Summary
Summary LAWS10083 Company law Capital Maintenance Week 9.
- Module
- LAWS10083
- Institution
- The University Of Edinburgh (ED)
LAWS10083 Company law Capital Maintenance Week 9.
[Show more]
Content preview
Capital MaintenanceWeek 9
Chapter 13: Capital Maintenance
Precap: A company cannot distribute profits if after the distribution the net asset value would be
equal to the amount of share capital stated and share premium accounts and its other
undistributable reserves.
This rule can be circumvented in 2 ways:
1. Instead of making a distribution, the company can offer to buy back some of its shares. An
advantage of this is that it would amount to a reduction in the stated share capital of the
company as it would be distributing some of its assets. This will allow for easier distribution
of profits in the future as net asset value would have to be equal to a lower aggregated
capital account value.
2. Another possibility is by directly reducing the share capital value or reduction of any other
capital account value. This will facilitate a distribution as per the same logic as above.
Acquisition of own shares
Trevor v Whitworth (1887) 12 Ap Cas 409 HL- 19th century HL rule that a company cannot acquire its
own shares, even though there was an express power to do so in its memorandum, as this would
result in a reduction of capital. The main reasons to this objection can be summarised as being: (1)
an acquisition will amount to a cancellation of those acquired shares, which will reduce the
represented issued share capital of the company; (2) this is objectionable as it can be seen as a
diversionary way of distributing assets of the company to the shareholders if the rules of distribution
of profits cannot be met.
Today, acquisition of own shares by a company have become more common then before. There are
several reasons for this- to name a few:
The company may be able to meet its investment needs from internally generated profits
and so has a lesser need of externally provided equity finance.
It may be an exit strategy for investors who no longer see the company as an attractive
opportunity, whilst keeping those shareholders that still see prosperity.
The 2006 Act now legitimises two forms of repurchases- redemption and repurchase. The Act
however, still begins by stating in s. 658(1) and confirming the common law rule that a limited
company cannot repurchase its own shares except in accordance to the provisions of that part.
Defaulting on this provision can amount to the officer of the company and/or the company being
liable.
Acquisition through a nominee
The s.658 prohibition can be avoided if the company purchased the shares through a nominee rather
than directly. The shares are treated as held by the nominee on its own account and the company is
regarded as having no beneficial interest in them (s. 660).
,In any event that the nominee fails to pay when called upon to do so the full amount of the shares,
then any other subscriber to the memorandum and the directors of the company shall be held
jointly and severably liable (s.661). This rule will however only apply where the nominee acquires the
shares as a subscriber to its memorandum where the shares are issued by the company to the
nominee or where the nominee acquires the shares partly paid from a third person (.s660). It does
not apply where the nominee acquires fully paid shares from a third party, even where he does so
with funds provided by the company (s.660).
Rationale of this section is that the company receives the full price of its shares as an addition to the
assets. Since the shares remain in the hands of the nominee they are not cancelled and therefore do
not affect the company’s capital accounts.
Company may not be a member of its holding company
The prohibition of a company on the purchase of its own shares is supplemented by s. 136 which
holds that a company cannot be a member of its holding company either directly or through a
nominee (.s144). Any transfer or allotment of shares from an existing shareholder of the holding
company to a subsidiary is void. This seeks to avoid the reduction of share capital which would result
from a subsidiary acquiring the shares of the holding.
Specific exceptions to the no acquisition rule
There are many exceptions to the general rule.
A company may acquire its own shares by way of gift- s.659 “otherwise than for valuable
consideration” . Held to be permissible under common law in Castigliones Will Trust Re
By way of forfeiture for non-payment of calls- s.659. For public companies, they must cancel
the shares and reduce the share capital if the shares are not disposed of within three years
of forfeiture- s. 662.
There are also provisions which permit the court to issue a compulsory purchase order as a
remedy for some wrong done to the shareholder.
An acquisition of shares by the company under a reduction of capital carried out under the
provisions below is exempted from the prohibition.
1. Where a public company is permitted to acquire its own shares (directly or through a
nominee), then so long as it holds those shares (i.e. does not cancel or dispose off) and
decides to show them as assets in its balance sheet, an amount equal to that value must be
transferred out of the profits available for distribution to an undistributable reserve- s.669.
the effect is that the amount available for distribution will be reduced by the purchase value.
thus treating the purchase of shares as a distribution to the shareholder whose shares the
nominee acquired.
Redemption and repurchase
The legislature believes that by way of redemptions and repurchases, the transaction of purchase of
own shares can be structured in a way to protect the interests of creditors.
, Redeemable shares are shares issued by a company on the basis that they may or can be bought
back at a later date. The process of redemption is therefore different from the process of
repurchase. The redemption agreement will always create rights and duties to redeem and be
redeemed unlike a repurchase agreement, where there will be no obligation on the company to
repurchase the shares or no obligation on the shareholder to sell the shares back to the company.
Terms of redemption have to be set at the time of issue of the redeemable shares thus it involves an
element of financial planning on the part of the company. This makes this type of share as a hybrid
arrangement between debt and equity, the debt holder being someone who has a repayment right
at an identifiable point in the future. However, it may difficult to identify clearly the point at which
the company wishes to buy back its own shares.
As per s. 684 a company can issue any class of its shares on a redeemable basis.
General restrictions on redeemable shares and repurchases
Redeemable shares can only be issued if the company has also issued shares which cannot be
redeemed – s. 684. Eliminating the risk that the company may end up with no members. There is no
indication on the minimum number of non- redeemable shares to be issued. Similarly a repurchase
can not be authorised if there are no remaining non- redeemable members.
In the case of a public company shares cannot be redeemed unless the company is authorised to do
so in its articles and in a private company this authority can be excluded or restricted by the articles-
s.684.
A company may purchase its own shares subject to any restriction in the articles- s. 690. A purported
repurchase in breach of the articles will be void because the company would no longer be protected
by s. 658(2)- Hague v Nam Tai Electronics.
To protect non-redeemable members, the terms and manner of the redemption must be set out in
the articles (s. 685(4)), but provided either the articles or an ordinary resolution of the company may
permit it, the directors may fix the terms and conditions of the redemption (s. 684 (1) (2)). The
directors must set out such terms and conditions before the shares are allotted and the company’s
return of allotments to the Registrar must include the terms of the redemption.
Redeemable shares may not be redeemed until they are fully paid s.686 the same rule applies to
repurchases s. 691.
Creditor Protection: All Companies
The general protection is noted in the form of the rule that shares can be redeemed or repurchased
only out of the distributable reserves (s. 687) or out of proceeds of a fresh issue of shares made for
the purpose of redemption or repurchase (s. 692). An premium payable on the redemption or
repurchase must be paid out of the distributable reserve as well, unless the shares were initially
issued at a premium, in which case the premium is payable out of the proceeds of the fresh issue up
to the amount of premium received on issue or the value of the company’s share premium account,
whichever is less (s. 687 and s. 629 (2)).
The benefits of buying summaries with Stuvia:
Guaranteed quality through customer reviews
Stuvia customers have reviewed more than 700,000 summaries. This how you know that you are buying the best documents.
Quick and easy check-out
You can quickly pay through credit card for the summaries. There is no membership needed.
Focus on what matters
Your fellow students write the study notes themselves, which is why the documents are always reliable and up-to-date. This ensures you quickly get to the core!
Frequently asked questions
What do I get when I buy this document?
You get a PDF, available immediately after your purchase. The purchased document is accessible anytime, anywhere and indefinitely through your profile.
Satisfaction guarantee: how does it work?
Our satisfaction guarantee ensures that you always find a study document that suits you well. You fill out a form, and our customer service team takes care of the rest.
Who am I buying these notes from?
Stuvia is a marketplace, so you are not buying this document from us, but from seller UpperCrust. Stuvia facilitates payment to the seller.
Will I be stuck with a subscription?
No, you only buy these notes for £8.56. You're not tied to anything after your purchase.
Can Stuvia be trusted?
4.6 stars on Google & Trustpilot (+1000 reviews)
75632 documents were sold in the last 30 days
Founded in 2010, the go-to place to buy revision notes and other study material for 14 years now