U1 Ch4: Types of business organization

I. Business organizations: the private sector

1. Definitions
- Sole trader is a business owned and controlled by just one person that takes all risks and receives all of the profits.
- Partnership is a form of business where two or more people agree to jointly own a business.
- A partnership agreement is the written and legal agreement between business partners. It is not essential but always
recommended to have.
- Private limited companies are businesses owned by shareholders but they cannot sell shares to the public.
- Public limited companies are businesses owned by shareholders and they can sell shares to the public.
- A franchise is a business based upon the use of the bran names, promotional logos and trading methods of an existing
successful business. The franchisee buys the license to operate this business from the franchisor.
- A joint venture is where two or more businesses start a new project together, sharing capital, risks and profits.
- Limited liability means the shareholders of the company only lose the amount they invested, not their personal
wealth, if the company fails.
- Unlimited liability means that the owners of a business can be held responsible for the debts of the business they own.
If an unincorporated business fails, the owners might have to use their personal wealth to finance business debts.
- Incorporated businesses are companies that have separate legal identity from their owners.
- Unincorporated business is one that does not have a separate legal identity from the owners. The owners have
unlimited liability for business debts.
- Shareholders are the owners of a limited company. They buy shared that represent part-ownership of the company.
- Ordinary shareholders are the owners of a limited company.
- An Annual General Meeting is a legal requirement for all companies. Shareholders may attend and vote on who they
want to be on the Board of Directors for the coming year.
- Dividends are payments, out of profit (after tax), to shareholders as a reward for their investment.

2. Introduction
- There are several forms of business organisation in the private sector:
+ Sole traders
+ Partnerships
+ Private limited companies
+ Public limited companies
+ Franchises
+ Joint ventures.

3. Sole traders
- The owner is the sole proprietor. A sole trader can employ other people, but only one person owns the business.
- A sole trader structure is suitable for people who:
+ Are setting up a new business.
+ Do not need much capital to get the business going.
+ Will be dealing mainly with the public by themselves (personal and direct contact with the customers).
- Advantages of being a sole trader
+ There are few legal regulations to worry about when setting up the business.
+ The owner is their own boss and has complete control over the business.
+ The owner has the freedom to choose their own holidays, work hours, prices to be charged, and who to employ.
+ The owner has close contact with the customers, giving the ability to respond quickly to customers’ demands.
+ The owner can keep all of the profits, does not need to share the profits.
+ The business’ information does not need to be shared to others.
- Disadvantages of being a sole trader
+ The owner does not have anyone to discuss business matters with.
+ The owner has unlimited liability.
+ The business does not have much capital or money, other than the owner’s savings, profits and small bank loans.
+ The business is likely to remain small because capital for expansion is restricted.
+ There is no continuity of the business after the death of the owner.
+ It is difficult to compete with larger rival firms.
+ The owner may not have business skills to run the business.

4. Partnership
- Partnerships are suitable for situations:
+ When people wish to form a business with others but wanted to avoid legal complications.
+ Where the partners are well known to each other, and want a simple means of involving several people in the
running of a business.
- The written partnership agreement contains:
+ The amount of capital invested in the business by each partner.
+ The tasks to be undertaken by each partner.
+ The way in which the profits would be shared out.
+ How long the partnership would last.
+ Arrangements for absence, retirement and how new partners could be admitted.
- Advantages of a partnership
+ More capital could be invested into the business which allow the expansion of the business.
+ The responsibilities of running the business is shared. So each owner can specialised in one task. Also, absences
and holidays don’t lead to major problems as one of the partners are always available.
+ All partners are motivated to work hard because they all benefit from the profits. And if there is any losses made,
it is shared between the partners.
+ Decision-making is shared, owners discuss together, leading to better decisions.
- Disadvantages of a partnership
+ The partners have unlimited liability.
+ The business is an unincorporated business, so if one of the partners die, the partnership would end.
+ Partners can disagree on business decisions and consulting all partners waste time and money.
+ If one of the partners is inefficient or dishonest, other partners could suffer from losing money in the business.
+ Partnerships are small businesses, so it will be difficult to raise additional finance to expand the business.

5. Limited companies - in general

- There are two types of limited company: private limited companies and public limited companies.
- These companies are incorporated businesses.
- Incorporated business means that:
+ A company exits separately from the owners and will continue to exist if one of the owners die.
+ A company can make contracts or legal agreement.
+ Company accounts are kept separate from the accounts of the owners.
- Similarities between private and public limited companies:
+ Shareholders invest their capital by purchasing shares of the company.
+ Ordinary shareholders are the owners of the company.
+ The company can raise finance by selling shares.
+ Profit belongs to the ordinary shareholders.

6. Private limited companies (Ltd)

- Private limited companies are suitable for:
+ The owners of sole traders and partnerships want to expand further and reduce the risk to their own capital.
+ Private limited company’s status allows more capital to be raised.
- Advantages of a private limited company
+ Shares can be sold to a large number of people (friends and relatives), giving larger sums of capital to invest in
the business, so the business can expand more rapidly.
+ All shareholders have limited liability.
+ The people that started the company can keep control of the business as long as they don’t sell too many shares
to others.
- Disadvantages of a private limited company
+ Legal documents (Articles of Association and a Memorandum of Association) must be completed when setting up
the business.
+ The shares cannot be sold or transferred to anyone else without the agreement of other shareholders, so shares
cannot be sold quickly if the shareholders want their investment back.
+ The accounts of the company are available to the public.
+ The company cannot sell shares to the general public, so there won’t be a very large sums of capital to invest and
expand the business.

7. Public limited companies (plc)

- Advantages of a public limited company
 + All shareholders have limited liability.
+ It is an incorporated business and has a separate legal identity to the shareholders and owners.
+ There is continuity if one of the shareholders die.
+ The business can raise very large capital sums to invest in the business, since there is no limit to the number of
shareholders of a public limited company.
+ There is no restriction on the buying, selling or transfer of shares.
+ The business has high status and can attract suppliers and banks.
- Disadvantages of a public limited company
+ The legal formalities of the business are complicated and time-consuming.
+ Accounts are available to the public, and there are many more regulations and controls over the business to
protect the interested of the shareholders.
+ Selling shares to the public is expensive. The directors will ask a specialist merchant bank to help, which charge a
commission, and the publication and printing of copies of prospectus is an additional cost.
+ The company is always at risk of a takeover by another company, since shares can be freely bought and sold. Any
other business needs only 51% of the shares in a company to become the new owner.
- Control and ownership in a public limited company
+ There are thousands of shareholders, and they are all
invited to attend the Annual General Meeting. They will
elect professional managers as company directors.
+ These directors then appoint other managers that take
day-to-day decisions.
+ The shareholders cannot influence any decisions.
+ The directors and managers may run the business to meet objectives like increase status, growth of the business,
or reduce dividends to shareholders to pay for expansion plants.

8. Franchising

- Another common
disadvantage of
both franchising and
joint ventures is that
if there is any
mistakes made by
the franchisee or
the joint venture, it
can damage the
reputation of the
franchisor and the
9. Joint ventures firms in the joint
ventures.

10. Summary
 11. Choosing the type of business organisation
- The choice of which form of business organisation to use depend on several factors:
+ The number of owners
* A sole trader can only have one owner.
* If there is more than one owner, the choice is between a partnership an an incorporated business.
* The larger number of owners, the more likely it will be an incorporated business organisation.
+ The owner’s role in the management of the business
* Some owners may only want to invest in a business and not running it. So it is better for them to choose an
incorporated business organisation.
+ The attitude towards financial risk
* If owners do not want to risk their personal wealth, they are likely to choose an incorporated business.
+ How quickly the owners want to start operating the business
* Unincorporated business organisations are much quicker to set up than incorporated ones, since they don’t
have any complex legal requirements.
+ The potential size of the business
* Most businesses start small and many will remain small due to the size of the market, or owner’s choice.
* Small businesses would be sole traders or partnerships.

II. Business organizations: the public sector

1. Definitions
- A public corporation is a business in the public sector that is owned and controlled by the state or government.
- Nationalisation is when a business, used to be owned by private individuals, are bought by the government.

2. Public corporations
- These are businesses that have been nationalised.
- Public corporations are owned by the government but it does not directly operate the business. Government ministers
appoint a Board of Directions who give take on the responsibility of managing the business. But, objectives will be set
by the government, and the directors are expected to run the corporation according to these objectives.
- Public corporations are financed mainly through taxation.
- Advantages of public corporations
+ Some industries like water supply and electricity generation are important, so government ownership is needed.
+ If an important business is failing, the government can step in to nationalise it, keeping the business open and
secure jobs.
+ Important public services like TV broadcasting are often in the public sector.
- Disadvantages of public corporations
+ There are no private shareholders to insist on high profits and efficiency. Profit is not the main objective.
+ Government subsidies can lead to inefficiency as managers think government will help them if the business
makes a loss.
+ There is no close competition to the public corporations, so there isn’t many choices for customers, and
efficiency and customer service won’t be as good.
+ Governments can use the businesses for political reasons, such as creating more jobs just before an election.
 3. Other public sector enterprises
- Some services are free to the user and paid for out of local taxes, like street lighting and schools.
- Other services are charged for, like street markets, swimming pools and theatres.
- However, in order to cut costs and reduce the burden on local taxpayers, lots of services are now privatised.

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