There are several reasons why a company might want to reduce its share capital. These include increasing the amount of distributable reserves; reducing or eliminating realised losses; or a combination of the two, in order to be able to pay a dividend or an increased dividend to its members. Alternatively, a company might have capital that is not required, in which case a reduction can be used to release a liability to pay up unpaid share capital or to repay paid up share capital.
A reduction of capital can also be useful if a company wishes to complete a buy back of its own shares but does not have sufficient distributable reserves to do so. Rather than buying back the shares out of capital, which is expensive and is a lengthier process, it is possible to create distributable reserves by reducing the capital before completing the buy back.
Capital might also be reduced in order for a company to distribute its assets up to its parent before being transferred out of a group. However, it is not possible to reduce the share capital to zero; there must be at least one non-redeemable share in issue following the reduction. A company needing to reduce its capital to zero will still have to use the court approval procedure.
The directors must not give a solvency statement without first giving consideration to several factors. These include the financial position of the company and the effect of the reduction on its financial position. The directors must take account of projections, including prospective and contingent liabilities, for at least the twelve months following the reduction.
If the directors make a solvency statement without having reasonable grounds for the opinions expressed therein, they will be committing an offence and will be liable to imprisonment or a fine. There are several practical steps that directors can take to show that they had reasonable grounds for their opinion and therefore reduce the risk of committing an offence, such as recording the information they considered in reaching their opinion. They might also want to seek third party advice to help satisfy them that their opinion is sound.
The solvency statement procedure is, therefore, not one to be undertaken lightly or without proper thought and consideration. However, where the directors are sure that the company’s financial position supports a reduction of capital, this procedure can be a time and cost effective way of achieving that reduction.
If you would like more information on the practical steps involved in a reduction of capital, or on the ways it can be used to release distributable reserves, please contact Philip Langford or Jessica Nugent on 020 7404 0606.
This is a guide for general information and interest only and should not be relied upon as providing specific legal advice.
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