Insufficient authorized shares: Overview, definition, and example
What are insufficient authorized shares?
Insufficient authorized shares refer to a situation where a company does not have enough shares authorized in its corporate charter (also known as articles of incorporation) to issue to investors, shareholders, or for other corporate purposes. The number of authorized shares is set when the company is incorporated and can be amended by a shareholder vote. If a company wishes to issue more shares than it has authorized, it must first increase the number of authorized shares through a formal amendment process. Insufficient authorized shares can create issues when a company wants to raise capital, issue stock options, or undertake corporate actions that require additional stock issuance.
For example, if a company has authorized 1 million shares but needs to issue 1.5 million shares for a new investment round, the company would need to amend its corporate charter to increase the authorized shares.
Why are insufficient authorized shares important?
Insufficient authorized shares are important because they limit a company's ability to issue stock or equity for various corporate purposes, such as raising capital, compensating employees, or completing mergers and acquisitions. When a company runs out of authorized shares, it cannot issue more stock unless it amends its charter to authorize additional shares. This can cause delays in business transactions and can impact the company's ability to access capital markets or execute strategic decisions.
For investors, it is important to understand the number of authorized shares and the company's ability to issue more stock, as this affects ownership dilution and potential returns.
Understanding insufficient authorized shares through an example
Imagine a technology company with 500,000 authorized shares, and it has already issued 400,000 shares to its current shareholders. If the company wants to issue additional shares to raise capital but does not have enough authorized shares remaining, it cannot do so unless it increases the number of authorized shares. This may require a shareholder vote to amend the company's articles of incorporation, which can take time and delay the capital-raising process.
In another example, a startup has authorized 100,000 shares and has issued 80,000 to early investors. If the company plans to hire new employees using stock options but does not have enough authorized shares, it will need to request approval from shareholders to increase the authorized share count.
An example of an insufficient authorized shares clause
Here’s how an insufficient authorized shares clause might appear in a contract or corporate governance document:
“In the event that the Company determines that the number of authorized shares is insufficient to meet the requirements of its current capital raise or employee stock option program, the Company shall call a shareholder meeting to vote on increasing the number of authorized shares, as necessary.”
Conclusion
Insufficient authorized shares occur when a company does not have enough shares available in its corporate charter to issue to investors or meet other needs, such as stock options or capital raises. It is crucial for companies to manage their authorized shares carefully to avoid delays in strategic actions or business operations. For investors and stakeholders, understanding the number of authorized shares and the process for increasing them is vital, as it can affect control, ownership, and the ability to raise capital in the future.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.