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Orms of Usiness Rganisation: Hapter
Orms of Usiness Rganisation: Hapter
Forms of Business
Organisation
LEARNING OBJECTIVES
2021-22
Neha, a bright final year student was waiting for her results to be declared. While
at home she decided to put her free time to use. Having an aptitude for painting,
she tried her hand at decorating clay pots and bowls with designs. She was excited
at the praise showered on her by her friends and acquaintances on her work. She
even managed to sell a few pieces of unique hand pottery from her home to people
living in and around her colony. Operating from home, she was able to save on
rental payments. She gained a lot of popularity by word of mouth publicity as a sole
proprietor. She further perfected her skills of painting pottery and created new motifs
and designs. All this generated great interest among her customers and provided a
boost to the demand for her products. By the end of summer, she found that she
had been able to make a profit of Rs. 2500 from her paltry investment in colours,
pottery and drawing sheets. She felt motivated to take up this work as a career.
She has, therefore, decided to set up her own artwork business. She can continue
running the business on her own as a sole proprietor, but she needs more money
for doing business on a larger scale. Her father has suggested that she should form
a partnership with her cousin to meet the need for additional funds and for sharing
the responsibilities and risks. Side by side, he is of the opinion that it is possible
that the business might grow further and may require the formation of a company.
She is in a fix as to what form of business organisation she should go in for?
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Sole trader is a type of business unit where a person is solely responsible for
providing the capital, for bearing the risk of the enterprise and for the management
of business.
J.L. Hansen
The individual proprietorship is the form of business organisation at the head of
which stands an individual as one who is responsible, who directs its operations
and who alone runs the risk of failure.
L.H. Haney
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Merits Limitations
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wealth. They will have to repay the financial status of a partnership firm.
entire debt in case the other partners As a result, the confidence of the public
are unable to do so. in partnership firms is generally low.
(ii) Limited resources: There is a 2.4.1 Types of Partners
restriction on the number of partners,
A partnership firm can have different
and hence contribution in terms of
types of partners with different roles
capital investment is usually not
and liabilities. An understanding of
sufficient to support large scale
these types is important for a clear
business operations. As a result,
understanding of their rights and
partnership firms face problems in
responsibilities. These are described
expansion beyond a certain size. as follows:
( i i i ) P o s s i b i l i t y o f c o n f l i c t s : (i) Active partner: An active partner
Partnership is run by a group of is one who contributes capital,
persons wherein decision making participates in the management of
authority is shared. Difference in the firm, shares its profits and losses,
opinion on some issues may lead to and is liable to an unlimited extent
disputes between partners. Further, to the creditors of the firm. These
decisions of one partner are binding partners take actual part in carrying
on other partners. Thus an unwise out business of the firm on behalf of
decision by some one may result in other partners.
financial ruin for all others. In case
(ii) Sleeping or dormant partner:
a partner desires to leave the firm, Partners who do not take part in the
this can result in termination of day to day activities of the business
partnership as there is a restriction are called sleeping partners. A sleeping
on transfer of ownership. partner, however, contributes capital
(iv) Lack of continuity: Partnership to the firm, shares its profits and
comes to an end with the death, losses, and has unlimited liability.
retirement, insolvency or lunacy (iii) Secret partner: A secret partner
of any partner. It may result in is one whose association with the firm
lack of continuity. However, the is unknown to the general public.
remaining partners can enter into a Other than this distinct feature, in
fresh agreement and continue to run all other aspects he is like the rest of
the business. the partners. He contributes to the
(v) Lack of public confidence: A capital of the firm, takes part in the
management, shares its profits and
partnership firm is not legally required
losses, and has unlimited liability
to publish its financial reports or make
towards the creditors.
other related information public. It
is, therefore, difficult for any member (iv) Nominal partner: A nominal
of the public to ascertain the true partner is one who allows the use of
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his/her name by a firm, but does not partners, even though they do not
contribute to its capital. He/she does contribute capital or take part in
not take active part in managing the its management. Suppose Rani is a
firm, does not share its profit or losses friend of Seema who is a partner in a
but is liable, like other partners, to the software firm —Simplex Solutions. On
third parties, for the repayments of the Seema’s request, Rani accompanies
firm’s debts. her to a business meeting with Mohan
(v) Partner by estoppel: A person Softwares and actively participates in
is considered a partner by estoppel the negotiation process for a business
if, through his/her own initiative, deal and gives the impression that
conduct or behaviour, he/she gives she is also a partner in Simplex
an impression to others that he/ Solutions. If credit is extended to
she is a partner of the firm. Such Simplex Solutions on the basis of these
partners are held liable for the debts negotiations, Rani would also be liable
of the firm because in the eyes of for repayment of such debt, as if she
the third party they are considered is a partner of the firm.
Capital Share in
Type Management Liability
contribution profits/losses
Participates in
Contributes Shares profits/ Unlimited
Secret partner management,
capital losses liability
but secretly
Does not Does not Generally
Nominal Unlimited
contribute participate in does not share
partner liability
capital management profits/losses
Does not Does not
Partner by Does not share Unlimited
contribute participate in
estoppel profits/losses liability
capital management
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Minor as a Partner
Partnership is based on legal contract between two persons who agree to share the
profits or losses of a business carried on by them. As such a minor is incompetent
to enter into a valid contract with others, he cannot become a partner in any firm.
However, a minor can be admitted to the benefits of a partnership firm with the
mutual consent of all other partners. In such cases, his liability will be limited to
the extent of the capital contributed by him and in the firm. He will not be eligible
to take an active part in the management of the firm. Thus, a minor can share only
the profits and can not be asked to bear the losses. However, he can if he wishes,
inspect the accounts of the firm. The status of a minor changes when he attains
majority. In fact, on attaining majority, the minor has to decide whether he would
like to become a partner in the firm. He has to give a public notice of his decision
within six months of attaining majority. If he fails to do so, within the stipulated
time, he will be treated as a full-fledged partner and will become liable to the debts
of the firm to an unlimited extent, in the same way as other active partners are.
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specifies the terms and conditions that (a) A partner of an unregistered firm
govern the partnership is called the cannot file a suit against the firm
partnership deed. or other partners,
The partnership deed generally
(b) The firm cannot file a suit against
includes the following aspects:
third parties, and
• Name of firm
• Nature of business and location (c) The firm cannot file a case against
of business the partners.
• Duration of business In view of these consequences, it is
• Investment made by each partner therefore advisable to get the firm
• Distribution of profits and losses registered. According to the India
• Duties and obligations of the Partnership Act 1932, the partners
partners may get the firm registered with the
• Salaries and withdrawals of the Registrar of firms of the state in which
partners the firm is situated. The registration
• Terms governing admission, can be at the time of formation or at
retirement and expulsion of a any time during its existence. The
partner procedure for getting a firm registered
• Interest on capital and interest is as follows:
on drawings 1. Submission of application in the
• Procedure for dissolution of the prescribed form to the Registrar of
firm firms. The application should con-
• Preparation of accounts and their tain the following particulars:
auditing • Name of the firm
• Method of solving disputes • Location of the firm
• Names of other places where the
2.4.4 Registration firm carries on business
Registration of a partnership firm • The date when each partner
means the entering of the firm’s name, joined the firm
along with the relevant prescribed • Names and addresses of the
particulars, in the Register of firms partners
kept with the Registrar of Firms. • Duration of partnership
It provides conclusive proof of the This application should be signed by
existence of a partnership firm. all the partners.
It is optional for a partnership 2. Deposit of required fees with the
firm to get registered. In case a firm Registrar of Firms.
does not get registered, it is deprived 3. The Registrar after approval will
of many benefits. The consequences make an entry in the register of
of non-registration of a firm are as firms and will subsequently issue a
follows: certificate of registration.
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managing committee and this lends services to the society. As the focus
the cooperative society a democratic is on elimination of middlemen, this
character. helps in reducing costs. The customers
or producers themselves are members
(v) Service motive: The cooperative
of the society, and hence the risk of
society through its purpose lays
bad debts is lower.
emphasis on the values of mutual
help and welfare. Hence, the motive of (v) Support from government: The
service dominates its working. If any cooperative society exemplifies the idea
surplus is generated as a result of its of democracy and hence finds support
operations, it is distributed amongst from the Government in the form of
the members as dividend in conformity low taxes, subsidies, and low interest
with the bye-laws of the society. rates on loans.
(vi) Ease of formation: The cooperative
Merits society can be started with a minimum
The cooperative society offers many of ten members. The registration
benefits to its members. Some of the procedure is simple involving a few legal
advantages of the cooperative form of formalities. Its formation is governed
organisation are as follows. by the provisions of Cooperative
Societies Act 1912.
(i) Equality in voting status: The
principle of ‘one man one vote’ governs Limitations
the cooperative society. Irrespective of
The cooperative form of organisation
the amount of capital contribution by
suffers from the following limitations:
a member, each member is entitled to
equal voting rights. (i) Limited resources: Resources of a
cooperative society consists of capital
(ii) Limited liability: The liability of
contributions of the members with
members of a cooperative society is
limited means. The low rate of dividend
limited to the extent of their capital
offered on investment also acts as a
contribution. The personal assets of
deterrent in attracting membership or
the members are, therefore, safe from
more capital from the members.
being used to repay business debts.
(ii) Inefficiency in management:
(iii) Stable existence: Death,
Cooperative societies are unable to
bankruptcy or insanity of the members
attract and employ expert managers
do not affect continuity of a cooperative
because of their inability to pay them
society. A society, therefore, operates
high salaries. The members who offer
unaffected by any change in the
honorary services on a voluntary
membership.
basis are generally not professionally
(iv) Economy in operations: The equipped to handle the management
members generally offer honorary functions effectively.
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modern techniques for use in the business activities and has a legal
cultivation of crops. This helps not status independent of its members.
only in improving the yield and returns A company can be described as an
to the farmers, but also solves the artificial person having a separate
problems associated with the farming legal entity, perpetual succession and
on fragmented land holdings. a common seal. The company form
of organisation is governed by The
(v) Credit cooperative societies:
Companies Act, 2013. As per section
Credit cooperative societies are
2(20) of Act 2013, a company means
established for providing easy credit
company incorporated under this Act
on reasonable terms to the members.
or any other previous company law.
The members comprise of persons who
The shareholders are the owners
seek financial help in the form of loans.
of the company while the Board of
The aim of such societies is to protect
Directors is the chief managing body
the members from the exploitation
elected by the shareholders. Usually,
of lenders who charge high rates of
the owners exercise an indirect control
interest on loans. Such societies provide
over the business. The capital of the
loans to members out of the amounts
company is divided into smaller parts
collected as capital and deposits from
called ‘shares’ which can be transferred
the members and charge low rates
freely from one shareholder to another
of interest.
person (except in a private company).
(vi) Cooperative housing societies:
Cooperative housing societies are Features
established to help people with
limited income to construct houses The definition of a joint stock company
at reasonable costs. The members of highlights the following features of a
these societies consist of people who company.
are desirous of procuring residential (i) Artificial person: A company is a
accommodation at lower costs. The creation of law and exists independent
aim is to solve the housing problems of its members. Like natural persons,
of the members by constructing houses a company can own property, incur
and giving the option of paying in debts, borrow money, enter into
instalments. These societies construct contracts, sue and be sued but unlike
flats or provide plots to members on them it cannot breathe, eat, run, talk
which the members themselves can and so on. It is, therefore, called an
construct the houses as per their artificial person.
choice.
(ii) Separate legal entity: From the
2.6 Joint Stock Company day of its incorporation, a company
acquires an identity, distinct from its
A company is an association of members. Its assets and liabilities are
persons formed for carrying out separate from those of its owners. The
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law does not recognise the business directors hold a position of immense
and owners to be one and the same. significance as they are directly
(iii) Formation: The formation of accountable to the shareholders for
a company is a time consuming, the working of the company. The
expensive and complicated process. shareholders, however, do not have the
It involves the preparation of several right to be involved in the day-to-day
documents and compliance with running of the business.
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(vii) Common seal: The company can be sold in the market and as such
being an articial person cannot sign can be easily converted into cash
its name by itself. Therefore, every in case the need arises. This avoids
company is required to have its own blockage of investment and presents
seal which acts as official signature the company as a favourable avenue
of the company. Any document which for investment purposes.
does not carry the common seal of (iii) Perpetual existence: Existence of
the company is not a binding on the a company is not affected by the death,
company. retirement, resignation, insolvency
(viii) Risk bearing: The risk of losses or insanity of its members as it has
in a company is borne by all the share a separate entity from its members.
holders. This is unlike the case of sole A company will continue to exist
proprietorship or partnership firm even if all the members die. It can be
where one or few persons respectively liquidated only as per the provisions
of the Companies Act, 2013.
bear the losses. In the face of financial
difficulties, all shareholders in a ( i v ) S c o p e f o r e x p a n s i o n : A s
company have to contribute to the compared to the sole proprietorship and
debts to the extent of their shares in partnership forms of organisation, a
the company’s capital. The risk of loss company has large financial resources.
thus gets spread over a large number Further, capital can be attracted from
of shareholders. the public as well as through loans from
banks and financial institutions. Thus
Merits there is greater scope for expansion.
The investors are inclined to invest in
The company form of organisation
shares because of the limited liability,
offers a multitude of advantages, some
transferable ownership and possibility
of which are discussed below.
of high returns in a company.
(i) Limited liability: The shareholders
(v) Professional management:
are liable to the extent of the amount
A company can afford to pay
unpaid on the shares held by them.
higher salaries to specialists and
Also, only the assets of the company
professionals. It can, therefore, employ
can be used to settle the debts, leaving
people who are experts in their area of
the owner’s personal property free from
specialisations. The scale of operations
any charge. This reduces the degree of
in a company leads to division of
risk borne by an investor.
work. Each department deals with a
(ii) Transfer of interest: The ease particular activity and is headed by an
of transfer of ownership adds to the expert. This leads to balanced decision
advantage of investing in a company as making as well as greater efficiency in
the share of a public limited company the company’s operations.
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(i) Cost and ease in setting up the is affected by such events as death,
organisation: As far as initial business insolvency or insanity of the owners.
setting-up costs are concerned, sole However, such factors do not affect the
proprietorship is the most inexpensive continuity of business in the case of
way of starting a business. However, organisations like joint Hindu family
the legal requirements are minimum business, cooperative societies and
and the scale of operations is small. companies. In case the business needs
In case of partnership also, the a permanent structure, company
advantage of less legal formalities and form is more suitable. For short
term ventures, proprietorship or
lower cost is there because of limited
partnership may be preferred.
scale of operations. Cooperative
societies and companies have to be (iv) Management ability: A sole
compulsorily registered. Formation proprietor may find it difficult to
of a company involves a lengthy and have expertise in all functional areas
expensive legal procedure. From the of management. In other forms of
organisations like partnership and
point of view of initial cost, therefore,
company, there is no such problem.
sole proprietorship is the preferred
Division of work among the members
form as it involves least expenditure.
in such organisations allows the
Company form of organisation, on managers to specialise in specific
the other hand, is more complex and areas, leading to better decision
involves greater costs. making. But this may lead to situations
(ii) Liability: In case of sole of conflicts because of differences of
proprietorship and partnership firms, opinion amongst people. Further, if the
the liability of the owners/partners organisation’s operations are complex
is unlimited. This may call for paying in nature and require professionalised
the debt from personal assets of management, company form of
the owners. In joint Hindu family organisation is a better alternative.
business, only the karta has unlimited Proprietorship or partnership may be
liability. In cooperative societies and suitable, where simplicity of operations
companies, however, liability is limited allow even people with limited skills
and creditors can force payment of to run the business. Thus, the
their claims only to the extent of the nature of operations and the need for
company’s assets. Hence, from the professionalised management affect
point of view of investors, the company the choice of the form of organisation.
form of organisation is more suitable (v) Capital considerations: Companies
as the risk involved is limited. are in a better position to collect
(iii) Continuity: The continuity of sole large amounts of capital by issuing
proprietorship and partnership firms shares to a large number of investors.
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Capital that can be Ancestral
Limited finance Limited Large financial resources
contribution raised in property
case of sole
proprietorship
Unlimited
Unlimited and
Liability Unlimited (Karta), Limited Limited Limited
joint
(Other members)
Partners take Elected
Owner takes all
decisions, representative, Separation between
Control and decisions, Karta takes
consent of all i.e., managing ownership and
management quick decision decisions
partners is committee management
making
needed takes decisions
Unstable, More stable Stable business,
Stable because
business and but affected continues even if Stable because of
Continuity of separate
owner regarded by status of karta dies separate legal status
legal status
51
as one partners
13-01-2021 09:41:00
52 BUSINESS STUDIES
Key Terms
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SUMMARY
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EXERCISES
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Application Questions
1. In which form of organisation is a trade agreement made by one owner
binding on the others? Give reasons to support your answer.
2. The business assets of an organisation amount to Rs. 50,000 but the debts
that remain unpaid are Rs. 80,000. What course of action can the creditors
take if
(a) The organisation is a sole proprietorship firm
(b) The organisation is a partnership firm with Anthony and Akbar as
partners. Which of the two partners can the creditors approach for
repayment of debt? Explain giving reasons
3. Kiran is a sole proprietor. Over the past decade, her business has grown
from operating a neighbourhood corner shop selling accessories such as
artificial jewellery, bags, hair clips and nail art to a retail chain with three
branches in the city. Although she looks after the varied functions in all the
branches, she is wondering whether she should form a company to better
manage the business. She also has plans to open branches countrywide.
(a) Explain two benefits of remaining a sole proprietor
(b) Explain two benefits of converting to a joint stock company
(c) What role will her decision to go nationwide play in her choice of form
of the organisation?
(d) What legal formalities will she have to undergo to operate business as
a company?
Projects
Divide students into teams to work on the following
(a) To study the profiles of any five neighbourhood grocery/stationery
store
(b) To conduct a study into the functioning of a Joint Hindu family
businesses
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Assignments
1. Sonam and Sameer decided to begin a food processing business in District
Kangra of Himachal Pradesh. Help them in developing the partnership deed
to avoid any dispute in future.
Notes
1. Some of the following aspects can be assigned to the students for undertaking
above mentioned studies.
2. Nature of business, size of the business measured in terms of capital
employed, number of persons working, or sales turnover, problems faced,
Incentive, reason behind choice of a particular form, decision making
pattern, willingness to expand and relevant considerations, Usefulness of
a form, etc.
3. Students teams should be encouraged to submit their findings and
conclusions in the form of project reports and multi-media presentations.
4. The specimen partnership deed is available as e-resource in the embedded
QR code.
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