Law and You > Corporate Laws > Companies Act, 2013 >Advantages of Incorporation
In this article, we shall study the advantages of incorporation of a company. These advantages can be considered as the salient features of a company.
Separate Legal Existence:
A company is a legal person in the eyes of law. It is an artificial person or a juristic person. A company is independent and separate from its members, and the members cannot be held liable for the acts of the company, even when a particular member owns the majority of shares. This was held in the case of Solomon v. Solomon.
Salomon v. Salomon Co. Ltd. Case
A creditor of an incorporated company has remedy only against the company for his debts and not any of the members of whom it is composed. The principle of separate legal entity was explained and emphasized in the famous case of Salomon v Salomon & Co. Ltd 1897 AC 22.
The facts of the case are as follows: Mr. Salomon was the owner of a very prosperous business engaged in the manufacture and sale shoes. He sold his business for the sum of £ 40,000 to Salomon and Co. Ltd. which consisted of Salomon himself, his wife, his daughter, and his four sons (7 shareholders). The purchase consideration was paid by the company by allotment of & 20,007 shares and £ 10,000 debentures and the balance in cash to Mr. Salomon. The debentures carried a floating charge on the assets of the company. 20001 shares of face value £ 1 each were allotted to Salomon. One share of £ 1 each was subscribed by the remaining six members of his family. Salomon and his two sons became the directors of this company. Salomon was the managing Director. The company went into liquidation within a year due to trade depression. At that time the statement of affairs’ was like this: Assets: £ 6000, liabilities; Salomon as a secured creditor and debenture holder £ 10,000 and unsecured creditors £ 7,000. Thus its assets were running short of its liabilities b £11,000.
The unsecured creditors of the company contended that the company, though incorporated under the Act, had never an independent existence; it was, in fact, Salomon under the name of a company. Actually, the company and Salomon were one and the same person. But the House of Lords held that the existence of a company is quite independent and distinct from its members. Shareholders may also be the creditors of the company. The court recognized the separate and independent personality of the company.
One argument put forth on the behalf of unsecured creditors was that the company was only the agent of Mr. Salomon and, in truth, the business belonged to him and not to the company. The Court opined that it is not the case, in fact, Mr. Salomon was the agent of the company and not vice versa.
Salomon’s case established beyond doubt that in law a registered company is an entity distinct from its members, even if the person holds all the shares in the company i.e. a company has separate legal existence. There is no difference in principle between a company consisting of only two shareholders and a company consisting of two hundred members. In each case, the company is a separate legal entity.
In case of a partnership firm, it has no separate legal entity. Partners are responsible for every act.
Company has Nationality/Residence:
Company is governed by the laws of the land, in which it is incorporated. In TDM Infrastructure Private Limited v UE Development India Private Limited, Arbitration Application No. 2 of 2008, the Supreme Court of India held that a company’s nationality is determined primarily by its place of incorporation, and is not affected by the company’s “central management and control” being located outside India.
Though it is established through judicial decisions that a company cannot be a citizen, yet it has nationality, domicile and residence.
In Gasque v. Inland Revenue Commissioners, (1940) 2 K.B. 88, Macnaghten. J. held that a limited company is capable of having a domicile and its domicile is the place of its registration and that domicile clings to it throughout its existence. He observed in this case: “It was suggested that a body corporate has no domicile. It is quite true that a body corporate cannot have a domicile in the same sense as an individual. But by analogy with a natural person the attributes of residence, domicile and nationality can be given to a body corporate.”
n Tulika v. Parry and Co., (1903) I.L.R. 27 Mad. 315, Kelly C.B. observed: “A joint stock company resides where its place of incorporation is, where the meetings of the whole company or those who represent it are held and where its governing body meets in bodily presence for the purposes of the company and exercises the powers conferred upon it by statute and by the Articles of Association.”
Limited Liability:
Due to the creation of a separate legal entity, the members have limited liability. Under Section 34(2) of the Company Act, in the event of a company being shut down, the members of the company are solely liable to contribute to the assets and liabilities of the company. None of its members is legally bound to contribute to anything more than the nominal value of shares held by the member which still remains unpaid. If the corporation is sued or goes bankrupt, the assets of the company will be at stake, but not the personal assets of the members such as savings, a home or a vehicle. Thus the directors and members cannot be held personally responsible for the corporation’s debts or obligations. But it should be noted that there are certain situations when directors of a corporation can be held liable.
In partnership, each partner of a firm is personally liable for all the liabilities of the firm to an unlimited extent.
This advantage of having limited liability for its members is one of the major reasons for setting up an incorporated company. Using this benefit the entrepreneur can take a risk.
In Re. London & Globe Finance Corp., (1903) 1 Ch. D. 728 case, Justice Buckley made following observations: “The statutes related to limited liability have probably done more than any legislation of the last fifty years to further the commercial prosperity of the country.
In J. H. Rayner (Mincing Lane) Ltd. v. Dept. of Tarde and Industry, (1990) 2 AC 418 case, no member is bound to contribute anything more than the nominal values of the share held by him.
Perpetual Succession:
The Companies Act states, ‘Members may come and members may go, but the company can go on forever.’ As per Section 34(2) of the Company Act, an incorporated company has the characteristic of perpetual succession. The term perpetual succession of the company means its continuous existence, which means that a company never dies, even if the members cease to exist. The insolvency of a member, even of all the members of a company does not bring the life of the company to an end. Members can come and go but the company will be the same entity with the same privileges, immunities, estate, and possessions. The company only comes to an end, when it is wound up (shut down) according to law, as per the provisions of the Companies Act, 2013.
In the case of a partnership firm, the death of even one partner of a firm may result in the dissolution of the entire firm.
In Re Noel Tedman Holdings Pvt Ltd., (1967) Qd R 56 case, the Court held that company members may come and go but this does not affect the legal personality of the company.
In Punjab National Bank v. Lakshmi Industrial & Trading Co (P) Ltd, AIR 2001 All 28 case, the guarantors of a company’s loan could not claim to be relieved of the liability by the reason of the fact that the company’s management totally changed including the managing director. Such changes do not affect the continuity of the company or its commercial or contractual relations.
Easy Transferability of Shares:
Under Section 44 of the company act, the shares or other interest of any member in a company shall be movable property, transferable in the manner provided by the articles of the company. This provision leads to the investment of funds in shares. A shareholder can sell his shares in the market and get back his investment. For this, he does not require the permission of other shareholders. Thus members of the company can encash shares at any given time upon their will. Thus there is liquidity available to the investors. This advantage is available to public limited companies and not to private limited companies.
In partnership, if a partner wishes to transfer his share in the firm to another person, he cannot do so unless all the other partners agree.
Separate Property:
An incorporated company has separate legal existence and an artificial person in the eyes of law. Hence it is capable of owning, holding, enjoying, and disposing of property. It is to be noted that the company is the real person in which the property is vested, and by which it is controlled, managed and disposed of. if a majority shareholder of the uses the company’s resources for personal reasons, he is liable to be held for criminal misappropriation of company funds under the Act.
In partnership, the partnership property belongs to all the partners and the distinction between the property belonging to the firm and the private property of the partners is quite hazy.
In Bacha F. Guzdar v Commissioner of Income Tax Bombay, 1955 AIR SC 740 case, the Court held that a company being a legal person, in which all its property is vested and by which it is controlled, managed and disposed of a member cannot, ensure the companies property on its own name.
In Macaura v. Northern Assurance Co. Ltd., (1925) AC 619 case, a shareholder of a timber company, held all shares of the company but one. He also insured the timber (asset of the company) on his own name, which was destroyed in a fire. When he sought compensation, it was held that they were not liable to pay any money to the shareholder, in lieu of the timber since he did not own the timber and that timber, which the company owned was not insured. In this case, Lord Buckmaster said: “No shareholder has any right to any item of property owned by the company, for he has no legal or equitable interest therein”.
In Gramophone &Typewriter Co. Ltd. v. Stanley (1908) 2 KB 856 case the Court held that the property of the company is not the property of shareholders, it is the property of the company.
In Subhra Mukherjee v. Bharat Cooking Coal Ltd., (2000) 3 SCC 312 case, On the nationalization of the coal mines of a company, it was found that it has sold an item of its immovable property to the wife of one of the directors. The Court ripped open the veil to probe into the genuineness of the transaction and discovered it to be sham. The property continued to be that of a company and became vested in Government.
In H. C. Shastri v. Dolphin Canpak (P) Ltd. (2000) 3 SCC 312 case, the Court held that the assets of the company were not allowed to be used for payment of a shareholder’s debt.
In State of Rajasthan v. Goton Lime Stone Khanij Udyog (P) Ltd., 2015 SCC online Raj 780 case, the Court held that properties of a company including licenses, permits, concessions, and leases are not the property of shareholders, only of company. Transfer of shares, change of management, the company becoming a subsidiary of another company, rights belonging to the company remains as they were before.
Capacity to Sue and Be Sued:
A person can take legal action on his / her name. Similarly, the company as an independent legal entity could take legal action in its own name against another person. In turn, it can be sued by other companies and people. However, the managing directors and other directors are not liable to be sued in the name of the company.
A partnership is only an aggregation of its partners and can sue, and be sued, only in the name of its partners.
In Aspro Travel Ltd. v. Owners Abroad plc. (1996) 1 WLR 132 case, it is held that jut as a person has a right to his reputation, so also, a company has the right to protect its name from being tarnished and can sue the third party for a defamatory statement made by him against the company.
In ACC Ltd. v. Keshavanand, (1998) 1 SCC 687 case, the Court observed that just as an individual can file a criminal complaint, so can a company. However, it must be represented in the proceedings by one of its officers. Now, if a complaint is filed by an individual who does not bother to present himself in subsequent proceedings, the same is liable to be dismissed. Likewise, although a complaint can be filed by a company, if it does not depute its representative to be present at future proceedings, the company’s complaint is liable to be dismissed.
Professional Management:
A company with its vast and almost unlimited resources is capable of attracting the best professional talent at the managerial level in a given industry. This top-level management of the company is given free hand and free functionality. The shareholders have very little control over them, thus the top management can take decisions faster as per the goals and objectives put forward by the company. With available talent, company can expand and diversify very easily.
In a partnership firm due to less availability of funds almost all the managerial functions are done by partners themselves and thus partnership firm lacks professional management.
Democratic Set-up:
The working of a company is governed by the Board of Directors. These directors are elected and appointed by shareholders in their Annual General Meetings. These directors are experts in their field and can govern the company professionally.
Capacity to Raise Finance:
A company is in a much better position to raise finances than any other form of the business entity since a company can issue shares or debentures to the public. It is easier for the company to get loans from banks and financial institutions. This gives the company the capacity to raise larger finances. Additionally, the company can create a floating charge on its assets as security for the money borrowed by it.
A Partnership has to rely on the personal credit of partners in the market and are not able to raise larger finances.