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When issuing equity in your company, your investors might ask for different kinds of shares. You may wonder how you can issue different shares and what the effect will be on your ownership rights. This article will explain how different classes of company shares operate. It will also provide practical tips on how to issue shares of a different class.
Company Shares
Shares are of the same class if the rights attached to them are all the same. The rights which shareholders can variably have in a company include the right to:
- attend general meetings;
- vote in the meeting;
- participate in the profit of the company through dividend payments; and
- receive a share of the company’s surplus assets after a winding-up process.
As a general rule of company law, all shareholders of the same class of shares must be treated the same. Therefore, if you want to change the rights certain shareholders have in the company, you must issue new shares. If there is only one class of shares (ordinary shares), there are only “shareholder rights” and not “class rights”.
Ordinary Shares vs Other Classes of Shares
Suppose an angel investor has approached your company. She offers to double your company’s value in exchange for half of the company shares. However, one of her conditions is that she be issued “preferred shares” in your company. Effectively, this investor is asking your company to create a new class of shares, giving her “preferential rights” in your company.
As an example, your angel investor may want £0.07 per share when a dividend is declared. This right would be preferential to the rights of any shareholders. Consequently, when the company declares a dividend, it would have to pay the preferential shareholder the total amount owed before it pays the ordinary shareholders.
In many cases, preferential shares do not give the preferential shareholder rights to vote at the shareholder meetings — these are commonly referred to as non-voting shares. However, you are free to create a share that gives the shareholder both the preferential right to dividend payments and to vote in shareholder meetings. These are commonly called “participating preference shares”.
Other Common Classes of Shares
We have defined ordinary, preference shares, and participating preference shares.
There are a few more common classes of shares you may encounter.
| Convertible shares | These are not technically shares, but rather options to convert a loan amount into shares after the passing of some conditional event or period of time. |
| Deferred shares | Deferred shares are similar to convertible shares in that they do not entitle the shareholder to dividend payments until after a specified time. |
| Redeemable shares | These usually function similarly to convertible shares in that they entitle the shareholder to exercise a right to acquire preferential or ordinary shares at a later date. |
Remember, there is no legal definition for these shares. The way that the law will interpret what sorts of rights are attached to different classes of shares will be how these shares are defined in the company’s constitutional documents. That is why businesses sometimes refer to the different classes of shares by generic names, like “Class A” vs “Class B” shares (also called “Alphabet Shares”).
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Procedure for Creating New Classes of Shares
Since creating a new class of shares fundamentally changes the relationship between and among the existing shareholders, new shareholders, and the company itself, this is a multilayered process. Importantly, your company will usually need to pass a series of resolutions authorising the company to make amendments to the company’s constitution.
There are several different ways you can create new classes of shares, but the following details the most straightforward method.
1. Approving the New Sets of Shares
You will almost always need to pass an ordinary resolution authorising the company to create the new class of shares. However, this is subject to your company’s articles of association.
For instance, the model articles require that the shareholders pass an ordinary resolution put to them by the directors authorising the creation of the new class of shares. However, nothing is preventing your company’s articles from requiring a special resolution (75% or more of existing shareholding votes cast in favour) or disapplying the need for any resolution.
2. Authorising the Directors to Allot the Shares
Once the shareholders have authorised the creation of a new class of shares, the company must authorise the directors to issue shares of the new class to the new shareholders.
In most cases, this will require another resolution to be put forward to the shareholders. However, the company’s articles can authorise this.
Regardless of whether this authorisation exists as a provision in the articles of association or a resolution put to the shareholders, the resolution should state the maximum nominal values of shares the directors will allot. This prevents any irregularities arising between the nominal and market values of shares issued.
3. Passing a Special Resolution to Amend the Articles
Best practice dictates that your company should either amend your articles or adopt new articles specifying the exact nature of the rights attached to the shares. This will ensure that the rights attached to the new class of shares are fully entrenched into the company’s constitution. Likewise, it ensures there is no room for uncertainty as to the rights, helping to prevent future disputes from arising.
The process of creating a new class of shares can be arduous and time-consuming. Notably, it is best to seek the advice of a solicitor to ensure you remain compliant with UK company law.
Key Takeaways
If you want to vary shareholders’ rights in your company, you will need to create different classes of shares. The most common variation of shareholder rights relates to the order in which the company pays shareholders dividends. For example, it is common for early-stage equity investors to receive “preference shares”. This means they will be the first to receive dividends when they are declared. Other common variation of shareholder rights includes voting rights and rights to the return of capital after a wind-up.
If you need help creating a new class of shares, our experienced corporate lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today at 0808 196 8584 or visit our membership page.
Frequently Asked Questions
Different investors may want different kinds of rights in the company, such as the right to get the first dibs on dividend payments or the right to vote at a shareholder meeting. You can therefore create different classes of shares to reflect the different rights equity investors have in the company.
The law does not define different classes of shares. Therefore, when investors refer to “participating preference shares” or “convertible shares”, you will have to identify what rights the shares confer.
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