Company law revision question and answer

Joan has inherited one million shillings from the estate of her late mother. She has decided to invest it in a small private company of which Janet and Jeffrey, her old friends are directors. However, Joan is not sure whether to lend the money to the company secured a debenture containing a fixed and floating charge or through purchase of ordinary preference shares.

Joan now seeks your advise on the following issues:
a) What is the difference between ordinary and preference shares, and what rights accrue to the holders of each class shares?

b)
i) What is the return on ordinary and preference share capital?
ii) What are the restrictions that may be imposed on her ability to transfer any shares she may purchase in the Company?
ANSWER
a) Ordinary Shares
 An ordinary share gives the holder the right to participate in the company‟s surplus
profit and capital.
There is no limit to the level of dividend payable; this is dependent of the level of profit.
Dividend is payable after preference dividend.
 In winding up the holder is entitled to capital.
 The shares counter unrestricted voting rights.
 Holders participate in surplus dividend.
Preference Shares
Their essential characteristic is that they carry a prior right to dividend.
 Holders are entitled to a fixed rate of return.
 They carry a prior right to return of capital.
 The shares do not generally confer voting rights.
Unless otherwise provided the articles the shares are deemed to be cumulative i.e. unpaid dividend is payable when a profit is made.
If the shares are issued as participating they participate in surplus profit and capital.
b)
i)
 Income return and capital growth are both determined the company‟s financial performance.
If the company continuously or consistently under performs, capital is seriously at risk.
Since the income return is determined dividend payment, the ordinary shareholder is always at risk, if no dividend is declared.
Preferential dividend is cumulative and has priority in the return of capital in winding up.

ii)

 As a general rule shares are transferable in accordance with Section 75 of the Companies Act subject to the restrictions prescribed the articles.
 The articles association of private companies generally restrict the right of members to transfer shares.
 Directors are empowered to refuse registration of a transfer.
However, the power of directors to do so must be exercised properly and if exercise improperly may precipitate a court action for validation of the transfer and rectification of the register.
The director must exercise the power bonafide in the interest of the company. Such good faith is presumed unless the contrary is shown (in Re: Smith andFawcett)
 It must also be exercised within a reasonable time of receipt of the transfer (in Re: Zinotty Properties Ltd)
There must be a positive act of refusal on the part of the directors. If action is ineffective. However there is no obligation to give reasons for the refusal unless otherwise provided the article (in Re: Bede SS Co. Ltd

As a general rule articles of private companies contain pre-emption clauses i.e. that any shares to be transferred be offered to existing members in the first instance (Curtis v Curtis & Co.)
Under Section 77 of the Companies Act a transfer of shares can only be effected
the delivery to the company of an executed proper instrument of transfer.

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