17 Apr 2014

Dividend reform and red tape reduction

by David Landy, Karen Evans-Cullen

Dividends will now be exempted from the share capital reduction rules.

A proposed liberalisation of the dividend rules is the key element in a draft Bill just released by the Government.

The Bill also makes a number of annual reporting changes and implements the Government's recent pledge to abolish (or attempt to abolish) the 100 member rule for requisitioning company meetings.

Dividends

The dividends test was rewritten in 2010, primarily to change the rule that dividends could only be paid out of profits.

However, it quickly became clear that the new test had created its own problems. The main one was whether paying a dividend out of capital (while retaining the company's solvency) required shareholder approval for a reduction of capital.

At the time, we took the view that such approval was necessary, but initial indications were that Treasury took a different view.

Now it appears that Treasury has changed its mind. A key element in the proposed new dividends test is a section which explicitly exempts dividends from the share capital reduction rules (provided, of course, that the dividend constitutes an equal reduction of capital).

Another significant change is the dropping of the much-criticised "balance sheet test". The current dividend rules only allow the payment of a dividend if (among other things), the company’s assets exceed its liabilities (enough to pay the dividend), and the dividend would not materially prejudice the company's ability to pay its creditors. Whether assets exceed liabilities has to be determined by reference to the accounting standards; this has been regarded as an overly onerous requirement particularly for small companies which otherwise would not be covered by the accounting standards.

The proposed new provisions drop the balance sheet test completely. Instead:

  • immediately before a dividend is declared, the directors must reasonably believe that the company is solvent; and
  • a company must not pay a dividend unless the directors reasonably believe that the company will still be solvent after paying the dividend.

The possibility of an unforeseen deterioration in the company's finances between the declaration of a dividend and its payment date is covered: the prohibition on paying a dividend where the directors don't believe that the company is solvent will only apply where companies pay dividends without declaring them.

Finally, there will be a new requirement that annual reports disclose both the source of dividends paid (other than out of profits) during the year and, if dividends were paid out of capital, the board's policy for determining the amount and source of dividends.

It is important to note that these are still only proposals. The precise form of the amendments (and any resulting tax implications) will have to await the introduction of the Bill into Parliament in its finalised form.

The 100 member rule

At present, a general meeting can be requisitioned by 100 shareholders (the "100 member rule") or shareholders holding 5% of the voting shares.

Small activist groups have used the 100 member rule to requisition meetings of large listed companies to push a number of non-business agendas. When the Coalition was last in power, its attempts to repeal that rule were defeated by a hostile Senate.

The draft Bill is yet another attempt to achieve the same objective, by allowing meetings to be requisitioned only by shareholders with 5% of the votes.

As in the past, the Coalition does not have a majority in the Senate, so it will be interesting to see if history repeats itself. If it did, the Government might have to drop the 100 member rule abolition in order to ensure passage of the rest of the amendments.

Remuneration

Despite the fact that this is a "red tape reduction" Bill, the proposals include some additional reporting requirements for listed companies.

Apart from the dividend source information noted above, the Bill would require companies to include in their directors' or financial reports a description of their process for determining KMP remuneration.

Another remuneration-related change relates to options. The Corporations Act currently requires listed company directors' reports to disclose the value of options which lapsed during the year and the percentage of each KMP's remuneration which consists of options.

At the same time, the Corporations Regulations requires the disclosure of the number and value of options granted during the year and the number which have vested.

The Government believes that this type of information could be improved by:

  • abolishing the Act's requirements (on the basis that the same information can be deduced from the information disclosed under the Regulations); and
  • requiring companies to disclose the number of options which lapsed during the year and the year in which those options were granted.

Finally, reflecting the fact that the Two Strikes Rule has become the tail that wags the remuneration dog, the Bill proposes to abolish the requirement for unlisted disclosing entities to produce an annual remuneration report, on the basis that they are not subject to the Two Strikes Rule.

The timetable

The deadline for comments on the Bill is a relatively soon 16 May.

There is no current timetable for the Bill to be enacted in law. 

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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.