Forfeited shares are shares revoked by the share issuing company when the shareholder fails to meet the terms and conditions mentioned in the purchase agreement. In most cases, forfeiture of shares happens when the shareholder fails to pay the subscription amount to the issuing company. That being said, there could be other reasons for forfeiture of shares too.
So, if you have just started investing in shares, this blog is for you. Keep scrolling to understand the effects of forfeiture of shares.
When you buy shares from a company but fail to meet or neglect their purchase agreement, your shares could be forfeited. Once forfeited, you would no longer be considered the owner of the shares.
Forfeiture of shares mostly occurs when shareholders fail to pay the call money or the instalment amount to the share-issuing company. Another reason for share forfeiture could be employees having Employee Stock Ownership Plan (ESOP) quitting the company before the vesting period.
Once your shares are forfeited, you won’t be earning capital gains or dividends. However, the balance amount you owe to the issuing company would be revoked upon forfeiture of shares.
Consider the following example of forfeiture of shares to understand its working principle:
Company A makes a public offer of its equity shares for Rs.100 per share (face value). Mr Kumar subscribes 1000 shares from Company A. At the time of subscription, he has to pay 25% of the shares’ face value. The rest, 75%, which he owes to the company, can be paid in instalments.
Mr Kumar pays the first instalment in time. However, he cannot make arrangements for second and third instalments. Before every instalment, Company A makes a call for advance payments. As he is unable to pay the pending amount, Company A forfeits the shares of Mr Kumar.
Thus, he loses all his shares and the sum of money paid as a subscription.
Forfeiture of shares is done according to vesting schedules. Any company that tends to forfeit shares must follow at least one of the following two vesting schedules.
Also Read: Understanding Bonus Shares: Meaning, Types and Eligibility
When a company forfeits shares, the following consequences take place:
Once forfeited, these shares belong to the companies again. The concerned company can now reissue these shares at par, premium or discount value. Here is how companies reissue forfeited shares.
A company can reissue forfeited shares at par, premium, or a discount. The accounting methods will vary for different cases of forfeiture.
1. Forfeiture of Shares at Par
The shares which were initially issued at their face value are considered here. The entries at the time of the first issuance are reversed in journals during reissue.
While reissuing, entries are made according to the number of forfeited shares and the due amount of shareholders.
2. Forfeiture of Shares at a Premium
If shareholders fail to pay a premium, the company cancels them instead of reversing. However, the journal entries are done differently in cases of paid and unpaid premiums.
3. Forfeiture of Shares at a Discount
The original amount becomes the forfeiture amount here. As per records, the discount on reissued shares must be equal to the forfeited amount and discount initially placed on these shares.
Forfeiture of shares can be beneficial for companies. Below are a few benefits of forfeited shares for organisations:
Here are certain points that could lead to forfeiture of shares:
Also Read: Understanding Cyclical Stocks: Meaning, Benefits and How to Invest in Them
Before forfeiting shares, companies notify the shareholders twice for the call money or the instalment amount. If any shareholder cannot pay the instalment amount within the last due date, companies forfeit their shares. These forfeited shares now become a liability that companies can reissue at lower rates.
Forfeiture of shares is quite a loss for investors. Therefore, to avoid such a scenario, investors are required to make an informed decision before buying company shares.
Ans. Call money refers to a short-term financial loan with interest payable at once whenever the lender demands it.
Ans. An employer can contribute or “vest” a portion of your money, ownership, or other assets to an employee’s retirement. Vested shares are granted over a pre-determined period, after which the employees can acquire their rights.
Ans. When shares face forfeiture, the defaulter loses their ownership of the shares and membership in companies. This means the shareholder will no longer receive dividends or capital gains.
Ans. In case of forfeiture, issuing companies revoke their shareholders’ ownership when they fail to pay required instalments. In contrast, the shareholders themselves surrender shares if they cannot pay back the call money by a certain due date.
Ans. After a company forfeits shares, it becomes its liability and must be disposed of soon. Therefore companies pass a resolution through their board of directors to reissue shares. Unlike usual allotment, these forfeited shares are reissued like a sale or auction.
This article is solely for educational purposes. Navi doesn't take any responsibility for the information or claims made in the blog.
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