Company shares, boards, directors - how does it all work?

Giving an employee shares in a company is one way a company can incentivise employees and align their interests with those of the business. However, there are certain company law and tax law issues that need to be considered before progressing with this route.

An important thing to remember is that once an employee holds shares they are a shareholder in the company and therefore the ownership of the company is 'diluted' from day one. The employee may also have a say in the running of the company, depending on whether voting rights are attached to the shares they hold.

Someone once said that legally, a company is just a pile of documents. This is because an incorporated business is an artificial construct, and not physical, like its employees or offices. A company is owned by its shareholders, who invest their money and take a risk that if unsuccessful, they may lose their capital.

The pile of company documents starts with the constitutional rules – its articles of association, and maybe a shareholder agreement, which govern the rights and duties of shareholders and directors. Then you have shareholder registers, employment contracts for the staff, leases for the offices, contracts with suppliers and customers, and of course a myriad of other documents such as any patents and banking agreements.

The shareholders, as owners, usually delegate the day to day management of the company to the board of directors. Of course, some or all of the board may also be shareholders as well. This is where the duties and responsibilities of directors are so important, because a director must act in the best interests of all shareholders and avoid conflicts of interest. They have a duty to act in best interests of the company and this includes its employees, customers and suppliers as well as the owners. Directors can be fired by shareholders as well as by a majority of the board itself.

Shares – Most shares are ‘ordinary’ shares which have specified rights in voting, dividends, and capital distributions. You can easily set up different classes with differing rights e.g. B ordinary shares which are non-voting and subject to buy back if the shareholder is an employee and leaves the company. Other types of shares such as preference shares are not so common these days. If a VC invests in the company, they may require a different share class such as ‘Seed shares’, which would have special rights.

Value of shares – a company could be worth £10 million but have share capital of only £100, such as 100 ordinary shares of £1 each. This is the ‘nominal’ value of the shares when they are originally issued and ownership of these shares determines the percentage anyone owns in the company. If someone holds 40 of the £100 shares then they own 40%.

‘Share split’ – very often it will be necessary to effect a share split to facilitate small percentages to be granted under an EMI option scheme e.g. the 100 £1 shares above are split into 10,000 shares of 1p each.