Guide to Issuing New Shares

Share issue is the process whereby a company creates and issues new shares, usually to raise finance, bring in new business partners or grow the business. Issuing new shares in a company has implications for existing shareholders as the share structure may be altered.

This practical guide to issuing new shares helps UK businesses understand the process involved in a share issue, explains what the advantages and disadvantages of issuing shares are, as well as the implications for the existing shareholders and the pitfalls to avoid.

 

Advantages and disadvantages of issuing new shares

 

A company may decide to issue new shares as a way of raising finance, by bringing on investors and new shareholders in the business. Shares can be issued at any time after incorporation of the company. It is however always advisable for a company to consider other means of raising finance to ensure the best solution is pursued.

If a company decides on the share issue route, it also needs to decide which type of shares it wishes to issue, whether ordinary shares, preference shares which leave the company control with the original shareholders or corporate bonds which do not give bond holders any say in the management of the company.

Advantages:

• Raising capital: this is the main advantage of issuing new shares and is a far more cost-effective method of raising finance than taking out business loans which need to be repaid with accrued interest. Investors do not expect to be paid back. Share issue is particularly beneficial for start-ups who do not have the longstanding credit history and business reputation that older companies have.
• Reduced debt: Issuing shares avoids a company taking on further debt from loans and interest on them.
• Credibility: Bringing on investors will benefit a company’s reputation by making it look trustworthy and financially secure as well as enabling its growth and productivity.

Disadvantages:

• Division of profits: Issuing new shares and bringing on new shareholders is effectively giving away a piece of a cherished company, which may be especially difficult for the founder of a business, when they have built up the company and put in all the initial hard work and effort. It means dividing the company profits between a wider number of shareholders, which may lead to resentment.
• Loss of control: An issue of new shares also leads to a loss of control in the company. New shareholders will have a say in how the company is run and will have voting rights on major company decisions. Such loss of control is particularly stressful for a company founder who no longer has the flexibility to run the company as they wish.

 

How to issue new shares

 

The process for issuing or allotting shares can become complex and must be carried out in accordance with the provisions of the Companies Act 2006:

1. Before company directors initiate the share issue process, they should consider and confirm the existing shareholdings, and clarify the number of new shares to be introduced and establish how the new issue will impact the current share structure. Any new shareholders to be brought on board need to provide their ID; directors should check their name, address, nationality, date of birth, as well as their relationship, if any, to other shareholders in the company.

2. The new shares need to be offered to the intended recipients, either verbally or in writing. Those wishing to take up the offer of the new shares will need to complete and return to the company the relevant application form, together with the necessary payment for the shares.

3. A board meeting will then need to be held by the directors at which they can consider the applications they have received and agree any changes to the current share structure. At this meeting, a board resolution will be made by the directors to issue the new shares. Such resolution should approve all applications received, authorise the share allotment and confirm to whom the new shares are being allotted, instruct that the necessary forms for the allotment are sent to Companies House, authorise the issue of share certificates for the new shareholdings, and direct that the register of allotments and the register of members be updated. It is at this point that the share allotment formally takes place.

Minutes of this meeting should be recorded and kept safe with the company records to ensure the share issue is documented. They will be needed later on when updating Companies House.

4. Form SH01, being a form of statement of capital, must be completed and sent to Companies House within one month of the date of the new share issue. This statement provides Companies House with an update on the company’s share structure. It does not provide details of the shareholders themselves.

5. The company should then issue share certificates to the new shareholders within two months of the allotment. However, most companies will issue them well before this; the share application only becomes binding on the new shareholder when the company sends them a formal notification of allotment letter accepting the application, together with the share certificate. A shareholder can withdraw their application at any point before this, which is something a company will be keen to avoid.

6. The register of members should be updated within two months of the board’s approval of the allotment. However, in practice, it is done before this; the register is evidence of who owns the issued shares, and a new shareholder, who becomes a shareholder on their name being entered in the register, will wish to see this evidence. The register of allotments should also be updated at this point. This details each separate allotment of shares.

7. As the names of the new shareholders are not entered into the form SH01, these details should be included in the company’s next confirmation statement sent to Companies House. This does not need to be filed early but often is. Again, this will give some comfort to investors that their share purchase has been processed correctly; however, the details on the register of members reflects the true position of the company shareholders.

8. The new issue of shares should be clearly and correctly shown in the company accounts for the relevant period. An allotment of new shares increases the value of shareholders’ funds shown in the balance sheet. Different treatment is given to amounts raised in respect of the nominal value of shares, being the minimum that will be paid for them, and any share premium, which is the amount paid above the nominal value. A share premium account, being a separate balance sheet entry, will be needed for shares that are issued at a premium. All allotments issued at a premium should be added to the share premium account.

As the forms and procedures used for a share allotment were updated and amended by the Companies Act 2006, (the majority of which came into force on 1st October 2009), it is vital that a company follows the correct procedures and uses the relevant forms to ensure the process is carried out legally and effectively. Although the process is mostly similar for public and private companies, there are some small procedural differences, and these should be checked and adhered to.

 

Pitfalls to avoid

 

Business owners need to be aware of the implications of diluting the existing share capital on the issuance of new shares. Not only do they need the authority to issue new shares, they also need to consider certain matters such as the authorised share capital, shareholders’ consent, and pre-emption rights, before proceeding with the share issue.

 

Authorised share capital

Any company registered before 1st October 2009 will have an authorised share capital amount specified in its memorandum of association. This amount is the maximum number of shares that a company can issue. Any allotment over that will exceed the authorised share capital and therefore cannot be made without this figure being either increased or removed altogether. Any alteration will require an amendment to the Articles of Association. In practice, it is often easier to adopt a new updated set of Articles which do not set a limit on authorised share capital and therefore allows the new share issue.

 

Shareholders’ consent

The existing shareholders may need to consent to an allotment, either in accordance with the provisions under the Articles or the Companies Act 2006; these should be checked first. Any shareholders’ agreement should also be checked for any provisions relating to allotment or any restrictions thereon. For any private company formed after 1st October 2009 which only has one class of shares, shareholders’ consent is not required, nor is there any restriction on the number of shares it can issue, unless the Articles contain restrictions, which will supersede the Companies Act 2006.

If shareholders’ consent is needed, authority can be given generally or specifically in relation to a certain number of shares to be issued within a certain timeframe. Listed companies will generally pass a specific resolution every year to allow for any allotments they may wish to make. Any authority can be revoked, renewed, or varied at any time by an ordinary resolution.

 

Pre-emption rights

Existing shareholders may have pre-emption rights under either the Articles, a shareholders’ agreement or the Companies Act 2006. Any provisions in the Articles should take precedence. Pre-emption rights are where the existing shareholders have a right of first refusal to any new ordinary shares being issued for cash, pro rata to their current shareholdings; this prevents dilution of their interests in the company. If the new shares are not being offered to the existing shareholders, a resolution may be passed excluding the pre-emption rights or the shareholders can decline the shares.

Pre-emption rights can also be disapplied by way of a special resolution or by a provision in the Articles allowing directors of a private company to issue shares without the shareholders’ consent, effectively disapplying their pre-emption rights.

If any of these matters are applicable, they must be dealt with first, by way of a shareholders’ resolution, before a company can proceed with a share issue. This can be done by written special resolution or at an annual general meeting or extraordinary general meeting. Only then can the directors proceed with a resolution to issue new shares.

Directors should ensure they are aware of the implications of issuing new shares in the company, from the point of view of both the board and the current shareholders. They should have full authority from the shareholders to issue new shares if this is required. Issuing shares can be complex and the company directors may also need to seek professional help from accountants or solicitors in relation to any tax or legal implications. Potential investors should always seek advice themselves in relation to the implications of becoming a shareholder in the company.