Treasury shares are the company’s own shares that it has bought back from an existing shareholder where those shares have not been immediately cancelled. This means that these shares still exist and, therefore, the company’s share capital has not changed.
To hold shares in treasury, the shares bought back by the company in accordance with Chapter 4 of the Companies Act 2006 must have been purchased out of distributable reserves and not out of capital.
The use of treasury shares has increased since 2013 when the law was changed to allow private companies as well as public limited companies to hold shares in treasury.
A company cannot hold all of its voting shares in treasury as there must be at least one shareholder who can vote. Other than this, a company can hold as many shares in treasury as it has bought back.
Holding shares in treasury
When a company holds shares in treasury, the company should be entered in the register of shareholders as the owner of those shares. However, the company cannot exercise any rights attaching to these treasury shares. The company, therefore, cannot:
- have a representative attend and speak at AGMs and other shareholder meetings;
- vote on shareholder resolutions;
- be included in any pre-emption rights of shareholders;
- receive dividends or capital or other distributions.
Where a company carries out a capital reorganisation other than a rights issue, the treasury shares will be subject to the change. These include:
- Share splits
- Share consolidations
- Share conversions
- Share redemptions, where the treasury shares are redeemable shares
- Bonus issues (such shares are treated as treasury shares from the date of the issue), where issued to all shareholders.
The company can hold the shares in treasury for as long as it wants unless the articles of association require otherwise.
Advantages of holding treasury shares
There are several advantages of holding treasury shares, including:
- being able to sell treasury shares to new investors without having to incur the costs or carry out the necessary procedures of a formal share allotment;
- having the potential to restore the company’s distributable profits when the treasury shares are sold, as the proceeds up to the original purchase cost are treated as distributable profits;
- not needing the expense of running an employee benefit trust to meet employee share options where the company has sufficient treasury shares;
- not having to complete all the formalities of cancelling the shares.
Selling treasury shares
Shares held in treasury can be sold or transferred at any time. Consideration must be received by the company for shares sold or transferred unless the transfer is in connection with an employee share scheme.
Where shares are sold or transferred out of treasury, stamp duty is normally not payable on the sale. However, stamp duty would have been paid by the company when the shares were first bought back by it on the same basis as any other purchase of shares by a third party.
When treasury shares are sold or transferred the company must file form SH04 – Notify a sale or transfer of treasury shares – with Companies House within 28 days of the sale or transfer.
Example of a company using treasury shares
A profitable company was set up by four investors with 25 ordinary £1 shares each a while ago. Unfortunately, one of the investors needs to retire from work and therefore wants to sell her shares. The other investors are unable to buy those shares and no other investor can be found. The company, however, has sufficient funds to buy the shares from the investor so a purchase of own shares is carried out at the then market value of £1,000 per share. Rather than cancelling the shares straight away, the directors decide that the company should hold them in treasury. This is because they anticipate wanting to raise more capital in the future and are looking to set up a share option scheme for certain senior employees.
Before raising the new capital each ordinary £1 share is split into 1,000 ordinary £0.001 shares which increases the total number of shares from 100 to 100,000. The treasury shares are subject to the split so that there are now 25,000 ordinary £0.001 shares in treasury. The company then grants options over 2,000 shares at £20 per share to five senior managers.
Two years later the company has raised £1,000,000 of capital by transferring 10,000 of the ordinary £0.001 shares held in treasury to outside investors at £10 per share. This means that the company has in effect made £9 per share, as each 0.001 ordinary shares cost the company £1 per share (i.e. £1,000 divided by 1,000 (as the shares were subject to a 1,000 for 1 share split)). The company submits form SH04 to Companies House notifying them of the transfer of treasury shares as well as updates its register of members.
Over the next five years, four of the option holders exercise their options in full, whilst the fifth has left the company to join a competitor so the options have lapsed. Each time the options are exercised the company transfers shares out of treasury to the option holder and the company again updates its register of members and submits a form SH04 to Companies House.
After all these transactions there are only 7,000 treasury shares left. The company then decides to cancel these shares as they are no longer needed so updates the statutory books and submits the necessary form SH05 (Notify a cancellation of treasury shares) to Companies House to reflect this.
Cancelling treasury shares
The company can at any time decide to cancel some or all of the treasury shares. This will reduce the company’s share capital by the nominal value of the shares cancelled.
When treasury shares are cancelled the company must file form SH05 with Companies House within 28 days of the cancellation. Where the company is a public limited company and section 663 of the Companies Act 2006 applies, form SH07 (Notify a cancellation of shares: public company) should instead be filed at Companies House. As the company’s capital is changing as a result of the cancellation, forms SH05 and SH07 include a statement of capital showing the capital position after the share cancellation.
Accounting for treasury shares
Where treasury shares are sold, the proceeds are treated as realised profits of the company up to the amount originally paid by the company for those shares. This is to restore the original reduction in realised profits to the position before the shares were bought back by the company.
Where the proceeds exceed the purchase price paid by the company, the excess should be treated as capital and transferred to the share premium account. This means that any profit made by the company on the sale of treasury shares is not treated as distributable profits. For these purposes, the purchase price paid by the company for the shares should be determined by the application of a weighted average basis.
Where treasury shares are cancelled then an amount equal to the nominal value of the shares cancelled should be transferred to a capital redemption reserve to maintain the company’s capital.
Inform Direct makes it easy to record treasury shares and their sale, transfer or cancellation. It produces the required Companies House forms for each transaction.