Shares represent fractional ownership of assets in a company. Under the par value regime shares of company are conventionally ascribed an arbitrary par value usually of Rs. 10. Section 16(a)(v) of the Companies Ordinance, 1984 (the “Ordinance”) requires the memorandum of a company to state ‘the amount of share capital with which the company proposes to be registered, and the division thereof into shares of a fixed amount’, which is reflected as follows:
“The share capital is Rs. X, divided into Y shares, of Rs. Z each”
This fixed par value is generally the minimum price at which shares can be issued. While the par value may represent the value of share capital contributed at the time of incorporation of a company, the same does not remain true over the life of the company as, inter alia, the number and value of assets of a company change. As such a fixed par value does not recognise the ever changing intrinsic value of shares, and hence is deceptive.
This faux pas, along with various other issues of the par value system discussed herein below, has put in question the merits of a par value regime, which regime may well have lost its value.
2. ISSUE OF SHARES
Par value regime complicates issuance of shares. Where the prevailing market value of shares is lesser than the par value, and shares are issued at a price lower than the par value - the difference between the par and the issue price is called the ‘discount’. Accordingly, where the prevailing market value of shares is greater than the par value, and the shares are issued at a price higher than the par value - the difference between the par and issue price is called the ‘premium’. Shares issued at discount or premium must satisfy strict legal requirements, which seems all but strange considering that the determining factor, the benchmark par value, itself is an arbitrary value.
Paradoxically, a discount in its true sense is a premium where shares are issued below their par value but above the market value. And accordingly a premium is truly a discount where shares are issued above their par value but below the market value. This incongruity has been dealt with by the no-par regime, which eliminates the cause of the confusion – the par value itself. Not to mention the confusion created for unsophisticated investors who purchase shares at discount or premium, whereas the share would declare thereon a different value – the par.
Since the par value is the minimum price at which shares can be issued, it seemingly protects existing shareholders by ensuring new shareholders contribute the same amount that the existing shareholders contributed per share, and thereby preventing potential fraud.
In order to provide this protection, Section 84 of the Ordinance, coupled with prescribed guidelines, lists onerous conditions that must be met prior to issuance of shares at discount. Conditions include a resolution required to be passed at the general meeting of the company, and an application to the Securities and Exchange Commission of Pakistan for purposes of sanctioning the issue. When a company is in financial crisis and where the market value of shares has plummeted below par, conditions to issue at discount in Section 84 lead to administrative costs and unaffordable delays. In such circumstances ‘one way for companies to circumvent this technical rigidity is to issue new preference shares … On the other hand, companies can issue debts in place of equity’1 , which options may not be commercially desirable.
However, in practice ‘such share issues [at discounts] in many situations will be to the advantage of the present shareholders’2, as the cash strapped company is provided much needed funding, especially where the existing shareholders may not wish to inject funding under such circumstances. In any event, existing shareholders already have protection against dilution of their interests by introduction of new shareholders as the issue of shares at discount will be subject to the option of existing shareholders exercising their pre-emptive rights, as provided in Section 86. As such the par value as a protective benchmark is illusionary, and often a hindrance as requirements of Section 84 can be cumbersome.
Section 83 of the Ordinance requires companies to have a ‘share premium account’ for deposit of the share premium received, whereas equity otherwise is deposited in the general share capital account of the company. Section 83 also prescribes instances where the share premium can be applied by the company. Further the Companies (Issues of Capital) Rules, 19963 prescribes conditions that must be met before an issue of shares can be made at premium. In a no par value regime, as the entire proceeds of an issue shall be credited to the share capital account and returns on account of share capital account may only be through dividend distributions or bonus issues from revenue reserves.
Further, the protection that the par value regime is seen to provide existing shareholders is illusionary. Consider the scenario where shares are issued at a premium above the par value, but below the prevailing market value. The existing shareholders here will be deprived of the unrealised market value, while the perception in relation to the par value is that shareholders are protected.
3. ILLUSIONARY CREDITORS’ PROTECTION
Another common justification for the par value is that it protects creditors. It is said the total capital paid by shareholders at par value is an indication of solvency of the company, the adequacy of which is relied on by creditors while extending finance. However this justification is not tenable as in practice creditors tend to rely more so on various other factors such as the goodwill, relationship, net worth, cash flow of the company.
4. FINANCIAL REPORTING AND TAXATION MATTERS
The International Financial Reporting Standards (IFRS) specifically recognize the no par value regime. The implications of the no-par value regime may be discussed under the following headings:
In a no par value regime, the reference to a par value shall no longer apply and hence the concept of shares being issued at par/premium/discount shall no longer apply, therefore the impact of any share premium and discount shall be directly credited/debit to the share capital account respectively, thereby simplifying share capital related presentation and disclosure requirements.
As per Paragraph 79 of International Accounting Standard 1 “Presentation of Financial Statements”:
An entity shall disclose the following, either in the statement of financial position or the statement of changes in equity, or in the notes:
(a) for each class of share capital:
(i) the number of shares authorised;
(ii) the number of shares issued and fully paid, and issued but not fully paid;
(iii) par value per share, or that the shares have no par value;
Therefore, the requirements for disclosure are neutral to both shares issued under the par value and “no par value” regime.
c. Other IFRS considerations
IFRS 2 “Share based compensation” paragraph 7 states
“An entity shall recognise the goods or services received or acquired in a share-based payment transaction when it obtains the goods or as the services are received. The entity shall recognise a corresponding increase in equity if the goods or services were received in an equity-settled share-based payment transaction, or a liability if the goods or services were acquired in a cash-settled share-based payment transaction.”
Paragraph 10 of the same Standard states:
“For equity-settled share-based payment transactions, the entity shall measure the goods or services received, and the corresponding increase in equity, directly, at the fair value of the goods or services received, unless that fair value cannot be estimated reliably. If the entity cannot estimate reliably the fair value of the goods or services received, the entity shall measure their value, and the corresponding increase in equity, indirectly, by reference to* the fair value of the equity instruments granted.”
It may be concluded from the above that equity settled share based transactions are neutral to par value and no par value regimes as the reference is to fair value of the equity instruments granted. Fair value shall be arrived at by reference to best practices and valuation models.
The no par value regime is also neutral to requirements of IAS 33 “Earnings per share” and IAS 27 “Consolidated and Separate Financial Statements”.
d. Consequential effects
As per the foregoing, the implied premium/discount on issue of shares shall be credited/debited to the share capital account instead of being presented under a separate section on reserves. This will directly impact the presentation in the statement of changes in equity.
Under the Companies Ordinance, 4th and 5th Schedule dealing with disclosure requirements for listed and unlisted companies, reserves are to be designated as either “capital reserves” or “revenue reserves”. The share premium account is classified as a capital reserve. Under Section 83(2) of the Companies Ordinance, the share premium reserve account can be utilized for specific purposes only. In a no par value regime, there would be no separate share premium/discount account and therefore distributions would only be from revenue reserves. Currently, there is an anomaly that even when shares are initially issued at a premium (unlisted entities), the premium is available for issuance as bonus shares, notwithstanding any change in the underlying value of an entity.
e. Taxation matters
The no par value regime is neutral from a taxation perspective as capital gains taxation is based on the differential between the disposal price and the acquisition cost of shares. The acquisition cost is based on the average cost basis which is a derivative of the individual acquisition costs with no reference to the par value of shares.
There are no other references within the law which would have any tax implications directly related to par value of the shares.
5. OTHER JURISDICTIONS
Various jurisdictions have migrated to a no-par regime. Such jurisdictions include Australia, Germany, Japan, New Zealand, South Africa, Cayman Islands. ‘The no par value regime was introduced in the US in 1912 in the state of New York and subsequently almost every state has adopted this new regime’4. The migration is being seriously considered by UK, India, Hong Kong and various other advanced jurisdictions. Other jurisdictions including Pakistan, despite acknowledging the benefits of the no-par regime, have not effected the said migration merely due the inertia induced by familiarity. In a Concept Paper5 by the Securities and Exchange Commission of Pakistan it was stated that “despite arguments to the contrary, the concept of par value may be retained in Pakistan given that the market is accustomed to it”.
It is suggested that the Securities and Exchange Commission of Pakistan, legislators and other stakeholders consider implementation of the no-par regime in the manner proposed as follows:
(i) The concept of discount and premium be abolished which requires elimination of the par value;
(ii) The memorandum shall reflect the share capital without fixing the share price, as follows:
“The share capital is Rs. X, divided into Y shares”
(iii) The price at which shares are issued should be determined by the board of directors of the company such that the company receives adequate consideration in line with market price. In making such determination the directors will be bound by their fiduciary duty to act in good faith;
(iv) A further safeguard, in addition to the directors fiduciary duty, may be introduced ‘requiring a special resolution6 to approve the issue price where it is less than the immediately preceding issue price of shares of the company’7 . ;
(v) The no-par regime shall be implemented mandatorily. Various jurisdictions implemented an optional system whereby companies could opt for either of the two regimes. Certain jurisdictions allowed a dual system whereby one company could have both a par and no-par regime concurrently. The foregoing however created further confusion, and given that simplicity and clarity are at the heart of a no-par regime, ‘jurisdictions have opted (or changed) to the mandatory system because it is much simpler for all concerned’ ;
(vi) The no-par regime shall be implemented across all classes of shares without exception;
(vii) The implementation of no-par regime shall be led by legislative reform to reflect, inter alia, the proposals stated above. Notably various provisions of the Ordinance will need to be amended, particularly those referred to in this article. With the force of law relevant provisions in instruments and agreements will not be left to the parties to amend. A shift to a no par value regime would require consequential amendments to the Issue of Capital Rules, 1996. There are also several references to the issued, subscribed and paid up capital of the Company in lending documents for entities, NBFC rules and regulations (for investment limits), Banking Companies Ordinance and other regulations. As the no par value regime does not seek to distinguish between issued capital and the premium/discount on shares, there would likely need to be consequential amendments to the definitions or regulatory limits prescribed within the respective laws and regulations. The requirement for transitory provisions and option to select no par value versus par value would also need to be considered.8
Authored by:Hammad Haider, Associate, Haidermota & Co.
Zulfkar Causer, Partner, BDO Ebrahim & Co.
and reviewed by Khozem Haidermota, Senior Partner, Haidermota & Co.
1Ho Yew Kee & Lan Luh Luh, The Par Value of Shares: An Irrelevant Concept in Modern Company Law, Singapore Journal of Legal Studies  552-572 at page 559-560.
2Ho Yew Kee & Lan Luh Luh, The Par Value of Shares: An Irrelevant Concept in Modern Company Law, Singapore Journal of Legal Studies  552-572 at page 559.
3 The Companies (Issue of Capital) Rules, 1996 are currently under review of the Securities and Exchange Commission of Pakistan, but at this stage the issue of no-par value regime is not addressed therein.
4Ho Yew Kee & Lan Luh Luh, The Par Value of Shares: An Irrelevant Concept in Modern Company Law, Singapore Journal of Legal Studies  552-572 at page 556.
5Concept Paper for the Development and Regulation of the Corporate Sector, prepared by the Corporate Laws Review Commission, established by the Securities and Exchange Commission of Pakistan
6Section 2(1)(36) of the Companies Ordinance, 1984 defines ‘special resolution’ in relevant part as: “…a resolution which has been passed by a majority of not less than three-fourths of such members…”
7Consultation Study Concerning the Implications of Adopting a No-Par Value Share Regime in Hong Kong, Final Report, by Freshfields Bruckhaus Deringer, (29 November 2004), page 80
8Consultation Study Concerning the Implications of Adopting a No-Par Value Share Regime in Hong Kong, Final Report, by Freshfields Bruckhaus Deringer, (29 November 2004), page 77