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Reduction of share capital: a new procedure
Jul 8, 2010
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It is a fundamental principle of law that a company should, except in
limited circumstances, maintain its share capital. This stems from the
need to
protect third parties dealing with a limited company against the risk
that its
assets could be spirited away, leaving nothing to support its debts.
More
recently, creditors have tended to rely less and less on the level of a
company’s share capital as an indicator of its creditworthiness. In
recognition
of this shift in attitude, a new procedure to simplify reductions of
share capital
was introduced by the Companies Act 2006, reports commercial solicitor, Rob Ridd.
There are a number of reasons why it may be desirable for a company to
reduce its share capital. The main driver is likely to be the effect on the
company’s distributable reserves. A reduction of share capital creates a
reserve which is immediately distributable as a realised profit. This is likely
to be very attractive for companies that have large share capitals where historically
carried-forward losses have prevented them from declaring any dividends or
redeeming shares.
Before October 2008, limited companies seeking to reduce their share capital
required the approval of the High Court. Unless large sums of money were involved,
this could be a prohibitively expensive exercise, though it is still available
for those who wish to use it. The new procedure avoids the need for court
approval as it supports the reduction of share capital by way of a statement of
solvency made by the directors.
The new system is a quicker, easier and cheaper option. Importantly, and in
contrast to the court-approved procedure, there is no right for a creditor to
object to a reduction of capital supported by a solvency statement.
The shareholders are required to pass a special resolution to reduce the
company’s share capital once the directors have made a statement of solvency.
Importantly, the directors face criminal sanctions if they make a solvency
statement without having reasonable grounds for the opinions expressed in it.
The nature and extent of the comfort that a board of directors will want before
making a solvency statement depends on the circumstances of that particular
company. It is incumbent on the directors, along with their professional
advisers, to take a detailed look at the current and future finances of the
company before carrying out the procedure.
Nevertheless, provided the company is in solid financial shape, the advantages
of the new procedure are readily apparent: the professional costs will
typically be a fraction of those involved with the court-approved procedure and
it is a much shorter process.