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HOW ARE PROFITS SHARED AND CAPITAL CONTRIBUTED IN A REGISTERED COMPANY ?

In a Pvt Ltd Company, depending upon the multiple factors including the company valuation, the directors issued a number of shares against an investment a person makes in the company. Essentially every person who invests in the company becomes a shareholder.

Profits (cash or otherwise) are never however never ‘distributed’ amongst the shareholder. At the end of the financial year, the board meets and they decide as to how much dividend to give against each share. This is thus based on the company’s performance, EBITDA, and other factors. In companies, the process of profit sharing is not a regular feature. Sharing of profit in a company shall be in the form of a dividend which is recommended by the Board of Directors and is approved by the members (Shareholders). The Shareholders may not increase the recommended dividend.

However, many companies practically have seen that many shareholding agreements and the capital structure to bring desired shareholding ratio to maintain are the desired dividend ratio. This is a complex game of math. One is required to keep an eye on the investment, return, management control, the cost of capital, revenue flow, and of course profit.

Thus in a situation, when a private limited company has shareholders, the profit, or some portion of it for the purpose of distribution, is declared as a dividend by the company’s operators or the directors. The amount of the profit is divided by the number of outstanding shares which are there at the time of dividend declaration. Everyone holding a share receives that amount of time of the dividend declaration. Everyone holding a share receives that amount of money or other consideration as the company deems to be appropriate.

When it comes to capital contribution for a Private Limited Company, Capital Contribution can best be explained by first defining capital in the context of business.  Capital is defined as the cash or the assets in a private limited company (or any type of entity for that matter). Capital includes cash, accounts receivable, equipment, and even physical property. A capital contribution is a member’s contribution of the assets, usually cash, into the private limited company. Generally, the Company Agreement will have an exhibit or a schedule which is attached that breaks down the ownership structure of the private limited company. This exhibit or the schedule will also list the capital contribution of each of the member of the private limited company. The capital contribution for each of the member can fluctuate, and it needs to be properly recorded in each member’s capital account balance. Thus documenting the capital contribution is necessary as:

  • If the private limited company needs to obtain a loan from a bank, the bank will ask the company as to how much and what has been invested into the private limited company. A bank will refuse to give the private limited company a loan if there is no collateral for the bank on which they can fall back on.
  • The Potential investors usually ask as to how much and what has been the contribution to the private limited company. Without any documentation, the investors find it difficult in order to determine whether to invest or not.
  • The initial capital contribution also provides a tax basis in the private limited company for each member.

This article has been contributed by Shruti Kakkar, Content Writer, LegalRaasta– an online platform for GST Software, GST Registration, ITR Filing, private limited company, company registration, etc.

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HOW ARE PROFITS SHARED AND CAPITAL CONTRIBUTED IN A REGISTERED COMPANY ?
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