The decision by persons to contribute their resources for the incorporation and promotion of a common business interest or idea is underpinned by expectations, particularly financial.
However, such financial expectations are not without limitations in the case of companies. The distinction between the financial concepts of assets, revenue (sales), profit (loss) and dividend is critical to ensure ‘shareholders’ mostly of start-ups and Small & Medium Scale Enterprises (SMEs) do not make or anticipate any illegal appropriation of the resources of their companies.
In this article, I shall distinguish between these imperative financial concepts and demonstrate how they limit shareholders’ financial entitlements under the Companies Act, 2019 (Act 992). The distinction is important for the promotion of long-term sustainability and the prevention of financial misappropriation in companies as going concerns.
Shares and Shareholder(s)
The Companies Act, 2019 (Act 992) defines “shares” as “the interests of members of a body corporate who are entitled to share in the capital or income of the body corporate”. By this definition, owners of shares in a company implies an entitlement only “to share in the capital or income of the body corporate” and not the assumption of “private ownership” of the company and its assets/properties.
Shareholders by implication are thus not even in the collective sense “owners” of a company; a company owns itself. This position holds valid even in circumstances where shareholders are permitted by law or the registered constitution of the company to transfer their shares (interest) to another by way of sale or otherwise (exercising personal dealings with the shares).
The number of shares and the rights and liabilities attaching to the same are to be determined by the terms of the issue by the company. By this, different classes of shares could be created.
Generally, shares could be created either as equity (referred to as “ordinary” in the now repealed Act 179) or preference shares. Issued preference share will entitle the holder to a right to participate not beyond a specified amount of money in a distribution whether by way of dividend, on redemption, in a winding up or otherwise.
Also, Act 992 permits subject to the registered constitution of a company for the attachment to shares either as preferred, deferred or any other special rights or restrictions, whether as regards dividend, voting, repayment or otherwise. This provision allows for the creation of preference shares either as cumulative or non-cumulative, redeemable or non-redeemable, convertible or non-convertible etc.
In essence, shares represent the unit of the contribution of long-term capital (working) of each holder without expression of unit values and further constitutes the basis for the attachment of rights and liabilities to each class of shares issued. Shareholders are therefore the holders of any class of shares duly created, issued and registered by a company or by the operation of law.
Act 992 defines assets as “any kind of property or any legal or equitable right”. A Company’s right to asset ownership is one to be exercised independently of its shareholders. Where companies acquire assets, it is done in their names and shareholders have no proprietary interest in those assets – the assets of a company are not the property of its shareholders.
The long-established “separate legal entity” principle (with statutory backing) which promotes the distinct and separate feature of companies supports this separate asset ownership regime. On incorporation under Act 992, companies become artificial persons and, in their names, have the power to procure, use, maintain and dispose of assets relative to the law.
Companies leverage assets for the generation of economic benefits (revenue & profit). These assets may be in the form of plants & machinery, land, building, vehicles, stock of goods, cash at hand or bank, debtors’ stock etc. The acquisition of these assets may be financed with capital contributed by the shareholders – even where it is the case, it does not permit shareholders’ claim to such assets as theirs personally. In some circumstances, credit financing arrangements are also used to procure assets thereby creating liabilities for the companies.
Shareholders are not entitled to any interest or returns in the assets of the company. Shareholders’ entitlement is limited to the return of capital on winding up or reduction of capital after creditors and other liabilities have been discharged.
Where a shareholder works as an employee or a director of a company and company assets such as a vehicle is provided as a work tool, that may also not give rise to claims of personal ownership by the shareholder – they however remain the assets of the company. Proper records must be kept of all assets (current or non-current) of companies and should reflect in the financial statements of the company.
Employees and Customers are said to be great assets of companies. These non-financial assets can also not become personal employees or customers of shareholder(s) and be subjected to their personal uses, rules or terms.
Therefore, it is illegal for shareholders to deal with assets/properties of a company based on share ownership as personal assets/properties. Any such exercise of entitlement is illegal and where on-going should be stopped forthwith. Separate asset/property ownership is a critical feature of a registered company and must be protected against shareholders’ abuse.
The production, sale and distribution of goods and the provision of services are the primary means of revenue generation for companies – either on cash or credit basis. The nature of a company’s operation also influences the frequency either on daily, weekly, monthly etc of such revenue generation. Monies received or ascertained as debts are not for the personal benefit of any shareholder – either as the sole shareholder or otherwise.
In the fulfilment of obligations on production cost and other liabilities resulting from the running of the company, revenues play a critical role in a company’s sustained operations.
There is an obligation on managers through accurate financial reporting to capture all revenues as they as they come in and not subject their utilisation to any shareholder’s personal wishes. A prudent way to ensure strict adherence is to maintain separate accounts for companies from the shareholders (even in the instance of a sole shareholder). Other institutional arrangements such as the engagement of account staff, establishment of account systems linked to sales etc will help promote good accounting practices as well as enhance good corporate governance.
Revenues should never be considered as profits and be subjected to any disbursement in such regards. Shareholders are also not entitled to any share of revenue generated by a company except where payments are made based on an employment contract (constituting general expenses of salaries & wages for the company).
The basic accounting principle for the determination of profit is revenue less expenses. However, profit could be gross profit – determined as sales less cost of sale (directly related sale cost). Net profit determined as gross profit less administrative and other expense represents a more accurate position of profitability for companies from its operations.
Companies are expected to keep and maintain books of account constituting financial statements. These statements – showing the financial position of the company are required to be prepared at intervals and as final on a 12-month calendar basis.
A strong profit position of a company offers hope for shareholders’ entitlements. Although it is in itself not available as shareholders’ entitlement, it determines how much should be made available and at what value per share as benefits for shareholders’ capital investment.
It is also not automatic that once profit (income) is declared, shareholders become entitled to its distribution. The performance of the company over the years and its financial forecast regards revenue generation, liabilities, investment plans etc could determine whether shareholders could become entitled in part or whole to any available income from a company’s operations relative to a financial year.
Shareholders’ expectation must be restrained in years where profits are declared as the financial outlook of a company could demand the retention of such profits to support projected financial outflows – profits could be made and retained without distribution to shareholders.
The declaration and payment of dividends are strictly regulated by Act 992 with liabilities for directors and shareholders for breaches. Dividend represents the sum of money paid regularly by a company to its shareholders out of its profit (reserves) in fulfilment of shareholders’ entitlement to a share in the income of the company.
Subject to Act 992 and the registered constitution of a company (a private company), a company may declare dividends in respect of a year or any other specified period but shall not exceed the amount recommended by its directors.
Directors are mandated to comply with a distribution test which Act 992 defines to include the assessment of the company’s ability to pay its debts as they fall due and the amount or value of any distribution made by the company does not exceed its retained earnings immediately before the making of the distribution, in any recommendation for the payment of dividends exercise.
In order to prevent the overriding powers of the shareholders in dividend payment, the law strictly provides against approving payments beyond amounts recommended by directors (the managers of the company). However, pay-outs could be influenced by class of shares issued – as some classes take precedence in dividend payments over the others.
Once dividends are declared and become due, shareholders are entitled in the ratio of their shareholding and subject to the class of share to the full benefits without limitation on how such payments are to be utilised. Dividends declared and due do not constitute part of the properties of a company. Where they remain unclaimed, the law makes provisions for the same to be kept separately from the finances of the company as they have now become shareholders’ personal values.
Dividends are often the only financial entitlements of shareholders (as the return of capital entitlement is less likely the case in Ghana).
Ordinarily, person(s) who contribute to the formation of a thing should have ownership of the same. However, this is not the case in the formation of companies. Persons who subscribe to the shares of companies or become shareholders by the operation of law are not “owners” of the companies.
However, the Companies Act, 2019 (Act 992) rewards them (shareholders) with some benefits including financial entitlements in the share of returned capital or income of the company. A clear distinction and the understanding of the legal effect of some financial concepts such as assets, revenue, profit and dividend will aid shareholders in the management of their expectations and prevent financial misappropriation of company resources.
Further, shareholders must understand that any breach in respect of these financial concepts could result into personal liabilities.
>>>the author is a lawyer at E.L Agbemava Law Office. He is reachable at [email protected]