CHAPTER – 8 : FORMS OF BUSINESS ENTERPRISES – 1
1. Sole Proprietorship
Introduction :
This form of business enterprise is the oldest and simplest one. In each country of the world the existence of it is seen. As the establishment and dissolution of sole proprietorship are very easy, people who want to undertake business activities on small scale are widely selecting this firm.
Meaning :
In the sole proprietorship only one person is promoter, owner and manager, who conducts business in his name.
When only one person thinks of starting a business, arranges for capital and bears profit - loss, that form is known as sole proprietorship.
In sole proprietorship only one person establishes the business, runs it and takes all the decisions and takes the help of other assistants but he alone has to bear the results of business. All the economic liabilities are borne by the owner only, even by selling his personal assets he has to pay for economic liabilities. It means that responsibility is unlimited. E.g. stationery shop, provision store keeper, vegetable vendor, etc.
Characteristics :
The clear concept of the sole proprietorship form can be understood by examining the following characteristics :
(1) Ownership : The businessman himself is the owner of business in sole proprietorship. All the powers and authority are vested into him.
(2) Risk : The owner bears profit or loss in sole proprietorship.
(3) Unlimited liability : If the debt becomes more than the assets of business, the owner has to pay for the debt by selling his personal assets.
(4) Freedom in management : Owner himself manages the business in sole proprietorship. He appoints other persons, if required, but the final authority lies with him.
(5) Ease in establishment : Establishment procedure of sole proprietorship is easy. It has not to observe the legal procedure required in the establishments like company, on co-operative society. Its registration is also not necessary. Business can be started and can be wound up whenever the owner wishes.
(6) Maintaining secrecy : As proprietor himself runs the business, takes the help of minimum persons and takes the policy decisions, the secrecy of business is maintained.
(7) Personal Interest : The owner has to enjoy the profit or bear the loss. The field of business is limited. So owner takes personal interest in small matters besides maintaining relations with customers.
(8) Minimum government interference : Joint stock company, co-operative society are established under specific Acts. Hence, government interferes in the implementation of the provisions of law. While, government interference is negligible in the business of sole proprietorship.
Merits of sole proprietorship :
(1) Easy establishment : Establishment of sole proprietorship is easier than any of the forms of business. For that no long or complicated legal procedure is in operation. Any person can start any legal business easily.
(2) Dynamism : In sole proprietorship, changes can be easily initiated according to time, circumstances and situation. As only one person has to decide and implement, change is easily adopted.
(3) Quick decisions and implementation : Here authority, liability. ownership and management are with one person only, quick decisions and their implementation are possible. Therefore gains of business opportunity can be obtained.
(4) Maintaining secrecy : Owner runs business with the help of minimum persons who are, most possibly the members of the family, so business secrets can be maintained.
(5) Managerial independence : Decisions pertaining to one’s business are to be taken by oneself only. No dependence on others is presumed. Governmental or legal interference is negligible, so independence in management is maintained.
(6) Personal interest : As the whole profit or loss is to be borne by him only, the owner takes personal interest and care even in small matters. He cares for the satisfaction of customers. He takes care of the matters which causes loss to customers. This results into increase in profitability.
(7) Favourable for small business : Sole proprietorship is favourable for small business which requires personal interest. e.g. grocery shop.
(8) Low taxation : As profit is the income of owner of business only, so less income tax than that paid by partnership and other forms is charged .
(9) Other benefits : Help of family members can be availed of. Borrowed money can be received from relatives and friends. Business can be wound up easily in unfavourable circumstance. Personal contact with customer can be maintained. Sole proprietorship can work as training school for developing big forms.
Limitations :
In spite of abovementioned advantages sole proprietorship suffers from following limitations.
(1) Unlimited liability : As liability in sole proprietorship is unlimited inclination to take risk is restrained. Sometimes the owner. has to lose personal assets to pay for debts hence the family can be ruined.
(2) Limited capital : Only one person provides capital. He can get borrowed capital from friends and relatives, if required but the development of business does not take place due to less capital. After industrial revolution the requirement of capital has increase. So it is natural that paucity of capital is felt in sole proprietorship.
(3) Limited capacity : The limitation of human capability is always felt in spite of a person’s high level of intelligence and expertise knowledge. It is natural that expertise knowledge and skill for doing all the activities of a business cannot be expected of one man only. Of course the help of a salaried man is useful but it will not be that much effective as of the owner. So development of business remains limited.
(4) Short life span : The dependence of business is only on one individual. With the sickness, insolvency or death of the owner the business becomes invalid or is wound up. It is not sure that heirs have same skills or interest in running the business. So also business winds. In short, its life is short.
(5) Faulty decisions : Many a time the owner takes hasty decisions to take benefits from an opportunity. As the gains from the advices of experts and the experiences of others are not available the decisions taken inappropriately become risky for the business.
(6) Unsuitable for big business : In the big business large capital and administrative capacity are required. Due to paucity of capital and limited efficiency sole proprietorship is not fit for big business.
Yet, due to sole proprietorship, the centralizations of economic power has been reduced. Sole proprietorship is a big contributor in supplying primary necessities to the distant villages and in generating self-employment. It is undisputable that by cultivating personal interest this form only can run business with limited capital.
2. Partnership Firm :
Introduction :
Sole proprietorship could not satisfy the requirements of more capital, administrative capacity and skill, supervision due to expansion of commerce after industrial revolution. Thus, partnership came into existence due to the limitations of sole proprietorship. Two or more persons can become complementary to each other by coming together. while starting a business. It is natural that salaried persons cannot take place of partners from the point of view of mutual trust, personal interest in business and confidentiality. In short, partnership has arrived from the limitations of sole proprietorship.
Meaning :
Generally, two or more individuals do the business activities by coming together. They use their means and skills and share the result (profit or loss). This business arrangement is known as partnership.
Definition of partnership is given in Indian Partnership Act 1932 as under. Partnership is the relation between two or more persons who have agreed to share the profits of a business carried on by all or any of them acting for all. May be relationship is, established for sharing the profit but partners have to bear the loss if it occurs; of course, arrangement can be made to give a share of profit only to a partner. Those persons who join partnership are ‘partners individually’ and are ‘partnership firm’ collectively.
Characteristics of Partnership firm :
(1) Agreement based on relation : Partnership is a relation arising out of agreement. Agreement can be oral or in, written form. Even by behaviour with each other which leads to certain understanding partnership can come into existence.
(2) Number of partners : Restriction on the numbers of partners is imposed by the law. Minimum two members are required. Maximum 20 in general business and 10 members in Banking business are required.
(3) Unlimited liability : The liability of partners is unlimited. If a firm has not enough assets to pay the debts, partners have to pay the debt of the firm from their personal properties. According to the Indian Partnership Act, partners are collectively and individually responsible for the payment of debt of the firm.
(4) Legal activities : Partners get together in partnership to do any legal business activity. If local or national law’s do not give permission for doing an activity partnership cannot be run. A. partnership without business activity is not partnership.
(5) Establishment process : Process to establish a partnership firm is easy. Partnership firm comes into existence immediately after mutual oral or written agreement amongst the partners to do legal business activities. For that, they have not to undertake long and complicated legal procedure.
(6) Administration and control : All partners collectively or any one or two partners can run the partnership firm. Generally, all partners have right in taking decisions pertaining to business, and can participate in its administration. Every partner is an agent of other partners and the principal. They have implicit authority to work for the firm.
(7) Profit Motive : A partner can’t transfer his share of ownership to others without the consent of all the remaining partners. The relation amongst people gathered is no partner ship if their purpose is other than to earn profit, e.g. gymkhanna, club, library.
(8) Transfer of owner : Ownership of the share of a partner cannot be transferred to others by him without the consent of all the remaining partners. If a partner transfers his share without consent, any remaining partner can get the partnership dissolved.
(9) Legal control : Rights, duties, registration of partnership and other provisions have been mentioned in Indian Partnership Act. Partners collectively are known as the firm but the firm does not get recognition independent of partners. The registration of the firm is also voluntary.
(10) Life span : The life span of a partnership fun is short. Due to the death, insanity or insolvency of any partner, the firm gets dissolved. In these circumstances, the share o concerned partner can be transferred with the consent of other partners. By doing so, the age of partnership can be extended.
Partnership Deed
Partnership is created due to agreement. All the details of agreement amongst partners are included in the Deed. The Deed can be oral or written but written is desirable. Written Deed constitution of a Partnership firm. So, it should be prepared with the help of legal expert, if required. Written Deed is useful for registration of firm, for suing and for the third party the just solution of differences of opinions amongst partners. When Deed is in written form signatures of all partners are taken after preparing it.
Generally, following details are mentioned in a Written Deed. In the absence of the Deed the provisions of Indian Partnership Act are taken into consideration :
(1) Firm’s name, address.
(2) Partners’ names, addresses, age and sex.
(3) Type (purpose of firm) of business activities.
(4) Capital of each partner.
(5) Ratio of distribution of profit-loss.
(6) Period and type of firm.
(7) Details pertaining to the entry of partner and retirement.
(8) Whether to calculate interest on capital and withdrawls.
(9) Interest on loan from a partner.
(10) Remuneration, salary, commission of active partner.
(11) Goodwill evaluation method.
(12) Accounting method of firm and audit arrangement.
(13) Rights and duties of Partners.
(14) Arbitration arrangement for differences of opinions and disputes.
(15) Provision-for opening and maintaining bank account.
(16) Provision for removing a partner.
(17) Authority to sign important documents on behalf of the firm.
(18) Provision for the dissolution procedure of the firm and settlement of the accounts.
Types of partnership
A. According to B. According to C. According to D. According to
duration liability business registration
(1) Partnership at will (1) Firm having (1) Banking firm (1)Registered firm
(2) Term partnership unlimited liability (2) General firm (2) Unregistered
(3) Specific job (2) Limited firm.
partnership partnership
(A) Types of Partnership firms according to duration :
(1) Partnership at will : The life of the firm depends upon the will of the partners in this type of firms. It has no time-limit. The firm runs up to the prevalence of harmonious relations amongst all the partners. If a partner wishes he can get firm dissolved by giving notice before legal time period.
(2) Term Partnership : When a partnership is formed with specific time period to do business it is known as term partnership. With the completion of time period firm dissolves automatically. With the completion of specific job or contract firm dissolves, e.g. If partnership formed, to construct a bridge with the completion of construction of bridge and contract / firm dissolves.
(B) Type of partnership firms according to liability :
(1) Firms having unlimited liability : Every partner is having unlimited liability in this type of partnership. If the debt of a firm becomes more than the assets of firm the partners have to pay the debt from their personal properties. All the partnership firms in India
(2) Limited partnership : In this firm, the liability of all the partners except one can be kept limited. This type is permissible in Italy and England but there is no freedom given in the law of India
(C) According to business :
(1) Bering partnership : These firms are doing business in banking. They are lending after accepting deposits. Maximum 10 partners can form this fore according to the Act.
(2) General partnership : Firm doing businesses other than banking activities known are as general partnership. Maximum 20 partners can form it.
(D) According to Registration :
(1) Registered pip : Those partnership firms which have been registered with the registrar of partnership firms are known as registered firms. This registration is not compulsory but advisable.
(2) Non-registered firm. : Those firms which have not been registered with the registrar of firms are known as Non-registered firms.
Types of partners :
Generally, all partners manage the business by investing capital but their types are formulated on the basis of their level of interest, power and working.
(1) Active Partner : Active partner is one who takes active interest in day to day’s activities of the business, invests capital and shares the profit-loss. The active partner is considered as an agent of other partners for the functions of fore.
(2) Sleeping or dormant Partner : Sleeping partner is one who invests capital in business but does not participate regularly in the day to day activities of the firm. This partner gets his share of profit-loss and his liability is also unlimited.
(3) Nominal partner : A person who does not invest capital or does not share the profit-loss or does not take part in the management but allows the firm to use his name as a partner whose creditworthiness and prestige help the firm is known as a nominal partner. He controls the management indirectly.
(4) Partner by Estoppel or Holding out : If a person by his utterance behaviour or writings shows that he is a partner of a firm and if third party transacts with that firm on that base, he is known as a partner by estoppel. He neither contracts nor invests capital nor takes part in management of business.
(If other partners refuse to remit the loss due to transaction entered in the circumstances not bear or by estoppel, the remittance is to be made by the nominal or by estoppel partner.)
(5) Partner in profit only : The partner who gets his share from profit only and does not bear the loss is known as partner in profit only. For getting gains of special skill of a person he is made a partner in profit only without his capital.
(6) Minor as a partner : A minor cannot enter into a contract, yet if a heir of a deceased partner is a minor and if he is made a partner for giving him gains of partnership he is known as a minor partner. His liability is limited. He is free to decide whether to continue as a partner or not on becoming major.
(7) Partner with limited liability : The liability of a partner with limited liability is confined to his investment in a firm or to the specified amount. There is no provision for of this type of partner in Indian law.
Registration of partnership :
The registration of a partnership firm is not compulsory. According to Indian Partnership Act, firm can be registered with the Registrar of , Firms of the concerned area if partners want. Application is to be made in a prescribed form for registration in which every partner has to sign. Third parties come to know about the existence of a firm by its registration. The firm can sue the third parties if it is registered and a partner can sue another partner or the firm if it is registered.
Details of the firm’s name, address, business, names-addresses of partners, date of entry, duration of the firm, other place of firms business, etc. are to be given for the registration of the firm. If any change takes place in these details they are to be notified to the registrar. Thus, registration of a firm is desirable even though it is not compulsory.
Merits of partnership :
Partnership is a wider and extended form of sole proprietorship. So, most of the advantages of sole proprietorship are available in partnership
(1) Easy establishment : The formation of partnership is easy and economical. It can be started without specific procedure of law and without the approval of government. Its registration or written contract is also not compulsory .
(2) More efficiency : The possibility of synthesis of skills and knowledge of different persons from different fields increases. Therefore, duties can be assigned according to the kill and business can be made more efficient.
(3) More capital : As more capital in a partnership than that in sole proprietors can be collected the development of business becomes easy and the profitability increases.
(4) More creditworthiness : The liability of partners is unlimited. So, third partner become more liberal while transacting with the firm. That results into more creditworthiness of the firm.
(5) Maintaining secrecy : Partners have not to publicize decisions. They have not publicize even the account. The business secrets remain in tact so long as co-operation and unity prevail amongst the partners.
(6) Right decisions : Discussion amongst all the partners takes place before decision are taken. Decisions are taken after considering their cost-benefit. Hasty and faulty decisions have no place as experience and knowledge of all the partners of various fields and availed of in decision-making process.
(7) Distribution of risk : Business risk is distributed amongst two or more persons. So profit marking chances can be taken by expressing preparedness to undertake more risk. This will increase profitability.
(8) Contact with customers : Like Sole-proprietorship, the partners keep direct contact with customers and employees. So they keep customers and employees with them by taking personal interest in their problems.
(9) Dynamism : Partnership is a dynamic organization. Partners have liberty to make changes in business policy like sole proprietorship according to time, circumstances and situation. Amendments of any decision taken can be initiated unanimously in business if it turns out to be nonprofit making.
(10) Decentralization of economic power : Two or more persons, having less capital can come together, run a firm to do business on small scale and distribute profit. So economic power will not be centralized in the hands of a few persons.
Limitations of partnership :
(1) Unlimited liability : Every partner is having. unlimited liability. Due to that it enhances its credit but liability is personal and collective for the payment of debt of the firm. All the other partners are liable for legal but damaging act of one partners. So persons having sound position hesitate to join partnership due to apprehension that they would suffer personally.
(2) Limited Duration : The duration of a firm is uncertain. The possibility of dissolution of the firm due to retirement, death, lunacy or insolvency of a partner is high. So there is always a doubt in undertaking long-team planning.
(3) Absence of ownership transfer : No partner can transfer his share in favour of others without the unanimous consent. If there are only two partners in a firm dissolution the only option left in this situation.
(4) Possibility of dispute : There is no difficulty if the atmosphere of unity and cooperation prevails but rigidity of every one partner puts a question mark for the existence of partnership. Resultantly, it affects business unfavourably.
In spite of above mentioned limitations partnership is very much useful in medium sized profession-business like Chartered Accountant, Solicitor, Architect which requires personal interest and self-supervision of business and which requires various experts.
(3) Undivided Family – HUF :
Meaning
Hindu Undivided Family is like partnership form of organization. This business is hereditary under Hindu law. It is seen in India and Nepal
Characteristics ;
(1) Management : The senior-most member of the family manages the business who is known as Karta.
(2) Membership : Its membership is by birth. The male child becomes its member by birth. No contract is necessary for it. A minor is also its member.
(3) Liability : Only Karta has unlimited liability. The liability of other members is limited.
(4) Membership strength : There is no limit to the number of members in this form as in partnership. Membership is available up to three generations only.
(5) Duration : Business is continued even after the death of the Karta or any member. After the death of the Karta eldest member of the family becomes a Karta. It means that its duration is longer than partnership.
(6) Insolvency : In the case of insolvency, the Karta and Hindu Undivided Family both are declared as insolvents.
In this business the liability of the Karta is unlimited. As the Karta is free to manage the business the success of business is dependent upon the efficiency of the Karta. It has to rely on the family members for getting capital only so it fords it difficult for getting more capital.
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