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Company Formation and Features

Company Formation and Features

I. Capital Structure of a Company

  • General: A company's capital is funded by a combination of borrowing and investments from its owners.
  • Long-Term Borrowing (Debt):
    • Typically referred to as bonds.
  • Owner Investments (Equity):
    • Typically referred to as shares, stocks, or equity.

II. Shares (Equities)

  • Definition: Represent the equity capital of a company.
  • Types:
    • Ordinary Shares (Common Stock):
      • Carry the full risk and reward of investing in the company.
      • Provide voting rights in company decisions.
      • Share in profits through dividends.
      • Paid last in the event of company liquidation.
    • Preference Shares (Preferred Stock):
      • Hybrid security with characteristics of both debt and equity.
      • Have legal priority over ordinary shares regarding earnings and assets in bankruptcy.
      • Typically pay a fixed dividend.
      • Usually non-voting, except in certain circumstances.
      • Rank ahead of ordinary shares in terms of payment if the company is wound up.

Forms of Share Issuance

  • Registered Shares:
    • Investor's name is recorded on the share register.
    • May be issued with a share certificate (though electronic records are more common).
  • Bearer Shares:
    • Ownership is determined by who holds (or is the bearer of) the shares.
    • Ownership is transferred by transferring the share certificate (often immobilized in central depositories for electronic transfer).

Partly Paid Shares (Contributing Shares)

Definition: Shares where only a portion of their nominal value has been paid up by the shareholder. *
Obligation: Shareholders are obligated to pay the remaining amount when called upon by the company, usually in cases of financial difficulty or liquidation. * Liquidation: If the company is liquidated, the remaining amount due can be called upon to pay outstanding debts.

III. Company Formation

  • General: The process of establishing a business as a separate legal entity.
  • Process: Varies by jurisdiction but generally involves:
    • Completing and lodging documents with the appropriate authority (e.g., Registrar of Companies in the UK, Secretary of State office in the US).
    • UK Example:
      • Memorandum of Association (confirms intent to form a company)
      • Articles of Association (sets out the relationship between the company and its owners).
    • US Example:
      • Articles of Incorporation (or Certificate of Incorporation)
  • Cost: Generally inexpensive.

IV. Private vs. Public Companies

  • Private Companies:
    • Cannot issue shares to the public.
    • Often have the word "limited" or "ltd" in their name (UK)
  • Public Companies:
    • Permitted to issue shares to the public.
    • Often have "plc" in their name (UK).
    • Can be listed on a stock exchange or not listed.
      • Listed Companies: Public companies whose shares are traded on a stock exchange.

V. Shareholder Rights and Responsibilities (Focusing on Ordinary Shares)

  • Limited Liability: Shareholders' liability is limited to the amount they agreed to pay for their shares.
  • Voting Rights:
    • Shareholders vote on resolutions proposed by company directors at company meetings (e.g., mergers, acquisitions).
  • Dividends:
    • Shareholders receive dividends (portion of profits) proposed by the company directors and ratified by a shareholder vote.
  • Liquidation Rights:
    • Shareholders are paid after all other creditors in the event of company liquidation. If nothing is left, they get nothing. If anything is left it goes to them.

VI. Preference Shares (Detailed)

  • Characteristics:
    • Hybrid security with features of both debt and equity.
    • Pay a fixed income (dividend) before ordinary shares.
    • Have priority over ordinary shares in terms of asset payout during liquidation.
    • May have credit ratings.
  • Voting Rights:
    • Normally non-voting, except in certain circumstances like unpaid dividends.
  • Dividend Rights:
    • Cumulative: If dividends are not paid, they accumulate to be paid in future years.
    • Non-Cumulative: If dividends are not paid, they are lost.
    • Participating: Entitles the holder to a basic dividend and a portion of profits when they exceed a certain level.
  • Maturity:
    • Perpetual: No redemption date (like ordinary shares).
    • Convertible: Option to convert into ordinary shares at set intervals and terms.
    • Redeemable: Has a date when the nominal value will be paid back, and the shares canceled.

In Summary

Companies are funded through a combination of debt and equity. Shares represent ownership, with ordinary shares carrying risk and reward, and preference shares providing fixed income and priority. Company formation involves establishing a legal structure and complies with regulations, while varying types of shares provide different levels of ownership rights.

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