LESSON 3

JOINT STOCK COMPANIES/ LIMITED LIABILITY COMPANIES

 This is a business unit / an association comprising of two (2) to fifty (50) or seven (7) to no maximum number of members who have contributed capital through buying shares to carry out business activities with the aim of making profits.

(It is a business unit owned by a number of individuals (shareholders) who contribute capital and whose liability for the debts of the company is limited to the nominal or face value of the shares held by them). 

These members are called shareholders. They have limited liability implying that their liability for debts of the company is limited to their capital contribution.

A share is a unit of capital contributed to a joint stock company with the aim of earning dividends or profits. The shareholders get dividends from the profits made by the company at the end of each year.

There are two types of limited liability companies:

• Public limited company
• Private limited company

Public limited company

This is a business unit comprising of a minimum of seven (7) and no maximum limit on the number of shareholders who contribute capital with an aim of making profits.

Features of a public limited company

• They have a minimum of seven and no maximum number of shareholders.
• They have an entity of their own, quite separate from the members that constitute it. It is a legal entity in that it exists on its own and has its property. It can sue and can be sued.
• The shares are freely transferable through the stock exchange market i.e. one shareholder can sell any of the shares or all the shares held by him to another person without seeking permission from other shareholders or directors.
• The company is free to sell shares to the members of the general public provided the necessary requirements have been fulfilled.
• The company is not faced by bankruptcy or insanity.
• The capital of the firm is raised through the sale of shares to the public and is called share capital. (Their capital is divided into units of equal value and each unit is called a share).
• The shareholders are the owners or members of the company.
• The shareholders have limited liability i.e. members property cannot be used to pay company debts.
• The shareholders have no direct contact with the employees or customers of the company. (The directors running the company are elected by shareholders among themselves).
• The summary of the financial position of the public company must be published to the public (publicized).

Advantages of public limited companies

1. The liability of members is limited. The financial collapse of a company does not affect the social status and financial position of its shareholders as much as under sole proprietorship or a partnership.
2. The public company is better placed to raise great amounts of capital through the sale of shares and debentures.
3. Large sums of capital enable large-scale production, which results into lesser costs of production and higher profits.
4. The company has continuity in existence and is not affected by the bankruptcy, insanity or death of a member.
5. Shares are freely transferable. A sale of shares by a member does not affect the capital of the company. This is also an incentive to the investors who are assured that they can convert their holdings into cash at any time they may wish.
6. Employees may also be allowed and encouraged to buy shares in the public company, giving them added incentive to work harder and hence increased profits.
7. The directors in the management of a company are expert people in various fields. They are also liable to be removed if the shareholders do not find their work satisfactory.
8. A public company may also issue several types of shares to suit the investment habits of different types of people. A careful investor may buy preference shares while a more enterprising investor could go for ordinary shares.
9. If a company has been declaring good dividends, a shareholder would be able to sell his shares at a much higher price than the nominal/face value and thus making financial gains.
10. Specialization s possible because of big membership which leads to efficiency.

Disadvantages of public limited company

1. The shareholders do not have a direct control over the running of the business. They normally employ experts to administer the firm.
2. The directors managing the company may have their own interests that may conflict with the interests of the company. In turn objectives may not be effectively achieved.
3. Formation of a company is a long and an expensive procedure. For example, registering with registrar of companies and obtaining a certificate of trading.
4. Since all important decisions are taken by the directors and more important decisions by shareholders, decision-making may be slow and often expensive.
5. Public companies often become too large to attain maximum efficiency. Every firm has an optimum size at which profits are maximized but many public companies grow beyond their optimum points. They may in turn experience diseconomies of scale.

Private limited company

This is a business unit consisting of a minimum of two (2) but a maximum of fifty (50) shareholders, who have put together their capital through buying shares with the aim of making profits.

Features/characteristics of private limited companies

• They have a minimum of two (2) to fifty (50) members excluding employees.
• The shares are not freely transferable. The shareholders are not allowed to offer their shares to the general public and a shareholder wishing to sell his shares in a private limited company has to seek permission from all other members or directors. This makes it possible for the members to keep the business ownership to a close circle, often to a family or a group of friends.
• A private company can commence business as soon as it receives a certificate of incorporation. It does not have to wait for a certificate of trading, as is the case with public limited companies.
• They are not required to publish their accounts.
• The size of the business is relatively small to allow its owners to have direct control in its affairs.
• The promoters of the private limited company must prepare both memorandum and articles of association.

Advantages of private limited companies

1. The company enjoys Independence. A private limited company is free from legal restrictions, which apply to public companies.
2. They can attract capital so easily from the investing public because of limited liability that the owners enjoy.
3. Economies of scale are easily enjoyed as a result of their large-scale operation and lump sum capital stock.
4. The promoters of the company can usually keep control of their business by holding majority of the shares unlike in the case of public company whereby directors are the ones to take decisions and run business activities.
5. Specialization is possible since the duties can be allocated according to ability of each member.

Disadvantages of private limited companies

1. The company cannot appeal to the general public to buy shares as in the case of public companies.
2. Shares are not easily transferable and this may be a disincentive to speculative investors.
3. The principal benefits of large-scale activities are limited compared to public limited companies.
4. Total membership is restricted in number and hence the expected capital structure limited.

Formation of a company

People who have the desire of forming a company (company promoters) must submit two documents for approval to the registrar of companies. These documents are the memorandum of association and articles of association.

 The memorandum of association

This is the most important document prepared when forming company and it lays down and defines the powers and limitations of the company (external rules of the company). It governs the company’s relationship with outsiders.

The clauses of the memorandum of association are: name clause, situation clause, capital clause, objectives clause, liability clause, and declaration

Articles of association

This is a document that lays down the internal rules and regulations of a company. It spells out the rights, powers and duties of different classes of shareholders among others.

A certificate of incorporation –refers to a document which gives a company legal existence.  It is issued when the registrar of companies is satisfied, but does not empower a public company to commence business activities although a private company may start business.   (It allows the company to legally offer shares to the public for sale).

A certificate of trading –refers to a document that permits a company to start business activities.  It is this document that allows a public company to start business.  A certificate of trading is issued after: the minimum share capital has been raised, the directors of the public company have paid for the shares taken by them, and the directors have filed a declaration that the above requirements have been sent.

Other documents used by limited liability companies include:

1. The declaration forms
2. The prospectus
3. Share certificate
4. Debenture
5. Directors’ list