AS A Level Business: Introduction To Limited Liability Companies

• Limited liability companies are often simply known as companies
• Companies are sometimes confused with business
• While all companies are businesses not all businesses are companies
• There are many other business forms besides companies including, for example, partnerships and sole traders
• As the title of this posts suggests, companies are characterised by limited liability
• To understand what this means you need to understand the basic structure of a company
• The capital of a company is divided into units called shares
• Investors in a company are therefore often known as shareholders
• Because companies often have a large number of shareholders it is often not feasible for all shareholders to be involved in the day to day operations of the business
• Unlike in the case of sole trader businesses and partnerships where the owners run and control the business
• When it comes to companies, shareholders, have to select a group of individuals known as the Board of Directors to run and control the business on their behalf
• This means that in companies there is often a divorce between ownership and control i.e.
• Those who run the business are often separate from, and not, the people who own (invested) in the business
• Because in other forms of businesses such as sole trader businesses, the owners are involved in the day to day running of the business
• Including the signing of contracts and making of decisions
• It makes sense that if the business incurs a liability (debt) the owners would be aware of how this debt was incurred and
• Would, therefore, be obligated to pay it because there were probably involved in incurring the debt
• It would still be fair for the owners to lose even their personal fortune and property in settlement of business debts
• Creditors are therefore allowed to go after the personal fortunes and property of the owners of these businesses in the process of recovering the amounts that they are owed in the event that the businesses of these owners do not have sufficient funds to settle the amounts creditors are owed
• We call this unlimited liability
• We say the owners/investors of businesses such as sole traders and partnerships usually have unlimited liability
• This means that the owners of these businesses can lose their personal property in the event that they incur a liability, these business owners can lose their personal fortunes and property in settlement of business debts (liabilities)
• We have already pointed out that when it comes to companies things are a little different
• There is usually a divorce between ownership and control
• Those who own the business do not necessarily control its day to day activities
• As these companies started to grow into vast entities one thing became clear
• It would be unfair to make the owners (shareholders/investors) of these businesses accountable to liabilities that they were not involved in incurring
• Often because of the size of companies owners would not be involved let alone aware of each contract or liability or how it was incurred
• In the event of a company incurring a large liability, it would be unfair still to punish shareholders who are not even aware of how the liability was incurred by allowing creditors to after their personal property
• However, as has already been said in our introduction to business studies, shareholders are entrepreneurs
• Entrepreneurs are taking a risk by starting a business
• There is a risk that they will lose all the amount they have invested (capital)
• So a compromise is reached shareholders lose the amount they invested but not their personal fortune or properties in settlement of company debts
• We can this limited liability
• This is because when it comes to customers the liability of the shareholders is limited to the amount invested/stated by applicable law
• Strictly speaking, it is not accurate to say liability is limited to amounts invested only due to the way companies operate
• Sometimes not all of a company’s issued share capital has been paid up i.e.
• Shareholders are given shares on credit
• It means shareholders owe the company
• Creditors are entitled to these amounts in the event pursuing their debts
• Now can concisely define limited liability
• Limited liability is a legal protection enjoyed by the shareholders of private and public limited companies where their liability to the company’s debts and obligations is limited to the par value of their fully paid-up shares
• It is shareholders/investors who have limited liability, not the companies themselves
• Companies have unlimited liability and are obligated to settle the full amounts of all liabilities that they incur
• While the concept of limited liability is common to all companies, not all companies are the same
• The exact features of companies depend upon the jurisdiction in which they are found
• However, there are generally two types of companies:
  1. Public Limited Companies
  2. Private Limited Companies

• Companies are the most dominant form of business because their structure allows them to raise vast amounts of capital
• This doesn’t mean that they are the most numerous type of business, that honour belongs to the sole trader businesses

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