Answer: In this case, Sandpiper is a private company. Its directors want to redeem the cumulative redeemable preference share (CRP) and then to issue the right issue to existing shareholders. There are a number of legislations governing these two issues. Only the rules related to private company will be discussed in detail in accordance with Companies Ordinance in Hong Kong and court cases. In this paper, it is organized as follows. Section 1 discusses the ruling of redemption of CRP and section 2 discusses the ruling of issuing of right issue.
Section 3 is the comment. Section 1 Redemption of CRP Under the Companies Ordinance, there is a concept of maintenance of share capital. After a company issues shares, it is not allowed to reduce its share capital by purchasing its own share (s 58 (1 A) ), providing financial assistance for the purchase of its own shares (s 47 A-G & 48) and paying dividend except out of distribution profit (s 79 A-P). The aims are to protect the interest of creditors and protect the company from abuses by the directors. Also, in Trevor v Whitworth case, the court held that the company could not purchase its own share even though it was authorized by its Articles. However, there are permissible exceptions to this restriction.
In this part, we will discuss the exception rules of redemption and purchase of share. 1. 1 Exception rule Exception to the above rules, Companies Ordinance gives power to the company to: Redeem any shares (s 49 & 49 A); Acquire any shares in a reduction of capital (s 58); Purchase any shares (s 49 B? S); Purchase any shares in pursuance of court order (s 8 (4), s 47 G (5), s 168 A); or Forfeit any shares due to failure of paying any sum payable by shareholders (Table A art 34-40). Now, Sandpiper wants to redeem the CRP which falls within the exception rules and Sandpiper is allowed to do so. Next, we will discuss the redemption rule.
1. 2 Redemption rule 1. 2. 1 Requirement According to s 49, the shares can only be redeemed if: They have been fully paid up; They were issued at redeemable shares; and The date on which, or dates between which, the shares are or may be redeemed is specified.
The shares after being redeemed are treated as cancelled, only the issued share capital amount is reduced. The authorized share capital is unchanged. If the CRP is not fully paid, Sandpiper cannot redeem it. However, if the CRP is fully paid, then it can be redeemed. Here, we assume the CRP is fully paid.
1. 2. 2 Financing of Redemption s 49 A (1) stated that companies limited by shares or by guarantee are permitted to redeem or purchase its own shares out of distribution of profits or the proceeds of a fresh issue of shares. Any premium payable on redemption has to be paid out of the distribution profits. Under s 49 A (2), if the redeemable shares were issued at a premium, the premium payable on redemption may be paid out of the proceeds of a fresh issue of shares made for the purpose of the redemption. The maximum amount cannot exceed the total premium received by the company at the time of issuing the redeemable shares or the current amount of share premium account, whichever is the less.
The redemption date is specified on January 1 st 2005. If the directors want to redeem CRP earlier than stated in the agreement, this transaction amounts to the purchase of shares. Then, Sandpiper has to follow the rules under the purchase of its own shares. 1. 3 Purchase of shares out of distribution profits or the proceeds of a fresh issue of shares under s 49 B to s 49 G According to s 49 B, the company must have a power to do so contained in the Articles, but a company may not purchase its own shares so as to leave only redeemable shares. The above rules applied to redemption apply to purchase of shares except that the share premium cannot be used.
The payment made by a company must be made out of distribution profit. 1. 3. 1 Procedure of purchases of shares out of distribution profits It has to be authorized by the Articles. There must be distribution profits and a draft purchase contract is available. The procedures are as follows: Convene and hold a board meeting; Dispatch notice of the general meeting to those who are entitled to attend the meeting; Hold the general meeting to pass the special resolution; Execute the purchase contract; Submit special resolution and Form SC 2 (within 14 days beginning with the first date on which related shares were delivered to the company) to the Registrar (s 48 G (1) ); Update the register of members.
1. 3. 2 Procedure of purchases of shares out of the proceed of a fresh issue of shares The procedure is the same as above. However, it involves the issue of new shares, some additional procedures are needed to follow. If the new shares are issued other than the existing shareholders on a pro-rata basis, shareholders? prior approval must be obtained and a general meeting for this purpose must be held to determine the number and the issue price of the new shares. Ordinary resolution is needed for new issue of shares and special resolution must be passed for purchase of shares.
An additional Form SC 1 (Return of Allotment) should be registered within one month of the first date of allotment in accordance with s 45. For Sandpiper, if the special resolution regarding the repurchase of shares cannot be obtained, the directors cannot redeem CRP earlier than January 1 st 2005. On the other hand, if the special resolution is obtained, there is insufficient distribution of profits or insufficient proceed of new issues together with any distribution of profits to cover the payment of purchase of CRP. Then the arrangement will become the purchase of shares out of capital.
We will discuss this in the next part. 1. 4 Redeem or Purchase of out of capital under s 49 I to s 49 O Under s 49 B, the company may buy back its shares out of capital in order to settle debts, eliminate fractional shares, comply with a court order and fulfil an employee share scheme agreement. Companies Ordinance gives additional power to a private company to purchase or redeem its own shares out of capital. 1. 4.
1 Procedure It is authorized by Articles and it is needed to prove that the distribution of profits or the proceed of new issue is insufficient. Convene and hold a board meeting to authorize the execution of a directors? statement stating the company will be able to pay its debt immediately after repurchase and within the following 12 months (s 49 K (6) states that a director is liable to imprisonment or a fine if he makes the statement without having reasonable grounds for the opinion); Address auditors? report to the directors? statement stating the amount of permissible capital payment and they are unaware of anything to indicate the directors? opinion in the statement is unreasonable; Dispatch notice of the general meeting to those who are entitled to attend the meeting; Hold the general meeting to pass the special resolution which must be passed on or within a week after the date of the director's statement; Submit special resolution, directors? statement and auditors? report to the Registrar before the publication of a notice to creditors; Publish in the Gazette (s 48 M (1) ); Publish a notice to creditors in at least one English and one Chinese newspaper or send it to each creditor (s 48 M (2) ); Submit special resolution and Form SC 2 (within 14 days beginning with the first date on which related shares were delivered to the company) to the Registrar (s 48 G (1) ); Update the register of members. 1. 4. 2 Protection of shareholders and creditors If the special resolution is passed, any shareholder or creditor who does not consent to the resolution may apply to the court within five weeks following the date of passing of the resolution (s 49 N (3) ). The company must give notice of the application and within 15 days of the court order, deliver a copy of it to the Registrar.
1. 5 Capital Redemption Reserve The rule (s 49 H) concerning the capital redemption reserve applies equally to redemption of shares and purchase of shares by the company. In 1. 3. 1 case, the company must transfer amount to capital redemption reserve whish is equal to the reduction amount of issued share capital. In 1.
3. 2 case, if the proceeds of the new issue are less than the nominal amount of the shares redeemed or purchased, the difference has to be transferred to the capital redemption reserve. The capital redemption reserve is treated as quasi-share capital. It is not permitted to reduce and is subject to the reduction of capital rules (s 58).
Section 2 Issue of Right Issue We assume Sandpiper is successful in redeeming the CRP according to the above rules, the next plan of the company is to issue the right issue. The authorized share capital has already been fully issued. It needs to increase the authorized share capital in order to accommodate the proposed issue of right issue. So, we will discuss the procedure of alteration of authorized share capital first. 2. 1 Increase of Authorized Share Capital It will require a change in the memorandum clause which fixes the authorized share capital.
Generally, the right to alter the capital clause is subject to the provisions of the company's Articles and can be exercised only by a general meeting. Under s 53, Table A art 45 & 46, an ordinary resolution at such a meeting will suffice. The special resolution is needed if the Articles do not authorize to alter the authorized share capital. The directors should submit the resolution and Form SC 4 to the Registrar within 15 days after the passing of the resolution (s 55). A copy of this resolution has to be attached to every copy of Memorandum and Articles. Sandpiper adopts Table A as its Articles which authorizes the company to alter its authorized capital.
So, ordinary resolution is sufficient. 2. 2 Issue of Right Issue It is an offer to the existing shareholders offering them the right to subscribe the new shares on a pro-rata basis at a specific price. s 57 B provides that notwithstanding anything in Memorandum or Articles, the directors shall not, without the prior approval of the company in general meeting, exercise any power to allot shares. The authorization is valid until the next annual general meeting. However, no prior approval is required in the case of an allotment pursuant to an offer made pro-rata to the members of the company.
A board resolution approving the issue will suffice. Rights issue may be offered to the existing shareholders in the form of a letter of right or provisional letter of allotment. Due to the restriction of transfer of share of private company, both letters are non-renounceable in most of the cases. No prospectus is required under s 38. Whether the directors of Sandpiper need the prior approval of shareholders greatly depends on the time of issue of right issue.
If the right issue is issued before the redemption of CRP, the exemption of prior approval does not apply because CRP shareholders are not included in this issue. If the right issue is issued after the redemption of CRP, the exemption is applied. 2. 3 Issue at Par, at Premium or at Discount The price of the right issue is usually lower than the current net asset value of the existing shares in the case of a private company. The share can be issued at par, at premium or at discount. There are different rules concerning the raising of share capital.
2. 3. 1 Issue at Premium s 48 B requires a company which has issued shares at a premium to transfer the premium to a "Share Premium? account. The share premium is another kind of quasi-share capital which is similar to capital redemption reserve, its return to shareholders is very strictly controlled. It may be applied only: in paying up unissued shares to be issued to shareholders as fully paid bonus shares; in writing-off preliminary expenses or the expenses of, or the commission paid or discount allowed on, any issue of shares of the company; or in case of s 49 A (2). 2.
3. 2 Issue at Discount Under the common law, it prohibits the issue of shares at discount where the consideration is in cash. This is to protect creditors of the company. In Ooregum Gold Mining Co of India v Roper case, it was held that the nominal value of a share was a fixed and certain amount to which every creditor of the company was entitled to look for his security, therefore, shares must never be issued at a discount to their nominal value. s 50 permits issues of shares at discount but only in restricted circumstances where the consideration is in cash: The issue must be authorized by resolution of shareholders in general meeting. It is confirmed by the court order.
The resolution must specify the maximum discount and the shares must be issued within one month of the court order. On the date of issue, the company must have been carrying on business for not less than one year. However, when the shares are paid for by non-cash consideration, the difficulties arise whether the consideration does satisfy the rule against issue of shares at discount. 2. 4 Consideration It is common for a company to issue shares for cash. The consideration for acquiring shares may not be cash.
It is subject to the company accepting any consideration. s 42 requires that minimum subscription must be paid in cash if a company issues shares to the public. Furthermore, the amount payable on each share on application must not be less than 5% of the nominal value of the share. This section is not applicable to Sandpiper. Consideration other than cash must be consideration recognized by the law of contract. Hence, shares cannot be allotted by way of gift or for past consideration.
In Re Eddy stone Marine Insurance Co case, it was held that the issue of shares in consideration of past services is not permitted. In White v Bluet t case, it was held that the consideration must be sufficient, i. e. of some value, but need not be adequate, i. e. equivalent.
In Re Wr agg Ltd and Re White Star Line case, the courts would only look at the adequacy of the consideration in cases of fraud or where the consideration is patently inadequate. The shareholder is liable to pay up the nominal value in cash. If the consideration consists in sale of property and rendering of services, there will be a chance of issuing share at discount. To prevent abuses, s 45 requires a company to deliver to the Registrar a Return of Allotment (Form SC 1 & 5) within 1 month, which includes details of any contract allotting shares for a consideration other than cash. If the directors of Sandpiper want to issue share at discount, then they can make use of the above principle. The consideration of right issue may be in the form of non-cash, then s 50 cannot be applied.
Only s 45 is applicable. Furthermore, if the directors want to provide financial assistance for subscription of shares, the regulations given below may be adhered to. 2. 5 Financial Assistance It is unlawful for a company to provide financial assistance directly or indirectly for the purpose of a purchase or subscription of its own shares under s 47 A. The company is liable to a fine and its officers may also be liable to a fine and imprisonment. 2.
5. 1 Form of Financial Assistance (s 47 B) The form of financial assistance are provided in s 48 B (1). It means: by way of gift; by way of guarantee, security or indemnity; by way of a loan; by a company the net assets of which are reduced to a material extent or which has no net assets. 2.
5. 2 Exceptions to s 47 A (s 47 C) It is lawful for a company to provide financial assistance for acquisition of shares in it or its holding company if: The principal purpose in giving the assistance is not to give it for acquisition or it is an incidental part of some larger purpose of the company (s 47 C (1) ). The assistance is given in good faith in the interest of the company (s 47 C (1) ). The principal purpose in giving the assistance is not to reduce or discharge any liability incurred by a person for acquisition or the reduction or discharge of liability is an incidental part of some larger purpose of the company (s 47 C (2) ). s 47 C (3) provides s 47 A does not prohibit? ? distribution by way of dividend or distribution in winding up; ? allotment of bonus shares; ? reduction of capital confirmed by court order under s 60; ? redemption or purchase of shares made in accordance with s 49 to s 49 S; ? anything done in pursuance of court order under s 166; ? anything done under an arrangement made in pursuance of s 237; ? anything done under an arrangement made between a company and its creditors by virtue of s 254. s 47 C (4) provides s 47 A does not prohibit? ? where the lending of money is part of the ordinary business of the company; ? where a company provides money for trustees holding the shares for the benefit of employees including salaried directors; ? where a company makes loan to employees other than directors employed in good faith enabling them to acquire shares to be held by them by way of beneficial ownership.
2. 5. 3 Relaxation for unlisted companies (s 47 E & F) There is relaxation for unlisted companies and it is related to the financial assistance provided by unlisted subsidiary to unlisted holding company. Financial assistance is allowed if it fulfills the requirements laid down in s 47 E, s 47 F & s 48. s 47 E (2) provides the financial assistance may only be given if the company has net assets which are not reduced or, to the extent that they are reduced, if it is provided out of distribution profits. s 47 E (3) restricts the financial assistance is provided by subsidiary to its listed holding company.
The directors? statement is required under s 47 E (6). s 47 E (4) requires special resolution passed in the general meeting within 30 days of the directors? statement. The directors? statement includes: the form of assistance; the names and addresses of the persons to whom such assistance is to be given; the purpose of assistance; directors? opinion that there will be no ground on which the company is found to be unable to pay its debts. 2. 5. 4 Member's right of objection (s 47 G) The directors? statement is supposed to give adequate protection to the creditors, thus the right of objection only applies to shareholders.
Only the holders of 10% or more of the share capital or class of capital may apply to court for cancellation of the special resolution. The application shall be made within 28 days after the passing of the resolution. 2. 5. 5 Timing for giving Financial Assistance (s 48) s 48 C (2) provides the assistance cannot be provided within four weeks after the passing of the resolution and s 48 C (4) provides it cannot be provided within three months after the directors? statement is made. If Sandpiper is a subsidiary of another company, the relaxation rules are applicable.
Sandpiper can provide financial assistance to its holding company for subscribing in its shares, provided that the holding company is unlisted. However, it does not restrict the holding company, either listed or unlisted, in providing assistance in purchasing shares of Sandpiper. Section 3 Comment If the CRP is redeemed earlier than stated in agreement, it is treated as purchase of shares instead of redemption of share. Then they should follow the rules laid down in 1. 3. 1, 1.
3. 2 or 1. 4. For right issue, if it is offered to only ordinary shareholders, then prior approval must be obtained.
Whether the issue is at par, premium or discount, it is up to the discretion of directors. If they want to escape the restriction of issue at discount (s 50), then the consideration should consist of non-cash payment. Moreover, if Sandpiper intends to provide financial assistance to existing shareholders to purchase new shares, it can make use of s 47 C. Sandpiper can distribute dividends lawfully to existing shareholders (directors). But the directors should be careful in doing this.
The court will treat the distribution of dividend as giving financial assistance indirectly if there is no previous record of distribution of dividend to ordinary shareholders. s 47 A (3) states that in breach of s 47 A, a company is liable to a fine and every officer in default is liable to a fine or imprisonment. Such a transaction is illegal and void. If the directors are salaried directors, then the company can set up a scheme that Sandpiper provides money for the purchase of shares under it whereby trustees hold the shares for the benefit of employees including salaried directors. Or if there is holding company, then it can provide assistance to Sandpiper.