This brief survey is intended to highlight some of the main features of company law, often called corporate law.
In the UK, the “constitution” of a company consists of two documents. One, the memorandum of association, states the aims of the company and details its authorised capital, otherwise known as the nominal capital. The second document, the articles of association, contains provisions for the internal management of the company, for example, annual general meetings (AGMs) (called annual shareholders meetings in the US or often simply annual meetings) and general meetings (also referred to as extraordinary general meetings (EGMs) or special meetings of the shareholders in some jurisdictions), the board of directors, and corporate contracts, and loans. The “constitution” of a US corporation also consists of two documents. One, the certificate of incorporation (called articles of incorporation or charter in some states), sets out the aims of the corporation and details its authorized shares. The second document, the bylaws, contains provisions for the internal management of the corporation, for example, shareholders’ annual and special meetings, the board of directors, and corporate contracts, and loans.
The share capital of a company often consists of two classes of shares or capital stock, namely ordinary shares and preference shares (called common stock and preferred stock in the U.S.). The ordinary or common shareholder has voting rights, but the payment of dividends is dependent upon the performance of the company or the decision of the directors. Preference shareholders, on the other hand, receive a fixed dividend irrespective of performance (provided the payment of dividends is legally permitted) before the payment of any dividend to common shareholders, but normally have no voting rights. In this context one may also mention the concept of share subdivision or stock splits, whereby, for example, one ten pound share is split into ten one-pound shares, usually in order to increase marketability (called market liquidity in the U.S.). The reverse process is, appropriately enough, termed “share consolidation” or a “reverse stock split.”
Shares of British companies are subject to pre-emption rights whereby the company is required to offer newly issued shares first to its existing shareholders. The shareholders may disapply their pre-emption rights by special resolution which requires a seventy five per cent majority of the votes present and cast at the EGM or AGM in question. American corporations may, but most do not, elect to have their stock subject to preemptive rights whereby a corporation wishing to issue new shares must first offer them for sale to the existing shareholders who have the right of “first refusal”.
A feature of public companies is that the shares may be freely traded. Shares are normally sold to existing shareholders through a rights issue, unless pre-emption rights have been waived. However, even in this context, new shares are not always offered in the first instance to the general public in a public offering, but may be sold to a particular group or individuals through a directed placement or private placement.
Equity (share capital) is not, of course, the only means of corporate finance. The other is loan capital or debt, typified by debentures. Debentures are an instrument issued by a company as evidence of debt or other obligation, and include debenture stock, bonds, and any other securities whether or not they form a charge on the company’s assets. Corporations may also issue public debt or corporate bonds in the form of debentures or notes, which are freely traded and are normally unsecured. The credit rating assigned to a corporation’s debt is very important, as a non-investment grade rating will result in the bonds being classified as junk debt. A loan to a corporation may be secured, or unsecured. Secured debt gives the creditor the right to recover the unpaid balance of the loan from specific assets before other creditors provided his security interest in the assets is perfected. In the UK, the grant of security for a loan by giving the creditor the right to recover his capital sum from specific assets is termed a fixed charge. Companies may also borrow money of the security of a corpus of assets, such as stock in trade. This arrangement is known as a floating charge.
The corporation is governed by the board of directors while the day-to-day management is delegated to the managing director, C.E.O. or President. The ultimate power in the company rests though, at least theoretically, in the shareholders’ meeting. In some companies the articles of association make provision for rotation of directors, a so-called staggered board whereby only a certain portion of the board must retire and present itself for re-election before the AGM. Many small shareholders do not bother to attend shareholders’ meetings, and will often receive proxy circulars (called a proxy solicitation in the U.S.) from the board, seeking authorisation to vote on behalf of the shareholder. On the other hand, in most public companies today, the majority of shares are usually held by institutional investors, such as pension funds and unit trusts (called mutual funds in the US.)
Aggrieved shareholders may bring either a direct action against the company or a derivative action. In the former it is claimed that loss or damage has been caused to the plaintiffs qua (as or in the capacity of) shareholders; in the latter it is claimed that the loss or damage has been caused to the corporation on whose behalf the action is being brought. In the absence of evidence of control by the wrongdoers or a “fraud on the minority”, however, shareholders will be enjoined from bringing a derivative action. It should be noted that the liability of directors is normally limited to matters of wilful or gross negligence.
Finally, one can mention that a company’s state of health is reflected, of course, in its financial statements (sometimes colloquially referred to as accounts in the UK) including its balance sheet and profit and loss account (these are called income or profit and loss statements in the US). Healthy profits might lead to the payment of a dividend, bonus or capitalisation issue to the shareholders. On the other hand, continuous losses may result in insolvency and the company going into liquidation or, in the case of a US company, filing for bankruptcy.