The main purposes for establishing companies include, inter alia, undertaking trading activities, join forces with others in the same field, and perform business away from direct personal responsibility.
Another important feature for corporate business is enabling proprietors to borrow under the name of the company. Being a legal person of juristic nature, enable companies to borrow and obtain loans for legitimate purposes.
At first, one would suppose that a sole trader being personally liable would find it easier than a company to raise money by borrowing. In practice, however, this is not so since a company is often able to grant a more effective charge to secure its indebtedness. This is due to the evolution of a highly beneficial type of security known as “floating charge”. This means, a charge which floats like a cloud over the whole assets from time falling within a generic description, but without preventing the mortgagor from disposing of these assets in the usual course of business until something occurs to cause the charge to become fixed.
This charge is particularly suitable when a business has no fixed assets such as land, which can be included in a normal mortgage but carries a large and valuable stock in trade. Since this stock needs to be turned over in the course of business a fixed charge is impracticable because the consent of the mortgagee would be needed every time anything was sold and a new charge would have to be entered into whenever anything was bought. A floating charge obviates these difficulties, it enables the stock to be turned over but attaches to whatever it is converted into to whatever new stock is acquired.
The use of this beneficial type of security is in practice restricted to companies. By virtue of it, the lender can obtain an effective security on all the undertakings and assets of the company both present and future, either alone or in conjunction with a fixed charge on its land.
If, in addition, the lender requires some personal security he can insist on some members (directors of the company) to join as guarantors. By this, he can place himself in stronger position than if he merely had the personal security of individual traders.
It therefore happens not frequently, that a business is converted into a company solely in order to enable capital be raised by borrowing. Nowadays, corporate guarantees compared to personal guarantees, play effective greater role in securing finance and cash flow for any business.