12 - The capital maintenance rules

Question 1

Why do specific rules exist regarding reductions in share capital?

Answer 1

Because creditors’ positions can be adversely affected so therefore they need protection

Question 2

Two methods provided for by CA2006 to reduce share capital

Answer 2

• Special resolution followed by court confirmation
• Special resolution followed by solvency statement

Question 3

Primary concern of the courts when deciding whether to confirm a reduction of share capital?

Answer 3

If the cause of the reduction was properly put to shareholders so that they could exercise an informed choice, and that the cause is proved by evidence before the court

Question 4

Two conditions that must be met for a creditor to object to a reduction in share capital

Answer 4

• Involves a diminution of liability in respect of unpaid share capital or payment to shareholder of any paid-up share capital
  AND
• Creditor shows there is likelihood that the reduction would result in company being unable to discharge debt or claim

Question 5

Reduction of share capital by special resolution and solvency statement is only available to which companies?

Answer 5

Private companies

Question 6

How recently before special resolution for capital reduction must solvency statement be provided?

Answer 6

Not more than 15 days prior

Question 7

Solvency statement states that each of the directors has formed the opinion that: (2)

Answer 7

• There are no grounds on which the company could then be found unable to pay its debts
• Company will be able to pay its debts as they fall due in the next 12 months (or until winding up if within this period)

Question 8

3 reasons for general rule against acquisition of own shares

Answer 8

• Capital being returned to the shareholders is generally prohibited under capital maintenance rules
• Company may try to manipulate its own share price
• Would allow companies to avoid standard procedures to be avoided

Question 9

5 instances where CA 2006 states acquiring own shares is justifiable

Answer 9

• Part of valid reduction of capital
• If not for valuable consideration
• Under court order if member’s interests have been unfairly prejudiced
• Redeemable shares
• Purchase of own shares

Question 10

What happens when redeemable shares are redeemed (or shares are purchased by company)?

Answer 10

They are cancelled and share capital is reduced by nominal value of the shares redeemed
Amount by which share capital is diminished must be transferred to an account called ‘capital redemption reserve’

Question 11

Principal way right to purchase own shares differs from right to redeem shares

Answer 11

Right to purchase own shares applies to all of the company’s shares

Question 12

5 stages for acquisition of shares out of capital

Answer 12

• Directors’ statement (how much capital will be required, and statement of solvency)
• Auditor’s report (ultimately to agree with directors’ statement
• Special resolution passed within one week of directors’ statement
• Public notice published with one week of special resolution
• Payment made 5-7 weeks after resolution

Question 13

Greene Committee of 1926 stated that a company providing financial assistance to others to acquire shares was open to the ‘gravest abuses’, noting that it could allow a company to:

Answer 13

• Manipulate its share prices
• Provide financial assistance to another company which could then take the company over

Question 14

3 examples of what would be considered financial assistance

Answer 14

• Company lends money to a person who uses money to by shares in company
• Company guarantees a loan made by bank to another person, and that person uses money to buy shares in company
• Persons borrows money from bank, buys a company, and then pays back with company’s money

Question 15

To what companies do rules re. financial assistance to acquire shares mainly apply?

Answer 15

Public companies

Question 16

What is the ‘principal purpose’ and ‘incidental part’ exceptions to providing financial assistance?

Answer 16

• Assistance is given in good faith in the interests of the company; and
• Principal purpose in giving assistance is only an incidental part of some larger purpose of the company

Answer 17

• Company and officers have committed a criminal offence
• Agreement to provide fin assistance is unenforceable
• Director may be held in breach of duty or DQ’d
• Recipient can be held liable to account for sum if they knew of the impropriety of transaction

Question 18

CA 2006 definition of distribution

Answer 18

Every description of distribution of a company’s assets to its members, whether in cash or otherwise

Question 19

Importance of definition of distribution being so broad

Answer 19

Prevents companies from disguising distributions to members (such as selling property to them cheaply, etc.)

Question 20

Key difference between final and interim dividend

Answer 20

Articles usually require that a final dividend requires ordinary resolution, but interim dividend does not

Question 21

How to calculate profits available for distributions?

Answer 21

(Cumulative realised profits - realised losses) - cumulative dividends

Question 22

When can accounts be relied upon for the purpose of determining distributable profits?

Answer 22

Accounts prepared in accordance with CA2006 & audited (unless exempt)

Question 23

Typical three-stage process for paying dividends stipulated by Articles

Answer 23

1. Directors recommend dividend
2. Company declare dividend by ordinary resolution (only applies for final dividend)
3. Dividend paid based on rights of members

Question 24

Civil remedies following unlawful distribution can be taken against whom?

Answer 24

• Members receiving (if aware of illegality)
• Directors recommending/authorising
• Auditor (if audit not conducted with reasonable skill and care)

Question 25

What does common law state directors are liable to do following unlawful distribution?

Answer 25

Repay the amount of distribution to the company