Companies (OCR GCSE Business)

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Lisa Eades

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Business Content Creator

What is Limited Liability?

Sole traders and partners have no legal protection from financial loss as a result of business failure
- The business assets and the owner's personal assets are viewed as being the same
- This is known as unlimited liability
- If a business runs into financial difficulty, the personal assets of owners may be used to pay debts
Companies offer limited liability protection to their owners
- The assets of the owners, known as shareholders, are considered to be separate from those of the business
- They cannot be used to meet business debts
- Shareholders may lose their initial investment in the event of business failure

Comparing limited and unlimited liability

A Comparison of Unlimited & Limited Liability

Liability	Description	Implications
Unlimited liability	Sole traders and partners 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 Shareholders are not held responsible for unlawful acts committed by the management or employees of the company	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

Liability

Description

Implications

Unlimited liability

Sole traders and partners 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

Shareholders are not held responsible for unlawful acts committed by the management or employees of the company

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

Private Limited Companies

A private limited company is a business that is owned by one or more shareholders
- The business name is suffixed with 'Limited' or 'Ltd' in the UK
- Shareholders are often family members or close friends
- Shareholders are usually also directors who run the business on a day-to-day basis
- Private limited companies are registered with Companies House and need to submit details of financial performance and changes in ownership each year

Diagram: Examples of UK-based private limited companies

Some of the UK's best-known brands, including River Island, Iceland and JCB, operate as private limited companies

Some of the UK's best-known businesses, including River Island, JCB and Specsavers operate as private limited companies

Private limited companies may be more suitable than sole traders or partnerships if setting up the business involves significant capital investment, or involves some risk
- The owners personal assets are protected as they have limited liability
- Most private limited companies are owned and controlled by just one person (just like sole traders) who has made the decision to reduce their personal financial risks
Some large businesses choose to remain as private limited companies
- Family shareholders can retain control over the business
- Shareholders prefer to avoid the scrutiny that comes with flotation
- They may have little need to raise large sums of capital and can fulfil their objectives as a private limited company

Evaluating the private limited company model

Evaluation of Private Limited Companies

Advantages	Disadvantages
Shareholders benefit from limited liability for debts incurred by the company Access to greater finance from investors and lenders who consider limited companies to be less risky Ownership can be easily transferred by selling shares Business continuity, as the business does not die with its original owner	It is more expensive and time-consuming to set up as legal advice is often required More complex operational rules than sole traders or partnerships Annual financial reporting and auditing are required Shareholders may have little control over the company as the founder usually imposes their own agenda

Examiner Tip

A common misconception is that private limited companies are large. They could be large businesses but equally, they can consist of just one key shareholder who has chosen this legal structure as a way to protect their personal assets with limited liability.

Public Limited Companies

Public limited companies are large businesses that sell shares publicly on the stock exchange
- Public limited companies have the suffix 'PLC' in the UK
- Selling shares on the stock exchange for the first time is called flotation or going public
- Flotation is a complex legal process that allows large amounts of share capital to be raised
  - E.g. London Tunnels, which turns unused Second World War walkways and shelters into tourist attractions, expected to raise £30 million through its flotation in early 2024

Evaluating the public limited company model

Evaluation of Public Limited Companies

Advantages	Disadvantages
Significant amounts of capital can be raised during flotation Risks are spread among a large group of shareholders Company shares can be bought and sold easily on a public stock exchange A board of directors, made up of individuals from outside of the company management and major shareholders, can bring in expertise/perspectives that can promote growth PLCs have high visibility with customers, suppliers, and potential investors, which can help grow its customer base As large businesses, PLCs may be able to dominate the market and benefit from economies of scale	PLCs must comply with complex legal and financial regulations, such as: Completing regular financial reports Maintaining accurate accounting records Holding annual general meetings Setting up a public limited company can be expensive Fees for legal and accounting advice Costs of the flotation, such as producing a prospectus Short-term financial performance (e.g. paying staff less) is prioritised over long-term strategic planning (retaining talented staff) to maximise profits for shareholders Hostile takeovers are a risk, as shares can be bought by rival businesses

Advantages

Disadvantages

Significant amounts of capital can be raised during flotation
Risks are spread among a large group of shareholders
Company shares can be bought and sold easily on a public stock exchange
A board of directors, made up of individuals from outside of the company management and major shareholders, can bring in expertise/perspectives that can promote growth
PLCs have high visibility with customers, suppliers, and potential investors, which can help grow its customer base
As large businesses, PLCs may be able to dominate the market and benefit from economies of scale

PLCs must comply with complex legal and financial regulations, such as:
- Completing regular financial reports
- Maintaining accurate accounting records
- Holding annual general meetings
Setting up a public limited company can be expensive
- Fees for legal and accounting advice
- Costs of the flotation, such as producing a prospectus
Short-term financial performance (e.g. paying staff less) is prioritised over long-term strategic planning (retaining talented staff) to maximise profits for shareholders
Hostile takeovers are a risk, as shares can be bought by rival businesses

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