Securities premium account: Meaning, Criticisms & Real-World Uses

What Is Securities Premium Account?

A securities premium account is a distinct reserve account found on a company's [balance sheet] that records the amount of money received by a company when it issues its shares at a price greater than their stated [par value] or face value. This account is an integral component of [shareholders' equity] and falls under the broader category of [corporate finance and accounting], reflecting capital contributions made by investors that exceed the nominal value of the shares themselves.

When a company issues shares, the par value typically represents a minimum legal capital amount. Any amount paid by investors above this par value is recognized as a premium and is credited to the securities premium account. This practice is common in [equity financing] and ensures transparency in how funds are raised beyond the basic share capital. The securities premium account often carries statutory restrictions on its use, distinguishing it from freely distributable profits.

History and Origin

The concept of a securities premium account, also frequently referred to as a "share premium account," has deep roots in company law, particularly within jurisdictions that adhere to the British legal tradition. Historically, company statutes mandated that a company's stated capital, represented by the par value of its shares, be preserved and not distributed to shareholders, thereby protecting [creditors]. When shares were issued at a price above their par value, the excess amount could have been treated as a regular profit, potentially allowing its distribution. To prevent this erosion of effective capital and to ensure that the entire proceeds from share issuance remained within the company, legal frameworks evolved to require that this premium be set aside in a special, non-distributable reserve.

A significant example of this legal evolution is enshrined in the UK's Companies Act 2006. Section 610 of the Companies Act 2006 explicitly states that if a company issues shares at a premium, a sum equal to the aggregate amount of these premiums "must be transferred to an account called 'the share premium account'."¹², ¹³ This legislation, which came into force in stages, including key provisions on October 1, 2008, solidified the legal treatment and restrictions surrounding the share premium account.¹¹ This legislative approach ensures that this capital reserve cannot be freely distributed and serves as a safeguard for the company's financial base and for its creditors.¹⁰

Key Takeaways

The securities premium account represents the amount received by a company from investors for shares issued in excess of their par value.
It is a component of shareholders' equity on the balance sheet, reflecting a portion of the total [share capital] contributed by owners.
In many jurisdictions, amounts held in the securities premium account are generally non-distributable as dividends and are subject to legal restrictions on their use.
Funds in this account can typically be used for specific purposes, such as writing off expenses related to share issuance or issuing [bonus shares].

Formula and Calculation

The calculation of the securities premium account is straightforward:

[
\text{Securities Premium per Share} = \text{Issue Price per Share} - \text{Par Value per Share}
]

And the total amount in the securities premium account (resulting from a specific issuance) is:

[
\text{Total Securities Premium Account} = (\text{Issue Price per Share} - \text{Par Value per Share}) \times \text{Number of Shares Issued}
]

Where:

Issue Price per Share is the price at which the company sells its shares to investors.
Par Value per Share is the nominal or face value of each share, typically a very small amount set by the company's charter.
Number of Shares Issued is the total quantity of new shares sold by the company.

This formula demonstrates how the premium above the [par value] contributes to this specific equity reserve.

Interpreting the Securities Premium Account

The securities premium account provides insight into a company's historical capital-raising activities. It shows the extent to which investors have valued the company's shares above their nominal legal value during issuance. A substantial securities premium account can indicate successful past [equity financing] rounds, where the company commanded a premium for its shares in the market.

From a regulatory standpoint, the existence and size of this account are crucial. Regulations in many countries, such as the UK Companies Act, place strict limitations on the use of this account. This ensures that the capital raised through premiums is not readily available for distribution as [dividends] or for general operational expenses, thus preserving a company's capital base and protecting its [creditors]. Analysts and investors may examine this account as part of a comprehensive review of a company's [shareholders' equity] and capital structure.

Hypothetical Example

Consider "InnovateTech Inc." which decides to issue new shares to raise capital.
InnovateTech's shares have a [par value] of $0.10 per share.
The company successfully issues 500,000 new shares to the public at an issue price of $20 per share.

To calculate the amount credited to the securities premium account:

Determine the premium per share:
Premium per Share = Issue Price per Share - Par Value per Share
Premium per Share = $20.00 - $0.10 = $19.90
Calculate the total amount for the securities premium account:
Total Securities Premium Account = Premium per Share × Number of Shares Issued
Total Securities Premium Account = $19.90 × 500,000 = $9,950,000

After this transaction, InnovateTech Inc. would add $9,950,000 to its securities premium account under the [shareholders' equity] section of its balance sheet. The nominal value of $0.10 per share multiplied by 500,000 shares ($50,000) would be added to the common [share capital] account.

Practical Applications

The securities premium account has several practical applications across finance and [accounting standards]:

Initial Public Offerings (IPOs) and Secondary Offerings: During an [initial public offering] or a follow-on offering, shares are almost always issued at a price significantly higher than their par value. The premium collected is then recorded in this account. For instance, companies like Apple Inc. report "Common stock and additional paid-in capital" in their financial statements, which includes the premium received on share issuances. A⁸, ⁹pple's Consolidated Statements of Shareholders' Equity in its 10-K filings show the accumulation of these capital contributions over time.
*⁷ Share Issue Expenses: Funds from the securities premium account can often be used to write off expenses incurred during the issuance of shares, such such as underwriting fees and legal costs.
Issuance of Bonus Shares: In many jurisdictions, the securities premium account can be utilized to issue fully paid [bonus shares] to existing shareholders. This is a common method for companies to capitalize their reserves without distributing cash.
Capital Reduction Schemes: While generally restricted, specific legal processes, such as a [capital reduction] approved by a court, may permit the cancellation or reduction of balances in the share premium account under certain conditions.
*⁶ Regulatory Compliance: Companies must adhere to strict [accounting standards] and corporate laws regarding the maintenance and use of the securities premium account. This ensures proper [corporate governance] and protects stakeholders. The U.S. Securities and Exchange Commission (SEC) provides guidance, such as Rule 5-02.30 of Regulation S-X, which addresses the presentation of items within stockholders' equity, broadly encompassing these capital components.

⁴, ⁵## Limitations and Criticisms

Despite its importance in corporate finance, the securities premium account comes with certain limitations and criticisms, primarily due to the statutory restrictions imposed on its use. The primary drawback is its non-distributable nature in many legal frameworks, which means companies cannot freely use the funds in this account for general operations, to pay regular [dividends], or to buy back [treasury stock] without undergoing specific legal processes like a [capital reduction]. This lack of flexibility can sometimes be seen as a constraint on a company's financial management.

For example, while the funds represent real cash inflow from investors, they are legally ring-fenced. This contrasts with funds in [retained earnings], which can generally be distributed as dividends or used for various corporate purposes, subject to board approval and solvency tests. Critics sometimes argue that such strict legal distinctions between different components of [share capital] can complicate financial reporting and reduce managerial discretion, even when a company is financially sound. However, the legal rationale behind these restrictions is primarily to protect [creditors] by maintaining a strong, stable capital base within the company. Legal experts at the Columbia Law School Blue Sky Blog have discussed the complexities of capital rules, particularly in jurisdictions like Delaware, which emphasize the protection of capital while allowing for various corporate actions. M³ismanagement or improper utilization of the securities premium account can lead to significant regulatory penalties and even director liability.

Securities Premium Account vs. Additional Paid-in Capital

The terms "securities premium account" and "additional paid-in capital" (APIC) are often encountered in financial reporting, and while closely related, their usage can vary depending on the jurisdiction and specific accounting standards.

The securities premium account (or share premium account) is a specific statutory reserve, predominantly used in jurisdictions influenced by UK company law. It strictly refers to the excess amount received by a company over the [par value] of its shares during their issuance. Its definition and permissible uses are often explicitly detailed in company legislation, such as the UK Companies Act 2006.

Additional paid-in capital (APIC), on the other hand, is a broader term commonly used in the United States under U.S. Generally Accepted Accounting Principles (GAAP). While it includes the premium received on the issuance of shares, APIC can also encompass other capital contributions from shareholders not directly related to the nominal value of shares. This might include capital contributions from the exercise of stock options, certain reclassifications from [retained earnings], or other transactions that increase shareholders' equity without increasing common [share capital] at par value. The SEC's Regulation S-X, Rule 5-02.30, outlines how "additional paid-in capital and other additional capital" may be combined with the stock caption to which it applies, illustrating its broader scope. T¹, ²herefore, while the premium on shares is a component of APIC, APIC itself can include other sources of capital beyond just this premium. For example, a [stock split] does not typically impact APIC directly, but other equity changes might.

FAQs

Is the securities premium account considered a profit?

No, the securities premium account is not considered a profit or revenue. It is a capital reserve, representing the amount of capital contributed by shareholders over and above the par value of the shares they purchased. It is part of the [shareholders' equity], not the company's accumulated earnings or [retained earnings].

Can funds from the securities premium account be distributed as dividends?

Generally, no. In many jurisdictions, laws explicitly restrict the distribution of funds from the securities premium account as cash [dividends]. This is a legal safeguard to ensure that the capital base of the company remains intact, protecting the interests of [creditors]. Any distribution usually requires a formal [capital reduction] process, which often involves court approval.

How does the securities premium account affect a company's balance sheet?

The securities premium account increases the total amount of [shareholders' equity] on the balance sheet. It is typically presented as a separate line item under the equity section, alongside common stock, preferred stock, and [retained earnings]. It reflects the premium received from issuing shares above their nominal value, contributing to the overall strength of the company's capital structure.