Company: Formation process, Advantages and Disadvantages


Meaning of Company

A company is a legal entity which is created through association of peoples for attaining common goals. It is a corporate body or incorporated business organization which is registered under the companies act to carry out a business activities and capital is raised by contribution of its members or issuing debentures to public. Members of a company shares a common purpose and unite together voluntarily for achieving specific objectives. Company is treated as a legal artificial person as per the law and all transactions are entered in its own name distinct from its owners. It is assumed to have perpetual existence which is not influenced by its owners, board of directors, employees and shareholders. 

Process of Company Formation

Promotion stage

It is the first step in the formation of company which is concerned with finding out business opportunities. A company come into existence with the efforts of peoples or group of individuals or an enterprise. It need to be promoted by some people. Promotion stage starts with conceiving a business idea by conducting a detailed investigation and ends with converting this idea into real actions i.e. establishment of organization and starting business activities. It comprises of sum total of all activities done by various individuals for building up a company. The person who does the task of promoting a business organization is termed as Promoter. These people perform a wide range of activities ranging from evaluating a business idea, arranging finance, assembling resources and finally making efforts for establishing an organization. 

Registration of company

Registration or incorporation is the second stage in process of company formation. It is this stage where a company comes into existence. A duly registration of company under the company’s act is must for proper constitution of a company. 

Procedure for company registration: There are various documents which need to be filed with Registrar of companies for getting a company registered. These documents are listed below: –

  • Memorandum of association- Minimum of 2 persons in case of private company and a minimum of 7 persons in case of public company must sign this document. Memorandum of association must be properly stamped. 
  • Article of association- All of the persons who have signed the memorandum of association need to sign the article of association.
  • List of directors- A list is filed with registrar of companies denoting full details about directors like their name, address and occupation. 
  • Written consent of Directors- Directors need to give written consent that they agreed to act as a director and such consent need to be sign with registrar. Also, an undertaking in written need to be given that they agree to take qualified no. of shares and will pay for them.
  • Notice of address of Registered office- Filing the notice of address of company’s registered office at the time of registration is customary. It need to be within 30 days after the company’s incorporation. 
  • Statuary declaration- Such declaration need to be given by a High court or a Supreme court advocate, a practicing charted accountant, an attorney who is entitled to appear before a High court and by person mentioned in articles as managing director, director, manager or secretary of company, mentioning that all requisites and rules of act are properly compiled with. It need to be filed with registrar.

Once all of these required documents are filed and prescribed fees is paid to registrar, all the documents are then scrutinized by him. If everything is all right, name of a company is entered into register and a certificate of incorporation is issued by Registrar of companies. 

Certificate of incorporation

The registrar will issue a certificate of incorporation once all the documents are registered such as memorandum of association, article of association etc. Certificate of incorporation or registration is an evidence of company’s registration and compilations of all requisites of Companies act.

Certificate of commencement of Business

Private companies do not require a certificate of commencement for starting their business and can commence soon after getting their certificate of incorporation. However, a public company requires a certificate of commencement for starting their business activities. After getting certificate of incorporation, a prospectus is issued for giving invitation to public for subscribing to its share capital. Minimum amount of subscription is fixed in prospectus which a company is required to sell. Once all required numbers of shares are sold, then a certificate along with bank letter denoting that all amount has been received is send to registrar. The registrar will now scrutinize all the documents and if he is satisfied will issue a certificate of commencement of business. Thus certificated serve as an evidence for commencing of business activities. 

Advantages of Company

Various advantages of company are discussed in points given below: –

Large financial resources

Joint stock companies are easily able to acquire large amount of funds in comparison to partnership and sole proprietorship business. Company can raise their required amount of capital by issuing shares to general public. There is no limit on number of shares to be issued which can be increased as per the need for the funds arises. 

Limited liability

The members of joint stock companies have limited liability that is to the face value of shares held by them. Private property of shareholders of company is not liable for paying any debts of company. It attracts a large number of people to deploy their saving in company with the view of earning profits.

Perpetual existence

A company is incorporated with a separate legal entity which is not affected by the existence of its members. Members of a company keeps on changing from time to time which do not have any effect on continuity of company. It is not influenced by the insolvency, insanity and death of its members or directors. 

Transferability of shares

Shares of joint stock companies are free-transferable which can be transferred at any point of time. Whenever the shareholders get displeased with company’s progress, they can easily sell off their shares. It offers higher liquidity to the investors and stability to company.

Efficient management

Management of joint stock companies is in the hand of highly professional individuals. It is distinct from the ownership and management team is elected democratically by shareholders or members. Management team is termed as Board of directors who possess sound financial, legal and business knowledge that enables them in efficient managing the company affairs. Availability of large scale resources assist companies in attracting talented personnel for holding the key management positions.

Economies of large scale production

Companies are able to enjoy the economies of large scale production due to the availability of large amount of resources. Companies carry out their production activities on large scale that offers economies in purchase, production, management and marketing. 

Disadvantages of Company 

Difficulty of formation

There are lot of complexities involved in promotion of joint stock companies. Promotion involves a number of stages which need to be properly fulfilled. It requires a lot of legal documents and formalities to be completed before commencing the business. Also, the services of specialists like company secretary, charted accountant are needed which makes the formation process of company quite expensive. 

More restrictions

Joint stock companies need to comply with large amount of legal restrictions as compared to partnership and sole proprietorship business. All this requires a large amount of efforts and time.

Separation of ownership and Management

Ownership and management is in distinct hands in case of joint stock companies. The company is managed by those individuals who do not have any stake in it and work on salary basis. There may be possibility that management may misuse the company resources for their personal benefits.

Delay in decision making

There is a delay in decision making in company form of organizations. There is no single individual who has a power to make policies in such organizations. All decisions are taken collectively in meeting of board of directors. Whereas in case of some business opportunity, quick decision making is not possible as meeting of directors can’t be arranged suddenly. 

Classification of Company

Companies are classified into distinct types that is based on their mode of incorporation, number of members and liability of members. Different types of company are as follows: –

  1. Royal charted companies
  2. Registered or incorporated companies
  3. Statutory companies
  4. Public company
  5. Private company
  6. One Person company
  7. Company limited by shares
  8. Company limited by guarantee
  9. Unlimited companies

Types of companies based on their mode of incorporation

  • Royal charted companies: Royal charter companies are those companies that are incorporated by Royal charter or special sanction which is granted by state head. They get their power by a special order of a queen or a king for trade, investment, exploration and colonization. East India company, Bank of England, Russian-American Company are some of the examples of Royal charted companies.
  • Statutory companies: Statutory companies are one that is created by the special act of parliament passed by state and central legislature. The compulsory powers, responsibilities and objectives of these companies are defined by this act. These companies are established to carry out activities of national importance. Life insurance corporation, Reserve bank of India and Agriculture development bank are some of the statutory companies.
  • Registered or incorporated companies: Companies which are established through registration under the common company law passed by government are termed as Registered companies. Such companies came into existence once they themselves registered under act and incorporation certificated is passed by Registrar of Companies. All powers and workings of these companies are governed by company act provisions. 

Types of company based on the liability of its members

  • Company limited by shares: These are the companies where liability of member is limited to the extent of share capital held by them. The face value of shares owned by member is amount of their liability and their personal assets are not liable to pay for any of the company debts.
  • Company limited by guarantee: Under these companies, liability of each member is limited to that specific amount that they guarantee to pay off in case of winding up of a company. The shareholders of such companies promised to pay a specific fixed amount for covering the company’s liabilities.
  • Unlimited company: It is a company where there is no limit to the liability of shareholders. Even the personal assets are liable to pay off the company debts, in case if assets of company fall short to cover liabilities of company. Liability of shareholder is unlimited like in case of partnership firms and need to pay even more than the face value of shares held by them.

Types of companies on the basis of number of its members

  • Public company: Public companies refers to those companies whose securities are listed on a recognized stock exchange and are available for subscription by general public. There is no restriction on transferability of shares. Minimum number of member needed for forming such company is 7 members, however there is no limit of maximum number of members. Company have a separate legal existence from its members and is not influenced by retirement or death of its shareholders. 
  • Private company: Private company is one whose shares are not listed on recognized stock exchange are not available for general public to subscribe. Members of these companies are restricted from transfer of shares. There is minimum limit of 2 members and maximum allowed limit is 200 members for registration as a private company under the company’s act. These companies must use the name “Private Limited” with their name. 
  • One-person company: One-person company is a new type of company that was included in companies act 2013. It is a company which is incorporated by single individual without the need of partners, shareholders or board of directors. These companies were introduced with motive of encouraging young entrepreneurs and startups. Owner do not need to share business profits like in case of sole proprietorship but have a limited liability like in case of company. Personal assets of owner are not liable to be used for covering the losses and liabilities of company. However, one-person company need to mention in their memorandum of association the name of that individual who will take charge of company in case of death of owner.