Business and organisational characteristics - Private limite...

Learning Outcomes

This article outlines the core SQE1 FLK1 knowledge on private limited companies, including:

• The concept of separate legal personality and the Salomon principle, and how courts treat the corporate veil
• The scope of limited liability for shareholders and insolvency-related personal liability risks for directors
• The ownership and management structure under the articles of association, distinguishing shareholder and board powers
• Corporate decision-making mechanisms (board meetings, general meetings, written resolutions) and when each is required
• Formation and registration requirements under the Companies Act 2006, including key incorporation documents
• The treatment of pre-incorporation contracts, promoter liability, and novation in problem-style questions
• Share capital concepts such as authority to allot, pre-emption rights, share transfers, and company buybacks
• Filing and disclosure obligations (accounts, confirmation statements, PSC information) and their practical significance
• The main advantages and disadvantages of operating as a private limited company compared with other business forms
• Corporate governance expectations in large private companies and the role of the Wates Principles
• Practical consequences of separate personality, including asset ownership, contracting capacity, and perpetual succession
• Key differences from unincorporated businesses and their impact on risk allocation
• Core statutory provisions and leading case law authorities commonly tested in SQE1-style multiple-choice questions

SQE1 Syllabus

For SQE1, you are required to understand the business and organisational characteristics of private limited companies in England and Wales, with a focus on the following syllabus points:

• the legal status and organisational features of private limited companies in England and Wales
• the concept of separate legal personality and its implications
• the principle of limited liability for shareholders
• the distinction between ownership and management in company structure
• the advantages and disadvantages of operating as a private limited company
• formation by registration under the Companies Act 2006 (including Form IN01, articles, and the statement of compliance)
• restrictions unique to private companies (for example, prohibition on offering shares to the public)
• basic corporate decision-making (board vs shareholders) and core filings (accounts, confirmation statement, PSC information)
• share capital concepts relevant to private companies (authority to allot, pre-emption rights, share transfers and buybacks)
• corporate governance context for large private companies (Wates Principles – apply and explain)

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. What is meant by "separate legal personality" in the context of a private limited company?
2. To what extent are shareholders personally liable for the debts of a private limited company?
3. Who is responsible for the day-to-day management of a private limited company?
4. Name one statutory document that governs the internal rules of a private limited company.

Introduction

A private limited company is a type of incorporated business structure created by registration under the Companies Act 2006. It is treated by law as a person distinct from its shareholders and directors. A private company must have at least one director and at least one director must be a natural person. Private companies are not required to appoint a company secretary, though they may do so. The company’s name must end with “Limited” or “Ltd”.

Once the registrar is satisfied the registration documents are complete, a certificate of incorporation is issued, which is conclusive evidence that the company exists and has all the powers and obligations of a registered company. Registration requires, among other things, an application (Form IN01), the memorandum of association, a statement of compliance, details of initial shareholdings if the company has a share capital, and particulars of the first directors (and, if appointed, the company secretary). Private companies also have ongoing obligations to make annual filings, including accounts and a confirmation statement, and to keep information about persons with significant control up to date.

Key Term: separate legal personality
A company is a legal person, distinct from its members and directors. It can own property, enter contracts, and sue or be sued in its own name.

Key Term: people with significant control (PSC)
Individuals or legal entities who ultimately own or control a company (for example, holding more than 25% of shares or voting rights). PSC details are captured on incorporation and kept up to date through the confirmation statement.

The Principle in Salomon v A Salomon & Co Ltd

The leading authority on separate legal personality is Salomon v A Salomon & Co Ltd [1897] AC 22. The House of Lords confirmed that, once incorporated, a company is a separate legal entity, even if one person controls all the shares. The corporate veil protects members from personal liability for corporate debts, save in exceptional circumstances.

Modern case law restricts the circumstances in which courts will look behind incorporation. In Prest v Petrodel Resources Ltd [2013] UKSC 34, the Supreme Court emphasised that piercing the corporate veil is a last resort and limited to situations where an existing legal obligation is deliberately evaded through interposition of a company; even then, the remedy should be directed to removing the improper advantage, not generally conflating the company with its controllers.

Practical Consequences

• The company owns its assets; shareholders do not have a direct proprietary interest in company property.
• The company is liable for its own debts and obligations; shareholders and directors are not, save for narrow statutory or equitable exceptions.
• The company can enter contracts and be a party to litigation in its own name.
• The company has perpetual succession: changes in shareholders or directors do not affect the company’s continued existence.
• A company can grant security (including floating charges) over its assets to raise finance, which is not available to sole traders or general partnerships.
• Companies within the same group each have separate personality; a parent is not generally liable for a subsidiary’s debts simply by virtue of ownership.

Worked Example 1.1

Scenario:
Jasmine is the sole shareholder and director of Jasmine Interiors Ltd. The company owns a van. Jasmine uses the van for company business, but it is registered in the company’s name. The van is damaged in an accident.

Answer:
The van belongs to the company, not Jasmine personally. Any insurance claim or legal action must be brought by or against Jasmine Interiors Ltd, not Jasmine herself.

Registration and Pre-incorporation Contracts

Incorporation by registration requires filing the registration documents and paying the fee. If a promoter purports to contract on behalf of a company before it exists, statute provides that the contract is made by the person purporting to act for the company and they are personally liable. The company cannot later ratify such a contract to assume liability, although parties can agree to novate.

Worked Example 1.2

Scenario:
A sole trader signs a supply contract “for and on behalf of” a new private company before the certificate of incorporation is issued. The contract is delivered and accepted before incorporation.

Answer:
The contract is with the person who signed it; the benefit does not automatically belong to the company, and the company cannot ratify it. The promoter remains liable unless the supplier agrees to novate the contract to the company after incorporation.

Limited Liability of Shareholders

A key feature of private limited companies is limited liability. This means that shareholders are only liable for the company’s debts up to the amount unpaid on their shares. If shares are fully paid, shareholders have no further obligation to contribute if the company is wound up.

Key Term: limited liability
Shareholders are not personally responsible for the company’s debts beyond any amount unpaid on their shares.

Statutory Basis

Section 3(1) Companies Act 2006 provides that a company limited by shares limits the liability of its members to the amount unpaid on their shares. On winding up, the Insolvency Act 1986 confirms that members’ contribution is limited to any unpaid amounts on their shares.

Effect in Practice

• If a shareholder has fully paid for their shares, they have no further liability if the company is wound up.
• Creditors of the company cannot pursue shareholders’ personal assets for company debts.
• Limited liability does not immunise directors or others from statutory liabilities where misconduct is proven (for example, wrongful trading or misfeasance in insolvency proceedings), but those are distinct from routine commercial liabilities.

Worked Example 1.3

Scenario:
Omar holds 500 fully paid £1 shares in GreenTech Ltd. The company becomes insolvent and owes £100,000 to suppliers.

Answer:
Omar has no further liability. He will lose the value of his shares, but his personal assets are not at risk for the company’s debts.

Corporate Veil Limits in Insolvency Context

Where a company enters insolvent liquidation or administration, directors can be required to contribute to assets if they traded wrongfully or fraudulently. Wrongful trading (continuing to trade when there is no reasonable prospect of avoiding insolvent liquidation) and fraudulent trading (where trading is carried out with intent to defraud) are separate, statutory routes by which personal liability may arise. These remedies do not make shareholders generally liable for company debts; they target misconduct.

Ownership and Management Structure

A private limited company separates ownership (shareholders) from management (directors). The directors manage the company’s business under the articles, and certain significant decisions must be taken or authorised by the shareholders.

Key Term: directors
Individuals appointed to manage the company’s business and exercise its powers on a day-to-day basis.

• Shareholders own the company by holding shares and exercise control through voting rights.
• Directors are responsible for running the company and making business decisions. Under the model articles, directors have broad powers (MA 3), can delegate (MA 5), and may take decisions at board meetings or unanimously without a meeting (MA 7–8).
• The company’s internal rules are set out in its articles of association, which form a statutory contract between the company and its members and can be amended by special resolution.

Key Term: articles of association
The statutory contract that sets out the company’s internal governance, including powers of directors and rights of shareholders.

Directors owe statutory duties (for example, to act within powers, advance the success of the company, exercise independent judgment, and avoid conflicts of interest). Many routine matters can be decided by the board, but certain actions require shareholder approval or are reserved to members, such as amending the articles, authorising certain transactions involving directors, or changing the company name.

Key Term: board meetings (BMs)
Meetings of the directors where board resolutions are passed to manage the company’s affairs.

Key Term: general meetings (GMs)
Meetings of shareholders where ordinary or special resolutions are passed to exercise member powers.

Written resolutions are available to private companies as an alternative to a general meeting. For some urgent matters, a GM may be held on short notice if the required consents are obtained.

Worked Example 1.4

Scenario:
A shareholder in BlueWave Ltd disagrees with a business decision made by the directors. The shareholder wants to overrule the directors’ decision.

Answer:
Unless the articles of association or statute require shareholder approval for that specific decision, the directors have authority to manage the company’s business. Shareholders cannot interfere with day-to-day management.

Short Notice and Member Decision-making

Private companies may hold a GM on short notice if a majority in number of the shareholders, holding at least 90% of the voting shares between them, consent. Written resolutions (available to private companies) require the requisite percentage of eligible votes in favour within the lapse period.

Worked Example 1.5

Scenario:
A private company with three shareholders wishes to change its articles quickly. Two shareholders consent to short notice; together they hold 88% of voting shares.

Answer:
Short notice is not valid. A majority in number must consent and those consenting must hold at least 90% of the voting shares. The company must give normal notice or obtain further consents.

Share Capital: Authority to Allot and Pre-emption

Directors need authority to allot shares. In a private company with only one class of share, directors incorporated under the Companies Act 2006 have statutory authority to allot shares of that class without member approval (subject to any restriction in the articles). Where a company has more than one class, or in public companies, shareholder authority is required (usually by ordinary resolution stating the maximum amount and duration). Existing holders of equity securities have statutory pre-emption rights: when new equity securities are issued for cash, they must first be offered to existing ordinary shareholders in proportion to their existing holdings, unless those rights are disapplied.

Key Term: pre-emption rights
Statutory rights of first refusal requiring new equity securities offered for cash to be offered to existing ordinary shareholders in proportion to their holdings, unless excluded or disapplied.

Pre-emption can be excluded in the articles of a private company or disapplied by special resolution. Where disapplication is proposed for a specific allotment requiring shareholder authority to allot, additional director statements are required.

Worked Example 1.6

Scenario:
Delta Ltd has 1,000 ordinary shares: A holds 600; B holds 300; C holds 100. The board proposes to issue 500 new ordinary shares for cash.

Answer:
Pre-emption requires an offer to A (300 shares), B (150 shares), and C (50 shares) to preserve their proportions, unless pre-emption has been excluded by the articles or validly disapplied by special resolution.

Worked Example 1.7

Scenario:
A private company has only one class of share. The board wants to allot 1,000 new shares of that class to raise finance.

Answer:
If the company was incorporated under the Companies Act 2006 and its articles do not restrict the power, the directors have statutory authority to allot shares of the existing class without prior member approval. They must still comply with any pre-emption rights or disapplication.

Share Transfers

In private companies, shares are generally transferable subject to restrictions in the articles. It is common for directors to have discretion to refuse to register a transfer in certain circumstances under the model articles.

Worked Example 1.8

Scenario:
A shareholder in Oakfield Ltd finds a third-party buyer. The directors refuse to register the transfer citing the articles.

Answer:
If the articles grant the directors discretion to refuse transfers, they may do so, subject to any procedural and good faith constraints in the articles. The seller must comply with the transfer process and any rights of first refusal or other restrictions set out in the articles.

Advantages and Disadvantages of Private Limited Companies

Advantages

• Limited liability protects shareholders’ personal assets.
• Separate legal personality allows the company to own property and enter contracts in its own name.
• Continuity – the company continues to exist despite changes in ownership.
• Access to finance – companies can issue shares and grant fixed and floating charges over assets.
• Governance flexibility – the model articles provide workable default rules; companies can tailor their articles to the business.

Private limited companies also benefit from a clear statutory framework for member rights and director authority. They can structure group companies to ringfence risk. Many private companies can raise equity from existing or targeted investors and debt from lenders familiar with corporate security packages.

Disadvantages

• Regulatory requirements – companies must file annual accounts and a confirmation statement and notify changes to officers, share capital and other key data.
• Public disclosure – company information is available to the public.
• Administrative costs – higher than for sole traders or partnerships.
• Restrictions on public capital raising – private companies cannot offer shares to the public or list on a stock market.
• Transfer restrictions – directors may refuse to register transfers or trigger pre-emption arrangements in the articles, making exits slower.

Private companies must also comply with share capital maintenance rules, and buybacks can be procedurally complex, especially where capital is used.

Share Buybacks

Companies may purchase their own shares, subject to statutory requirements and any article restrictions. Buybacks out of distributable profits can be authorised by ordinary resolution. Where a buyback is funded out of capital, additional safeguards apply: a solvency statement by the directors, an auditor’s report annexed, and shareholder approval by special resolution, together with specified notices. Creditors and dissenting shareholders have time to challenge the resolution.

Worked Example 1.9

Scenario:
A private company wishes to buy out a departing shareholder but has insufficient distributable profits.

Answer:
A buyback out of capital is possible if the articles permit it, the directors make a solvency statement supported by an auditor’s report, and the shareholders approve the payment out of capital by special resolution. Statutory notices must be published and creditors may object within the statutory period.

Corporate Governance in Large Private Companies

Large private companies are encouraged to adopt the Wates Corporate Governance Principles for Large Private Companies on an “apply and explain” basis. Companies meeting specified size thresholds must include a statement of corporate governance arrangements in their directors’ report, stating which code was applied and how. The BHS collapse underscored the governance risks in large private companies, prompting increased focus on accountability even outside the listed sector.

Worked Example 1.10

Scenario:
A large private company with over 2,000 employees prepares its annual report.

Answer:
It must include a statement of corporate governance arrangements. If it adopts the Wates Principles, it should apply them and explain how they have been addressed in practice, or state and explain departures. The statement sits alongside the accounts and directors’ report.

Exam Warning

For SQE1, be careful not to confuse the company’s debts with the personal debts of its shareholders or directors. Only in rare cases (such as fraud or wrongful trading) can the courts disregard the company’s separate personality and impose liability on individuals. Do not conflate group entities: a parent is not generally liable for a subsidiary’s obligations. Treat pre-incorporation contracts with care: a company cannot be party to a contract made before it exists, and the person purporting to act for the company will be personally liable unless there is a novation.

Comparison with Unincorporated Businesses

Key Point Checklist

This article has covered the following key knowledge points:

• A private limited company is a separate legal person, distinct from its shareholders and directors.
• Shareholders benefit from limited liability and are not personally responsible for company debts beyond any unpaid share capital.
• Directors manage the company’s business, while shareholders own the company and exercise control through voting rights.
• The company’s internal rules are set out in the articles of association and can be amended by special resolution.
• Private limited companies offer advantages such as limited liability, continuity, and access to finance (including floating charges), but also face regulatory and disclosure requirements.
• Private companies cannot offer shares to the public; capital raising is via private placements or debt finance.
• Directors’ authority to allot shares depends on the company’s share classes and articles; existing shareholders may have statutory pre-emption rights unless excluded or disapplied.
• Share transfers in private companies may be restricted by the articles; directors may refuse to register transfers.
• Buybacks are permitted subject to statutory procedures; buybacks out of capital require enhanced safeguards and shareholder approval.
• Large private companies should report on corporate governance arrangements and may adopt the Wates Principles on an apply-and-explain basis.
• Pre-incorporation contracts bind the person acting; a company cannot ratify such contracts made before incorporation.

Key Terms and Concepts

• separate legal personality
• limited liability
• directors
• articles of association
• people with significant control (PSC)
• board meetings (BMs)
• general meetings (GMs)
• pre-emption rights