The process of decreasing the amount of a company’s shareholder equity is called share capital reduction. There are many ways that this can be executed such as share cancellations and share repurchases, which is also known as share buybacks.
To create a more efficient capital structure and increasing the shareholder value, companies will look to reduce its share capital. It is important to note that while the company’s market capitalisation will not change because of the share capital reduction, the number of outstanding shares and traded shares will decrease.
Another scenario where capital reduction may be executed is to respond to a decline in operating profits or loss of revenue that cannot be recovered from a company’s expected future earnings. In some capital reductions, shareholders will receive a cash payment for shares which have been canceled, but in most other situations, the impact on shareholders is minimal.
There are multiple reasons as to why a company might choose to reduce its share capital. These include:
1. Return of surplus capital
If the company plans to return surplus capital, it will no longer require shareholders of the company.
2. Unable to pay future dividends
This happens when the company does not have any distributable profits.
3. Change in capital structure
When reorganising, simplifying, or improving its capital structure, a company may look to reduce share capital. This may help the company to engage greater debt financing and ultimately increases the influence of the company and growth rate.
4. Ensuring availability of distributable funds
This empowers the company to maintain the sustainability of dividend payments
Solvency Statement Procedure (Section 117)
The first way for a Malaysian corporation can reduce its share capital by a special resolution if it sends a notice to the Inland Revenue Board and Registrar within seven days of the resolution’s issuing and meeting the solvency conditions according to section 117.
If all the company directors sign a solvency declaration regarding the reduction of share capital, the conditions for solvency have been met.
The company must also be reminded to send a notice to IRB’ Director-General and the registrar within 7 days from when the resolution is passed of its intention to reduce the company’s paid-up share capital.
There are certain requirements of a Solvency Statement that has to be met namely:
A solvency statement is a declaration that each director believes that the company meets the solvency criteria in respect to the cut in share capital
The solvency statement must be in a manner determined by Registrar, date, and name of each director must be clearly stated in the making of the statement and all signatures must be presented supported by a declaration that a 3rd party has been inquired into the affairs of the company
All liabilities include contingent liabilities has been considered before making the solvency statement
A solvency statement should only be made if there will be sufficient funds for the company to pay its debts after reduction of share capitals has been made
The company will be able to pay off its debt fully within 12 months if winding up of company is made
Assets in the company is more than the liability as at the date of the share capital reduction
Members of a company must pass a special resolution in order to reduce a company’s capital.
For private companies, a written resolution must be presented, and every copy of the resolution must be accompanied by the solvency statement throughout the meeting.
For public companies, the solvency statement must be made available to everyone in the meeting to allow checking and inspections.
For both private and public companies, the solvency statement must be made available at the company’s registered office for its creditors to check on it from 6 weeks of the resolution.
If there are no objection, the company must lodge the resolution with the registrar for recording purpose within 6-8 weeks alongside with the necessary documents under section 119 (1) of the Act.
The reduction will take place once resolution is being recorded.
Court Confirmation Procedure (Section 116)
Even though reduction of shares by Solvency Statement Procedure may be slightly faster and incur less cost, some companies still chose Court confirmation procedure. The procedure is as follows:
Members of a company must pass a special resolution to approve the share capital reduction as per solvency statement procedure, followed by seeking confirmation from the Court.
The Court will consider any special circumstances of any case directing to the provisions of any diminution of liability in respect of unpaid share capital or payment in the form of paid-up capital to any shareholders.
The court will than make an order confirming the reduction if the Court is satisfied that every creditor is pleased with the order.
The company will lodge the Court order with the Registrar of Companies and the reduction of the share capital will take effect upon the lodgment.