Understanding the types of shares available when incorporating a limited company in the UK
When incorporating a limited company in the UK, deciding on the number and type of shares to issue is a required part of the incorporation process.
Shares determine not only ownership but also how profits are distributed and who holds decision-making power. Choosing the right type of shares can impact the future flexibility and structure of your business, making it crucial to get it right from the start.
In this guide, we’ll break down the different types of shares that are available to limited companies in the UK, explore the nuances of share classes, and provide recommendations on which share type might suit your startup at the point of incorporation.
What Are Shares in a Limited Company?
Shares represent ownership in a company. When you own shares, you hold a percentage of the business, which often gives you the right to vote at shareholder meetings, share in the profits through dividends, and potentially influence major company decisions. The more shares you own, the larger your share of control.
Types of Shares in the UK
When incorporating a limited company, it’s vital to understand the different types of shares available. The two main types of shares are:
- Ordinary Shares
- Preference Shares
Let’s explore these in detail.
Ordinary Shares
Ordinary shares are the most common type issued by limited companies in the UK. They grant shareholders the right to vote at general meetings, the right to dividends, and a share in the company’s assets if it winds up.
Key Characteristics of Ordinary Shares:
- Voting Rights: Ordinary shareholders typically have voting rights, where each share equals one vote.
- Dividends: Dividends are issued to ordinary shareholders, but they are not guaranteed. The directors declare dividends, and they are paid out based on the company’s profitability.
- Risk: Ordinary shareholders are the last to be paid if the company goes into liquidation. After creditors and preference shareholders have been paid, ordinary shareholders receive the remaining assets.
Who Are Ordinary Shares Best For?
Ordinary shares are ideal for founders and key stakeholders who want to maintain control over the company. If your goal is to retain voting power and play an active role in decision-making, ordinary shares are likely the best choice.
Preference Shares
Preference shares, as the name suggests, give preferential treatment in some key areas. These shares often come with a fixed dividend, meaning shareholders are entitled to receive a predetermined amount of profits before any dividends are paid to ordinary shareholders.
Key Characteristics of Preference Shares:
- Fixed Dividends: Unlike ordinary shares, preference shares usually come with a fixed dividend. Whether the company makes a profit or not, these shareholders are paid first.
- Limited Voting Rights: Typically, preference shareholders do not have voting rights, or their voting rights are limited.
- Priority on Assets: In the event of liquidation, preference shareholders are paid before ordinary shareholders, though not before creditors.
Who Are Preference Shares Best For?
Preference shares are often attractive to investors seeking a reliable income. Since they offer a fixed dividend, they provide a more stable return than ordinary shares. However, they come with limited voting rights, making them less desirable for those who want control.
Understanding Share Classes
Beyond the general types of shares (ordinary vs. preference), companies can issue different classes of shares. Each share class can have varying rights attached to them, including rights to dividends, voting, and capital in the event of liquidation.
Common share classes include:
B Ordinary Shares
B ordinary shares may have different rights compared to A or ‘normal’ ordinary shares. For example, B shareholders may have no voting rights but be entitled to higher dividends. Companies often use B shares to provide different benefits to certain shareholders, such as investors.
Non-voting Shares
As the name suggests, non-voting shares do not provide voting rights. However, they still entitle shareholders to dividends and a share in the company’s assets. Non-voting shares are often used when a founder or primary shareholder wants to maintain control of the company while allowing others to invest.
Redeemable Shares
Redeemable shares give the company the right to buy back shares at a future date. This type of share can be issued to raise capital temporarily, with the intention of buying the shares back once the company’s financial situation allows.
Cumulative Preference Shares
With cumulative preference shares, if a company skips a dividend payment in one year, the unpaid dividends are carried forward to future years. This guarantees that preference shareholders will receive any owed dividends before dividends are paid to ordinary shareholders.
What Types of Shares Should Startups Choose?
The best share structure for a startup depends on the company’s long-term goals and needs. But typically, the best option looks like this:
For Founders: Ordinary Shares
Ordinary shares offer the most control, enabling founders to make strategic decisions and retain power over the direction of the company. Since dividends are not fixed, founders can also reinvest profits into the company’s growth rather than distributing them.
For Investors: Preference Shares or B Ordinary Shares
If you’re planning to bring in external investors, you may want to consider issuing preference shares or B ordinary shares. Preference shares take priority over ordinary shares when it comes to paying capital and dividends, but they do not normally carry any voting rights. This provides an option for founders looking to raise funding, e.g. from a Venture Capital firm, but retain control over the business
For Employees: Non-voting Shares or A Ordinary Shares
When offering shares to employees as part of a compensation package, non-voting shares or A ordinary shares are common choices. Non-voting shares allow employees to benefit from the company’s success without diluting the founders’ control.
However, many businesses chose to offer their employees Share Options as opposed to Shares and this is our recommended route for new Founders looking to offer an additional incentive to employees. Share options are only exercised at specific times, e.g. after a set amount of time or at the point of sale. This method offers a more tax efficient way of acquiring shares for employees and a less risky way to bring on employee shareholders for Founders. Learn more about EMI Share Option schemes here.
How Many and What Type of Shares Should You Issue at Incorporation?
Again, this does depend on your goals. We recommend seeking professional advice to align your share issuance with your long-term plans as early as possible. Especially if you think you’ll fundraise in future.
Still lost on what type of and how many shares to issue? Speak to our team about your business plans.
