The growth of trade and business led to many problems that traditional forms of business did not solve. For example, the unlimited liability feature of a sole proprietorship form of business resulted in people forming partnerships, but even that proved to be too inadequate and risky. This is when the concept of companies emerged, and private companies form of business is the oldest example of it.
Definition of Private Company
Section 2(68) of Companies Act, 2013 defines private companies. According to that, private companies are those companies whose articles of association restrict the transferability of shares and prevent the public at large from subscribing to them. This is the basic criterion that differentiates private companies from public companies.
The Section further says private companies can have a maximum of 200 members (except for One Person Companies). This number does not include present and former employees who are also members. Moreover, more than two persons who own shares jointly are treated as a single member.
This definition had previously prescribed a minimum paid-up share capital of Rs. 1 lakh for private companies, but an amendment in 2005 removed this requirement. Private companies can now have a minimum paid-up capital of any amount.
Features of Private Companies
These are some features that distinguish private companies from other types of companies:
- No minimum capital required: There was a minimum paid-up share capital requirement of Rs. 1 lakh previously, but that is omitted now.
- Minimum 2 and maximum 200 members: A private company can have a minimum of just two members (but just one is enough if it a One Person Company), and a maximum of up to 200 members.
- Transferability of shares restricted: Private companies cannot freely transfer their shares to the public like public companies. This is why stock exchanges never list private companies.
- “Private Limited”: All private companies must include the words “Private Limited” or “Pvt. Ltd.” in their names.
- Privileges and exemptions: Since private companies do not freely transfer their shares and involve limited interest by members, the law has granted them several exemptions that public companies do not enjoy.
Types of Private Companies
Private companies are of three types depending on their members’ liabilities:
- Limited by shares: The liability of the members is limited to the amount unpaid to the company with respect to the shares held by them.
- Limited by guarantee: Here the members’ liabilities are limited to the amount of money they guarantee to pay in case the company is wound-up.
- Unlimited liability: The liability of members is unlimited in this type of private companies. Personal assets of members can be attached and sold when the company is being wound-up.
In terms of the number of members, a private company can also be a One Person Company. These types of companies have just one member/shareholder as their promoter. The new Companies Act of 2013 introduced such types of companies.
Further, even small companies that have limited paid-up share capitals and turnover amounts, as defined under Section 2(85), are treated as private companies under Indian company law.
Formation of Private Companies
Minimum 2 and maximum of 200 members can come together to form a private company by submitting an application to that effect to the Registrar of Companies along with a subscribed copy of their Memorandum of Association and other required documents after payment of prescribed fees.
The Memorandum must state the name of the company (which should include the words “Private Limited”), the address of its registered office, its objects and purposes, and extent of liability of its members. It must also mention the details of subscribers to the Memorandum.
Apart from this, the Companies Act has also prescribed certain other compliances, such as requirements relating to names of private companies, their Articles of Association, details of members, transferability of shares, etc.
Privileges of Private Companies
The Companies Act has provided certain privileges and exemptions to private companies that public companies do not possess. These privileges accord them greater freedom in conducting their affairs. Here are some examples of them:
- No need to prepare a report for annual general meetings.
- Only 2 minimum directors required.
- No need to appoint independent directors.
- They can adopt additional grounds for the disqualification of directors and vacation of their office.
- They can pay greater remuneration to their directors than compared to some other types of companies.
Limitations of Private Companies
Despite all the advantages they offer, private companies also have the following limitations:
- Private companies cannot freely transfer shares to the public.
- They find it more difficult than public companies to access external financial support.
- Shareholders have greater risks and liabilities.
Solved Examples on Private Companies
Question 1: Rajiv owns a garments shop with his two brothers. They decided to diversify its business by creating a company that will manufacture garments. They are facing some financial difficulties in this regard.
For example, they collectively have just Rs. 80,000 as capital. Furthermore, they wish to limit their liabilities because of such financial shortcomings. Can they form a private company under such conditions?
Answer: Rajiv and his brothers can definitely incorporate a company under such conditions. Although the Companies Act had previously prescribed a minimum capital requirement of Rs. 1 lakh, this is now omitted. Considering the second condition, they can opt for a company limited by shares or guarantee.
Question 2: Briefly describe the process Rajiv and his brothers will have to undertake to create their company.
Answer: Firstly, they will have to file with the Registrar of Companies an application form with requisite fees. This form will be accompanied with its Memorandum and Articles of Association. This Memorandum will contain details like their company’s name (suffixed with “Pvt. Ltd.”), their objectives, the address of their office, etc.
After this, the Act also requires them to provide their own personal details to the Registrar. The company will come into force after the Registrar grants a certificate of incorporation to them.