Creating a new enterprise form: the GmbH

13 February 2015

The past decades in both the U.S. and the European Union have seen reforms to the law governing the organization of business enterprises, and more changes are under discussion. This policy agenda reflects the importance of the way company law shapes the fundamental contracting decisions that combine investment and entrepreneurship to create new firms.

On 11 February, in a lecture organized by the Center for Financial Studies in cooperation with the Institut für bankhistorische Forschung, Timothy Guinnane, Professor of Economic History at Yale University, traced the history of the creation of the German enterprise form “GmbH” (company with limited liability). The GmbH was the first example of a legal form for business firms specifically designed to suit the needs of small- and medium-sized enterprises. In the years since its creation in 1892, the GmbH has been enormously successful in Germany and widely influential elsewhere. According to Guinnane, it is the most common multi-owner enterprise form in Germany today.

The legal form of an enterprise sets the basic rules for the firm and for third parties dealing with it, Guinnane explained. Partnerships, for example, are very flexible legal forms but at least some of the owners must have unlimited liability. In comparison, a corporation is less flexible but all owners have limited liability. A corporation is hard to dissolve compared to a partnership because it is a legal person whereas a partnership is at-will.

The creation of the GmbH was set off in the second half of the 19th century. In 1884, a new Corporations Act was implemented in Germany which made the corporate form less appropriate for smaller firms because it implied large fixed costs. For example, one innovation of the Act was that firms had to publish annually their balance including profit-loss accounts. The Corporations Act was considered to be a burden especially for companies that operated in the German colonies. Therefore, in 1888, a new Act was issued which created privileges for colonial companies. This Act allowed a smaller, more flexible corporation form for these firms.

In connection with the colonial law from 1888, the government began the formal process of introducing the GmbH. In 1892, the law passed the Reichstag with almost no opposition during the debate and a nearly unanimous vote, as Guinnane related. This new legal form was suited for firms that were too small to be a corporation. It allowed for more flexible contracting, such as a partnership, but offered limited liability and other features not available to partnerships. In contrast to corporations, it did not require a publication of the financial results, and no supervisory or management committee was needed. However, the GmbH could, for example, not trade its shares on exchanges like a corporation because the ownership should be tied to specific persons.

  • Download the presentation here