LESSON 4-

Types of Business organizations

o An unincorporated business:
 Does not have a separate legal identity from its owner(s)
 Owners have unlimited liability
 Types: sole trader / proprietor, partnership

o An incorporated business:
 Is a separate legal identity from its owner(s) / shareholder(s)
 Owners have limited liability
 Types: private limited company, public limited company

o Unlimited liability:
 Means owners are personally responsible for all debts of the business
 The liability of the owners is not limited just to what they invested in the business
 Note: owners can be declared bankrupt if they cannot repay all debts even
using their own personal money

o Limited liability:
 Means the legal responsibility of the shareholders in a company to repay its debts
is only limited to the amount they invested into the company
 Shareholders are not personally responsible for the business.
 Note: whatever happens, the most the owners can lose is (limited to) only what
they have invested

Unincorporated Businesses-(Sole Traders And Partnerships)

 Sole trader:
o one owner, bears all PCRR alone (owners can employ people, but employees are not
owners)
o unlimited liability
o completely controlled by owner
(management,decision-making, etc.)
o banks are usually unwilling to loan as it is considered a risky enterprise

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 Advantages of sole Disadvantages
trader
Simple, easy, and not Lack of capital and financing for
expensive to set up: due to few expansion, limited to owner’s
legal requirements and low savings, profits, and small bank
start-up capital required loans
Owner has full control and Full responsibility and control:
freedom: no need to consult may mean long work hours and
others when making decisions no one to discuss business
like choosing holidays, prices, matters with
and employees
Owner receives all profits after Unlimited liability: fully
tax and so has the incentive to responsible for debts and may
work hard have to sell own possessions
to pay the debts if the business
cannot pay
Personal contact with Owner may lack the necessary
customers: increases customer skills and experience for
loyalty, owner able to respond success
quickly to changes in demand
Don’t have to share business Business legally stops existing
matters, can keep business after the owner dies (i.e.
plans + financial details no continuity).
private

 Partnerships:
o 2-20 owners sharing the Profit
o unlimited liability
o partners share in management and decision-making
o more finance as partners can contribute capital
o Popular among professionals, e.g. accountants, lawyers, doctors
o Optional but recommended to draw up a partnership agreement (written and legal
agreement between partners) before starting the partnership to avoid unnecessary
disagreements in the future (e.g. profit-sharing, who invests more capital)

Advantages Disadvantages
Simple and easy to set up: few legal If one partner is inefficient or dishonest, other
requirements partners have to suffer the costs
More capital invested: more financing from Business growth is limited to the amount of
partners to allow expansion capital 20 partners can bring in
Shared work, responsibilities, and losses, and Disagreements on business decisions, slower
one on leave can be covered by other partners decision-making as partners have to discuss
New skills and ideas shared between Unlimited liability: partners responsible to repay
partners, and partners could specialize in debts of the partnership, even by selling their
different tasks own properties and using personal money
Business legally stops existing if one partner
dies (i.e. no continuity).

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 Incorporated Businesses / (private limited and public limited companies)

 Private limited companies:

o 2-200 shareholders
o limited liability
o management and decision-making by board of directors + managers
o more finance as partners can contribute capital
o Shares – cannot be offered to the general public; can only be sold privately + with
agreement of other shareholders
o Note – advantage compared to public limited companies as private limited
companies cheaper to set up

Advantages Disadvantages
Raise significant capital for expansion through Shares cannot be offered to the general
sale of shares (up to 200 shareholders) public, and so very huge capital for further
rapid
expansion may not be obtainable
Limited liability for shareholders (less risk) Shares can only be sold privately with the
agreement of other shareholders, so people
may be unwilling to invest as they cannot sell
shares quickly if they want their money back
Shareholders receive dividend (from profits Legal requirements and detailed documents:
after tax) harder to set up and operate
Continuity even if a shareholder dies Must keep detailed accounts and publish them
publicly (extra costs + less privacy)

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  Public limited companies:
o there is no maximum limit of shareholders
o limited liability
o management by board of directors, not shareholders
o more finance as partners can contribute capital
o Shares – issued for sale to the general public on the stock exchange / stock market,
advertised to the general public through a prospectus

Advantages Disadvantages
Can raise very huge capital for rapid Complicated and time-consuming legal
expansion: can sell shares to general public requirements to set up
and no limit on shareholders
Limited liability for shareholders (less risk) Many more regulations and controls to protect
the shareholders, e.g. less privacy as it must
publish accounts, must hold AGMs with
shareholders
High status: easier to attract suppliers to sell on Divorce of ownership and control: directors and
credit, banks more willing to lend money managers may not run the company for the
benefit of the shareholders
Continuity even if a shareholder dies Selling shares to the public is expensive as it
may need a specialist merchant bank and the
printing of thousands of copies of prospectus
Original owners may lose overall control they
do not keep at least 51% of all company shares
(e.g. takeover / acquisition)

 Divorce between ownership and control:

o Occurs in limited companies / incorporated businesses
o Ownership = owned by shareholders
o Control = management + decision-making is done
by board of directors + managers
o Disadvantage:
Directors and managers may run the business to meet their own objectives, e.g.
they may use their business expansion plans to justify higher salaries for
themselves and reduced dividends for shareholders (in the name of “funding
expansion”)
o Shareholders may have no influence except that they could vote to replace
the directors at the next AGM.

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 Sole trader Partnership Private limited Public limited
company company
Ownership One person Several partners Shareholders – few Shareholders –
or many, but shares many, no maximum
cannot be sold to limit
general public
Profits and One owner Shared
control (advantage!) (disadvantage)
Risk: losses + One owner Shared Maximum risk and responsibility for
responsibility (disadvantage) (advantage!) shareholders is up to what they
have invested (advantage!)
Separate legal Unincorporated = unlimited liability Incorporated = limited liability + there is
entity + no continuity after owner dies continuity even after a shareholder
(disadvantage) dies (advantage!)

Set-up + Few legal requirements Many legal requirements

operation Low start-up capital Many controls and regulations
Few controls and regulations Required to publish accounts
(advantage!) (disadvantage)

Other Private Sector Business Organisations

 Joint ventures:
o An agreement between two or more businesses to share their capital, risks,
costs, profits, expertise, and management in the running of their new business
project
o May be dissolved (ended) once project completed

Advantages Disadvantages
Shared costs + risk Shared profits, and shared ideas that may give
one business an advantage in the future
Each business gains access to the expertise, Disagreements over important decisions like
technologies, and customers of the other, e.g. management. Clashes if businesses have very
one business has local knowledge as it is different cultures / management styles.
based in the country where the joint venture
is
set up
Advantages due to increased size and market
share, such as cost-savings from economies of
scale

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  Franchise:
o A franchise is a business based upon the use of the brand names, promotional logos
and trading methods of an existing successful business. The franchisee buys the
license to operate this business from the franchisor.
o Many well-known international businesses use franchising to expand into new
overseas markets
o Franchisor:
 Existing business, usually well-known, with an established brand name
and market for its products
 Provides franchisee with staff training, supplies, equipment, promotional materials
 Monitors the performance of the franchisee
o Franchisee:
 Buys the licence to operate the franchisor’s business and use its brand name,
production methods, and promotional materials
 Pays the franchisor an initial fee and a regular royalty fee (usually a percentage of revenue)

To the franchisor
Advantages Disadvantages
Faster way of expanding the business Franchisee keeps most profits they make from
(franchisor does not have to finance all outlets) their outlets
Licence and royalty fees from franchisee Bad reputation for the whole business, if one
franchisee fails to maintain good-quality goods
and level of service
Products and supplies need to be bought by
the franchisee
Management responsibility and costs
minimised as franchisees manage their own
outlets
To the franchisee
Advantages Disadvantages
Reduce risk of business failure as the brand Pay licence and royalty fees (a percentage of
name is established and well-known revenue)
Less decision-making because franchisor has Less control compared to an independent
decided the prices, product range, and store business, cannot make certain decisions, e.g.
layout cannot make new products to suit local area
A single source (the franchisor) provides Performance regularly monitored by franchisor
supplies, advertising, and training for staff and
management
Easier to obtain bank loans as franchises are
seen as less risky

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Business Organizations in
the Public Sector

 Public corporations:
o Business organizations owned and controlled by the state / central government
o Separate legal entity from government and board of directors (BOD)
o Government: sets objectives and appoints BOD to manage the business.
BOD: manages the business according to objectives set by government.
o Profitable public corporations – run like a business, and their profits may be used
for themselves through reinvestment OR by the government (to pay for public
expenditure)
o Purpose:
 Carry out government functions, e.g. central bank
 Provide essential public services, e.g. public hospitals
 Carry out commercial activities on behalf of government, e.g. state-owned airlines

Advantages Disadvantages

Safeguard the supply of essential services, Subsidised by government + not required to

even if it’s not profitable, e.g. electricity maximise profit, which may lead to laziness
generation and inefficiency in management
Provide important public services, even if it’s Often no or little competition, so lack
not profitable, e.g. public transport, public incentive to provide good service and a wide
broadcasting variety of choices to consumers
Protect industries important to the country, Used for political purposes, such as to
such as a major employer (to secure jobs for create more jobs before an election (boost
the people) popularity of the politician)

Natural monopolies (e.g. railway companies)

can be owned by the government to ensure
consumers are not taken advantage of

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Definitions to learn
Sole trader is a business owned by one person.
Limited liability means that the liability of shareholders in a
company is limited to only the amount they invested.
Unlimited liability means that the owners of a business can be held
responsible for the debts of the business they own. Their liability is
not limited to the investment they made in the business.
Partnership is a form of business in which 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 for partners to have
such an agreement but it is always recommended.
An unincorporated business is one that does not have a separate
legal identity. Sole traders and partnerships are unincorporated
businesses.
Incorporated businesses are companies that have separate legal
status from their owners.
Shareholders are the owners of a limited company. They buy shares
which represent part-ownership of the company.
Private limited companies are businesses owned by shareholders,
but they cannot sell shares to the public.
Public limited companies are businesses owned by shareholders,
but they can sell shares to the public and their shares are tradeable
on the Stock Exchange.
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 made to shareholders from the profits (after
tax) of a company. They are the return to shareholders for investing
in the company.
A franchise is a business based upon the use of the brand names,
promotional logos and trading methods of an existing successful
business. The franchisee buys the license to operate this business
from the franchisor.