accept the offer, the directors can offer shares to new buyers.

Question 13

Allotment: Pre-emption

Pre-emption rights do not apply in three situations:

Answer 13

1. In relation to allotment of bonus shares;
2. Consideration is partly or wholly non-cash.
3. The shares are to be held under, allotted or transferred pursuant to an employee share scheme.

Question 14

Allotment: Disapplying pre-emption

How can companies disapply pre-emption rights?

Answer 14

By special resolution (either generally or for specific allotments)

A company can disapply pre-emption either generally or for a specific allotment.

Question 15

Allotment: Disapplying pre-emption - s.551 interaction

What further step may be required of a public company or private company with more than one class of shares?

N.B. disapplication of pre-emption rights lasts as long as the director’s authority to allot under the ordinary resolution.

Answer 15

If the company authorised a specific allotment under s.551, the director must make a recommendation for the special resolution to disapply pre-emption.

Instead, if it passes an ordinary resolution for a general authority to allot, a recommendation is not required.

As such, it makes more sense to pass an ordinary resolution for the general authority to allot shares, so that pre-emption can be disapplied without a director’s recommendation.

Question 16

Allotment: Disapplying pre-emption - s.551 interaction

Where a director’s recommendation is required, what must it state?

Answer 16

1. The reason for recommendation.
2. Amount the buyer will pay;
3. Justification for that amount.

The statement must be circulated to shareholders with the notice of general meeting (or written resolution.

Question 17

Allotment: Payment for shares

Under MA 21, all shares in a company must be fully paid up. What does this mean?

If the company’s articles do not include MA 21, the shares can be issued partly paid, but when would the shareholder pay the remainder?

Answer 17

The buyer must pay for the shares when they receive them.

When contractually obliged or company is wound up.

Question 18

Allotment: admin

Which three ordinary resolutions need to be sent to Companies House and within how many days?

Beyond the general requirement to prepare minutes of board meetings (s.248) and general meetings (s.355) there are various administrative and filing requirements in relation to allotment.

Answer 18

• Resolution removing the ASC;
• Resolution activating s.550 in a pre-CA 2006 company.
• s.551 resolution granting directors authority to allot.

Question 19

Allotment: admin

When a company allots shares, what forms need to be sent to CH, and when?

Which of the company’s registers must be amended after allotment and when?

Finally, what must be prepared and allocated?

Answer 19

• SHO1 (return of allotment and statement of capital) within one month of allotment.
• Register of members within 2 months of allotment.
• The share certificate, within 2 months of allotment.

PSC register may also require amending.

Question 20

Transfer of shares

The articles cannot restrict the existing shareholders’ ability to…

The articles cannot restrict particular persons from…

However, what discretion is given to the board by virtue of MA 26?

Answer 20

Selling shares.
Buying shares.

The right to refuse the transfer of shares (i.e. they must approve every transfer).

Question 21

Transfer of shares: How are shares transferred?

What steps do each of the parties take in a transfer of shares?

Answer 21

Transferor
- Completes and signs a stock transfer form
- Gives the stock transfer form and share certificate to the transferee

Transferee
- sends stock transfer form and share certificate to company.

Company
- sends new shareholder a new share certificate in their name within two months.
- notifies the Registrar of the ownership change when filing its annual confirmation statement. (CS01).

Question 22

Transmission

In what circumstances does transmission occur and what are its effects?

Answer 22

Transmission: a shareholder dies or becomes bankrupt.

Effects: the shares automatically pass to the PRs or trustee in bankruptcy.

Question 23

Maintenance of share capital

What is the share capital and what is the general rule in relation to it?

What are the two consequences of this rule?

Answer 23

Share capital: the money provided by shareholders in return for shares.

The general rule is that this fund cannot be reduced as it is used for creditors and cannot be returned to shareholders.

1. dividends cannot be paid out of capital (must be out of distributable profits);
2. the company must not generally purchase its own shares.

Question 24

Share buyback

Provide two reasons a company might buyback its own shares.

Answer 24

• A shareholder wants to cut ties but cannot find a purchaser;
• If the articles require a special resolution for transfer, an ordinary resolution authorising a buyback may be easier.

Often justified by the company on the basis that it is best for the company long-run to buy out a disgruntled shareholder.

Question 25

Share buyback

What are the consequences of a buyback?

Answer 25

• The shares are cancelled and the company pays the outgoing shareholder.
• Profits available for dividends/capital available to creditors are reduced.
• For the purposes of winding up, less money available to shareholders once creditors have been paid.

Question 26

Share Buyback

What is the procedure for a share buyback?

Answer 26

(1) Board meeting

• to approve the buyback contract,
• to decide the method of financing
• to call a general meeting.

(2) Approval by ordinary resolution

Before these steps, check the articles do not forbid buyback and that the shares are fully paid up.

The company must pay for the shares at the time of purchase.

Question 27

What are the admin requirements in relation to the buyback?

Answer 27

A copy of buyback contract must be:

• available for inspection at least 15 days prior to the general meeting and at the general meeting itself
• kept at the registered office for ten years.

Or if by written resolution, the copy of the contract must be sent with the resolution.

If there is no written contract, a written memorandum setting out its terms must be kept at the registered office.

Question 28

Share Buyback

What must the buyback generally be paid out out?

Answer 28

• distributable profits; or
• proceeds of a fresh issue of shares specifically made to finance the purchase.

Distributable profits = the accumulated, realised profits less accumulated realised losses.

Question 29

Share Buyback

What should you keep in mind in relation to the general meeting to approve the share buyback?

Answer 29

The vote of the shareholder whose shares are being bought won’t count if it makes the difference between the resolution passing or not.

Likewise, in relation to a written resolution, the shareholder is not an eligible member, so cannot vote.

This is an exception to the rule that personal interests do not generally prevent a shareholder from voting.

Question 30

Buyback out of capital

In addition to the standard procedure for buyback, what is the procedure for a buyback out of capital?

When must the payment be made?

Note: Public companies cannot buyback out of capital, whereas private companies can (unless prevented by the articles).

Answer 30

1. The directors make a statement of solvency and hold a board meeting at least one week before the general meeting, stating that the company is solvent and will remain so for one year after the buyback.
2. Shareholder approval of buyback by special resolution
3. Within seven days of the special resolution, the company must put a notice in the London Gazette.
4. Provided no creditors object, the directors will pass a board resolution to enter into the contract.
5. The payment is made between 5-7 weeks after the special resolution (no earlier, and no later).

The statement must be made with reasonable grounds, otherwise the directors and the seller may be required to contribute to financial losses of the company. The directors may also face criminal sanctions.

An auditor’s report must be annexed to the statement of solvency, confirming that the auditor is not aware of anything to suggest that the director’s opinion is unreasonable.

A copy of the director’s statement of solvency must be available to members.

The special resolution is in addition to the ordinary resolution approving the buyback.

Question 31

Buyback out of capital

The company must put a notice in the London Gazette. What must this state?

Answer 31

• that the shareholders have approved,
• the amount of capital used,
• the date of the special resolution,
• where the statement of solvency/auditor’s report are available for inspection.
• that any creditors may within five weeks of the special resolution apply for an order under s.721 preventing the buyback.

Equivalent notices must be published in an appropriate national newspaper or notice must be given to each of its creditors.

Question 32

Buyback out of capital

Provide further administrative requirements in relation to the statement of solvency/auditor’s report.

Answer 32

• The company must file a copy of the statement of solvency at CH before or at the same time as it places notices in the London Gazette.
• The statement of solvency/auditor’s report must be kept available for inspection five weeks after the special resolution was passed.

Question 33

Dividends

When can dividends be given?

What additional requirement is imposed by MA 30?

Answer 33

• When profits are made available for its purpose and the shareholders approve by ordinary resolution.
• MA 30 - directors must decide whether to recommend a dividend and specify the amount.

The company can use profits from previous years to pay a dividend.