Equity Finance Flashcards
What are shares?
A bundle of rights!
By investing in shares the investor becomes a part owner of the company and will often have voting rights in shareholder meetings.
Incentives for investing:
- receipt of income (dividend)
- capital gain (on selling shares)
Different classes of shares carry different rights and entitlements - all of these will be set out in the articles.
Issued shares
Amount of shares in issue - ‘issued share capital’
This is the amount that will show up in the company’s balance sheet in its accounts.
ISC is made up up:
- shares purchased by first members (subscriber shares)
- further shares issued after the company has been incorporated to new or existing shareholders
- new shares can be issued at any time provided that the correct procedures are followed
Allotment of shares
Allotment - when a person acquires the unconditional right to be included in the company’s register of members in respect of those shares.
Used interchangeably with issue but technically shares are only issued when the shareholder has actually been registered in the company’s register of members
Paid-up share capital
Common not to pay the full amount due on shares. Portion which is paid is known as the ‘paid-up’ share capital.
Treasury shares
Shares that have been bought back by the company itself and are held by the company in treasury.
Shares held by company in its own name and the company can subsequently sell those shares out of treasury.
Sale of these shares is called a transfer not an issue.
Ordinary shares
Most common form of shares and are the default position: if issued without differentiation they will be ordinary shares.
Carry:
- right to vote
- right to dividend if one is declared
- right to portion of surplus on winding up
Preference shares
May give the holder a ‘preference’ as to payment of dividend or to return of capital on a winding up of the company or both.
Means that the payment will rank as higher priority than any equivalent payment to ordinary shareholders - so dividend is paid before paid to ordinary shareholders.
Normally non-voting shares
May be fixed - meaning percentage share of the par value of the shares e.g. 10% of par value. If par value is £1 then that would be 10p each.
could also be value of subscription price
Cumulative preference shares
Preference shares are cumulative unless otherwise stated.
This means that if a dividend is not declared for a particular year the right to the preferred amount on the share is carried forward and will be paid together with the other dividends due when there are available profits.
If cumulation is not desired then the shares will be expressed to be non-cumulative
Participating preference shares
Means may participate in:
(1) surplus profits available for distribution after own fixed dividends
and/or
(2) in surplus assets of the company on a winding up
Deferred shares
Carry no voting rights and no ordinary dividend but entitled to a share of surplus after other dividends have been paid.
Usually only used when need ‘worthless shares’.
Redeemable shares
Redeemable shares are shares which are issued with the intention that the company will, or may wish to, at some time in the future buy them back and cancel them.
Convertible shares
Such shares will usually carry an option to convert into a different class of share according to stipulated criteria.
Variation of class rights
To be effective:
- must be in accordance with the company’s articles
- or if no provisions: by consent in writing of holders of at least 75% of the issued shares of that class or by means of a special resolution passed at a separate general meeting
Shareholders holding at least 15% of relevant shares may (as long as didn’t vote in favour) apply to court within 21 days to have a variation cancelled.
Following application, the variation will not take effect unless and until it is confirmed by the court. Court will not confirm the variation if it feels the variation unfairly prejudices the shareholders of that class.
Dividends
Only payable if a company has distributable profits.
Two types:
1. Final dividends: recommended by the directors and declared by the company by an ordinary resolution of the shareholders following financial year end
- Interim dividends:
directors normally have power to decide to pay interim dividends if the company has sufficient distributable profits.
Can be paid without ordinary resolution - commonly paid where the company has realised an investment.
Allotment versus transfer of shares
Allotment: contract between company and new/existing shareholder under which company agrees to issue new shares in return for the purchaser paying
Transfer: contract to sell (or gift) existing shares in the company between an existing shareholder and purchaser (company is not party to the contract)
Considerations on allotment
- Private company limited by shares is prohibited from offering its shares to the public
- Prospectus: explanatory circular giving investors details about the company and the investment itself and should contain all the information necessary to enable investors to make an informed assessment of the financial status of the company
- Financial promotions: any invitation or inducement to engage in the investment activity. Prohibited unless certain requirements set out in FSMA are fulfilled.
Transmission of shares
Automatic process in the event of death or bankruptcy.
- automatically pass to PRs
- vest in trustee in bankruptcy
Restrictions on transfer
- Directors power to refuse to register
- Directors may refuse to register the transfer of a share and if they do must be returned with notice of refusal (unless suspect fraud)
- Company must give reasons
- Pre-emption clauses: not in MA, on transfer usually requires that a shareholder wishing to sell shares must offer them to other existing shareholders before being able to offer them to an outsider.
Methods of transfer
Instrument:
Stock transfer form - has to be signed by the transferor and submitted with the share certificate to the new shareholder
Legal and equitable ownership - beneficial title passes on execution of stock transfer form, legal title passes on registration of new owner in the register of owners.
Stamp duty:
Stock transfer form must be stamped before the new owner can be registered as the holder of those shares.
Stamp duty is payable by the buyer at 0.5% of the consideration rounded up to the nearest £5.
Not payable if consideration is £1000 or less. If more than £1000 minimum fee of £5
5 Step Procedure for the Allotment of Shares
- Check whether there is a cap on the amount of shares that can be issued by the company
- Check whether company directors need authority to allot the shares
- Consider whether pre-emption rights need to be disapplied
Are the shares equity securities? Look at dividend and capital pay out on shares - if both are capped the share is not an equity security and pre-emption rights are not relevant - Is the company creating a new class of shares? if so teh Articles will need to be amended
- Board resolution to allot the shares (this will always be required)
Step 1: any cap on the number of shares that may be issued?
Check articles for any cap or limit on the number of shares that may be issued.
CA2006 companies: no cap in the MA but there could be a special provision added
CA1985: Will have had a cap (authorised share capital) and will continue to have one unless the cap is removed from their articles.
Removing cap:
CA1985: ordinary resolution
CA2006: special resolution
Step 2: directors’ authority to allot
Directors will need authority to allot shares in the company unless:
it is a 2006 private company with only one class of shares in existence and the directors want to allot new shares of the same class (unless prohibited)
Otherwise - need authority from shareholders by ordinary resolution.
What is a pre-emption right?
It is a right of first refusal.
New shares should be offered to existing shareholders before any new investor (issuing new shares would dilute proportion of ownership).
A company’s shareholders can disapply these rights by special resolution.
To what type of shares to pre-emption rights apply?
They apply to any new equity securities.
These must be offered to existing shareholders of a company in proportion to their existing shareholdings before they can be offered to anyone outside the company.
Will not be an equity security if both:
- right to receive a dividend
- right to receive capital payments on winding up
are capped.
These will not need to be offered pre-emptively but every other case will.
Disapplication of pre-emption rights
- General disapplication
- special resolution
- generally applies to pre-existing authority (already authorised by OR) - Private companies with one class of shares
- applies for so long as the company has in issue and allots shares of only one class
- special resolution - Specific disapplication
- disapply rights in relation to a specific allotment of shares (e.g. particular person or specified purpose)
- special resolution
- more complicated: need to provide shareholders with written statement explaining reasons and amount - If a private company can also exclude permanently but this is rare
Step 4: new class rights created?
Does a new class of shares need to be created?
If so, will need to alter Articles by way of special resolution.
Step 5: board resolution
Directors must pass board resolution to allot the shares.
A GM will not be needed in advance of this where:
- no limit to issued share capital in constitution; and
- does not require directors authorisation because company is a private company with one class of shares and no restriction in the articles or already given directors authority; and
- is issuing shares in proportion to shareholding to shareholders, or already disapplied or not equity securities; and
- has relevant class rights in the articles already
Admin requirements on allotment
Copies of resolutions to be sent to Companies House within 15 days:
- OR(1985) or SR (2006) removing cap
- any OR giving directors authority to allot
- any SR disapplying pre-emption rights or amending articles
- any amended articles
Company forms to be sent to Companies House:
- return of allotment (form SH01) and statement of capital within one month
- any updates to persons with significant control
Updating company register:
- update register of members within two months of the allotment
Share certificates:
- must be prepared and sent to new shareholders within two months of allotment
To what does financial assistance apply?
- Acquisition or sale of shares
- relevant when there is an acquisition of shares
- should examine funding arrangements carefully - Issue of shares
- financial assistance is also relevant on an issue of shares by a company to an investor
Which companies are prohibited from giving financial assistance?
1) Establish the identity of the company in which shares are being acquired
- share sale: company which is the subject of the acquisition
- Issue of shares: company doing issue
Called the target.
Different rules for a public or a private company.
Target is a public company
Prohibition applies to:
- target company itself; and
- any subsidiary of the target company - whether public or private
Target is a private company
Prohibition applies to any public company subsidiary of the target company (not the private company/target itself)
- if target is a private company and the parent is a public company, will not be subject
What is giving financial assistance?
- Gift
- Guarantee, security or indemnity, release or waiver
- loan or similar agreement
- any other transaction where the net assets of the company are reduced to a material extent by the giving of financial assistance
Note:
- assistance must be given and
- it must be financial
Covers:
- before or at time of acquisition
- after the acquisition
Must also:
- be given for the purpose of the acquisition (or if after for discharging liability for the acquisition) i.e. to help facilitate the acquisition
Purpose exception
Will not be caught by the purpose exception if the purpose is not for the acquisition or if it is only incidental part of a larger purpose.
Not normally relied upon.
Some exemptions:
- money lending in course of business
- assistance in respect of employee share schemes
Consequences of prohibited financial assistance
Company: fine
Officers: fine/imprisonment
Assistance would be void and wider transaction may be void as well.
Maintenance of share capital
- A company is not usually permitted to return capital to its shareholders and cannot release the sums represented in the equity account and the share premium account - doctrine of maintenance of share capital.
Primarily for benefit of creditors. Share capital is seen as a permanent fund available to its creditors.
Consequences of the principle of maintenance of share capital
- Dividends may only be paid out of distributable profits, not capital
- Companies generally must not purchase their own shares
Exceptions:
- company may buyback its own shares (or redeem redeemable shares) provided it follows the procedures in 2006
- company may purchase its own shares after a successful shareholder petition for unfair prejudice.
Redemption and buyback of shares
Two situations where a company can effectively buy its own shares:
- redemption of redeemable shares;
- purchase of own shares (buyback)
But very strict controls on the purchase or redemption of a company’s shares.
When does a buyback occur?
Takes place when a company purchases its own shares from an existing shareholder
Buyback funding
- Distributable profits
- Proceeds of a fresh issue of shares made for the purposes of financing the buyback
- Capital
Capital is strictly regulated:
- only for private companies
- must comply with restrictions
- must first use profits or proceeds of a fresh issue of shares
Buyback of shares out of profits/fresh issue
May purchase if:
- purchase of own shares if not restricted or prohibited in the company’s articles
- shares being purchased are fully paid up
- following purchase the company still has issued shares
Procedure:
- contract to purchase shares
- terms are approved by ordinary resolution
Contract must be available for inspection for 15 days before GM or attached if written resolution is used
Procedure for buyback out of profits/fresh issue
Initial steps:
- check no limit in articles to buyback
- prepare accounts to check there are sufficient distributable profits
- confirm shares are fully paid
Board Meeting:
- BR to approve draft contract
- BR to call a GM and approve form of notice/propose a WR
- Contract to be made available to shareholders
- If GM: 15 days prior
- If WR: circulate contract with WR
GM/WR:
- shareholders pass OR to approve contract
- holders of shares being bought are not eligible to vote
Board meeting:
- BR to enter into the contract
- BR to appoint a director to sign the contract
Post meeting matters:
- file return, notice of cancellation and statement of capital within 28 days
- keep copy of contract for 10 years
- cancel shares, update register of members (and PSC is necessary)
Buyback of shares out of capital
- check not restricted
- check accounts were prepared no more than three months ago
- check if the company has any distributable profits available (if yes these must be used first)
- prepare directors’ statement of solvency and an auditors report
- a special resolution to approve payment out of capital must be passed within a week after the directors sign the written statement of solvency
Directors’ statement of solvency
- made no earlier than one week before the GM
- confirms company is solvent and able to pay its debts as they fall due and it will remain solvent for a period of 12 months after buyback
- must have reasonable grounds for making this statement otherwise may have backlash (criminal and personal assets) if company does go insolvent
Auditors report
- confirms auditors are not aware of anything to indicate that the directors’ opinion is not reasonable
Buyback out of capital: notification requirements
Must give notice to creditors within 7 days of passing special resolution approving payment by:
- Publishing notice in gazette stating:
- company has approved a payment out of capital for purpose of purchasing own shares
- where the directors and auditors statements are available for inspection
- any creditor of the company may within 5 weeks following date of resolution apply to the court to prevent payment - Publish same notice in appropriate nation paper or give notice in writing to each of its creditors
- Filing copies of directors statements and auditors report at Companies House
Timing of buyback out of capital
No earlier than five weeks and no later than seven weeks after the date of the special resolution.
Within 28 days of buyback date, must send return to Companies House and a notice of cancellation together with a statement of capital.
Procedure for buyback of shares out of capital
Initial steps:
- check no limit in articles
- no earlier than three months before directors statement, prepare accounts
- confirm shares are fully paid
Board Meetings:
- BR to approve directors statement of solvency and auditors report
- BR to approve the draft contract
- BR to call a GM and approve form of notice for GM/propose a WR
- contract to be made available to shareholders: GM - 15 days, WR - attach
- directors statement of solvency and auditors report signed no earlier than once week before the GM or passing of the WR
WR/GM:
- SR approval of payment out of capital
- OR to approve contract
(holders of shares being bought cannot vote)
Following GM/WR:
- within 7 days place notice in gazette and national newspaper and file directors statement and auditors report at Companies House
- For five weeks after date of SR creditors can object
- DSS adn AR must be available for inspection at registered office
Board Meeting:
- BR to enter into contract
- BR to appoint a director to sign contract
- Payment out of capital must take place between 5-7 weeks after SR passed
Post meeting matters:
- file return, notice of cancellation and statement of capital within 28 days
- keep copy of contract for 10 years
- cancel shares, update register of members (and PSC register if applicable)
Redemption of shares
The terms on which redeemable shares may be redeemed are determined at the time that the shares are issued and are set out in the company’s articles.
