Private Corporation Definition, Benefits, and Limitations

FT Contributor  | 

When a company is initially established, it starts as a private business. Eventually, the business owner is faced with a choice to remain private or go public. A private corporation is one that doesn’t sell shares of the company on the public stock market.

In most cases, with a private corporation, only a few individuals hold ownership of the company and make decisions for its future, referred to as a “closely held corporation.” Ownership of the company can still be bought and sold but the owners work together to make decisions on how to run the business. There are different types of corporations within the private business sector, but none of these companies sell shares to the public.

Types of Private Business

There are four different types of private businesses, which are identified based on the type of ownership that’s established. These corporation types include the following:

  • Sole proprietorship: A private business is a sole proprietorship when it’s owned by one individual. This owner takes sole responsibility for its financial obligations, assets, and liabilities.
  • Limited liability corporation (LLC): When a private business has more than one owner, it’s considered an LLC. The company’s liabilities, assets, and financial obligations are shared amongst these owners but they aren’t personally responsible for them.
  • S corporation: To qualify as an S corporation, a private business cannot have more than 100 shareholders and can only have one class of stock. As an S corporation, the company is allowed to pass income to shareholders without engaging an intermediary.
  • C corporation: C corporations are the most common type of corporations. In a C corporation, owners pay taxes on their income but are considered separate entities from the business. This means they aren’t held personally responsible for liabilities and financial obligations.

When a private corporation is established, the business owner must decide what type of company to create based on ownership, how the business is run, and plans for the future.

How Private Companies Are Similar to Public Companies

Similar to a public company, a private company must have a board of directors and schedule an annual meeting with owners. Private companies can also have shareholders and holdings, just as a public company may have, and they must keep a list of these investors.

While the term “private company” may lead you to believe a corporation is small, private companies may actually be just as big as public corporations. Establishing as a private company doesn’t limit the size of the corporation or how much it can grow. Some of the largest and most easily recognizable privately-held corporations include the following:

  • Mars;
  • Publix;
  • Albertsons;
  • Dell;
  • Chick-Fil-A.

How Private Companies Differ From Public Companies

While private companies share several characteristics of public companies, there are also many distinct differences between the two.

Do Private Companies Have Stock?

Private companies can issue stock and shareholders may choose to invest in these corporations. However, these shares are never sold in the public market. Private companies don’t engage in an initial public offering (IPO), which is when stocks are initially traded on the market for any public investor to purchase.

The number of owners a private company has depends on how it’s incorporated. A sole proprietorship has only one owner while a C corporation can have as many shareholders as it wants. In some cases, investors know each other well and collaborate on how to grow the business.

In a large private corporation, there may be numerous shareholders, making it impossible for all to agree on business decisions together. This might make the private company feel more like a public corporation.

Transparency

Public companies are required to be transparent about their earnings, decisions, and financial status. Press may attend board meetings for publicly-held companies and these companies must provide annual financial reports, quarterly reports, and information on major decisions made within the corporation.

While most business owners cringe at the idea of this public exposure, stock trading on the public market is an effective way for corporations to raise money to grow and take care of financial obligations.

Private corporations must be transparent with shareholders, but not the public. These corporations aren’t required to publish financial information or allow the press to attend board meetings. Without as many owners to consult, most private corporations can make decisions and implement new policies quickly.

Regulation

When a company goes public, it not only welcomes investors to buy its shares, it also agrees to make decisions based on what these shareholders want. Public companies usually have many shareholders to answer to and must pay attention to their worth according to the public market. By keeping shareholders happy and the business growing, public corporations can maintain stock value.

While private companies may also have multiple shareholders, they can regulate who and how many people are involved in the ownership of the corporation. This makes it easier to agree on decisions that affect the future of the company. However, private companies are still required to hold annual meetings and maintain a board of directors that helps create a plan for the business.

Benefits of Investing in a Private Company

If you decide to invest in a private company, you may have more control over the decisions made by the corporation. When a private company profits, you’re paid directly as a shareholder. By investing in a company when it’s private, you may also be able to cash in on your investment by selling your shares if the company goes public.

Drawbacks of Investing in a Private Company

Most investors put a majority of their investment money in publicly traded companies because it’s easy to determine the value of the shares at any given time. With a private company, there aren’t strict valuations needed since the stocks aren’t traded in the public stock market. Therefore, it can be hard to know exactly how much your ownership in the company is worth and if your investment is profitable.

When you invest in a public company instead of a private one, you can also easily buy and sell stocks as you see fit. The public stock market is conducive to rapid and daily trading, making it easy for you to make moves to ensure your investments are growing.

There are benefits and drawbacks to both private and public corporations. It’s important to note the differences between the two when deciding which is best for your investment strategy.


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