Often, the term company is used in a way that suggests that there is only one type. However, there are different kinds of companies and structures that include those limited by shares and those limited by guarantee.  Choosing the right company structure is crucial for your business. This article explains the key difference between a company limited by shares and a company limited by guarantee so you can make the right choice for your business.

Company Limited By Shares

A company limited by shares is one of the most popular commercial vehicles used in Australia. It refers to a company where the liability of its shareholders is limited to the amount (if any) unpaid on the shares held by them. This means that if the company goes into debt, the shareholders will only have to pay an amount that is proportionate to their shareholding.

Similarly, the directors of a company limited by shares are also not liable for the debts of the company. They become personally liable only if they engage in activities that go against their legal obligations.

The limited liability of these companies means that the personal assets of members are not at risk when they invest in the company. If the company experiences financial difficulties, its debts usually do not become the debts of the shareholders. Limited liability provides investors with certainty and security. As a result, investment is often stimulated.

Types of Companies Limited by Shares

A company limited by shares can be either a public or a proprietary (private) company. A proprietary company can have no more than fifty non-employee shareholders. It has a restricted right to transfer shares and cannot undertake any commercial activities (except in limited circumstances) that would require disclosure. Therefore, they cannot issue securities such as shares, debentures or units.

Proprietary companies can be large or small. The difference between small and large proprietary companies depends on:

  • their assets;
  • their revenue; and
  • the number of entities that the company controls.

A public company is typically bigger than a proprietary company. It can issue securities in itself to the public and has greater disclosure and reporting requirements. They do not usually have a limit on the permissible number of shareholders and have an unrestricted right to transfer shares.

All companies limited by shares must include the term ‘limited’ in their name to alert potential creditors that the company has limited liability.

Company Limited By Guarantee

A company limited by guarantee limits its members’ liability to the amount that each has undertaken to contribute to the business’ property. A guarantee is a fixed amount. The company constitution typically details all guarantees.

As the definition suggests, members only need to pay their guarantee when the business ends. If the company ends with liabilities greater than the total amount of their member’s guarantees, the members are not required to pay any more than their guarantee. This type of company can only be public.

Key Limitations

A company limited by guarantee cannot issue shares. Its members also do not receive dividends from profits. This sort of company has no share capital and is unable to raise equity. For this reason, businesses rarely use it.

Rather, they are common among recreational clubs and in the not for profit sector. Their inability to raise capital is relatively unproblematic in this context because these kinds of companies have limited needs for capital. These are usually satisfied through fundraisers, grants or with membership fees.

If a company limited by guarantee is small, it does not need to prepare an annual financial report or a director’s report. However, a member with 5% of votes can request them in writing, and the Australian Securities and Investment Commission can direct a company to prepare them.

If the members created the company for a non-commercial aim and its income furthers that purpose, they don’t need to include the word ‘limited’ in its name.

Key Takeaways

After choosing to structure your business as a company, you should decide whether to limit it by shares or by guarantee. If your company is in the not-for-profit sector, limiting it by guarantee may be the right option for you. However, if you wish to raise capital for your business, limiting it by shares might be preferred. If you have any questions or need assistance with setting up a company, contact LegalVision’s business lawyers on 1300 544 755 or fill out the form on this page.

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