Club Workspace, Clerkenwell Workshops

EVENT: Law for Startups – Companies and Shares

LOCATION: Club Workspace, Clerkenwell Workshops

DATE: March 26 2012

Reporting by Ben Goldsmith

Law for Startups is a programme of seminars aimed at helping newly formed companies to understand key legal issues around their business and ensure they don’t fall foul of the law in any area.

Capitals and shares was the topic of the seminar on March 26 2012 – an in-depth presentation was made by Michael Buckworth (notes below), solicitor and founder of Buckworth Solicitors.

The seminar covered the following key points:

  • what is a share: what are the rights and obligations of shareholders?
  • setting up a new company
  • classes of shares
  • valuation of shares
  • shareholders v directors
  • allotment v transfer

A networking session ran from 6pm – the seminar started at 6:30pm and was followed by a Q&A session.

An introduction to shares

A share, in simple terms, is the entitlement to own a portion of a company. There are three rights attached to a share: the right to vote, the right to capital and the right to a dividend.

With regard to the right to vote, the normal process is for a vote to be conducted using a ‘show-of-hands’ system. Even if a 10 percent and 5 percent shareholder vote against a 85 percent shareholder - the motion would be carried in their favour, as their two hands outweigh the majority shareholder’s one.

However, if you have a controlling share of a company - 51 percent or over - you can demand a ‘poll.’ If the vote is a ‘poll’, then the weight of a shareholder’s vote is relative to their holding. A 65 percent shareholder’s vote would count for 65 percent of the decision, for example.

Splitting your shares and valuation problems

Michael said that many small business owners approach him to ask if they can split their shares into different classes. For example, they would like ‘Class A’ shares to include all rights - the rights to voting, capital and dividend - and they would also like ‘Class B’ shares that include only the rights to capital and dividend.

Michael strongly advises companies against this strategy. It creates huge problem when valuing your shares because it becomes difficult to drill down to the ‘true’ value of a share. What is the real, financial value of a share that does not have the right to capital, for example? How do you decipher its value? Michael explained that HMRC are likely to ask similar questions, and you will be legally-bound to pay an accountant to provide the taxman with satisfactory answers.

Voting systems and discrimination

 Another aggravating complexity that is spawned by having multiple classes of shares is this: your voting system will be complicated. If this isn’t properly managed you may get sued. If your company does something that was liable to a consent vote from any class of shareholder without a vote taking place, you could face legal action.

There is another problem with having multiple classes of share, and that is discrimination.

Michael gave the following example: 2/3 of your shares are ordinary shares, and the remaining 1/3 are preference shares (dividend only). If you issues more ordinary shares, so the balance becomes 3/4 ordinary shares to 1/4 preference shares, you may be sued for discriminating against your preference shareholders as you have reduced their entitlement.

Transferring and allotting

Michael made it clear that ‘transferring’ and ‘allotting’ shares are very different processes. If you are transferring shares, no new shares have been issues. You are giving shares that already exist to a holder. If you are allotting shares, new shares have been created.

An important factor to note when transferring shares is that you could be liable for capital gains tax if you make a profit on the shares that you have transferred. This depends on the value of the shares when they first came into your possession.

Tax is less clean-cut when it comes to allotting shares. Michael advises startups who have already completed all their investment runs etc. to hire an accountant before issuing any new shares.

He did encourage companies to avoid giving investors security on their investment during investment runs, as there should be no need to do so and no advantage gained.

Companies and directors

Start-ups should avoid paying lawyers or accountants to set up the company, as it’s far too easy.

Registering as a limited company is simple - get in touch with Companies House, fill in the appropriate forms and pay a small fee. The most important benefit of setting up as a limited company is the ‘limited’ liability, which means your personal possessions are not at stake should the company go bust.

To set up, you need one director and one subscriber (shareholder). In law, you do not ‘need’ a company secretary. Mike explained that it is preferable to issue your shares at 1p instead of £1 as this may save you money in the future.

He also pointed out that you are required to provide your age and an address that the public are allowed to see. Providing a false age is technically perjurious. If you don’t want the world to see your home address, consider investing in a virtual office.

The directors of a company are legally bound to ‘act in the company’s best interest.’ Shareholders are not. Additionally, there is no such thing as a non-executive director in a limited company as legally a non-executive director cannot exist.