Most UK limited companies are incorporated as private companies that are limited by shares. This type of company is suitable for most commercial purposes. It is an ideal choice both for a freelancer or contractor who wants to start a company and for an established business that intends to expand its activities.
In this article we will focus on the main distinguishing features of private companies limited by shares which should be considered when choosing the legal form of your business.
A company as a legal entity
The main distinction between a company, on the one hand, and a sole trader and most kinds of partnership, on the other, is that a company exists as a legal entity which is separate from its owner or owners. In other words, it has its own “legal personality”.
A Private company limited by shares, as a legally distinct entity, has its own property, profits and liabilities. The company’s assets and also its liabilities therefore belong to the company, not to its shareholders.
In the same way, the company acts in its own name as a claimant or defendant in any court case that is brought by it or against it.
What is meant by “private”?
A company limited by shares can be established as a private limited company or a public limited company (PLC). According to the Companies Act 2006, a “private” company is any company that is not a “public” company. The main difference between private and public companies is the way in which their shares can be sold and traded.
A public limited company can sell its own shares to the general public and its shares can be quoted on the stock exchange, through which its shares may be traded – i.e. bought and sold – by members of the public and by other companies. A private limited company may only sell shares in itself privately to the desired investors. A private company’s articles may also restrict the members’ right to sell their shares to third parties.
The capital of a private company limited by shares is divided into shares which are allotted to members of the company.
The proportion of the total number of shares in the company that are held by a member of (i.e. a shareholder in) the company measures that member’s participating interest in and control over the company, including his-or-her voting rights and the right to receive his-or-her share of the company’s distributed profits i.e. dividends.
A company must issue at least one share upon its incorporation. Additional shares may be issued later, for example if a new shareholder joins the company. There is no limit to the number of shares that a company may issue. The ownership structure can also change through the transfer of existing shares.
The total value of shares that a company is authorised to issue constitutes its authorised capital. The value of the shares that the company has actually issued is called its issued capital. If the company has received the full nominal value of the shares that have been issued then its issued capital is equal to its paid-up capital. The share capital is not linked to the company’s market value, i.e. how much the company may be worth.
When registering a company you must submit to Companies House details about its initial shareholdings, i.e. a statement of capital, which includes the number of shares of each type and their total value together with the names and addresses of all shareholders.
Most companies issue ordinary shares, with each share having an equal right to vote and receive dividends. Ordinary shares are the most common type of shares that give a shareholder the right to:
- One vote per share on company decisions.
- Receive a share of profits as dividend payments.
- Receive a share of capital, for example if the business closes down or is sold.
A company can also issue different classes of shares which impart different rights to vote, different entitlements to receive dividends and different rights to surplus assets in case of company liquidation.
A private company limited by shares is owned by its shareholders. The shareholding of a company shows its ownership structure.
A company limited by shares must have at least one shareholder, who can also be a director. If there is only one shareholder then he-or-she owns 100 per cent of the company. There is no maximum number of shareholders.
A shareholder does not necessarily run the business on a day-to-day basis, except where the shareholder is also a director.
The powers of shareholders may include the right to:
- appoint and remove directors;
- determine the directors’ powers and duties;
- approve or veto certain decisions, for example to borrow funds or to dispose of the company’s assets;
- instruct the directors to take, or refrain from taking, specified action;
- make changes to the company’s constitutional documents.
Limitation of liability
The limited liability of shareholders means that their personal finances are protected against liability for company debts should the company become insolvent. This is a significant benefit to carrying out business through a limited company, rather than as either a sole trader or as a partner in a partnership.
The amount that can be recovered from a company’s shareholders is limited to the value of any shares which are unpaid by such shareholders (if any) at the time when the company enters insolvency proceedings.
Insofar as an individual share may be of any value, a company may choose a low share value, for example £1, to limit the shareholders’ liability to a reasonable amount.
There are some exceptions to the principle of limited liability, for example where a shareholder has given personal guarantees under the company’s contractual obligation. Other examples include fraud or other kinds of misfeasance committed by those involved in the management of the company, in which case a court can impose personal liability on such persons.
Management of the company
A private company limited by shares is managed by its directors. These directors are appointed by the shareholders and, in a small company, these are often the same people. The directors have various legal duties in respect of the company, among which are annual filings and the paying of taxes.
A limited company must have at least one director, who must be a natural person i.e. an actual person and not any other kind of entity. A company director may reside outside the UK.
- Easy: Setting up a private company limited by shares is relatively cheap and straightforward.
- Simple: To set up a company limited by shares, only one shareholder and one director is required and the same person can hold both positions.
- Limited financial liability: Shareholders are personally responsible for company debts only up to the nominal value of their shares. In most cases, the shareholders’ personal assets are legally protected from claims by the company’s creditors in the case of company liquidation.
- Flexibility: The founders are free to establish the desired structure of ownership and management of the company within the law. In addition, the shareholders may define special terms regarding their internal relationships with each other and with the company in the shareholder agreement.
- Profit distributions: A private company limited by shares is the optimal structure for a company that is set up for generating profits for its shareholders. A company may, at its own discretion, distribute to its shareholders either all or part of its business profits after taxation.
- Transferability: The business, including company’s physical assets, can be transferred to new owners by means of a transfer of shares.
- Business image: With all other things being equal, incorporated companies are generally more credible than sole proprietors.
- Appreciating asset: The company itself may become a valuable asset that can be sold by its owner in the future or may be inherited by the owner’s family members.