The use of alphabet shares is becoming more and more common in owner-managed businesses (OMBs) and small and medium enterprises (SMEs). They are beneficial to the shareholders for a variety of reasons, including preserving control, tax planning and allowing flexibility in the day to day management of a company.
SO, WHAT ARE ALPHABET SHARES?
Shares are split into classes and each class of share has rights attaching to it. The most common classes of shares are ‘ordinary’, ‘preference’ and ‘redeemable’. Each of these classes can be split into sub-classes. For example, ordinary shares can be split into sub-classes, such as A ordinary shares, B ordinary shares, C ordinary shares and so on.
Rights attaching to these shares then need to be determined. The three core rights that attach to all ordinary shares are usually dividends, voting and a right to capital upon a sale or winding up of a company. Shares rank equally in relation to all three, unless stated otherwise, within the articles of association. Share classes (or alphabet shares) are utilised when a company wants to vary one or all of the core rights so that they do not rank equally.
An example of class rights for alphabet shares is the payment of dividends at different rates. With just one class of ordinary shares, if four shareholders each held one ordinary share in a company they would each have an equal right to a dividend, so 25% of any declared dividend. If the company wanted to issue dividends at different rates to each shareholder, for example 40%, 30%, 20% and 10%, it couldn’t do so easily, with just one class of share.
Alphabet shares can help in this situation. Each shareholder would still hold one ordinary share, but they would hold a different class of share (A, B, C and D). This would then allow the payments of dividends at different rates to each class of shareholder.
Having the flexibility to pay different dividends to shareholders can be useful for many reasons, such as tax planning or where you have individuals who own a company equally for capital purposes, but who wish to share profits in a different way, perhaps because one party contributes more on a day to day basis.
If your company was set up without alphabet shares, all is not lost as it is possible to change articles of association to allow your company to have alphabet shares and you can then redesignate ordinary shares in issue to change them to A ordinary, B ordinary, C ordinary and so on.
There are some draw backs with using alphabet shares and this may not work for all. Careful consideration needs to be given to making such a change. For more information regarding alphabet shares please contact us.