What is a Reduction of Share Capital?

Ryan Patrick

Mar 5, 2024 • 8 min read

A reduction of share capital is the process by which a firm chooses to lower its share capital. To put it plainly, a reduction in share capital occurs when a business has less money available to pay dividends to its owners. There are several reasons to do this, including cutting expenses and strengthening the balance sheet of the business. A firm must adhere to specific guidelines and protocols while lowering its share capital.

We shall examine the idea of a reduction in share capital and describe the procedure in this article.

What is a Reduction of Capital?

A company can opt to lower its total share capital through a process known as a reduction of capital. This can be accomplished in a number of ways, including by lowering the total number of shares in issue, the sum paid up on those issued shares or the nominal value of currently outstanding shares.

The most frequent justifications for a limited company to lower its share capital and the proper protocol for doing so are covered in more detail below.

Reducing Capital in a UK Limited Company

The capital, also known as share capital, of a limited company is the sum of money that owners or shareholders invest in the company in exchange for shares.

Consequently, a decrease in the amount of money invested in a company’s issued shares is known as a reduction of capital. It is important to make sure that any reduction is in compliance with the Companies Act of 2006, the association’s articles of association, and any applicable shareholders’ agreements, as it can be a complicated process.

Businesses reduce their share capital for a variety of reasons. Usually, a capital decrease is done in order to:

1. Establish distributable reserves.

A business may reduce its capital to offset losses and/or establish distributable reserves for dividend payments if it has accumulated losses and/or is not making enough money to provide dividends to shareholders.

2. Return members’ excess capital

A business may decide to cancel some of its issued shares and return the excess capital to the shareholders if it has excess cash or non-monetary assets (such as property) and does not need that capital for its ongoing operations.

3. Encourage the buyback or redemption of shares.

A corporation may use a reduction of capital to buy or redeem its own shares and then cancel them if it wants to do so but doesn’t have enough distributable reserves to do so (for example, if a shareholder retires or dies).

4. Assist in a demerger

Different segments of the firm could be divided from one another by lowering the original company’s capital.

5. Distribute non-cash assets to members

If a company has non-cash assets that it wishes to transfer to shareholders, it can cancel or reduce the nominal value of its shares in exchange for those non-cash assets.

Provided that the sum of any capital reduction is not required by the company for its ongoing business operations, it can carry out a reduction of capital for any reason.

6. Grant members non-cash assets

A company may reduce or cancel the nominal value of its shares in exchange for non-cash assets if it has any that it would want to give to shareholders and the company may reduce capital for any purpose, as long as the total amount of the reduction is not needed for the company’s continuing operations.

How to Reduce Capital in a Company

Depending on the main goal of implementing such a method, a firm can lower its share capital in many different ways. Among these are the following:

Lowering each issued share’s nominal (par) value. To reduce its share capital, a corporation can cut the nominal value of each of its 1500 issued shares, for instance, from £1 to £0.50. This would allow the company to refund £750 to its shareholders.
Selling off shares to pay back equity that the business no longer needs. A firm can lower its share capital by cancelling 50 of its 100 shares, for instance, if it wants to return £500 to the owners and each share has a nominal value of £10.
Reducing or eliminating any outstanding debt related to partially or fully paid shares.
Paying back any paid-up share capital that is above the capital needs of the business.
Recalling paid-up share capital that is either unavailable for use by the business or lost. When a company’s assets fall short of its share capital following a period of unprofitable trading, this is referred to as a “loss reduction” and is occasionally utilized. For instance, if a company issued 1,000 £1 shares, but its assets are now only worth £750, it can write down £0.25 from each share’s nominal value to lower its share capital by that amount.

Companies can enable a reduction in capital by utilizing any one of these stand-alone tactics, or by combining them.

Example of Capital Reduction

Given that your company has 1,250,000 outstanding shares at a price of $25 per share, its market capitalization is $31.25 million. Your Company buys back 500,000 of its shares and announces a buyback of shares.

The company has 1,250,000 shares outstanding and the share price is $25, which results in a market capitalization of $31.25 million for your company. The company announces a share buyback and buys back 500,000 of its shares. These shares no longer trade publicly and reduce the number of shares outstanding the company has. Your company now has (1,250,000 – 500,000) = 750,000 shares outstanding.

With 750,000 shares outstanding at a share price of $25, the company has a market capitalization of $18.75 million. The buyback program resulted in a decrease in the company’s market capitalization by $12.5 million.

The Reduction of Capital Procedure for Private Limited Companies

The Companies Act of 2006 lays out the guidelines for implementing a capital decrease in a UK business. Articles of association and shareholders’ agreement of a firm may also contain extra guidelines and limitations.

A special resolution backed by a solvency statement or
A special resolution approved by the court is the two methods via which you can lower capital in a private corporation limited by shares.

In any scenario, the company’s articles of association must not forbid a capital reduction, and following the reduction, there must be a minimum of one non-redeemable share outstanding.

Special Resolution Supported by a Solvency Statement of the Directors

Of the two alternatives stipulated by the Companies Act of 2006, this is the most widely utilized and straightforward option. A solvency statement must be completed and signed by the directors, who must also present the company’s shareholders with a special resolution in order to implement a capital reduction by special resolution backed by the document.

A statement of solvency verifies that each director had formed the following opinions as of the statement’s date:

There are no grounds that could make the company unable to pay off its debts;
The company will be able to pay off its debts as they become due over the next 12 months; or
Should the company be wound up within the year following the statement, the company will be able to pay off its debts in full within the year following the start of its winding up.

Please take note of the following while using this method

When the shareholders cast their votes on the proposed resolution to implement a capital reduction, the directors ought to give them a copy of the statement.
A copy of the solvency statement must be sent by the directors to each eligible shareholder either prior to or concurrently with the proposed resolution if the shareholders’ resolution is offered in writing.
A copy of the solvency statement must be made available for the shareholders to view during the meeting if the resolution is offered and put to a vote at a general meeting.
The special resolution needs to be approved by the shareholders no later than fifteen days from the date on the solvency statement.
The directors shall, within fifteen days of the resolution’s passing, transmit to Companies House a copy of the special resolution, the solvency statement, and an updated statement of capital.

Statement of Capital

Regarding the share capital of a company following the reduction, the following details must be included in the statement of capital (form SH19):

Total number of remaining issued shares
The aggregate nominal value of those shares
Aggregate amount (if any) unpaid on the shares (whether on account of their nominal value or by way of a share premium)
Prescribed particulars of rights attached to each class (type) of shares
Total number of shares of each class
The aggregate nominal value of shares of each class

All of this data will be logged by Companies House, which will also make copies of the submitted documents available on the public company registry.

Special Resolution with Confirmation of the Court

An alternative method to reduce capital for private corporations limited by shares is to pass a special resolution of the shareholders and ask the court for confirmation. In this scenario, the company’s creditors may object to the capital reduction if they can demonstrate that:

The reduction will probably make it harder for the company to pay its debts or claims when they become due; or
They will be entitled to any debt or claim that would be admissible in proof against the company if that date were the start of the winding up of the company at the date set by the court.

The directors must agree on a time frame with the court, secure the necessary court order, and offer a special resolution to the shareholders, either in writing or during a general meeting, in order to carry out a reduction of capital through this procedure.

The court will issue an order confirming the reduction of capital on any terms and conditions it deems appropriate if it finds the application and the company’s credit status satisfactory.

Following approval, the directors must file a copy of the court decision at Companies House attesting to the reduction of capital, a copy of the resolution, and an updated statement of capital that reflects the reduced share capital.

Companies House will then record all of this information on the public register of companies.

Reduction of Capital Procedure for Public Limited Companies (PLCs)

Public limited companies (PLCs) can only reduce their capital through a special resolution that has been approved by the court.

The process is largely the same as it is for private limited corporations, however, there are some extra things to keep in mind:

Resolutions cannot be passed by a PLC in writing. For the purpose of proposing and voting on the resolution to lower the company’s share capital, the directors would have to call for a general meeting of shareholders.
PLCs are always required to have a minimum issued share capital of £50,000. Unless the court directs otherwise or the PLC first re-registers as a private company, Companies House will not register an order confirming a reduction of capital that would lower the nominal value of issued share capital below this authorized minimum.

The Tax Implications

A decrease in capital could have an impact on taxes for the company and/or shareholders. Therefore, before completing any such activity, we would advise speaking with an accountant or tax counsellor.

Under some circumstances, such as cancelling shares, the decrease can be seen as a capital gains tax disposal. Furthermore, in the event that shareholders get a repayment of capital from the corporation after a decrease, they might be subject to income tax.

Need help with a reduction of capital for a private limited company?

For assistance and guidance if you are thinking about reducing the capital of your UK limited company, please contact our Company Secretarial Team.

Everything you require to reduce the share capital of your business is provided by Incorpuk Reduction of Capital Service, including expert guidance and the processing and completion of the necessary paperwork. Go ahead and click this link to get in touch with our Company Secretarial Team and learn more about this service!