A company may wish to
undertake a share buyback for a variety of reasons, including to return surplus
cash to shareholders or to buy out a particular shareholder who is seeking an
exit. Any buyback of shares by a company must, unless a relevant exception
applies, follow the process in Part 18 of the Companies Act 2006 (the “Act”).
A buyback that is not
carried in accordance with the process in the Act will be void which, in some
instances, may have the consequence that the relevant shares are still in
issue. This can cause significant problems where a defective buyback is
discovered during due diligence by a potential buyer of a company. For example,
we have worked on transactions where shares which the sellers thought had been
bought back needed to be repurchased from a previous shareholder who no longer
had any involvement with the company. This can cause significant delays and, at
worst, can jeopardize the transaction if the previous shareholder is
un-cooperative. In addition, failure to comply with Part 18 of the Act will
constitute an offence by the company and each officer in default; the latter
may be liable to up to 2 years in prison, an unlimited fine or both. Therefore,
it is very important that the process in the Act is correctly followed.
This note sets out an
overview of the process that a private company should follow when undertaking
an “off-market” purchase of its own shares, whether the purchase is funded out
of distributable profits or capital, including the recent changes made by the
Buyback Regulations 2015. This note does not cover: (i) the process for
“market” purchases which are, for the most part, relevant to public companies
only; or (ii) buybacks of shares by public companies generally.
A. Preliminary issues to consider
Do the rules in the Act apply to the proposed buyback?
Under section 659 of
the Act, the rules in Chapter 18 of the Act do not apply to acquisitions by
private company of its own shares:
·
for no consideration;
·
pursuant to a court order;
·
as part of a reduction of capital in
accordance with the Act; or
·
pursuant to a forfeiture of shares or the
acceptance of shares surrendered in lieu, in pursuance of the company's
articles, for failure to pay any sum payable in respect of the shares.
Otherwise, the rules
will apply and the process in Chapter 18 must be followed.
Do the company’s articles prohibit share buybacks or contain
restrictions on the transfer of shares? Is there a shareholders’ agreement in
force relating to the company?
A company no longer
requires a specific authorization in its articles to purchase its own shares
(other than where the buyback is a small buyback out of capital – see below).
However, the articles should be checked to confirm whether the company is
prohibited from purchasing its own shares (or if there are any specific consent
requirements). If the company is restricted from undertaking a buyback, or if
there is a specific consent requirement, then the articles will need to be
amended or the relevant consent sought.
In addition, the
company’s articles should be checked to confirm whether there are any
restrictions on transfers of shares. If so, then these restrictions will either
need to be waived, or the articles amended, by special resolution. If there is
a shareholders’ agreement in place relating to the company, the agreement
should be reviewed to check if any consents are required in relation to the
buyback and/or to the transfer of shares pursuant to the buyback.
Is the company undertaking the buyback pursuant to an
employees’ share scheme?
If the buyback is
being undertaken pursuant to an employees’ share scheme, then the company may
be able to take advantage of some of the more flexible provisions in the Act.
For example, in this situation a company may pay for shares in installments
(which is otherwise prohibited), buyback the shares out of capital using a
simplified process or, if the company is a private company, pass an ordinary
resolution authorizing multiple buybacks in advance. Share buybacks pursuant to
an employee share scheme are not covered any further in this article.
How will the buyback be financed?
The process that a
company needs to follow to purchase its own shares will depend on how the
buyback is to be financed. The Act provides that a buyback may be financed out
of:
·
distributable profits;
·
the proceeds of a fresh issue of shares
made for the purpose of financing the buyback; or
·
capital.
Exemption for small buybacks out of capital
In addition to the
above (which are covered in sections B and C below), section 692 of the Act
contains an exemption for a “de minimis” buyback out of capital. Where
specifically authorized to utilize the exemption by its articles, a private
company may purchase its own shares out of capital up to an amount, in any one
financial year, not exceeding the lower of:
·
£15,000; or
·
the nominal value of 5% of its fully paid
share capital.
Where the exemption
applies, a private company will be able to use a simplified process and will
not need to comply with the more onerous procedure in Chapter 5 of Part 18
relating to buybacks out of capital (see below). The buyback contract will
still need to be approved the shareholders (see process below).
B. Process for a share buyback using distributable profits
or a new issue of issue of shares
Step 1 – approval of the buyback contract by the
shareholders
A company may only
make an off-market purchase of its own shares in pursuance of a contract
approved prior to the purchase in accordance with section 694 of the Act. The
buyback contract should contain all the key terms of the agreement between the
company and the selling shareholder(s) for the purchase of the shares by the
company.
Either the terms of
the contract must be authorized by a resolution of the company before the
contract is entered into, or the contract must provide that no shares may be
purchased under the contract until its terms have been so authorized by
resolution. The contract will need to be approved by an ordinary resolution
passed by the holders of over 50% of the voting shares in the company, unless
the articles require a higher majority. The resolution can be passed as a
written resolution or at a general meeting.
In addition, the
buyback contract will need to be made available to shareholders as follows:
·
where the contract is being approved by
written resolution, a copy of the contract should be circulated to the
shareholders, along with the written resolution (where the contract is not in
writing, a memorandum summarizing its terms will suffice); or
·
where the contract is being approved at a
general meeting, a copy of the contract (or where not in writing, a memorandum summarizing
its terms) must be made available for inspection by shareholders at the
company’s registered office for at least 15 days ending with the date of the
general meeting and at the general meeting itself.
The shareholder whose
shares are being purchased will not be able to vote on the written resolution.
If the resolution is passed at a general meeting, then the resolution will be
ineffective if the shareholder holding shares to which the resolution relates
exercises the voting rights carried by those shares and the resolution would
not have been passed if those votes had not been exercised.
The resolution
approving the buyback contract is not limited in time, so the company may
purchase the shares at any time following the passing of the resolution. Please
see above in relation to approval in advance for buybacks of shares pursuant to
an employees’ share scheme.
An authority for a
buyback of shares, or a buyback contract, may be varied by ordinary resolution
(unless the articles require a higher majority). Again, the proposed variation
must be authorized in advance, and the terms of such proposed variation must be
made available to shareholders in the same way as set out above.
Step 2 - payment for the shares
Unless shares are
bought back pursuant to an employees’ share scheme (see the above), section 691
(2) of the Act requires that the shares must be paid for at the time they are
purchased. If the buyback agreement provides for the shares to be paid for in installments,
then the buyback will be void (Pena v. Dale [2003] EWHC 1065 (Ch)). Although
this is fairly restrictive, it is permissible for a company to enter into a
buyback agreement with multiple completions for the purchase of separate
tranches of shares on different dates. However, each tranche of shares will
need to be paid for at the time the relevant shares are bought back. Therefore,
a company that enters into a buyback agreement involving multiple completions
should ensure in advance that it will have sufficient distributable reserves to
purchase each tranche of shares.
The generally held
view is that a company must pay for shares purchased pursuant to a share
buyback in cash (although there is a case suggesting that a non-cash asset or
set-off of a liability will suffice, this is not settled law; therefore, a cash
payment is the safest option).
Where the company is
financing the buyback using the proceeds of a new issue of shares, the Act does
not stipulate a time limit for the buyback once the new shares have been
issued. However, the company should ensure that the buyback is undertaken as
soon as possible following the new issue of shares, so that there is a clear
link between the issue and the buyback. The holders of the new shares should be
entered into the register of shareholders before the proceeds of the issue are
applied to buy back the shares.
Step 3 – post buyback
Any shares purchased
using distributable profits may be cancelled or held in treasury, under section
724 of the Act.
If the shares are
bought back using the proceeds of a fresh issue of shares, or from cash using
the de minimis exemption, then they must be cancelled (section 706 (b)). The
amount of the company’s issued share capital will be diminished by the nominal
value of the shares cancelled.
Where (as in most
cases) the buyback contract is approved by ordinary resolution, the resolution
will not need to be filed at Companies House. If, because of a requirement in
the company’s articles or otherwise, the buyback contract has been approved by
special resolution, then the resolution will need to be filed. The Act does not
require that the buyback contract itself is filed, but the company is obliged to
keep the contract available for inspection at its registered office for a
period of 10 years.
The company will also
need to file a form SH03 at Companies House within 28 days of the buyback.
Unless the consideration paid for the shares is less than £1,000, the form SH03
will need to be sent to HMRC for stamping before it is filed. Stamp duly of
0.5% (rounded up to the nearest £5.00) is payable on the consideration paid for
the shares.
In addition, where the
shares which are the subject of the buyback are cancelled, the company will
need to file a notice of cancellation on form SH06 with Companies House.
The company should
update its register of shareholders to reflect the buyback.
C. Process for share buyback out of capital
Step 1 – directors’ statement
Where the buyback is
to be funded out of capital the directors of the company must, in accordance
with section 714 of the Act, give a statement which includes the following
matters:
·
the amount of the permissible capital
repayment for the shares (shares may only be purchased out of capital to the
extent that any available profits and the proceeds of any fresh issue of shares
have first been applied – this is referred to as the “permissible capital
repayment” – section 710);
·
having made full enquiry into the affairs
and prospects of the company, the directors must give the opinion that:
·
as regards its initial situation
immediately following the date on which the payment out of capital is proposed
to be made, that there will be no grounds on which the company could then be
found unable to pay its debts; and
·
as regards its prospects for the year
immediately following the date on which the payment out of capital is proposed
to be made, that, having regard to their intentions with respect to the
management of the company’s
business and the financial
resources available to the company during that year, the company will be
able to continue to carry on business as a going concern and pay its debts as
they fall due throughout that year.
If a director makes
the statement without having reasonable grounds, then such director will have
committed a criminal offence. In addition, where the company is wound up within
the year following the buyback, the seller of the shares and any director that
signed the statement may be liable, in certain circumstances, to repay the
liquidator the amount paid for the shares.
The statement must
have annexed to it an auditor’s report, stating that:
·
the auditor has inquired into the
company’s affairs;
·
the amount of the permissible capital
payment has been properly determined in accordance with the Act; and
·
the auditor is not aware of anything to
indicate that the opinion expressed by the directors is unreasonable.
The directors’
statement should be signed on the same day as, or in the week before, the date
on which the shareholders’ resolution approving the payment out of capital is
passed (see below).
Step 2 – shareholder approval
Where the buyback is
funded out of capital, the buyback contract will need to be approved by the
shareholders (see step 1 of section B above). In addition, a further special
resolution is required to approve the payment out of capital under section 716
of the Act. The special resolution (which will require approval by the holders
of 75% of the voting shares) may be passed as a written resolution or at a
general meeting:
·
where passed as a written resolution, the
directors’ statement and auditors report should be circulated with the
resolution (failure to do this will render the resolution ineffective); or
·
where passed at a general meeting, the
directors’ statement and auditor’s report should be available to shareholders
at the general meeting.
As with the resolution
approving the buyback contract, a shareholder holding shares which are the
subject of the buyback will not be an eligible member for the purposes of the
shareholder resolution. If the resolution is passed at a general meeting, then
the resolution will only be effective if passed without counting any votes
attaching to the shares to which the resolution relates.
Step 3 – notice in the Gazette and a national
newspaper/period for objection
Within the week
following the resolution approving the payment out of capital, the company must
publish a notice in the Gazette and in an appropriate national newspaper or
give notice to each of its creditors, stating:
·
that the company has approved a payment
out of capital for the purposes of a share buyback;
·
the amount of the permissible capital
payment;
·
the place where the directors’ statement
and auditor’s report are available for inspection; and
·
that any creditor may, within the 5 weeks
following the date of the resolution, apply to court to prevent the payment.
The company must make
the directors’ statement and auditor’s report available for inspection at its
registered office by any shareholder or creditor from the date of the Gazette
notice until 5 weeks after the date of the resolution approving the payment out
of capital.
In the five weeks
following the resolution approving the payment out of capital, any shareholder
or creditor may apply to court for the resolution approving the payment out of
capital to be cancelled. Where such an application is made, the court hearing
the application may order a variety of things, including that the resolution is
either cancelled or confirmed. Where an application to court is made, both the
applicant and the company must notify Companies House of the application by
filing forms SH16 (applicant) and SH17 (the company).
Step 4 – timing for the payment out capital
The payment out of
capital must be made no earlier than 5 weeks, and no later than 7 weeks, after
the date of the resolution approving the payment out of capital.
Step 5 – post buyback
The special resolution
approving the payment out of capital should be filed at Companies House within
15 days. The directors’ statement and auditor’s report should also be filed
with Companies House on the earlier of: (i) the date of the Gazette notice; or
(ii) the date on which a notice is published in a national newspapers or the
notice is given to creditors.
Any shares purchased
from capital must be cancelled. Therefore, the company will need to file both
forms SH03 and SH06 at Companies House, and also pay stamp duty on the buyback
of the shares (if payable); please see step 3 of section B above.
As with a buyback out
of distributable profits, the company will need to update its register of
members and keep a copy of the buyback contract available for inspection
(again, refer to step 3 of section B above).
Buybacks out of
capital have become less popular as a way of returning capital to shareholders
since the introduction of the solvency state route as a way of reducing a
company's capital in order to create distributable reserves.