Richard Curran and Sarah Pickering examine the issues for lenders to consider when taking and enforcing equitable share security in the context of private limited companies.
Whilst common in modern day financing to corporate borrowers, share security gives rise to different considerations for lenders in that it is security over the shares in the company in which the shares are issued (the Issuing Company). This differs to other forms of security such as a charge over property.
Taking of Share Charges
When taking share security it is important to ensure that the Articles of Association of the Issuing Company are reviewed and, if necessary, amended to ensure that the directors' power to refuse registration of a share transfer or any such similar provisions have been removed.
Pre-emption rights and/or consent requirements may also exist in favour of existing shareholders. Where such rights exist, the Memorandum and Articles of Association of the Issuing Company should be amended by special resolution and waivers of pre-emption rights and/or consents obtained from all shareholders.
A lender should consider whether security is to be taken over all, a majority or a minority of the issued share capital of the Issuing Company. This is of particular relevance where the Issuing Company has multiple shareholders. In this situation, a lender should consider these other shareholders and any contractual and statutory rights and protections they may have.
A lender, in addition to the share charge, should take deposit of the original share certificates, undated share transfer forms, irrevocable proxies, dividend mandates and undated letters of resignation from the directors and/or secretary of the Issuing Company. These should be accompanied with letters from the chargor authorising the lender to date the share transfer forms and letters of resignation in accordance with the share charge in case of enforcement.
Enforcing Share Security
Where a lender takes physical possession of the charged shares on enforcement, it does so by completing and stamping the undated share transfer forms and presenting them, with the share certificates, to the directors of the Issuing Company for registration. Upon registration, the lender, as registered member, is afforded the benefit of numerous statutory rights and protections, for example, the right to inspect the statutory books and receive copies of balance sheets and reports of the Issuing Company and the protections afforded to minority shareholders.
However, possession could give rise to liability for the lender, for example where shares are not fully paid up. Additionally, the Issuing Company may become the lender's subsidiary.
Not taking possession
Where a lender appoints a receiver over the shares instead of taking possession, it does not become a registered member and does not benefit from the statutory protections afforded to registered members, including those afforded to minority shareholders.
The share charge will provide for the chargor's equity of redemption. Therefore, where there is any sale of shares on enforcement, any sale proceeds obtained in excess of the debt owed to the lender are for the account of the borrower.
Where a lender obtains a charge over less than 100% of the issued share capital of an Issuing Company, the shares will not be readily transferable and regard will need to be had to the rights of the other shareholders (as referenced above) and any potential buyer may only wish to acquire the entire issued share capital of the Issuing Company.
Share security poses a number of different practical issues which lenders need to consider, both initially and on enforcement.