Let’s say you’re a business owner. You had an attorney form your corporation years ago. Now you’re selling your company, or you’re retiring and your shares are getting bought back under the buy-sell agreement. The buyer asks you to surrender your stock certificate. But you can’t find it. You could swear you filed it somewhere but you’ve turned your office upside down and it’s nowhere to be found. So you have to sign this thing called an affidavit of lost certificate, get a new certificate issued, and then surrender that certificate to the buyer. What a pain.
And the same thing goes for the employees who’ve been issued shares. Ideally you would have held their certificates until their shares vested, but many times companies forget to do that and give the certificate to the employee. Then when the employee leaves, she can’t find her stock certificate. And she’s often unwilling to go through the hassle of signing an affidavit. Or simply refuses to give back the certificate. Also a pain.
It doesn’t have to be this way. Shares don’t have to be represented by a paper certificate. We just continue to use certificates because that’s the way it’s always been done. But more and more business attorneys (including myself) are getting tired of shareholders losing their stock certificates, and are starting to recommend switching over to shares with no certificates, technically referred to as “uncertificated” shares, but more casually called electronic or certificateless shares.
LLCs have been doing this pretty much since the invention of the LLC. And publicly traded corporations have been doing it for decades. If they can do it, why can’t privately held corporations?
The certificateless system can be adopted from the beginning when a new corporation is formed, or an existing corporation can switch over to electronic shares. For a Delaware corporation, the process is fairly simple because Delaware law imposes few requirements. A California corporation, however, must adopt a system of recording issuance and transfer of shares that meets certain requirements under California law. This requires an amendment to the bylaws, a revised stock ledger, something called an “Initial Transaction Statement,” etc.
The ownership of the shares is recorded and tracked in a stock ledger. It’s very important for the company to keep the stock ledger up-to-date. You can do it yourself or have your lawyer do it, or you could subscribe to one of the on-line systems like Carta (formerly E-Shares), or CapShare (part of Shareworks by Morgan Stanley) for a monthly fee.
Once you’ve switched over, the system is easy to administer and does away with the hassle of keeping track of those nasty paper certificates. Feel free to contact me if you have any questions or feedback about electronic stock.
This article is not intended and should not be relied upon as legal or tax advice pertaining to any specific matter. You are encouraged to seek competent legal and tax counsel before proceeding with any transaction involving any of the matters discussed above.