Why would a business choose to register as a company? Setting up a business as a company has many advantages - including limited liability. To set up your company as a business, you need to register it with a government agency. This process of registering your business as a company is known as incorporation. Now, let's take a look at what this means in more detail.
What limited liability means
Limited liability means that the company is a separate legal entity to its owner or owners. The company as an 'individual' can own assets, equipment, or offices, and is responsible for its own financial losses and debts.
This is the opposite of a business that is set up as a sole trader.
Every company is owned by shareholders, who invest in the business when they buy shares. In case the company fails or goes bankrupt, shareholders cannot lose more money than they initially invested in the company. For instance, they will not lose their personal assets, like their house, if the company fails. This is known as limited liability. The company is a separate entity from its shareholders and it is only responsible for the money that it owes. Limited liability is the opposite of unlimited liability.
Limited liability is important for companies, as it helps them raise money. With limited liability, investors only risk losing the money they have invested in shares. As a result, shareholders are more likely to invest in a company if they know they will not lose their personal assets.
What does it mean to be a private limited company?
Many businesses choose to operate as private limited companies. Unlike sole proprietorships or partnerships, a limited company is its own separate legal entity. This means that the owners or shareholders are not personally liable for the losses of the company. A private limited company can be owned by an individual, a group of individuals, or another corporate entity (another company).
Within private limited companies, the owners can decide who they sell shares to in the future. For example, if the company is a family business, the owners have the power to limit the sale of shares exclusively to their family. As a result, in the event of selling shares, shareholders of private limited companies cannot publicise the sale of their shares and have to sell them privately.
Specsavers is an example of a private limited company in the UK. Specsavers was originally launched by a couple, around forty years ago. They worked together to expand their business to over a dozen countries worldwide. The reason Specsavers remains a private limited company is due to the couple wanting to keep ownership and control of the company within the family. Other than ownership, there are certain reasons why the owners would want to keep their company private, rather than public (see below). One of these reasons is the long-term interest of the company.
What it means to be a public limited company
Public limited companies tend to be large businesses and many of them are well-known internationally. Public limited companies also benefit from limited liability.
Similar to private limited companies, public limited companies are owned by shareholders. Owners of the company, however, cannot limit who they sell shares to, unlike within private limited companies. Shareholders can sell their shares to whoever they want, which could lead to potential problems, for example if another company or individual starts buying up all the shares. If this happens, it's called a takeover.
The price per share of public companies is publicly accessible to everyone, unlike those of private companies. Companies can attempt to advertise their shares in order to raise capital quickly.
Characteristics of a public limited company
You probably already know dozens of public limited companies, as they tend to be large-scale and well-known. Good examples include Apple, Amazon, and Nestlé.
Advantages and disadvantages of limited liability
Limited liability companies, as opposed to sole traders or partnerships, have some advantages and some disadvantages.
Advantages
There are many advantages to being a limited liability company. Some of the key advantages are:
Owners are not personally responsible for the losses and debts of the company - limited liability.
The company is a separate legal entity.
No restriction on the number of owners.
Easier access to capital and resources (compared to a sole proprietorship).
The business can raise finances through share capital.
Flexibility when it comes to company management.
The potential to benefit from economies of scale (lower per-unit cost as production increases).
Disadvantages
However, there are also some disadvantages to consider when setting up a limited liability company. Some disadvantages:
It is expensive to set up if the company is just starting.
It also takes longer to set up due to the formal company registration process.
Taking care of accounting and taxes is more complicated for a limited liability company than for certain other forms of business.
You must pay your shareholders dividends. You cannot keep all the profits your company makes.
The interest of shareholders and owners could differ, leading to issues with the long-term outlook of a business.
Takeovers are also a possibility for public limited companies, which can lead to a loss of control for the current owners.
Limited Liability - Key takeaways
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