Companies under the Companies Act

LAW ESSAY

Part A

James wants to change his business into a company; James will receive many benefits if he chooses to take this option. I am going to talk about the main advantages of changing his business into a company which includes the limited liability that James will be entitled to.

A company is a business organisation that is registered under the Companies Act 1965, this legislation means that the organisation created is subject to different rules. If James incorporates his business into a company it will have two legal effects. The two legal effects are; the company becomes a separate entity or a legal person and secondly the company has perpetual succession which means the company will last until it is liquidated by an order of court. The law treats the persons who own and control the company as separate from the company itself. A company is an artificial person as opposed to a human who is a natural person. Most of the advantages which I am going to talk about stem from this separate entity which is created by means of incorporation.

A company does not die but continues to exist until its name is struck off or dissolved through a legal process known as winding up or liquidation even though without any of its stakeholders. Perpetuity is a major advantage of incorporation as the company can live forever even without its stakeholders. In Re Noel Tedman Holding Pty Ltd (1967) the only two shareholders and directors of the company, a husband and wife died in a traffic accident. The company’s articles required the approval of the directors before shares could be transferred. Since the company still exists, the court allowed the personal representatives of the deceased members to appoint the directors.

The main advantage of incorporating is the limited liability of the company. Unlike a sole trader where the business owner assumes all of the liability, when a business becomes incorporated an individual shareholder's liability is limited to the amount he or she has invested in the company. As a shareholder you can't be held responsible for the debts of the company unless you have given a personal guarantee.

The principle about the company being liable for the company’s debt will only be followed if the shareholders follow the rules and are not involved in any fraudulent activity. This principle of separate personality of a company was established by the House of Lords in Salomon v Salomon & Co. [1897] A.C.22. Salomon had a leather business which he converted into a company, in which he his wife and family took shares. The company became insolvent and was sued. The unsecured creditors who were owed money claimed that the company was a sham and a mere agent for Salomon. The Courts stated the company was a separate legal entity and consequently the company was the only person liable to pay the debts. They upheld Salomon's corporation as properly formed, and a distinct entity, with no evidence of deception or fraud. As a company is a separate legal person all property it owns is that of the company and not the shareholders and likewise its debts are the debts of the company not the shareholders.

Incorporation also allows a company to have more ability to raise money, which may make it easier to grow and develop. While companies can borrow and incur debt like any sole proprietorship, they can also sell shares and raise equity capital, this is a big advantage because equity capital generally does not have to be repaid and incurs no interest.

Incorporation also gives you a tax advantage in the form of tax deferral; a company can defer paying some tax until at a later date. You may be able to realise tax savings if you are in a lower tax bracket or if the tax rates have fallen. If you own a building, you can rent office or warehouse space to your corporation and claim depreciation and other tax deductions for it. Your corporation can in turn claim the rental expense.

Incorporation can offer anonymity to its owners as it enables secrecy when incorporated. Companies are usually much easier to sell and are more attractive to prospective buyers than either a partnership or sole proprietorship. This is due to the fact that a new buyer won't be held personally liable for any wrongdoings on the part of the previous owner. Having a company may also increase credibility as most people feel more confident and secure dealing with a corporation.

I have explained the main advantages that James will occur if he chooses to change his business into a company. The main ...

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I have explained the main advantages that James will occur if he chooses to change his business into a company. The main advantage is the limited liability that James will occur, this means that James will not be held responsible for the companies debt as the company is a separate entity to its members. The case of Re Noel Tedman Holding Pty Ltd (1967) shows you that the company will stay on forever. The case of Salomon v Salomon & Co. [1897] A.C.22 illustrates that the company is a separate entity and that the company will be liable for all debts incurred. Other advantages include factors such as easier to raise capital in the form of selling shares, tax advantages such as tax deferrals and tax deductives. Selling companies are easier due to the limited liability the new owners will occur when purchased. Incorporation also offers privacy and a better image of the company.

Part B

In this section I am going to explain why it is better for James to set up a Limited company (Private Limited Company) rather than a Plc (Public Limited Company). I am going to explain the difference between both types of companies. Both types of companies will have different functions and both will offer different alternatives for different types of businesses. I am also going to discuss why most companies begin as a Plc rather than a Limited Company.

A Limited Company is a registered company which has limited liability, which means the shareholders cannot lose more than their original shareholdings. It cannot offer its shares or debentures to the public. A Limited Company is treated as a separate legal entity to its owner, which therefore means any debt is liable by the company and not the owner. A Limited Company is controlled by the board of directors. They are each held personally responsible for their management and must act in the company's best interests. A Limited Company raises its capital by the sale of shares, although not to the general public. A Limited Company pays out its profits in the form of dividends; these are paid to the shareholders.

If you want to set up as a Limited Company, there are three things you need which include, payment to the Companies House who are the registration body, a company name and a UK address. Part of the registration process involves stating the nature of your new company. This is done in the form of two documents which are the Memorandum of association and the Articles of Association. The Memorandum describes what your company is and what it does and it also includes the objects of the company.

A Plc is similar to a Limited Company in that they both have the same limited liability. A company is registered as a Plc under the provisions of the Companies Act 1980. A Plc has to first raise the sufficient capital, through selling its shares to the public. Before a Plc can start in business or borrow money, the Plc must satisfy Companies House that at least £50,000 worth of shares have been issued and that each share has been paid up to at least a quarter of it's face value. It has to produce a prospectus which explains how the business is ran and what it intends to do in the future. Once all this has been done, the Registrar issues a Trading Certificate which allows the newly formed Plc to start trading.

The main difference between a Plc and a Limited Company is that a Plc may offer to sell its shares to the public. It is not compulsory for a Plc to float its shares as some Plc’s retain ownership of their entire share. Another difference between a Plc and Limited Company is that a Plc has far more capital available, which it can raise through selling its shares to the public on the Stock Market. This means it can develop and expand the business more easily than a Limited Company, which doesn't have the financial resources. It can also benefit from economies of scale because of it’s a large size; all of this should reduce costs and improve efficiency. Other differences are the setup costs with a Plc being more expensive to set up. The set up costs are a major reason why most companies begin as a Limited Company rather than a Plc. As James needs another £70,000 it would be better for him to start as a Limited company as it is inexpensive to set up and he does not have enough capital to start up a Plc. In a Limited Company the ownership is closely controlled and connected, with usually the board of directors being the shareholders, this can result in faster decision making. A Limited Company can also lack capital because they have no share issue and cannot benefit from economies of scale like a Plc. A Plc can have conflicts of interest amongst the shareholders and the board of directors and there is also the possibility of a takeover or merger from anyone who buys shares in the company. Another reason why companies begin as a Limited Company is that a Plc requires two people.

An Unlimited company makes members of the company completely liable for any debts and not the company. This type of company is rare and will have a separate legal body that exists for making contracts and holding property, this will allow changes in company members if there is a resignation or death. The only difference is, the clause of liability in the Memorandum of Association is removed as a result making it an unlimited company. This means that the risk of unlimited liability is also present for members. If you have shares in the company and it is wound up you must pay for the value of your shares and any premiums on them and any company debts not met by the company itself. This type of company will be inappropriate for James because he would be liable for all the debts

A company limited by guarantee can be set up when there are a number of stakeholders whose interests have to be accounted for and where a profit motive is not the prime objective of the organisation. Companies limited by guarantee do not have a share capital. Prospective members are instead required to provide the Board of Directors with a guarantee that they will contribute a fixed fee, in the event that the company has debts when it is wound up. This type of company is unsuitable for James because the income and property of the company will be used towards achieving the objects of the company. No director will be paid a salary or other financial benefits from the company. This type of company will be inappropriate for James because he wants to maximise his profit potential which is completely opposite to what a company limited by guarantee offers. To set up this type of company you also need three or more members which James does not have.

Even though the Liability of both a Limited Company and Plc are the same there are other differences such as, a Plc can only sell its shares on the stock exchange and a Limited Company cannot. A Plc is considered bigger than Limited Companies because they can raise more capital by selling share. Setting up a Limited Company is inexpensive and will fit James’s budget. Setting up a Plc is more expensive as you are required to issue £50,000 worth of shares and a share has been paid up to at least a quarter of it's face value. A Plc can take advantage of its size in the form of economies of scale. Most businesses start of as a Limited Company because they cannot afford to start a Plc and it also requires more than two people. An Unlimited Company will be inappropriate as it offers no liability to James. A company limited by guarantee will also be inappropriate because it is only for organisations where profit motive is not the prime objective.

Part C

An off the shelf company is formed by an enterprise. These enterprises specialise in company formation as the registration of a new company requires careful consideration and knowledge of company law and procedures. These enterprises register large numbers of companies so they can sell them off to anyone who wants a company. An off the shelf company will be registered to the enterprise selling it, the enterprise will have two registrants such as a secretary and a director. The name of the two registrants will then be transferred to the two people nominated by the customer. James could buy an off the shelf company as they are very cheap and is usually a very simple process. Off the shelf companies are not offered in some European countries and usually results in the person having to employ a legal advisor at about ten times the cost of a shelf company. A disadvantage may be the constitution of the company might not suite the customer’s requirements. The main advantage of forming a company is that the customer can choose whatever constitution that best suits them, this is why it is a shame that an off shelf company cannot offer this to the customer.

James can easily buy an off shelf company, it will be relatively cheap and will be in James’s budget. The only disadvantage will be the constitution of the company will not be specifically designed to meet James’s needs. James can spend time looking for an off shelf company which suits his needs as there are plenty around.

Part D

James would have to assign the benefit of his insurance policy on the factory, to the company because of many reasons. When James incorporates his business into a company, the company becomes a separate entity from its owners, meaning the company will be liable for any debts and not the company. Becoming a separate entity or corporate personality refers to the fact that as far as the law is concerned a company really exists. A company can sue and be sued in its own name, hold its own property and crucially be liable for its own debts. It is this concept that enables limited liability for shareholders to occur as the debts belong to the legal entity of the company and not to the shareholders in that company. An example of the company being a separate entity from its owners and being liable for debt could be the case of Macaura v Northern Assurance Co. (1925) AC 61.

In Macaura v Northern Assurance Co. (1925) AC 619, Mr Macaura owned an estate with some timber which caught on fire. Mr Macaura tried to claim under the insurance policy, but the insurers refused to pay out arguing that he had no insurable interest in the timber, as the timber belonged to the company. The issue arrived before the House of Lords who found that the timber belonged to the company and not Mr Macaura. Even though he owned all the shares in the company he had no insurable interest in the property of the company. The corporate personality facilitates limited liability by having the debts belong to the company and not to the members. This case clearly shows that James needs to insure the factory on to the company also, as if an accident did appear the courts could say that factory belongs to the company and not James. The factory would belong to the company, as all assets belong to the company as it is a separate entity.

The case of Lee v Lee’s Air Farming (1961) AC 12 was all about Mr Lee who was the director of the company who also owned all the shares in the company. Mr Lee died and his wife tried to claim compensation for the death. The courts argued that Mr Lee was not a worker. The case was bought to another court who found that Mr Lee was an employee due to contract obligations. This case shows that the company and its employee are distinct legal entities and therefore capable of entering into legal relations with one another. This case shows that even if the employee owns all the shares in the company he is still separate from the company.

I have shown why it is important for James to insure the factory to the company as well as under his name. It will be important because the courts would argue that the company belongs to the company and not to James, even if he owns all the shares in the company. The case of Macaura v Northern Assurance Co. (1925) AC 619 is a clear example of how the courts interpret the separate personality of the company. There have been other cases where the courts have demonstrated the significance of having an artificial legal personality, such as in Lee v Lee’s Air Farming (1961) AC 12. In this case the court had to decide whether the company had employed Mr Lee as a worker and whether Mr Lee’s wife was entitled to compensation from the company which was owned by her husband. I think this separate personality has many effects such as limited liability which we talked about earlier in this essay and perpetual succession, which means companies can exist indefinitely. Limited liability and separate legal personality is not the same thing as limited liability is the logical consequence of the existence of the separate personality. It was not until the celebrated case of Salomon v Salomon & Co. [1897] A.C22 that the House of Lords held that a company was in the eyes of the law a different personality from its members.