Liability (Edexcel A Level Business)

Unlimited liability

• Sole proprietors and partnership owners are fully responsible for all debts owed by the business

• Owners are also legally responsible for any unlawful acts committed by those connected to the business

• There is no legal distinction between owners with unlimited liability and the business

• As a result, these business owners may have to use their own  personal assets to pay debts or legal fees

• E.g. a sole proprietor may need to sell their home to pay  creditors if their business fails

Limited liability

• Owners (shareholders) of private limited companies and public limited companies can only lose the original amount they invested in the business if it fails

• Shareholders are not responsible for business debts

• In most cases, the shareholders cannot be held responsible for unlawful acts committed by those connected with the business

• Companies are  incorporated and owners are considered a separate legal entity to the business 

• This means that if a company fails, the owners would lose their investment (shares) but would not have to use their assets to meet additional debts or legal fees

• E.g. In 2018 construction company Carillion entered liquidation and the shareholders lost their investments

Why is the finance needed?

• Capital expenditure on buildings and expensive equipment will usually require a longer-term method of finance such as a mortgage or share issue

• Revenue expenditure (e.g purchasing raw materials or paying business rates)  is more likely to be funded through a short-term method such as trade credit or overdraft

For how long and how quickly is the finance needed?

• For quick, short-term finance, businesses may use methods such as overdrafts, trade credit, short-term loans or leasing

• If a business needs access to finance over the longer term, methods such as a share issue, debentures, mortgages or grants may be more suitable

Who will lend to the business?

• Start-ups or struggling businesses may find their choice of finance limited and will often pay much more to access it than more established, stable businesses

• Businesses that present more of a risk to lenders may choose to raise finance through venture capitalists, business angels or crowdfunding

• Unlimited liability businesses, as well as businesses that own few assets, often struggle to raise finance as they’re seen as risky

How much will it cost - and how easy is it - to access the finance?

• Methods of finance that attract interest e.g. loans, mortgages and overdrafts are less affordable for businesses when interest rates are high

• Interest-free methods of finance are usually more complex to access e.g share issues and grants

What is the legal status of the business?

• Unlimited liability businesses often struggle to raise finance
  
  • They may be small, own few business assets (e.g. to use as collateral) or have a limited trading record
     
• Lenders (e.g. banks) prefer to lend to more established businesses that own assets
   
• Investors prefer to invest in limited companies as they are often able to obtain a share in the business