Understanding corporate finance: raising finance: issuing shares
When a company is set up, the shareholders authorise the number of shares that can be issued. This is the authorised share capital. The company can issue shares up to this amount. The shares issued are the issued share capital.
If a company wants to issue more shares than it is authorised to do, it has to ask the shareholders for permission.
Generally, prior to 1 December 2003, it was against the law for a company to buy its own shares so it was not possible to redeem ordinary shares. It is now possible for a company to buy its own shares back from the shareholders.
If a company wishes to reduce its authorised share capital it needs permission from the courts.
There are many different kinds of shares, including:
Ordinary shares normally carry a right to participate in a company through voting and an entitlement to receive dividends. When a company is wound up the ordinary shareholders will be last in the queue to have the par value of their shares returned to them. It is also possible to issue ordinary shares which carry different rights. Often these shares are differentiated by being classed as ‘A’ shares, ‘B’ shares etc. It is possible to issue ordinary shares which carry no voting rights but do carry rights to dividends. This type of share might be found where the original shareholders want to keep control of the company’s affairs but do not want to own more than half the shares.
Refer to HMRC Brief 87/09 (12 January 2010) for the meaning of ordinary share capital for corporation tax purposes.
Preference shares are not included in equity share capital because their rights are different to ordinary shareholders’ rights. Preference shares do not normally give the holder the right to vote and so issuing preference shares will not take the control of the company away from the ordinary shareholders. They carry a right to a fixed dividend so the preference shareholder does not benefit if the company’s profits increase. On the other hand preference share holders are entitled to their dividend before the ordinary share holders get theirs so the preference share holders’ dividend is more likely to be paid if the company is not doing so well. In addition, if the company is wound up, it is common for the preference share holders to get repaid the par value of their shares before the ordinary shareholders get their money back.
Redeemable preference shares
The terms of issue of redeemable preference shares give the issuer the right to redeem them. This type of share comes near to having the qualities of a debt.
Cumulative preference shares
Cumulative preference shares allow the holder to be paid a dividend in a later year if there are insufficient funds to meet the dividend in an earlier year. This means the holder can probably ensure that dividends for all years are paid regardless of the ups and downs of the business.
Other types of preference shares
Preference shares can be structured to meet a variety of needs and may be a flexible instrument; hence they are often used by institutional investors such as Venture Capital Funds and include Cumulative Redeemable Participating Preference Shares.