Sole proprietorship

• is a popular form of business organisation and is the most suitable form for small businesses,
especially in their initial years of operation.
• Sole proprietorship refers to a form of business organisation which is owned, managed and
controlled by an individual who is the recipient of all profits and bearer of all risks. This is
evident from the term itself. The word “sole” implies “only”, and “proprietor” refers to “owner”.
• Hence, a sole proprietor is the one who is the only owner of a business.
• This form of business is particularly common in areas of personalised services such as beauty
parlours, hair saloons and small scale activities like running a retail shop in a locality.

FEATURES

1. Formation and closure: There is no separate law that governs sole proprietorship. Hardly any
legal formalities are required to start a sole proprietary business, though in some cases one may
require a license. Closure of the business can also be done easily. Thus, there is ease in
formation as well as closure of business.
2. Liability: Sole proprietors have unlimited liability. This implies that owner must bring in Rs.
20,000 from her personal sources even if she must sell her personal property to repay the firm’s
debts.
3. Sole risk bearer and profit recipient: The risk of failure of business is borne all alone by the sole
proprietor. However, if the business is successful, the proprietor enjoys all the benefits. He
receives all the business profits which become a direct reward for his risk bearing.
4. Control: The right to run the business and make all decisions lies absolutely with the sole
proprietor. He can carry out his plans without any interference from others.
5. No separate entity: In the eyes of the law, no distinction is made between the sole trader and
his business, as business does not have an identity separate from the owner. The owner is,
therefore, held responsible for all the activities of the business.
6. Lack of business continuity: The sale proprietorship business is owned and controlled by one
person; therefore death, insanity, imprisonment, physical ailment or bankruptcy of the sole
proprietor will have a direct and detrimental effect on the business and may even cause closure
of the business.

MERITS

(i) Quick decision making: A sole proprietor enjoys considerable degree of freedom in making business
decisions. Further the decision making is prompt because there is no need to consult others. This may
lead to timely capitalisation of market opportunities as and when they arise.

(ii) Confidentiality of information: Sole decision making authority enables the proprietor to keep all the
information related to business operations confidential and maintain secrecy. A sole trader is also not
bound by law to publish firm’s accounts.

(iii) Direct incentive: A sole proprietor directly reaps the benefits of his/her efforts as he/she is the sole
recipient of all the profit. The need to share profits does not arise as he/she is the single owner. This
provides maximum incentive to the sole trader to work hard.
(iv) Sense of accomplishment: There is a personal satisfaction involved in working for oneself. The
knowledge that one is responsible for the success of the business not only contributes to self-
satisfaction but also instils in the individual a sense of accomplishment and confidence in one’s abilities.

(v) Ease of formation and closure: An important merit of sole proprietorship is the possibility of entering
into business with minimal legal formalities. There is no separate law that governs sole proprietorship.
As sole proprietorship is the least regulated form of business, it is easy to start and close the business as
per the wish of the owner.

LIMITATIONS

i) Limited resources: Resources of a sole proprietor are limited to his/ her personal savings and
borrowings from others. Banks and other lending institutions may hesitate to extend a long term loan to
a sole proprietor. Lack of resources is one of the major reasons why the size of the business rarely grows
much and generally remains small.

(ii) Limited life of a business concern: The sole proprietorship business is owned and controlled by one
person, so death, insanity, imprisonment, physical ailment or bankruptcy of a proprietor affects the
business and can lead to its closure.

(iii) Unlimited liability: A major disadvantage of sole proprietorship is that the owner has unlimited
liability. If the business fails, the creditors can recover their dues not merely from the business assets,
but also from the personal assets of the proprietor. A poor decision or an unfavourable circumstance
can create serious financial burden on the owner. That is why a sole proprietor is less inclined to take
risks in the form of innovation or expansion.

(iv) Limited managerial ability: The owner has to assume the responsibility of varied managerial tasks
such as purchasing, selling, financing, etc. It is rare to find an individual who excels in all these areas.
Thus decision making may not be balanced in all the cases. Also, due to limited resources, sole
proprietor may not be able to employ and retain talented and ambitious employees. Though sole
proprietorship suffers from various shortcomings, many entrepreneurs opt for this form of organisation
because of its inherent advantages. It requires less amount of capital. It is best suited for businesses
which are carried out on a small scale and where customers demand personalised services.

❖ COMPANY OR JOINT STOCK COMPANY

A company is an association of persons formed for carrying out business activities and has a legal status
independent of its members. A company can be described as an artificial person having a separate legal
entity, perpetual succession and a common seal. The company form of organisation is governed by The
Companies Act, 2013. As per section 2(20) of Act 2013, a company means company incorporated under
this Act or any other previous company law. The shareholders are the owners of the company while the
Board of Directors is the chief managing body elected by the shareholders. Usually, the owners exercise
an indirect control over the business. The capital of the company is divided into smaller parts called
‘shares’ which can be transferred freely from one shareholder to another person (except in a private
company).

Features
(i) Artificial person: A company is a creation of law and exists independent of its members. Like natural
persons, a company can own property, incur debts, borrow money, enter into contracts, sue and be
sued but unlike them it cannot breathe, eat, run, talk and so on.

(ii) Separate legal entity: From the day of its incorporation, a company acquires an identity, distinct from
its members. Its assets and liabilities are separate from those of its owners. The law does not recognise
the business and owners to be one and the same.

(iii) Formation: The formation of a company is a time consuming, expensive and complicated process. It
involves the preparation of several documents and legal requirements before it can start functioning.
Incorporation of companies is compulsory under The Companies Act 2013 or any of the previous
company law, as state earlier. Such companies which are incorporated under companies Act 1956 or any
company law shall be included in the list of companies.

(iv) Perpetual succession: A company being a creation of the law, can be brought to an end only by law.
It will only cease to exist when a specific procedure for its closure, called winding up, is completed.
Members may come and members may go, but the company continues to exist.

(v) Control: The management and control of the affairs of the company is undertaken by the Board of
Directors. The directors hold a position of immense significance as they are directly accountable to the
shareholders for the working of the company. The shareholders, however, do not have the right to be
involved in the day-to-day running of the business.

(vi) Liability: The liability of the members is limited to the extent of the capital contributed by them in a
company. The creditors can use only the assets of the company to settle their claims since it is the
company and not the members that owes the debt. The members can be asked to contribute to the loss
only to the extent of the unpaid amount of share held by them.

Merits

(i) Limited liability: The shareholders are liable to the extent of the amount unpaid on the shares held by
them. This reduces the degree of risk borne by an investor.

(ii) Transfer of interest: Easy transfer of ownership in a public limited company allows shares to be sold
in the market, enabling quick conversion to cash when needed. This liquidity makes the company an
attractive investment option, preventing investment blockage.

(iii) Perpetual existence: A company's existence is independent of members' status. Even if all members
die, the company continues to exist and can only be liquidated as per the Companies Act, 2013.

(iv) Scope for expansion: It has large financial resources. Further, capital can be attracted from the
public as well as through loans from banks and financial institutions. Thus there is greater scope for
expansion. (v) Professional management: A company can afford to pay higher salaries to specialists and
professionals. It can, therefore, employ people who are experts in their area of specialisations. The scale
of operations in a company leads to division of work.

Limitations

(i) Complexity in formation: The formation of a company requires greater time, effort and extensive
knowledge of legal requirements and the procedures involved.

(ii) Lack of secrecy: The Companies Act requires each public company to provide from time-to-time a lot
of information to the office of the registrar of companies. Such information is available to the general
public also. Hence no secreacy

(iii) Impersonal work environment: When ownership and management are separate, officers may lack
personal involvement and effort. In larger companies, maintaining personal contact with employees,
customers, and creditors becomes challenging for owners and top management.

(v) Delay in decision making : Companies are democratically managed through the Board of Directors
which is followed by the top management, middle management and lower level management.
Communication as well as approval of proposals cause delays in taking decisions nd acting on them.

(vi) Oligarchic management: In practice, in most large sized organization's having a multitude of
shareholders; the owners have minimal influence in terms of controlling or running the business. It is so
because the shareholders are spread all over the country and a very small percentage attend the general
meetings. The Board of Directors as such enjoy considerable freedom in exercising their power.
Dissatisfied shareholders in such a situation have no option but to sell their shares and exit the
company.

TYPES OF COMPANY

It is necessary for a private company to use the word private limited after its name. If a private company
contravenes any of the aforesaid provisions, it ceases to be a private company and loses all the
exemptions and privileges to which it is entitled