Definition of Corporation
A corporation is a legal entity that is separate and distinct from its owners or stockholders. It is an artificial being, created operation of law, having the right of succession and the powers, attributes and properties expressly authorized by law or incident to its existence.
Common Features of a Corporation
- A corporation is an artificial being with a personality separate and apart from its individual shareholders or members.
- It is created by operation of law. Which means it cannot come into existence by mere agreement of the parties as in the case of business partnerships. Corporations require special authority or grant from the State, either by a special incorporation law that directly creates the corporation or by means of a general corporation law.
- It enjoys the right of succession. A corporation has the capacity of continued existence regardless of the death, withdrawal, insolvency or incapacity of the individual shareholders or members. The transfer of ownership of shares of stock does not dissolve the corporation.
- It has the powers, attributes and properties expressly authorized by law or incident to its existence. For example, an investment by a transportation company in an insurance corporation designed to reduce insurance costs, may be interpreted as an act which is reasonably requisite and necessary to carry out the business of land transportation. It is because insurance costs from part of the legitimate expenses of a transportation owner.
Advantages of a Corporation
- The corporation has the legal capacity to act as a legal entity.
- Shareholders have limited liability.
- It has continuity of existence.
- Shares of stock can be transferred without the consent of the other shareholders.
- Its management is centralized in the board of directors.
- Shareholders are not general agents of the business.
- Greater ability to acquire funds.
Disadvantages of a Corporation
- A corporation is relatively complicated in formation and management.
- There is a greater degree of government control and supervision.
- It requires a relatively high cost of formation and operation.
- It is subject to heavier taxation than other forms of business organizations.
- Minority shareholders are subservient to the wishes of the majority.
- In large corporations, management and control have been separated from ownership.
- Transferability of shares permits the uniting of incompatible and conflicting elements in one venture.
Types of Corporations
Different types of corporations are as follows:
Publicly Held Corporation
A publicly held corporation is a corporation whose stock is sold to and owned by the public instead of private investors. The shares of such corporations are traded on a public stock exchange (e.g., the New York Stock Exchange or NASDAQ in the United States).
Closely Held Corporation
A closely held corporation is a corporation whose shares of common stock are owned by relatively few individuals and are generally unavailable to outsiders.
Limited Liability Company (LLC)
A form of business organization with the liability-shield advantages of a corporation and the flexibility and tax pass-through advantages of a partnership.
A C Corporation (also known as “C Corp”) is a legal entity that protects the owners’ personal assets from creditors. It can have an unlimited number of owners and multiple classes of stock. These characteristics and other advantages make it a good vehicle for attracting venture capital and other types of equity financing.
An S corporation is a special structure of business ownership by which the business is able to avoid double taxation because it is not required to pay corporate income tax on the profits of the company. All profits/losses are passed on directly to the shareholders of the company. Unlike a C Corporation, an S Corporation must not have more than 100 shareholders and must have only one class of stock.
A professional corporation is a corporation consisting of professionals who are licensed to practice a particular profession such as accountants, lawyers and doctors. These professionals can form a corporation and take advantage of the various benefits of the corporate structure such as limited liability of shareholders, continuity of life and centralized management. However, shares in a professional corporation can only be transferred to other individuals licensed to practice in the same profession.
A nonprofit corporation is an organization formed for serving a purpose of public other than for accumulation of profits. These corporations enjoy tax-exempt status; however, specific requirements and limitations are imposed on their activities. Nonprofit corporations are generally those that serve a scientific, literary, education, artistic or charitable purpose that benefits the public.
The Making of a Corporation
A corporation is created when it is incorporated by a group of shareholders who have ownership of the corporation, represented by their holding of common stock, to pursue a common goal. Incorporation is the legal process used to form a corporate entity or company.
Incorporation has many advantages for a business and its owners, including:
- Protects the owner’s assets against the company’s liabilities
- Allows for easy transfer of ownership to another party
- Achieves a lower tax rate than on personal income
- Receives more lenient tax restrictions on loss carryforwards
- Can raise capital through the sale of stock
Incorporation involves drafting “articles of incorporation” which lists the primary purpose of the business and its location, along with the number of shares and class of stock being issued if any.
As a rule, the shareholders are only responsible for the payment of their own shares. As owners, the shareholders are entitled to receive the profits of the company, usually in the form of dividends. The shareholders also elect the directors of the company.
The directors of the company are responsible for day-to-day activities. They owe a duty of care to the company and must act in its best interest. They are usually elected annually. Smaller companies can have a single director, while larger ones often have a board comprised of a dozen or more directors. Except in cases of fraud or specific tax statutes, the directors do not have personal liability for the company’s debts.
The process for forming a corporation varies according to the state you do business in and the state you live in. For the most part, you’ll need to file articles of incorporation with the state and then issue stock to the company’s shareholders. The shareholders will elect the board of directors in an annual meeting.
Requirements for Articles of Incorporation
The articles in the document vary by state, but the following “articles” are typically included:
- Name of corporation
- Name and address of the registered agent
- Type of corporate structure (e.g., profit or nonprofit corporation, professional corporation, etc.)
- Names and addresses of the initial board of directors
- Number and type of authorized shares
- Duration of the corporation, if it wasn’t established to exist perpetually
- Name, signature, and address of the incorporator, who is the person in charge of setting up a corporation
Most states also require the articles to state the firm’s purpose, though the corporation may define its purpose very broadly to maintain flexibility in its operations. Amazon’s certificate of incorporation, for example, states that the corporation’s purpose is “to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of Delaware.”
Other provisions outlined in a company’s articles of incorporation may include the limitation of the directors’ liability, actions by stockholders without a meeting, and the authority to call special meetings of stockholders. Each state has certain mandatory provisions that must be contained in the articles of incorporation and other optional provisions that the company can decide whether to include.
Many states charge filing fees for a business that incorporates in the state, whether the business operates there or not. A business that is incorporated in one state and is physically located or doing business in another state must register in the other state as well, which involves paying that state’s filing fees and taxes.
Another key corporate document is the bylaws, which outlines how the organization is to be run. Bylaws work in conjunction with the articles of incorporation to form the legal backbone of the business.
Rights of a Shareholder
The following are some of the rights of a shareholder:
- Right to be issued certificate of stock or other evidence of share ownership and to transfer such shares.
- Right to attend and vote in person or by proxy at shareholders’ meetings.
- Right to elect and remove directors.
- Right to adopt, amend or repeal the by-laws.
- Right to purchase a portion of any new shares issued to maintain the same percentage of stock ownership. This right is known as pre-emptive right. However, this right is not absolute and may be denied.
- Right to receive dividends when declared.
- Right to inspect corporate books and records, and to receive financial reports of the corporation’s operations.
- Right to participate in the distribution of corporate assets upon dissolution.
Components of a Corporation
- Corporators are those who compose a corporation whether as shareholders or members, at any time. This term includes incorporators, shareholders or members.
- Incorporators are shareholders or members mentioned in the articles of incorporation as originally forming and composing the corporation and are signatories to said articles of incorporation. They must be natural persons (i.e. human beings) as distinguished from artificial beings (e.g., a corporation or a partnership). Note: All incorporators (if they continue to be shareholders) are corporators of a corporation, but not all corporators are incorporators.
- Shareholders or stockholders are corporators in a stock corporation. Shareholders may be natural or juridical persons.
- Members are corporators of a non-stock corporation.
- Subscribers are persons who have agreed to take and pay for original, unissued shares of a corporation formed or to be formed. Note: All incorporators are subscribers but a subscriber need not be an incorporator.
- Promoters are persons who bring about or cause to bring about the formation and organization of a corporation.
- Underwriters are usually investment bankers who have:
- agreed, alone or with others, to buy at stated terms an entire or a substantial part of an issue of securities; or
- guaranteed the sale of an issue by agreement to buy from the issuing corporation any unsold portion at a stated price; or
- agreed to use his best efforts to market all or part of an issue; or
- offered for sale shares he has purchased from a controlling stockholder. Controlling stockholder means a shareholder who owns more than half of the shares of majority of the outstanding shares in a company.
Classes of Shares in General
- Par value shares. One in which a specific amount is fixed in the articles of incorporation and appearing on the certificate of stock. The par value is the minimum issue price of the shares.
- No-par value shares. One without any value appearing on the face of the certificate of stock. A no-par value share may have a stated value which may be fixed in the articles of incorporation or by the board of directors or the shareholders. Thus, the issue price may vary from time to time as it is usually fixed based on the book value of the corporation’s shares.
- Voting shares. Those issued with the right to vote.
- Non-voting shares. Those issued without the right to vote.
- Ordinary or common shares. These shares entitle the holder to an equal pro-rata division of profits without any reference.
- Preference shares. These shares entitle the holder to a certain advantages or benefits over the holders of ordinary shares.
- Promotion shares. Those issued to promoters as compensation in promoting the incorporation of a corporation, or for services rendered in launching or promoting the welfare of the corporation.
- Treasury shares. A stock that has been issued by the corporation as fully paid and later reacquired but not retired.
- Convertible shares. A stock which is convertible or changeable from one class to another class.
When the corporation has reached its objectives, its legal life can be terminated using a process called liquidation or winding up. Essentially, a company appoints a liquidator who sells the corporation’s assets, then the company pays any creditors and gives any remaining assets to the shareholders.
The liquidation process can be voluntary or involuntary. If it is involuntary, the creditors of an insolvent corporation usually trigger it, and this may lead to the corporation’s bankruptcy.