How to Use the Solvency Statement Capital Reduction Procedure in UK Group Reorganisations

The so-called “solvency statement procedure” is a very straightforward way of creating distributable reserves and enabling assets to be returned to shareholders. This article gives a brief overview of how and when it can be used.

1. What are your objectives?

The starting point is to be clear about what you are trying to achieve by using the solvency statement procedure. Sometimes the intention is simply to remove dividend blocks caused by negative reserves in a particular company.

Other times, you may want to return assets (e.g. debtors, tangible assets or intellectual property assets) to shareholders or the immediate parent company. In that case, the starting point is to assess what those assets are, what their book value and market value is likely to be, and what distributable reserves already exist in the relevant company.

2. What can the solvency statement reduction procedure achieve?

The procedure can be used to reduce a private company’s share capital. The share capital cannot be reduced to zero, and at least one non-redeemable share must remain after the reduction.

It can also be used to reduce or eliminate a company’s share premium account or capital redemption reserve.

Following the reduction, the reserves created can be used to pay dividends in the usual way.

3. When is the solvency statement reduction procedure available?

There are four key factors to look at when considering whether this procedure is available:

• The company must be a private UK company - if the company concerned is a PLC (whether or not its securities are publicly traded), then the solvency statement procedure is not available unless the company is first re-registered as a private company.

• All the company’s directors must approve the reduction – because they will all need to sign the statement of solvency. Any dissenting directors would need to resign before the procedure is carried out.

• The directors must be able to give the statement of solvency – to the effect that there are no grounds on which the company could be found unable to pay its debts, and that the company will be able to pay its debts as they fall due during the year immediately following the date of the solvency statement.

• The reduction must be approved by special resolution of shareholders. If the company has multiple shareholders and multiple classes of shares, then separate consents for each class may be needed, but this is unusual.

In addition, the company’s articles of association must not restrict the reduction. However, this can usually be dealt with by modifying the articles of association if needed.

4. What alternative approaches should be considered?

Depending on your particular objectives, there may be a number of different routes available, and the solvency statement procedure may or may not be the most appropriate one. Here is a very brief overview of alternative approaches and how they compare with a solvency statement procedure.

• Members’ voluntary liquidation (MVL) – may be used where the relevant company is no longer required, and it has assets which need to be hived up. In essence, the advantage of an MVL is that the directors and the group have the comfort that the liquidator will go through a statutory process of advertising for creditors. This should reduce the risk of any complaint that assets have been distributed improperly. The main downside is the additional time and cost involved in the liquidation process.

• Buy-back of shares out of capital – this procedure can be used to return cash to shareholders, but will not create reserves. Although it is relatively straightforward, the proposed buy-back must be advertised (unlike a solvency statement reduction of capital), and there is a period during which creditors may object. These disadvantages mean that a buy-back of shares out of capital is much less commonly used than before.

• Re-registration as unlimited company – this approach involves re-registering the relevant company as unlimited. The company’s capital can then be reduced by shareholders resolution, and this creates reserves which can be distributed. Although this approach was previously not uncommon, it very rarely used now that the solvency statement procedure is available. This is because of the disadvantage that the company’s shareholders lose the benefit of limited liability.

• Court-approved reduction of capital – this procedure is very flexible, and the court has wide powers to reduce capital and return assets. The main focus of the court’s attention is to ensure that creditors are not prejudiced. Because applications to court are required, the cost and time involved will be much higher than of a solvency statement reduction.

5. What does the procedure involve?

The solvency statement reduction of capital procedure usually involves the following key documents:

• Board resolutions being passed by the directors, either at a meeting or using written resolutions. Directors should refer to the company’s last annual accounts, updated management accounts and (if appropriate) cashflow projections.

• Statement of solvency signed by all the directors

• Special resolutions of members (usually written resolutions) – these must be passed not more than 15 days after the statement of solvency

• Notice of the special resolutions to the company’s auditors

• A statement by all the directors that the special resolutions were passed within the relevant timescales

• Companies House form SH19 (Statement of capital updated)

All these documents can be completed on the same day.

The actual reduction takes effect when Companies House registers it. This can be done on a same-day basis. The relevant reserves are not created in law until the registration has taken place.

6. How should multiple shareholders be treated?

This can be an issue where it is intended to reduce a company’s share capital (as opposed to reducing or cancelling share premium account or capital redemption reserve).

There are two ways of reducing share capital using the solvency statement procedure:

• By cancelling shares – for example, if the company has 100,000 issued shares of £1 each, 99,999 of those shares can be cancelled. This would increase the company’s reserves by £99,999.

• By reducing the nominal value of shares – for example, in the same situation, the nominal value of each share could be reduced from £1 to £0.00001. This would produce the same economic result, namely a total share capital of £1, but this time divided into 100,000 shares of £0.00001 each.

Generally speaking, the cancellation route is simpler, and this would usually be used where the company has a single shareholder.

If the company has more than one shareholder, then the redenomination route may be more appropriate, because it enables the shareholders to be treated proportionately. However, the specific rights attaching to the shares concerned would need to be looked at in order to achieve the right result, and it may be necessary to modify the company’s articles of association.

Conclusion

The solvency statement procedure for capital reduction can be a quick and flexible way to create reserves and allow distributions to be made, either immediately or in the future.