1.4.2 Limited liability

Potential investors in unlimited companies had been reluctant to take the risk of losing both their investment and their personal assets. Therefore, the government introduced limited liability in UK company law in the mid-nineteenth century. The aim was to encourage more people to invest in companies, for example those involved in the construction of railways, canals and other infrastructure ventures, but later also in manufacturing and other industries.

In other words, unlimited liability of shareholders for a company’s obligations related to debts, torts and crimes, puts constraint on the ability of the company to raise capital. Limited liability shields the personal assets of the shareholders from the creditors of the company. That is why investing in a limited company is less risky than investing in an unlimited company. The downside of limited liability is that it reduces the incentive for shareholders to closely monitor the directors.