In all four countries surveyed, the limited liability vehicle is a business format that is not only seen as suitable for SMEs but is very popular with them.. In all cases, the limited liability format allows entrepreneurs to conduct their affairs in a way which separates their own financial interests from those of their companies. This technicality is intended to promote entrepreneurial activity by reducing the risk of ownership. But at the same time it increases the risk run by third parties who deal with the company.
The focus of this report has been on the safeguards that the law in the four countries puts in place as a corollary of the granting of limited liability status to small privately owned companies, and in particular on the role that the processes of accounting and disclosure play in this context.In the UK, all companies are regulated by an integrated company law framework which, inter alia, requires them to keep accounting records and to prepare annual accounts on a standardised basis. This framework is supported by a comprehensive database of information on individual companies’ affairs which is publicly available and can be inspected by any person.
The range of information that each company must file includes information on its official address, registration number, director and shareholder details, as well as its annual accounts. Any party is able to access any of this data on the public record for any purpose, whether related to business decision making or otherwise. A significant amount of business use of published company information is still apparently made by third parties. While this position still holds, from the 1980s onwards a succession of reforms aimed at reducing business burdens for smaller companies has resulted in reduced requirements for the filing of accounting information by small private companies. Such companies now need to have their accounts audited only if 10% of their shareholders demand it.While Australia is similar to the UK in that private companies operate within an integrated company law framework, and it requires a wide range of company information to be filed on the public record for general inspection, Australia has determined that small proprietary companies should not, as a rule, be expected to publish or even prepare annual accounts (although their shareholders may require them to do so). Accordingly, accounting information per se is no longer seen as an essential safeguard for creditors and other parties at the SME level.
That said, other statutory provisions provide counterbalancing safeguards for stakeholders that are not present in UK law: exemption from the requirements on accounting and audit is granted on condition that the directors of the company concerned make a declaration ofsolvency; companies may pay dividends only if the proposed payment is fair and reasonable to the shareholders as a whole and if the payment does not materially prejudice the company’s ability to pay its creditors; holding companies may be liable when their subsidiaries trade recklessly; and the circumstances in which individual directors may be made personally liable for the debts of their company are more numerous than is the case in the UK – in particular directors may be held personally liable for their company’s unpaid tax bills.Singapore introduced a new light touch regime for SMEs in 2004, and this affords exemption from the requirement to file annual accounts to all ‘exempt private companies.
Companies that do not file accounts are still, however, required to keep accounting records and to prepare annual accounts on a standardised basis. For these and all other companies, strict rules apply to dividend decisions and any director who allows a dividend to be paid other than out of allowable profits becomes personally liable to repay the excess to creditors. Directors may also be made personally liable for the company’s debts and liabilities, without limitation, where it is found that the company has been conducting business fraudulently or has incurred debt that, at the time, the company had no reasonable or probable expectation of repaying. Singapore has recently been reviewing the measure that allows exempt private companies to opt out of filing accounts, on the basis that, while evidently popular with many companies, this deprives third parties of potentially useful decision-sensitive information.
The government’s final decision on this matter has, however, been to retain the EPC in its current form in the interests of proprietorial privacy.Of the four SME corporate models surveyed, the US LLC experiences the least extent of regulatory intervention in the conduct of its affairs (but the distinction between the company and its owners and controllers is less distinct in the US than it is elsewhere). LLCs are much like partnerships in that they are substantially free to organise their own internal affairs as they see fit (and they are taxed on a transparent, or ‘pass through’, basis). They are subject to far fewer obligations as regards public accountability than companies in the other three countries, and are not required by company law to publish annual accounts or even to prepare them (although the tax authorities require detailed financial information). Minimal information on individual companies’ affairs is placed on the public record meaning that third parties cannot access such information to evaluate a company’s financial position. The principal stakeholder safeguard imposed by company law
SUMMARY AND CONCLUSIONS 27
is that directors are liable to repay to their company any amount that they pay out as dividends over the allowable limit. Some additional safeguards are provided by other branches of regulation. The tax authorities have the power to impose very substantial penalties on companies and their directors for non-compliance with the tax rules while, in bankruptcy, trade creditors enjoy privileged rights to repayment; when a single- member LLC (the most common kind) becomes bankrupt, that single member is likely to be dealt with as a sole trader, in which case the corporate veil will be pierced and he or she will assume full responsibility for the company’s debts.
This report emphasises that it is no longer the global norm for the smallest private companies to be subjected to regulatory requirements to prepare and publish annual accounts. Even in Singapore, where there is a long-standing public policy recognition of the business-usefulness of accounting information placed on the public record, small privately owned companies have since 2004 been entitled not to publish their annual accounts. The opportunity to avoid publishing accounting information is clearly popular with a great many small companies in all the countries reviewed.
It must also be acknowledged, however, that in both Singapore and Australia, and to some extent the US also, the entitlements not to prepare and/or publish accounts are counterbalanced by a number of other provisions that have the effect of ensuring that the risk assumed by stakeholders is mitigated, usually by the assumption by company directors of greater levels of personal responsibility. The principal way in which this happens is through the making of a declaration of solvency as a condition of not having to prepare and file accounts, but there are in those countries an extensive range of circumstances in which personal liability may be acquired by directors.
While the circumstances in which this may happen apply across the range of companies, and not just to SMEs, personal liability potentially has a particularly heavy impact on small companies, where the absence of explicit requirements to exercise responsible financial management might, on the face of it, be expected to lead to lower levels of care. A heightened risk of personal liability may therefore amount to a considerable incentive for directors of small companies to ensure that their companies’ affairs are properly managed, regardless of the presence or absence of elaborate legal requirements to do so.
The availability on the public record of up-to-date information on SMEs’ financial affairs is still seen by many as having value in both the UK and Singapore, not only for the sake of transparency but also as a tool for facilitating trade by and
with SMEs. The public availability of information on companies and their ownership structures will also have a practical information value to businesses and professional advisers who have obligations to carry out client checks in the context of anti money laundering requirements. Note the revised recommendations on this matter issued by the Financial Action Task Force in 2012 in its call on all countries:
to ensure that there is adequate, accurate and timely information on the beneficial ownership and control of legal persons that can be obtained or accessed in a timely fashion by competent authorities.
Where information on company performance and ownership is not generally available, the onus is placed on third parties, including those thinking of doing business with an individual company, to conduct whatever enquiries they can about the credit worthiness of the company.
The following conclusions can be drawn from the foregoing.
The authorities in all the four countries surveyed recognise that those who do business with limited companies take on a degree of risk, and they therefore insist that stakeholders are compensated for that risk. The four countries have different approaches to the question of exactly how accounting and disclosure should contribute to this process of reducing stakeholder risk.
Where company law requirements for SMEs to prepare and/or publish accounting information are not imposed, the tax authorities can and do act to impose basic standards of discipline on financial management at this level. In Singapore as well as the UK, the annual accounts prepared by companies form the basis for the computation of their tax liability; in the US and Australia, detailed accounting information is required to be submitted by each LLC and proprietary company direct to the tax authorities, the main difference between the latter two regimes and the first two being that the information provided in the latter cases does not have to be provided on a single standardised basis. Where financial information is provided only to the tax authorities and is not made systematically available to third parties, there is,📷
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however, an absence of transparency, although again the relevance and business-usefulness of that information, where it is published for general inspection, is likely to be affected by the amount of information that has to be disclosed and the level of detail provided.
The absence of legal requirements to prepare and/or publish accounting information will not in itself affect the business case for the engagement of qualified accountants by SME companies. Aside from the fact that companies will invariably need expert assistance with their tax obligations, accountants are widely seen in all four countries as providing an essential business and financial support service to SMEs.
What is considered to be an appropriate regime for accounting and disclosure by SME companies in all countries is likely to take account, increasingly, of cost- benefit considerations, and especially the goal of keeping compliance obligations and compliance costs to the minimum justifiable level. It is also likely to be heavily influenced by the wider business culture of the country concerned, and the extent to which transparency in relation to corporate activities is seen as justifiable and desirable.
Any regulatory regime for limited companies is likely to comprise an interrelated system of checks and balances. Where rules on accounting and disclosures exist, they will form part of such a system, and where they do not, compensating measures are likely to be present. The optimum regime cannot, therefore, be considered in isolation from consideration of how the framework provides appropriate safeguards overall for investors, creditors and the public interest. Although small companies in Australia, for example, are not bound to prepare or publish annual accounts, the financial interests of their stakeholders are addressed by requirements for directors to make an annual declaration of solvency and for decisions on distributions to take stakeholders’ interests expressly into account. In countries that have more extensive and standardised requirements governing accounting and public disclosure, such as the UK, those measures may be seen as a substitute for the more stringent rules on personal liability that exist in other company law regimes.
4. The particular contribution that accounting and disclosure can make to the goal of protecting stakeholder interests and the public interest in any individual company law regime will accordingly be a function of the wider regulatory framework within which companies exist. Determining where the optimal balance lies at the SME level will invariably involve an assessment, not only of the costs and benefits of mandating standardised accounting and disclosure practices, but of how they coexist with other measures that provide necessary protections for stakeholder interests. In this spirit the World Bank report Doing Business 2013 says that:
The economies that rank highest on the ease of doing business are not those where there is no regulation – but those where governments have managed to create rules that facilitate interactions within the marketplace without needlessly hindering the development of the private sector...In essence, it is about smart business regulations, not necessarily fewer regulations.
In all four countries surveyed, the limited liability vehicle is a business format that is not only seen as suitable for SMEs but is very popular with them.. In all cases, the limited liability format allows entrepreneurs to conduct their affairs in a way which separates their own financial interests from those of their companies. This technicality is intended to promote entrepreneurial activity by reducing the risk of ownership. But at the same time it increases the risk run by third parties who deal with the company.
The focus of this report has been on the safeguards that the law in the four countries puts in place as a corollary of the granting of limited liability status to small privately owned companies, and in particular on the role that the processes of accounting and disclosure play in this context.In the UK, all companies are regulated by an integrated company law framework which, inter alia, requires them to keep accounting records and to prepare annual accounts on a standardised basis. This framework is supported by a comprehensive database of information on individual companies’ affairs which is publicly available and can be inspected by any person.
The range of information that each company must file includes information on its official address, registration number, director and shareholder details, as well as its annual accounts. Any party is able to access any of this data on the public record for any purpose, whether related to business decision making or otherwise. A significant amount of business use of published company information is still apparently made by third parties. While this position still holds, from the 1980s onwards a succession of reforms aimed at reducing business burdens for smaller companies has resulted in reduced requirements for the filing of accounting information by small private companies. Such companies now need to have their accounts audited only if 10% of their shareholders demand it.While Australia is similar to the UK in that private companies operate within an integrated company law framework, and it requires a wide range of company information to be filed on the public record for general inspection, Australia has determined that small proprietary companies should not, as a rule, be expected to publish or even prepare annual accounts (although their shareholders may require them to do so). Accordingly, accounting information per se is no longer seen as an essential safeguard for creditors and other parties at the SME level.
That said, other statutory provisions provide counterbalancing safeguards for stakeholders that are not present in UK law: exemption from the requirements on accounting and audit is granted on condition that the directors of the company concerned make a declaration ofsolvency; companies may pay dividends only if the proposed payment is fair and reasonable to the shareholders as a whole and if the payment does not materially prejudice the company’s ability to pay its creditors; holding companies may be liable when their subsidiaries trade recklessly; and the circumstances in which individual directors may be made personally liable for the debts of their company are more numerous than is the case in the UK – in particular directors may be held personally liable for their company’s unpaid tax bills.Singapore introduced a new light touch regime for SMEs in 2004, and this affords exemption from the requirement to file annual accounts to all ‘exempt private companies.
Companies that do not file accounts are still, however, required to keep accounting records and to prepare annual accounts on a standardised basis. For these and all other companies, strict rules apply to dividend decisions and any director who allows a dividend to be paid other than out of allowable profits becomes personally liable to repay the excess to creditors. Directors may also be made personally liable for the company’s debts and liabilities, without limitation, where it is found that the company has been conducting business fraudulently or has incurred debt that, at the time, the company had no reasonable or probable expectation of repaying. Singapore has recently been reviewing the measure that allows exempt private companies to opt out of filing accounts, on the basis that, while evidently popular with many companies, this deprives third parties of potentially useful decision-sensitive information.
The government’s final decision on this matter has, however, been to retain the EPC in its current form in the interests of proprietorial privacy.Of the four SME corporate models surveyed, the US LLC experiences the least extent of regulatory intervention in the conduct of its affairs (but the distinction between the company and its owners and controllers is less distinct in the US than it is elsewhere). LLCs are much like partnerships in that they are substantially free to organise their own internal affairs as they see fit (and they are taxed on a transparent, or ‘pass through’, basis). They are subject to far fewer obligations as regards public accountability than companies in the other three countries, and are not required by company law to publish annual accounts or even to prepare them (although the tax authorities require detailed financial information). Minimal information on individual companies’ affairs is placed on the public record meaning that third parties cannot access such information to evaluate a company’s financial position. The principal stakeholder safeguard imposed by company law
SUMMARY AND CONCLUSIONS 27
is that directors are liable to repay to their company any amount that they pay out as dividends over the allowable limit. Some additional safeguards are provided by other branches of regulation. The tax authorities have the power to impose very substantial penalties on companies and their directors for non-compliance with the tax rules while, in bankruptcy, trade creditors enjoy privileged rights to repayment; when a single- member LLC (the most common kind) becomes bankrupt, that single member is likely to be dealt with as a sole trader, in which case the corporate veil will be pierced and he or she will assume full responsibility for the company’s debts.
This report emphasises that it is no longer the global norm for the smallest private companies to be subjected to regulatory requirements to prepare and publish annual accounts. Even in Singapore, where there is a long-standing public policy recognition of the business-usefulness of accounting information placed on the public record, small privately owned companies have since 2004 been entitled not to publish their annual accounts. The opportunity to avoid publishing accounting information is clearly popular with a great many small companies in all the countries reviewed.
It must also be acknowledged, however, that in both Singapore and Australia, and to some extent the US also, the entitlements not to prepare and/or publish accounts are counterbalanced by a number of other provisions that have the effect of ensuring that the risk assumed by stakeholders is mitigated, usually by the assumption by company directors of greater levels of personal responsibility. The principal way in which this happens is through the making of a declaration of solvency as a condition of not having to prepare and file accounts, but there are in those countries an extensive range of circumstances in which personal liability may be acquired by directors.
While the circumstances in which this may happen apply across the range of companies, and not just to SMEs, personal liability potentially has a particularly heavy impact on small companies, where the absence of explicit requirements to exercise responsible financial management might, on the face of it, be expected to lead to lower levels of care. A heightened risk of personal liability may therefore amount to a considerable incentive for directors of small companies to ensure that their companies’ affairs are properly managed, regardless of the presence or absence of elaborate legal requirements to do so.
The availability on the public record of up-to-date information on SMEs’ financial affairs is still seen by many as having value in both the UK and Singapore, not only for the sake of transparency but also as a tool for facilitating trade by and
with SMEs. The public availability of information on companies and their ownership structures will also have a practical information value to businesses and professional advisers who have obligations to carry out client checks in the context of anti money laundering requirements. Note the revised recommendations on this matter issued by the Financial Action Task Force in 2012 in its call on all countries:
to ensure that there is adequate, accurate and timely information on the beneficial ownership and control of legal persons that can be obtained or accessed in a timely fashion by competent authorities.
Where information on company performance and ownership is not generally available, the onus is placed on third parties, including those thinking of doing business with an individual company, to conduct whatever enquiries they can about the credit worthiness of the company.
The following conclusions can be drawn from the foregoing.
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however, an absence of transparency, although again the relevance and business-usefulness of that information, where it is published for general inspection, is likely to be affected by the amount of information that has to be disclosed and the level of detail provided.
4. The particular contribution that accounting and disclosure can make to the goal of protecting stakeholder interests and the public interest in any individual company law regime will accordingly be a function of the wider regulatory framework within which companies exist. Determining where the optimal balance lies at the SME level will invariably involve an assessment, not only of the costs and benefits of mandating standardised accounting and disclosure practices, but of how they coexist with other measures that provide necessary protections for stakeholder interests. In this spirit the World Bank report Doing Business 2013 says that:
The economies that rank highest on the ease of doing business are not those where there is no regulation – but those where governments have managed to create rules that facilitate interactions within the marketplace without needlessly hindering the development of the private sector...In essence, it is about smart business regulations, not necessarily fewer regulations.