Reduction Of Share Capital

A UK company which is limited by shares can reduce its share capital. The relevant legislation is set out in Chapter 10 of Part 17 of the Companies Act 2006 (Act).

Process & considerations

• A Special Resolution needs to be passed by the Shareholders of the Company. This must be accompanied by a director’s solvency statement. Only private limited companies may reduce their share capital in this way (see s642 – 644 of the Act). The statement of solvency must be signed by all of the directors. When producing the statement the directors must look at the financial position of the company as a whole and how the reduction could potentially affect it. They must look at current liabilities and debts as well as any that may occur in the future (12 months). A good place to start is with the company’s financial advisor and reviewing the current filed accountants as well as any recent management accounts.
• Before the company takes the decision to reduce its capital using this method there are a number of important considerations that it must first take into account, firstly the company’s articles of association must be reviewed, under the Act as long as there is no specific prohibition or restriction contained within its articles then they can proceed.
• It should be noted that if the company’s articles do contain a restriction then it can, of course, alter its articles by way of a special resolution. This will need to be carried out prior to the special resolution to reduce its capital.
• The shareholders will also need to confirm that there is no shareholders agreement (or other agreement) in place that would prevent them from reducing their capital. If there is a restriction contained within the shareholder’s agreement then, depending on what is contained within the document, it may be possible to vary the document on the agreement of all of the parties to remove the prohibition.
• The directors and shareholders will also need to be aware that a reserve will be created as a result of the proposed reduction and this is dealt with under s654 of the Act together with article 3 of The Companies (Reduction of Share Capital) order 2008. The government have taken the decision that any reserve which may be created as a result of this if it is supported by a solvency statement will actually be considered to be a realised profit in respect of Part 23 of the Act and can be distributed to members.
• Directors will need to consider whether there are any options in place over the shares of the company as this could prevent the company from reducing its capital depending on the terms of the option agreement.
• Often a company that has taken the decision to reduce its share capital will also require authority to reduce or to cancel their share premium account and or their capital redemption reserve. In this respect they are considered to form part of the company’s share capital so again when reduced they can be distributed to members.

Benefits of reducing share capital

• A benefit of reducing the capital by special resolution and solvency statement rather than by the court order is that creditors will have no right of objection to the proposed reduction. However, the directors must take any creditors and liability of the company into account when producing the statement. The company may, for example, have loans or debentures etc outstanding and the company may need to seek the lenders approval prior to reducing the share capital.

An alternative way to reduce the capital of a company is by court order (a special resolution which is confirmed by the court). This is a much more expensive and time-consuming method.

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