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27 October 2017

How can a reduction of capital release a shareholder from a family business?

Are you trapped as a shareholder in the family business?  Or is there a shareholder in the family company that you might want to release?

Shares in a private company are not readily saleable.  Indeed there are often restrictions on sale in the company’s constitution.  If you have inherited shares you may have value on paper but very little in your hand, especially if the company does not pay significant and regular dividends. You may want to realise that value especially if you are not involved in working for the company.

This is not unusual. It’s often the case that as the number of the members of the family who are shareholders grows down the generations that some of the cousins would like to exit.  For those who are involved in running the business the exit may be welcomed so that they do not feel that they are “carrying” the shareholders who are not actively involved.

If there is no ready buyer of the shares from within the family, or the sale to a family member would upset the balance within the company, then it is worth considering whether the company’s funds could be used to “buy out” the shareholder who would like to exit.

One method is a reduction of capital under the solvency statement method in Chapter 10 Part 17 of the Companies Act 2006.   A company can reduce its capital under section 641 “in any way” and this can include using company funds to pay a shareholder in return for the cancellation of his/her shares.  This will require a special resolution of the shareholders and may require a specific approval of the shareholders who are not exiting as offering the opportunity to “cash out” to one shareholder and not the others may amount to a variation of their class rights.  The position of creditors is addressed by the solvency statement given by the directors of the company to confirm that in their opinion in the 12 months following the reduction the company will be able to pay its debts as they fall due.

This method of exit can also be useful in other scenarios in addition to the cousin company example given above.  It may be useful to release a sibling shareholder or to provide a share of the capital to a spouse in a divorce.

This article was first published in the October 2017 edition of Family Business Place. For more information about this and a copy of our free guide Connecting Generations: A guide for entrepreneurs and family businesses, please contact Tom Shaw.