Financial Assistance After 1 October 2008

One of the most publicised aspects of the new Companies Act has

been the abolition of the prohibition on financial assistance

contained in Section 151 of the Companies Act 85.

Sections 151 to 153 and 155 to 158 of the 85 Act were repealed

on 1 October 2008 in relation to private companies. The repeal

applies in relation to financial assistance given on or after 1

October 2008 even if the shares in question were acquired and the

relevant liability incurred prior to 1 October 2008. Chapter 2 of

Part 18 of the 2006 Act contains the provisions regarding financial

assistance, which are contained in Section 677 to 683 of the Act,

which will be brought into force in October 2009.

Although financial assistance in its most common forms will no

longer be prohibited for private companies, there are still

situations in which the validity of transactions and the way they

are structured under more general rules of law, requires

review.

Outlined below are issues of legality to be looked at in the

context of transactions, and then some examples of common

situations and how these provisions may apply.

1. RULES AFFECTING THE LEGALITY OF TRANSACTIONS

   1. Public companies

   The repeal of the prohibition is only in respect of financial

   assistance for the acquisition of shares in private companies.

   Sections 151 to 153 continue to apply to public companies. It is

   still illegal for any company, public or private, to give financial

   assistance where the shares being acquired are those of a public

   company. The test is whether the company is public at the time the

   assistance is given so a public company can be turned private after

   acquisition and then be provided with financial assistance after

   the acquisition.

   It is also prohibited for a public company to give financial

   assistance for the acquisition of shares in a private company.

   Reregistration of a company may impact on timing, as the

   application for reregistration must be followed by a 28-day period

   for any member to object. Although it is the registrars practice to

   issue the certificate earlier if the company can show all the

   members agreed to the change, this is a discretion (which will

   become part of the law when the equivalent provisions of the 2006

   Act come into force in October 2009).

   2. Illegal reduction of capital

   The use by a company of company funds to fund the acquisition of

   its own shares is an illegal reduction of capital at common law.

   Companies do not have the power to deal with all of their assets in

   any way they choose. A company may only reduce its capital in ways

   permitted by the statutes.

   The abolition of the financial assistance prohibition, which

   embodied in statute one of the ways that capital may not be

   reduced, does not, in the Government's view, revive the

   pre-existing prohibition on financial assistance. Private companies

   can give financial assistance to which the prohibition in section

   151 applies. This is because the statutory provision in the 85 Act

   replaced the common law rule and once statute has provided for the

   matter, the repeal of those statutory provisions does not, in

   accordance with section 16(1)(a) of the Interpretation Act 1978,

   revive that case law. There is no need to test whether the

   financial assistance was capable of whitewash.

   However, if the transaction was illegal for another reason then

   it remains so. Therefore a transaction which amounts to a reduction

   of capital is still illegal unless it is within one of the

   permitted ways of reducing capital. These are: -

   Reduction of capital by way of a court scheme

   The new reduction of capital by way of a solvency statement for

   private companies

   Purchase of own shares out of capital or distributable profits,

   in accordance with the statutes

   A redemption of shares out of distributable reserves

   A cancellation of a liability to pay up partly paid shares by

   way of a properly sanctioned scheme

   3. Unlawful Dividends

   A company may only pay a dividend if it has sufficient

   distributable reserves. An unlawful dividend is an illegal

   transaction regardless of any financial assistance considerations.

   However it is often the case that transactions which contain

   transfers of value (often property transfers) between companies and

   their shareholders (which may be other companies within a group)

   will raise issues of whether they amount to a dividend being paid

   to the shareholder and, if so, whether there are sufficient

   distributable reserves to cover this. This can be a particularly

   difficult...