Advantages and Disadvantages of a Corporate Form of Business in India

Lack of quality jobs and an increasingly virtual work culture brought about due to the COVID-19 pandemic has made many people to take the leap of starting their own business. Yet, first time entrepreneurs struggle with the question: should I start a company? What are the advantages of starting one? What would be my risk and liabilities if I start a company?

This article aims to answer all those questions and elaborates on the advantages and disadvantages of a corporate form of business in India.

What is a Company?

Section 2(20) of the Companies Act, 2013 defines the term “company” to mean “a company incorporated under the Companies Act 2013 or any previous company law”.

The Merriam Webster’s Dictionary of Law (First Indian Edition 2005) defines a “company” as “an association of persons for carrying on a commercial or industrial enterprise”.

Thus, it can be seen that although the Companies Act, 2013 does not define the meaning, nature and characteristics of a company and restricts itself only to its incorporation, the word is commonly understood to mean a group of individuals carrying out commercial activity under a common name.

Advantages of a Company

The next obvious question that arises is that okay, I know what a company is. I have even worked in some of them. However, what advantages will accrue to me if I start one?

Limited Liability - First of all, let us ask ourselves: why did the need of a company arise in the first place? Earlier, businesses were carried out in partnerships – something which is common even today. However, one of the main disadvantages of a partnership form of business is the unlimited liability of its partners. Simply put, if the business goes south, it takes the partners with itself – lock, stock and barrel. However, a company or a corporate form of business limits the liability of its office bearers. That is why, if one were to look at the definition section again in the Companies Act, 2013, the definition of the term “company” is immediately followed by a “company limited by guarantee” and a “company limited by shares”. The word ‘limited’ indicates limited liability.

Separate Legal Entity – A company is a juristic person and has its own legal personality. It cannot be confused with its Directors or Shareholders. The latter may keep changing, and yet, the company never changes with them. The advantages of this legal status were summed up in Salomon v. Salomon & Co. [(1895-99) All ER Rep 33] and reiterated by the Supreme Court in Tata Engineering & Locomotive Co. Ltd. v. State of Bihar (AIR 1965 SC 40):

· The entity of the corporation is entirely separate from its shareholders;

· it bears its name and has a seal of its own;

· its assets are separate and distinct from those of its members;

· it can sue and be sued exclusively for its own purpose;

· its creditors cannot obtain satisfaction from the assets of its members;

· the liability of the members or the shareholders is limited to the capital invested by them;

· the creditors of the members have no right to the assets of the corporation.

Perpetual Succession – A company never dies. Its members may retire, become insolvent or die, but that has no effect on the company. According to Blackstone, a company is in perpetual succession “in the like manner as the river Thames is still the same river, though the parts which compose it are changing every instant.” During the World War II, all the members of one private company, while in a general meeting, were killed by a bomb. But the company survived; not even a hydrogen bomb could have destroyed it (Gower, Principles of Modern Company Law, 3rd Edition).

Separate Property – The property of the company is not the property of its shareholders. The company is capable of holding and disposing of property in its own name. This is unlike Partnership form of business where the assets of the partnership are the assets of its partners. “The property is vested in the company as a body corporate, and no changes of individual membership affect the title. The property, however much, the shareholders may come and go, remains vested in the company, and the company can convey, assign, mortgage, or otherwise deal with it irrespective of these mutations” (Palmer’s Private Companies, 42nd Edition).

Transferable Shares – Section 44 of the Companies Act, 2013 provides as follows:

“The shares or debentures or other interest of any member in a company shall be movable property, transferable in the manner provided by the articles of the company.”

The main advantage of the corporate form of business is that its shares are easily transferable which enables an investor to get back his investment without having to withdraw the money from the company. This is a win-win situation for the investor as well as the company as the former gets liquidity while the latter gets stability.

Capacity to Sue and Be Sued – A company, being an artificial juridical entity, can sue and be sued in its own name. However, in a criminal complaint filed by it, it has to be represented by an Authorized Representative before the Court or otherwise its complaint is liable to be dismissed just like that of an ordinary complainant’s, due to his absence. It can take legal action and defend legal actions for its rights and liabilities like an ordinary person.

Professional Management and Finances – The corporate form of business gives a lot of independence to its managerial class to function as there is no human employer and the shareholders of the company exercise a formative control only for name-sake. In addition, a company is the only form of business which can raise capital from the public either by way of shares or debentures.

Disadvantages of a Company

Lifting the Corporate Veil – Although separate legal entity of a company is the bedrock of the whole company law, piercing the corporate veil is permissible in certain exceptional circumstances. The corporate veil is said to be lifted when the court ignores the company and concerns itself directly with the members or the managers.

Formality and Expense – Since there is a statutory procedure laid down in the Companies Act, 2013 for incorporation of a company, therefore, it is a formal affair and involves considerable compliances and expenditure. Due to the numerous compliances and penalties associated with non-compliance, it is even said that “corporate directors wake up each morning as potential criminals.”

Company is not a Citizen – A company is not a natural person, and hence, it cannot claim citizenship in India. In State Trading Corporation of India Ltd. v. CTO [AIR 1963 SC 1811], a special bench of the Supreme Court was dealing with the State Trading Corporation of India which is incorporated as private company under the Companies Act. All the shares are held by the President of India and two secretaries in their official capacities. The question was whether the corporation was a citizen. It was argued that ‘if the corporate veil is pierced, one sees three persons who are admittedly the citizens of India’ and therefore the corporation, should also be regarded as a citizen. 

However, the SC held that neither the provisions of the Constitution, Part II, nor of the Citizenship Act, either confer the right of citizenship on, or recognize as citizen, any person other than a natural person. Hence, a corporation is a person in the eyes of the law, but it is not a citizen to claim fundamental rights under Article 19 of the Constitution.

Although a company cannot be a citizen, yet it has a nationality, domicile and residence. It resides for the purpose of income tax where its real business is carried on.

Conclusion

Although there are both advantages and disadvantages in a corporate or company form of business organization, upon analysis, one can safely conclude that the advantages overweigh the disadvantages. When we compare the different forms of business organization available to entrepreneurs, again the corporate form of business comes out on the top. As a result, if you are a first time entrepreneur, looking to provide goods or services to potential clients, you would be well advised to choose the company or corporate form of business organization.