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Different business models and introduction to companies (week 1)INTRODUCTIONWhy businesses are set up Why do businesses need to raise finance?  To make profit (by selling products/services)  One business has made profit – proportion of it is likely to be given to owners, rest will be retained in o...

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Different business models and introduction to companies (week 1) INTRODUCTION

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Why businesses are set up To make profit (by selling products/services) One business has made profit – proportion of it is likely to be given to owners, rest will be retained in order to help it grow How do businesses raise finance? Owners of the business invest contributions of capital Outside investors Business may borrow money (e.g. from bank) Proportion of profit retained for growth

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Why do businesses need to raise finance? To purchase premises from which to operate, plant and machinery, stock/raw materials, software To employ staf To obtain advice from time to time (accountants etc.) Business models

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Sole trader Partnership Limited partnership Limited Liability Partnership

DIFFERENT BUSINESS MODELS Model Sole trader

Structure  The sole trader is the exclusive owner of the business.  It is not a separate legal entity.

Partnership

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Limited liability partnershi p

Private limited company

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2 or more persons own the business and share the profits. The partnership is not a separate legal entity

2 or more persons carrying on a business. The partnership is a separate legal entity

A company is a separate legal entity distinct from its owners

Advantages  Can start trading immediately  There are no setup costs/formalities  Can keep all the profits  Full control over decision making  Complete privacy as no disclosure requirements  Can start trading immediately  There are no setup costs/formalities  Full control over decision making  Complete privacy as no disclosure requirements  All partners have limited liability  The partnership can enter contracts with third parties  Flexible management procedures

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Limited liability as shareholders are only liable to pay any amount unpaid on their shares. Minimum of 1 person required to incorporate a company Easier to raise finance

Partnerships

Disadvantages  Unlimited personal liability  Contracts are formed between the sole trader and third parties

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Partners have unlimited personal liability Contracts are formed between the partners and third parties A partnership agreement will be required otherwise the Partnership Act 1890 will apply in default There are set-up costs and formalities as an LLP must be registered at Companies House Must file annual accounts and has disclosure obligations A members’ agreement will be required otherwise the provisions of the Limited Liability Partnership Regulations 2001 will apply in default. Can’t raise finance from shareholders There are set-up costs and formalities as a company must be registered at Companies House Extensive disclosure obligations The Companies Act 2006 imposes strict requirements on how companies are run.

The Partnership Act 1890 s1(1) defines a partnership as: o “the relation which subsists between persons carrying on a business in common with a view to profit”  No intention required to form a partnership – the above definition gives rise to a partnership in most cases  Section 2 PA 1890: contains list of rules for determining the existence of partnership, factors include: o Whether profits and/or losses are shared o Whether a loan is made from one partner to another o Whether property is held jointly Does a partnership exist?  Evidence of profit sharing will be prima facie evidence of a partnership but not necessarily conclusive  Northern Sales (1963) Limited v Ministry of National Revenue (1973): if there is an agreement to share losses as well as profits, this makes the existence of a partnership more likely  Walker v Hirsch (1884): if the person is not being ‘held out’ as a partner this makes existence of a partnership less likely. A clerk lent money to the partnership, paid a fixed salary and took 1/8th of the profits and losses, but was never held out as a partner – thus no partnership was found to exist  Khan v Miah (2000): If you behave like partners the law will deem you are partners, even if you have no idea what a partnership is Terms of the partnership – PA 1890  Advisable to have partnership agreement drawn up by a solicitor otherwise partnership will be governed by the default provisions of the PA 1890:  s24(1) Profits and Losses: Partners are entitled to share equally in profits and losses  s24(6) Remuneration: Partners are not entitled to a salary  s24(8) Decision Making: Decisions about ordinary course of business = decided by a majority (except for change to the nature of partnership which requires unanimity)  s25 Expulsion: A partner cannot be expelled by majority vote unless all of the partners have previously expressly agreed that a majority can do this  Partners’ mutual rights and obligations can be varied at any time by their unanimous consent (s19 PA 1890)  Means partners can draw up a partnership agreement setting out how they wish it to run  Important in a modern partnership that partners seek legal advice and enter into a binding partnership agreement governing the terms of their relationship  Partners will wish to vary the default positions of PA 1890 as these are not suitable for a modern business  s32(c) PA: partnership may be dissolved by either partner giving notice 

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Limited Partnerships (LP) Consists of limited partners (limited liability/not involved in management) and general partners (unlimited liability) Must be at least one limited partner and one general partner Governed by the Limited Partnership Act 1907 Must be registered at Companies House but have no requirement to file accounts Not used much – private fund limited partnership was created in 2017 – commonly used for investment vehicles

Limited Liability Partnerships (LLP) The Limited Liability Partnership Act 2000 s2(1)(a) states that two or more persons associated for carrying on lawful business with a view to profit can incorporate an LLP (many law and accounting firms are LLPs)  Efectively a hybrid between a traditional partnership (procedural flexibility) and a company (limited liability)  Members are taxed as partners – ‘tax transparency’ Terms of the LLP – Limited Liability Partnerships Regulations 2001  Regulations 7 & 8 contain default provisions as follows: o Members share equally in capital and profits o An LLP must indemnify its members for payments made and personal liabilities incurred by them in the ordinary and proper conduct of the business of the LLP o Every member may take part in management but no member is entitled to remuneration for managing the LLP o No person can become a member or assign their membership without the consent of all existing members o Ordinary decision making may be by the majority of the members. Any proposed change to the nature of the business requires the consent of all the members o There is no implied power of expulsion of a member by the majority unless the members have expressly provided such a power in a Members’ Agreement INTRODUCTION TO COMPANIES  Most popular business model in England and Wales 

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Over 3 million private limited companies registered with the Companies House in 2018 Why a popular business model? Key point – company = separate legal entity Companies can own property, enter into contracts and can sue/be sued in its own name

The Companies Act 2006 Key legislation governing companies in England and Wales Replaced the Companies Act 1985 – primary aim of CA 2006 was to simplify the law for private companies Key changes made: o Removal of requirement for private companies to hold AGMs or submit Annual Returns (has been replaced with a simpler annual Confirmation statement) o Codification of directors’ duties so that directors of small private companies can more easily understand their obligations o Allowing private companies to pass shareholder resolutions in writing, dispensing with the requirement for meetings of shareholders (known as General Meetings)

DIFFERENT TYPES OF PRIVATE COMPANIES

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Private Companies limited by shares (Ltd) Private Companies limited by guarantee (rare)  No minimum share capital Most common type of company  Liability of members is limited to amount that they No minimum share capital agreed to contribute in event of winding up Prohibited from ofering shares to public Can be formed by one person  Membership is not transferrable Unlimited companies Liability of members = unlimited – These are rare

DIFFERENT TYPES OF PUBLIC COMPANIES

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Public Companies limited by shares (Plc) Can ofer shares to public Minimum of 2 directors Minimum share capital of £50,000 (s736 CA 2006) Requires a trading certificate (s761 CA 2006)

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Listed Companies Only public companies can be listed ‘Listed’ means admitted on a regulated investment exchange such as the London Stock Exchange To enable a company to raise greater funds by ofering shares to the public at large, a private company’s shareholders may decide to convert the company into a public limited company (Plc)

MAIN DIFFERENCES BETWEEN PUBLIC AND PRIVATE COMPANY Private companies Public Companies Share Capital: No requirement to have a specified minimum Must have a share capital with a nominal value of at least of share capital – can be incorporated with 1 share of 1p £50,000 of which at least ¼ must be paid up (s586/s763 CA 2006) Directors: requires only one director Minimum of two directors (s154 CA 2006) Secretary: not obliged to have on (s270(1)) – if not directors Must have one (s271) may do anything secretary is required to do (s270(3)(b) AGMs: no longer required but can if desired Must have one each year (s336) Regulations: cannot ofer shares to public Can ofer shares to public

THE COMPANY’S CONSTITUTION

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Constitutional documents CA 2006 came into force on 1 October 2009. Prior to this, companies were governed by CA 1985. Many companies incorporated prior to CA 2006 important to understand provisions of CA 1985 which still afect those companies. CA 1985 required companies to have two constitutional documents: the Articles of Association/Memorandum. s17 CA 2006: the memorandum no longer forms part of the company’s constitution - only required as part of the procedure to register a company at Companies House The memorandum of a company incorporated under CA 2006 simply amounts to a declaration on the part of the company’s subscribers ie that the first members of the company wish to form a company (s8 CA 2006).

Memorandum Under the CA 1985 the memorandum was a more complex document and formed part of the company’s constitution. Companies could set out constitutional restrictions in their memorandum and were required to include an objects clause setting out the purposes for which the company has been formed. Acting outside of this purpose was described as acting ultra vires or outside the company’s capacity.  Companies formed under CA 2006 have unrestricted objects (s 31 CA 2006) unless the objects are specifically restricted in the company’s Articles. So the ultra vires rule is not applicable to a 2006 Act company unless it has chosen to insert an objects clause into its Articles.  For older companies that were incorporated under the CA 1985, s 28 CA 2006 provides that any provisions in a memorandum must be treated as provisions of the company’s Articles. This includes the objects clauses included in the memoranda of all CA 1985-incorporated companies. Under CA 2006, therefore, the objects clause of an older company continues in force, operating as a limitation on that company’s capacity unless and until the Articles of that company are amended to remove its objects clause. Articles of Association All companies must have articles of association (Articles) (s18 CA 2006). Under CA 2006, the Articles form the main constitutional document of a company. The purpose of the Articles is to regulate the relationship between the shareholders, the directors and the company. Examples of the types of provisions which are included in the Articles of a company are: o the number of directors required to transact business (both to form a quorum at board meetings and to take decisions at board meetings); o the method of appointment of directors; o the powers of directors; o how board meetings are to be conducted; o any special rights attaching to shares; o how shareholder meetings are to be conducted; and o how and to whom shareholders may transfer their shares. The Articles must comply with the minimum provisions of CA 2006 (this is known as the Legality Test). A company may provide a procedure in its Articles which is more onerous than that contained in CA 2006. There are some CA 2006 provisions which override anything in a company’s Articles. E.g. s321 (the right to demand a poll vote at a general meeting) cannot be removed in the Articles. There are also powers available to companies by default under the CA 2006 unless the Articles provide otherwise. It is important to always check the procedures set out both in the relevant legislation and in your client’s Articles A company efectively has three choices as to the form of its Articles: 1. Model Articles (MA) 2. Amended MA s19: Secretary of State has prescribed MA for diferent  Not all of the provisions contained in the MA are suitable types of companies for all companies s20(1): if a new company does not register Articles at  Many companies therefore chose to adopt the MA as their the CH, the relevant MA will constitute the company’s Articles, but elect to exclude, or modify the efect of, some articles by default (similar provision in CA 1985 but of its provisions default articles known as Table A 3. Tailor Made Articles Solicitor drafted Articles which are tailor-made for the particular company concerned - generally this is a very timeconsuming process and therefore costly for the client, although the end product can often be more useful to them in the long run. Most small companies will prefer to adopt MA, subject to certain amendments. 

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Amending the Articles s21(1): Possible to alter them at any future date by special resolution = decision of shareholders s22 permits the entrenchment of specific provisions within a company’s Articles, though this occurs relatively rarely in practice. An entrenched provision of a company’s Articles is one which can only be amended or repealed if specific conditions are met, or if procedures more restrictive than a special resolution are complied with s22(3): Entrenched Articles can always be amended by agreement of all of members, or by a court order Allen v Gold Reefs (1900): The basic rule is that, to be valid, any alteration must be made bona fide in the interests of the company as a whole Shuttleworth v Cox (1927): the court held that an amendment to the Articles is not valid if no reasonable man could consider it to be for the benefit of the company

Sidebottom v Kershaw, Leese & Co Ltd (1920)

Amending the Articles: The defendant company had altered its articles by introducing a provision which gave the directors power to buy out, at a fair price, the shareholding of any member who competed with the company’s business. The plaintifs, who were minority shareholders and who carried on a competing business, unsuccessfully challenged the validity of the alteration. The Court of Appeal found that the alteration was initiated in good faith and bona fide in the interests of the company and therefore allowed this to stand to protect the company.

Re Charterhous e Capital Ltd (2015)

Amending the Articles: The amendment of a company’s articles to permit the shares of a minority shareholder to be compulsorily acquired under a takeover ofer was held to be valid as it was consistent with the terms of a shareholders’ agreement. It was not open to challenge on other grounds such as unfair prejudice. The Court of Appeal held that the amendment was no more than a ‘tidying up exercise’ which had been consistent with the initial bargain of the founding members, which included the appellant himself. In the absence of any finding of bad faith, improper motive or irrationality, there was no basis for the challenge to the validity of the amendment.

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Articles as a contract between company and members Articles as a contract between members themselves Although the courts have acknowledged that the Courts have been willing to grant injunctions to prevent a company from infringing its members’ rights in breach forerunners to s33 provide that the Articles constitute a contract between the members themselves, as well as of the Articles. Each member, acting in his capacity as a between the company and its members, there is conflicting member, is similarly obliged to the company to comply authority as to whether: with the Articles o one member may enforce the Articles against another  A member may not enforce any rights contained in the Articles against the company that are not relevant to his member directly – Rayfield v Hands (1960) or o only through the company – Welton v Saffery (1897) capacity as a member – Eley v Positive Government Security Life Assurance Company (1876) INCORPORATION  A client wishing to start a business can either incorporate a new company from scratch or purchase and then convert an existing shelf company to conduct business o From scratch: submitting relevant information to Companies House/online o Shelf company conversion: purchase of shelf company followed by formalities to enable change Incorporation from scratch To incorporate from scratch – application must be made to Registrar of Companies to get registered at CH Traditionally slower than purchasing shelf company – but now possible to incorporate online (lots of law firms now do) 

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Legal effect of the Articles s33(1): the provisions in the company’s Articles bind the company and its members to the same extent as if there were covenants on the part of the company and each member to observe those provisions. They will be binding on both the company and its members and enforceable. The predecessor to s33(1) (namely s14 CA 1985) has been the subject of a large amount of case law General rule: the Articles evidence a contract between the company and its members in their capacity as members and with respect to their rights and obligations as members – Hickman v Kent or Romney Marsh Sheep-Breeders’ Association (1915)

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Advantage: company can be tailor-made to meet your client’s requirements from outset s9 CA06: the following must be delivered to the Registrar of Companies at CH for a company to be registered: Memorandum copy of the company’s memorandum Articles Articles prescribing regulations for the company (if MAs aren’t used) The Fee Required fee found on CH website – application may take u2 5 days – premium can be paid for quick Form IN01 Application for registration, stating (1) company’s proposed name, (2) where company’s registered office is, (3) whether liability is limited, (4) if company is private or public

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s10 CA06: statement of capital and initial shareholdings (where company is to have share capital) s12: statement of company’s proposed officers (directors, secretary) s11: if company is limited by guarantee, details must be given of the guarantee s13: statement of compliance with the requirements of the CA 2006 Once Registrar of Comps approves application for incorp. company is sent a certificate, setting out: o Company’s name (can be changed), Company’s registered n...