Why use a B Share Scheme?
A B Share Scheme is one method used by UK companies to return excess capital to shareholders. It gives shareholders a choice over the form the return takes. A shareholder can elect for an income payment or a payment intended to be treated as capital for tax purposes depending on his/her/its tax requirements and risk profile. Given that the top rate of personal income tax is to change to 50 per cent from 5 April 2010 whilst the capital gains tax rate is currently to remain at 18 per cent, certain companies which have a significant retail shareholder base may look at returning cash to shareholders in this way. While it is not without risk, it is an option that many companies may wish to consider.
How are the B Shares created?
There are three different methods to implement a B Share Scheme.
Bonus issue of B Shares
This involves a bonus issue of new B shares to holders of ordinary shares in proportion to their existing holdings and is the most usual B share scheme structure. No payment is required from shareholders as the shares are paid up using the company’s reserves.
One way of achieving a B share scheme is for the existing ordinary shares to be each divided into two intermediate unclassified shares and for each second intermediate share to be reclassified as a B share. The remaining intermediate unclassified shares are subdivided and consolidated into new ordinary shares. If this method is adopted the B shares issued are not redeemable shares as a company cannot create redeemable shares from existing unredeemable share capital.
New Holding Company Route
This route involves a corporate reorganisation under which a new listed holding company (NewCo) is introduced as a holding company of the existing listed company (OldCo). The reorganisation is generally effected by way of a scheme of arrangement under the Companies Act 2006. Under the scheme shareholders receive new ordinary shares in NewCo and B shares and their shares in OldCo are cancelled. Once the scheme is effective there is a reduction of capital by NewCo to create distributive reserves that can be used for the return of value. The return is made via the B shares issued by NewCo and shareholders are given options over the form of payment they will receive from their B shares. This can be demonstrated as follows.
Step (i): Ordinary shares in OldCo cancelled
Step (ii): Reserve arising from cancellation in Step (i) used in issuing new ordinary shares in OldCo to NewCo
Step (iii): in consideration for the issue in step (ii), NewCo allots and issues ordinary shares and B shares to the former shareholders of OldCo
Where OldCo is listed and NewCo is to be listed, a prospectus will be required to enable NewCo shares to be admitted to trading on the main market of the London Stock Exchange. The advantage of this route is that for a company with low distributable reserves, this option facilitates the creation of additional distributive reserves which can be used for the proposed return and future returns. The nominal value of the shares issued by NewCo is usually reduced to create distributable reserves. In addition, NewCo acquires OldCo at its market value at the time of the scheme and the share capital and share premium account created on issue of the NewCo shares therefore equal this amount.
How is the cash returned to Shareholders?
Once the B Shares are created, Shareholders are often given three options an income option, a immediate capital option and a deferred capital option. The amount of cash they receive will be the same under each option so the dividend paid on the B shares will be the same as the amount for the redemption or repurchase of the shares.
Where shareholders elect for an income receipt a dividend is usually declared on the B shares equal to the amount of value to be returned. After the dividend has been paid the B shares automatically convert into deferred shares with limited rights and negligible value which can be repurchased by the company (or redeemed provided the B shares were not created from non redeemable shares). The dividend has to be paid from the company’s distributable reserves. Under the Companies Act 2006, the company may only make a distribution out of profits available for that purpose.
Immediate Capital Option
Where shareholders elect for this option, they receive a payment for their shares and these are either repurchased or redeemed by the company. They can only be redeemed if they were issued as redeemable shares. In addition, to ensure the redemption is treated as a capital payment:
- the B shares must be issued by way of a bonus issue out of share premium account and not from any income type reserve (which may include a capital redemption reserve); and
- the nominal value of the redeemable shares created must be equal to the aggregate amount of cash being returned as any redemption at a premium will give rise to an income distribution.
In addition redeemable shares can only be redeemed by public companies out of distributable profits or proceeds of a fresh issue of shares. The advantage of redemption over repurchase for the company is that it will not have to pay stamp duty on the value of the B shares redeemed.
Where there are insufficient reserve to create shares with an aggregate nominal value equal to the amount to be returned, a bonus issue can be used to create B shares with a low nominal value which are then purchased by the company’s broker or principal who on-sells them to the company. Provided the broker is acting as principal and acquire beneficial ownership of the shares, the sale will usually constitute a capital gains disposal.
Deferred Capital Option
Where shareholders elect for this option they will receive a capital payment for their shares at a set date in the future. This option allows them usually to receive the payment in a future tax year. It is usual where the payment is deferred for a significant time for the shareholders to receive a small fixed dividend in the interim by reference to LIBOR so in economic (but not legal) terms they are receiving interest on the capital sum due to them.
Recent developments in B shares Schemes
When structuring a B share scheme the best option for the issuing company is to issue redeemable B shares that it redeems rather than repurchases. This means it does not pay stamp duty on the value of the B shares that are redeemed. However it will also want to ensure that shareholders who elect for a capital payment receive a payment that is treated as capital for tax purposes. This depends on the B shares being issued by way of bonus issue out of share premium account and the nominal value of the redeemable shares being equal to the value of the amount of cash being returned. If the company does not have sufficient reserves to create shares with a value equivalent to the amount to be returned it can either issue B shares with a low nominal value and arrange for these to be repurchased by a financial intermediary as described in the paragraph “Immediate Capital Option” or do a new holdco type scheme of arrangement with the B shares being issued by the new holding company.
A recent development has been a structure involving the issue of redeemable B shares and non-redeemable C shares. Shareholders are given the option of receiving B shares or C shares. The B and C shares are structured as follows:
- the redeemable B shares are used to satisfy elections by shareholders for a capital payment. They are issued with a nominal value equivalent to the amount to be returned. No stamp duty is payable when they are redeemed. If there are insufficient B shares to satisfy elections for a capital payment, shareholders will instead be issued with C shares,
- the C shares are issued as non-redeemable shares with a low nominal value and are used to satisfy income election by shareholders. After issue the company will pay a dividend of the amount to be returned and the shares will automatically convert into deferred shares.
There are two advantages to this structure:
- It keeps to a minimum the amount of the reserve the company needs to capitalise to create the bonus shares. The B shares will have a nominal value equivalent to the amount to be returned but the C shares have a low nominal value;
- As the B shares issued to satisfy capital elections are issued as redeemable shares they can be redeemed by the company saving stamp duty that will otherwise be payable on them if the shares were non-redeemable and were instead repurchased.
The number of B shares will be limited by the amount of the company’s reserves available to be capitalised. If there are insufficient B shares to satisfy elections for capital shareholders will instead be issued with C shares. If the company wants to ensure that the return they receive on the C shares is treated as capital, the C shares will have to be repurchased by an intermediary acting as principal and then on-sold to the company for cancellation. Stamp Duty will be payable on the value of the C shares repurchased by the company, but this would not usually be significant.
What approvals are required?
To implement a B Share Scheme, a company must prepare and send a circular to its shareholders seeking authority to create and issue the B Shares. The relevant authorities are usually obtained at a general meeting convened usually some 14 clear days after the posting of the circular.