Maintenance of share capital and the payment of dividends

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Maintenance of share capital and the payment of dividends. Corporate Law: Law principles and practice. Maintenance of share capital The principle under common law and the Corporations Act 2001 ( Cth ) is that a company should preserve the capital of the company. - PowerPoint PPT Presentation

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Maintenance of share capital and the payment of dividends

Corporate Law: Law principles and practiceMaintenance of share capital

The principle under common law and the Corporations Act 2001 (Cth) is that a company should preserve the capital of the company.

A company should therefore not give away capital, should not buy overvalued assets, nor buyback shares where that reduces company capital.

The preservation of capital is important to members who have invested in the company, and to creditors who provide lending and credit to the company based on its financial viability.

Corporate Law: Law principles and practiceReduction of share capital

A company can reduce its capital and give financial assistance if it complies with the strict procedures of law.

Any reduction of capital must have the approval of members and be fully disclosed.

The directors will be personally liable if a reduction of capital or financial assistance leaves the company insolvent.3

Corporate Law: Law principles and practice

Reduction of share capital cont

The principle that a company should not reduce its capital is from the case of Trevor v Whitworth (1887) 12 App Cas 409.

There are now many exceptions to this rule.

Corporate Law: Law principles and practiceTypes of capital reduction

Under legislation there are a number of types of capital reduction:

share capital reductionsshare buybacksself-acquisitions schemesfinancial assistance

Corporate Law: Law principles and practiceReasons for reducing capital

The company may reduce its share capital if it:

wishes to extinguish or reduce its liability on partly paid share capital by buying them backwishes to return capital to membershas accumulated losses and wishes to bring the amount of its issued capital in line with the value of its net assetswishes to swap shares for debentures or some other security instrumentshas capital in excess of its needs and decides to return some of the excess value to members.

Corporate Law: Law principles and practiceReturning capital

If a company does decide to return capital, any such action must be done in a fair and equitable manner. Fowlers Vacola Manufacturing Company Ltd [1966] VR 97

Corporate Law: Law principles and practiceReduction of share capital cont Section 256A of the Corporations Act 2001 (Cth) states the purpose and rationale of the rules behind share capital reductions and buybacks as being designed to protect the interests of shareholders and creditors by:

a) addressing the risk of these transactions leading the companys insolvencyb) seeking to ensure fairness between the company and the companys shareholdersc) requiring the company to disclose all material information.

Corporate Law: Law principles and practiceReduction of share capital cont

Under s 256B of The Corporations Act 2001 (Cth) a company may reduce its share capital provided it satisfies the following three requirements. The reduction of share capital:

must be fair and reasonable to the companys shareholders as a wholemust not materially prejudice the companys ability to pay its creditorsmust be approved by shareholders under s 256C.

A share for no consideration is a share capital reduction. Section 256B does not apply to this reduction.

Corporate Law: Law principles and practiceFair and reasonable share capital reductionsA company must consider such matters as:

the price paid for the shares by the companywhether the practical effect is that shareholders are treated equally according to the companys constitution, and this is fair and reasonable to each individual shareholderwhether the reduction is being used to facilitate or prevent a takeover bidwhether the reduction involves an arrangement that should more properly proceed as part of a scheme of arrangement.

Winpar Holdings Limited v Goldfield Kalgoorlie Ltd [2000] NSWLR 728

Corporate Law: Law principles and practiceMaterial prejudice against creditors

Any reduction in the share capital reduces the funds available to creditors so the company must ensure that creditors are not put at any further risk.

Assets must exceed liabilities after a capital reduction.

Directors may be personally liable if a reduction leaves the company insolvent (Corporations Act 2001 (Cth) s 588G).

Corporate Law: Law principles and practiceEqual and selective reduction of share capital and shareholder approval

The reduction of share capital is achieved by cancellation of shares and a payment made to those shareholders whose shares are cancelled.

There are two basic types of reduction of capital:

equal share capital reduction a selective share capital reduction (s Corporations Act 2001 (Cth) 256B(2)).

Both types of share capital reduction require shareholder approval (s 256C).

Corporate Law: Law principles and practiceTypes of buyback listed under s 257B

Equal access schemes: allow all members to offer for sale their shares in equal amounts

Selective buybacks: offering to purchase the shares of a particular class

Minimum holding: buybacks designed to buy out small holdings of shares

Employee share schemes: allow employees who have participated in an employee share participation scheme to sell their shares back to the company

On-market: a purchase of shares by a company, by making an offer on the ASX

Corporate Law: Law principles and practiceShareholder approval of reduction of share capital

A selective reduction of share capital can be approved in two ways:

by a special resolution of shareholders where no votes are cast in favour of the resolution by any person who is to receive consideration as a part of the reduction or whose liability to pay any unpaid amounts on shares is reduced, or by any of their associates. through approval by all ordinary shareholders, that is, a unanimous resolution (Corporations Act 2001 (Cth) s 254C(2)).

If a reduction involves a cancellation of shares, then the selective reduction must also be approved by a special resolution of shareholders whose shares are to be cancelled, as well as a special resolution passed at the general meeting (s 256C(2)).

Corporate Law: Law principles and practiceInformation about selective buybacks

Information about selective buybacks must be given to shareholders .

To ensure that shareholders make an informed decision, the company is required to disclose all material information on how to vote on the resolution in the notice of the meeting to shareholders (Corporations Act 2001 (Cth) s 256C(4)).

Corporate Law: Law principles and practiceInformation about selective buybacks cont

Under s 256C(5) of the Corporations Act 2001 (Cth), before the notice of meeting is sent to shareholders, the company must lodge with ASIC a copy of:

the notice of the meetingany other document relating to the reduction of share capital.Resolutions approving the reduction must be lodged within 14 days after they are passed, and the company cannot make any reduction until after that 14-day lodgement (s 256C(3)).

Corporate Law: Law principles and practiceCapital reductions not otherwise authorised (s 256B)

A share capital reduction must comply with s 256B of the Corporations Act 2001 (Cth).

The contravention of law is not an offence and does not invalidate the transaction (s 256D(2)).

A civil penalty may apply under s 1317E against directors who promote a capital reduction.

Directors may be liable for insolvent trading under s 588G.

Corporate Law: Law principles and practiceCapital reductions not otherwise authorised cont

Directors may be liable for a share capital reduction that leads to insolvent trading under s 588 of the Corporations Act 2001 (Cth).

The liquidator of the company may bring an action against directors for insolvent trading (s 588M) and penalties may be imposed on directors under s 1317E.

Directors may commit a criminal offence if their conduct is found to be dishonest (s 256D(4)).

Corporate Law: Law principles and practiceCapital reductions not otherwise authorised cont

The injunction power under s 1324 of the Corporations Act 2001 (Cth) provides a remedy for breach of s 256B (s 1324(1A)(b)) if the reduction is not fair and reasonable to shareholders, or where it prejudices the creditors.

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Corporate Law: Law principles and practiceOther share capital reductions

Other share capital reductions are provided for in ss 258A 258F of the Corporations Act 2001 (Cth) and they fall outside the requirements of s 256B. These reductions include:

share capital reduction by unlimited companies (s 258A)the company having the right to grant a lease or right of occupy property belongs to the company. the company paying brokerage or commission to a person in respect of that person or another person agreeing to take up the shares in the company (s 258C).

Corporate Law: Law principles and practiceOther share capital reductions cont

cancellation of shares forfeiture under the terms on which they were issued (s 258D)the redemption by a company of a redeemable preference share out of the proceeds of a new issue of shares made for this purpose (s 258E(1)(a)). This is governed by ss 254J and 254Kcancellation of paid up shares capital that is lost or not represented by available assets: (s 258F). This reduction does not apply to trading losses incurred in the usual course of business, but applies to unusual losses.

Corporate Law: Law principles and practiceCompany self-acquisitions of shares

Direct acquisition by a company of its own sharesCorporations Act 2001 (Cth) s 259A259D

A company is prohibited from acquiring shares in itself, except as provided by the Act. Trevor v Whitworth (1887) 12 App Cas 409

Companies cannot acquire their own shares directly or indirectly except as permitted by s 259A.

Corporate Law: Law principles and practiceCompany self-acquisitions of shares cont

There are some exceptions to the rule against a company acquiring its own shares:

the buyback is conducted under the share buyback rules (Corporations Act 2001 (Cth) s 257A).no consideration has been given for their acquisition by the company or an entity it controlsthe buyback has been ordered by a courtthe acquisition is exempt (s 259B(2)(3)): e.g. an employee share scheme approved under s 259B(2) the companys ordinary course of business includes providing finance on ordinary commercial terms (s 259B(3)).

Corporate Law: Law principles and practiceTaking security over shares

A company must not take security over its own shares or over the shares of another entity it controls except under ss 259B(2) and (3) of the Corporations Act 2001 (Cth).

The prohibition is aimed at preventing a company from taking security over its own shares.

Corporate Law: Law principles and practiceTaking security over shares cont

The exceptions to this rule are:

under an employee share scheme approved under s 259B(2) of the Corporations Act 2001 (Cth)if a companys ordinary course of business includes providing finance on ordinary commercial terms (s 259B(3)).

Corporate Law: Law principles and practiceShare buybacksWhile there is a first-instance prohibition on a company purchasing its own shares, this can be done under a number of exceptions, and for good reasons. For example:

giving small companies the ability to buy back the shares of a major shareholder who wishes to leave the company allowing the operation of employee share acquisitions schemespermitting a company to buy its shares on the market to stabilise its share price allowing a company protect itself from a takeover bid by creating a more competitive price for the companys shares.

Corporate Law: Law principles and practicePermitted share buybacks

A company can buy back limited percentages of their own shares each year.

A company can buy back 10% of its shares in a 12-month period.

If the buyback is to exceed the 10%/12 months limit, then some form of shareholder approval will be required.

Corporate Law: Law principles and practicePermitted share buybacks cont

The power to buy back shares is set out in s 257A of the Corporations Act 2001 (Cth) and states that a company can buy back its own shares only if:

the buyback does not materially prejudice the companys ability to pay its creditors; andb) the company follows the procedure set out in this Division.Section s 257A also stipulates that a company cannot buy its own shares if its constitution imposes restrictions on it buying its own shares.

Corporate Law: Law principles and practicePermitted share buybacks cont

Notice of an intended buyback must be lodged with ASIC within 14 days of passing the relevant resolution approving the buyback (Corporations Act 2001 (Cth) s 257F).

Within one month of the registration of the shares back to the company, it must lodge a notice with ASIC with all details (s 254Y).A company must include with the offer to buy back shares a statement setting out all information known to the company that is material to the decision whether to accept the offer (s 257G).

Corporate Law: Law principles and practiceTypes of share buyback

Equal access scheme

a buyback of shares with the same percentage for each shareholder and on the same termsshareholders should be given reasonable time to accept a buyback, and be advised of the time of acceptance set (Corporations Act 2001 (Cth) s 257B(2))if the 10/12 rule is exceeded, the company must pass an ordinary resolutionmembers must have adequate notice of the meeting, and all relevant information (s 257C)ASIC must be informed of all details (s 257F)

Corporate Law: Law principles and practiceTypes of share buyback cont

Selective buybacks

a buyback where different members are treated differentlythe 10/12 rule does not applyrequires approval by a special resolutionmembers who own the shares cannot vote (Corporations Act 2001 (Cth) s 257D(1)). the usual notification of the meeting and adequate information must be given to membersASIC must be notified and documents lodged (s 257D(3)).

Corporate Law: Law principles and practiceTypes of share buyback cont

On-market buyback

The shares of a listed company are repurchased by the company in the ordinary course of trading on the securities exchange.An ordinary resolution is required and relevant documents must be filed with ASIC if exceeding 10/12 rule.

Types of share buyback cont

Employee share buyback

a buyback of employees shares that have been approved by the directors and a general meetingAn ordinary resolution is required and relevant documents must be filed with ASIC if exceeding the 10/12 rule.

Minimum holding buyback

a buyback of all of a holders shares in a listed company where the shares are less than a marketable parcel

Corporate Law: Law principles and pr...

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