Is your small business ready to raise money from investors? Do you want well-performing employees or advisors to have an ownership stake in the company? One way to achieve these goals is to create and issue new shares.
In this article, we set out why and how your small business can issue new shares.
Share Issue vs. Share Transfer
Many founders confuse issuing shares with selling shares.
A share transfer is a sale of shares. Existing shareholders transfer their shares to other shareholders or third parties, based on the market value of the shares. The exchange is between the existing shareholder and the buyer, not the company. A shareholder may wish to sell their shares to:
- relinquish their stake in the company;
- reduce their ownership stake; or
- earn additional income.
On the other hand, a share issue involves the company creating new shares to sell to incoming shareholders. This often occurs when a company wants to:
- raise capital to fuel business growth; or
- incentivise employees and advisors.
Existing shareholders still retain their shares alongside the new shares in the company.
Using Share Issues to Incentivise Employees
As a small business, you may employ talented workers or advisors but may not be able to afford to pay them at the market rate. Instead, your business can issue them with new shares to encourage them to perform at their peak, while growing the share price at the same time.
Employees can pay for their shares in cash or through their services. However, to avoid paying for shares at market value (which does not carry much incentive), your employees can take advantage of various tax concessions available to employees under an employee share scheme. Under the scheme, an employee or advisor can receive cheaper shares or options that are not taxed.
What Steps Do I Take to Issue Shares?
1. Check Key Company Documents
Before you start issuing shares, check your shareholders agreement and company constitution. These documents may state that you must offer existing shareholders in the company the opportunity to buy new shares before offering them to other investors.
If you do not have a constitution, the replaceable rules under the Corporations Act 2001 (Cth) will apply to your company. The rules state that directors of a private company must offer new shares to existing shareholders before offering them to a third party. Most companies also need the board of directors to approve the issue of new shares.
2. Understand Your Disclosure Requirements
When you issue shares, you may need to disclose information about the company to prospective shareholders using a prospectus or information statement. You will have to meet strict disclosure requirements when preparing these documents.
However, you will not have to prepare these documents if:
- you are a private company that issues shares to a personal or professional connection (e.g. someone you already know or have been introduced to) and the shares are not being offered publicly; or
- you offer the new shares to less than 20 people in a 12 month period (and the company will not raise more than $2 million in a 12 month period).
The two groups of investors who are exempt from disclosure requirements include:
- sophisticated investors, for any share issue worth over $500,000 or new shares are issued to a person who has received certification from an account that their net assets or gross income meet certain requirements; and
- professional investors, for a person who has an Australian Financial Services Licence or manages gross assets of at least $10 million.
3. Set your Share Price
When you issue shares in your company, you will need to set a price per share. The share price should reflect your company’s current value at the time of share issue.
If you are a director of the company, you must act in the best interests of the company when choosing the share price. Most companies engage a business valuer or accountant to come up with an accurate valuation of the company.
Otherwise, your company may face heavy tax penalties if you receive a benefit without paying for it. This may happen, for example, if you issue shares valued at $100,000 for a purchase price of $0. The shareholder then has to pay tax on the $100,000 of shares received.
The Share Issue Process
Below, we have set out the key steps involved when a company issues shares. Keep in mind that this is a simple overview, and your shareholders agreement and constitution may specify slightly different steps.
- The company decides it wants to issue more shares to raise capital.
- The board approves this decision based on the arrangements within the shareholders agreement and/or constitution.
- The company offers shares to the existing shareholders, usually in writing through a document called an issue notice. The shareholders exercise their pre-emptive right to buy the new shares or the right of first refusal to the new shares.
- If there are any shares remaining after offering them to existing shareholders, the company offers these shares to a third party on the same terms.
- The company prepares documents to formalise the investment. These documents include:
- a subscription agreement, for sophisticated investments;
- an offer letter, for simple investments; or
- a share application form.
- The investor signs a deed of accession on the shareholders agreement (if the company has one) and agree to the terms of the constitution. They are then bound by the shareholders agreement.
- Once investors subscribe to new shares, the company then:
- issues the shareholder with a share certificate;
- updates the company’s member register; and
- notifies ASIC within 28 days to avoid a late fee.
Issuing shares is one way for a company to raise capital or incentivise employees or advisors. When you issue shares, you need to make sure you are following the rules set out in your company constitution, shareholders agreement and the Corporations Act. In most situations, you will need to first offer the shares to existing shareholders and get approval from the board. You will then need to formalise the issue of shares using a subscription agreement, offer letter or share application form (depending on the type of investment).
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