Chapter- 2

Forms of Business Organisation

Meaning of Sole Proprietorship:
It refers to a form of business organization which is owned, managed and controlled by an individual
who is in receipt of all profits and bearer of all risks.

Features:
(i) Formation and Closure
It is easy to form and close. There are hardly any legal formalities.
(ii) Liability
Sole proprietors have unlimited liability. It means that if the assets of business are
insufficient to pay the liabilities, then proprietor’s personal assets can also be sold to pay
off the liabilities.
(iii) Sole risk bearer and profit recipient
Proprietor is the only bearer of profit and risk. He doesn’t have to share it with anyone.
(iv) Control
The right to run the business and make all decisions lies absolutely with the sole
proprietor.
(v) No separate entity
Since proprietor is the only person making decisions in the business, the business does
not have any separate identity from the proprietor. He is held responsible for all the
activities of the business
(vi) Lack of business continuity
Death, insanity, imprisonment, physical ailment or bankruptcy of the sole proprietor will
have a direct and detrimental effect on the business. It may also cause closure of business.
Merits:
(i) Quick decision making
There is no need to consult anything with others before making a decision. So the
decisions are made quickly and timely.
(ii) Sense of Accomplishment
There is a personal satisfaction involved in working for oneself. It not only contributes to
self-satisfaction but also instils confidence.
(iii) Confidentiality of Information
A sole trader is also not bound by law to publish firm’s accounts. So all the business
information remains confidential.
(iv) Direct incentive
Proprietor is the sole recipient of all the profit. He doesn’t need to share it with anyone.
(v) Ease of formation and closure
It is easy to form and close. There are hardly any legal formalities.

Demerits:
(i) Limited resources
Proprietor’s resources are limited to his/ her savings. Banks may also hesitate to give long
term loans. There is lack of resources.
(ii) Limited life of a business concern
Death, insanity, imprisonment, physical ailment or bankruptcy of a proprietor affects the
business and can lead to its closure.
(iii) Unlimited liability
If the assets of business are insufficient to pay the liabilities, then proprietor’s personal
assets can also be sold to pay off the liabilities. A poor decision or an unfavourable
circumstance can create serious financial burden on the owner.
(iv) Limited managerial ability.
Business involves various managerial tasks such as purchasing, selling, financing, etc. An
individual cannot be excellent in all these areas, hence decision making may not be
 balanced. Also, due to limited resources, it becomes difficult to employ and retain
talented employees.

Meaning of Joint Hindu Family Business:

It refers to a form of organisation wherein the business is owned and carried on by the members of the
Hindu Undivided Family (HUF). Karta, the eldest member of the family, controls the business. The
other members are called coparceners.

Features:
(i) Formation
There must be at least two members in the family and ancestral property to be inherited by them. No
agreement is required. Membership is by birth.

(ii) Liability
Karta has unlimited liability. Coparceners have limited liability upto their share in the ancestral
property.

(iii) Control
Control of the business lies with karta. He takes all the decisions and manages the business.

(iv) Continuity
Business is not affected by death, insolvency or insanity of the karta. The next eldest member would
become the karta if the existing karta becomes incapable of performing his duties.

(v) Minor members.

Minors can also be the members of joint hindu family business as membership is attained by birth.

Merits:
(i) Effective control
The karta has absolute decision making power. This also leads to prompt and flexible decision
making.

(ii) Continued business existence

Operations are not terminated and continuity of business is not threatened if karta becomes incapable
of performing his duties. The next eldest member takes up his position.

(iii) Limited Liability of Members

The liability of all the co-parceners except the karta is limited to their share in the business.

(iv) Increased loyalty

Since the business is run by the members of a family, there is a greater sense of loyalty towards one
other. It becomes easier to get cooperation of all the members.

Demerits:
(i) Limited resources
The joint Hindu family business depends mainly on ancestral property and hence faces the problem of
limited capital.

(ii) Unlimited Liability of Karta

Along with taking the responsibility of business, karta also has to suffer from the disadvantage of
unlimited liability.

(iii) Dominance of karta

Since karta individually takes the decisions of business, this may cause conflicts amongst the family
members and may lead to break down of family unit.

(iv)Limited Managerial Skills.

Karta might not be an expert in all the areas of business and because of his inability to take decisions,
organisation might have to suffer.

Meaning of Partnership:
Partnership is the relation between persons who have agreed to share the profits of the business
carried on by all or any of them acting for all.

Features:
(i) Formation
The partnership business is governed by the Indian Partnership Act, 1932. To constitute a partnership,
a legal agreement must be made between the partners stating all the terms and conditions of the
partnership.

(ii) Liability
The partners of a firm have unlimited liability, i.e. their personal property may be sold to pay the
liabilities of business.

(iii) Risk bearing

The partners bear the risk and profits of business amongst themselves in the agreed profit and loss
sharing ratio.

(iv) decision making and control

The power to make decisions and control of business is shared by the partners. Decisions are taken
with mutual consent and activities are managed through joint efforts of partners.

(v) Continuity
Death, retirement, insolvency or insanity of any partner can bring an end to the business. However,
the remaining partners may if they so desire continue the business on the basis of a new agreement.

(vi) Number of Partners

Minimum two members are required to start a partnership firm. Maximum number of members can
be 100 subject to numbers prescribed by government, which is 50.

Merits:
(i) Easy to start and close
It is easy to start and close the partnership business. Just an agreement between the partners is to be
formed before starting the business (which may be written or oral, but its preferably written). It is not
compulsory to register the form.

(ii) Balanced decision making

If partners have different areas of expertise they may oversee different functions according to their
area of expertise. It reduces the burden and the decisions are more likely to be balanced.

(iii) More funds

In partnership, all the members contribute towards the capital of the firm, resulting in large funds as
compared to sole proprietorship.

(iv) Sharing of Risk

The risk of the business is shared by all the partners.
(v) Secrecy
A partnership firm is not legally required to publish its accounts and submit its reports, thereby
maintaining confidentiality of its operations.

Limitations:

(i) Unlimited liability

Partners have unlimited liability. Their personal assets may be used to repay the business debts. Also,
if one partner becomes insolvent, or refuses to pay, then other partners will have to pay his share of
debt also.

(ii) Possibility of conflicts

Decisions are to be taken with mutual consent in partnership. However, difference in opinion on some
issues may lead to disputes between partners.

(iii) Lack of Continuity

Death, retirement, insolvency or insanity of any partner can bring an end to the business. However,
the remaining partners may if they so desire continue the business on the basis of a new agreement.

(iv) Lack of public confidence

A partnership firm is not legally required to publish its accounts and submit its reports. As a result, the
confidence of the public in partnership firms is generally low.

Types of Partners
(i) Active- Such a partner takes active part in the day to day activities and management of the firm.

(ii) Sleeping- he does not take active part in the management of the firm. Though he invests money,
shares profit and losses and also has unlimited liability.

(iii) Secret- He participates in the business secretly without disclosing his association with the firm to
general public. His liability is also unlimited.

(iv) Nominal- Such a partner only gives his name and goodwill to the firm. He neither invests money
nor takes profit. But his liability is limited.

(v) Partner by estoppel: He is the one who by his words or conduct gives impression to the outside
world that he is a partners of the firm whereas actually he is not. His liability is unlimited towards the
third party who has entered into dealing with firm on the basis of his pretensions.

(vi) Partner by holding out: He is the one who is falsely declared partner of the firm whereas actually
he is not. And even after becoming aware of it, he-does not deny it. His liability is unlimited towards
the party who has deal with firm on the basis of this declaration.

Minor as a Partner:

A minor is a person who has not attained the age of 18 years. Since a minor is not capable of
enlarging into a valid agreement. He cannot become partner of firm. However, a minor can be
admitted to the benefits of an existing partnership firm with the mutual consent of all other partners.
He cannot be asked to bear the losses. His liability will be limited to the extent of the capital
contributed by him. He will not be eligible to take an active part in the management of the firm.
Types of Partnership

A. Classification on the Basics of Duration

Partnership at will- This type of partnership exists at the will of partners,

Particular Partnership- This type of partnership is formed for a specified period or to accomplish a
particular project (consolation of building)

B. Classification on the basis of Liability

General partnership- This liability of partners is limited and joint. Registration of firm is optional.

Limited Partnership- The liability of at least one partner is unlimited whereas the other partners may
have limited. Registration of the firm is compulsory.

Partnership Deed
The written agreement on a stamped paper which specifies the terms and conditions of partnership
is called the partnership deed.
It generally includes the following aspects -
 Name of the firm
 Location Address of the firm
 Duration of business.
 Investment made by each partner.
 Profit sharing ratio of the partners
 Terms relating to salaries, drawing, interest on capital and interest on drawing of partners.
 Duties & obligations of partners.
 Terms governing admission, retirement & expulsion of a partner, preparation on of accounts &
their auditing.
 Method of solving dispute
Registration Of Partnership

 Registration is not compulsory it is optional. But it is always beneficial to get the firm registered.
The consequences of non-registration of a firm are as follows:
 A partner of an unregistered firm cannot file suit against the firm or the partner.
 The firm cannot file a suit against third party.
 The firm cannot file a case against its partner.

Procedure for Registration

1. Submission of application in the prescribed form to the Registrar of firms. The application
should contain the following particulars:
• Name of the firm
• Location of the firm
• Names of other places where the firm carries on business
• The date when each partner joined the firm
• Names and addresses of the partners
• Duration of partnership
This application should be signed by all the partners.
 2. Deposit of required fees with the Registrar of Firms.
3. The Registrar after approval will make an entry in the register of firms and will subsequently issue
a certificate of registration.

Meaning of Co-operative Society

A co-operative society is a voluntary association of persons of moderate means who unite together to
protect & promote their common economic interests. Their prime motive is welfare of the
members of the society.

Features
1.Voluntary association: A person is free to join a co-operative society and can also leave the society
after giving proper notice. Nobody can force him to join or leave the society.
2.Legal status: Registration of cooperative society is compulsory. It gives the society a separate legal
identity.
3.Limited liability: The liability of the members is limited to the extent of their capital
contribution in the society.
4.Control: Management & Control lies with the managing committee elected by the members by
giving vote. Every member has one vote irrespective of the number of shares held by him.
5.Service motive: The main aim is to serve its members and not to maximize the profit. If any
surplus is generated, it is distributed amongst the members as dividend.

Merits
1. Ease of formation: It can be started with minimum of 10 members. Registration is also easy as it
requires very few legal formations.
2. Equality in voting status: Every member has one vote irrespective of the number of shares
held by him.
3. Limited Liability: The liability of members is limited to the extent of their capital contribution.
3. Stable existence: Due to registration it is a separate legal entity and is not affected by the death,
insanity or insolvency of any of its member.
4. Economy in operations: Elimination of middlemen and voluntary services being provided
by the members of society, helps in reducing costs.
5. Support from Government: Government provides support by giving loans at lower interest rates,
subsidies & by charging less taxes.
6. Social utility: it promotes personal liberty, social justice and mutual cooperation. They help to
prevent concentration of economic power in few hands.
Limitations

1. Limited resources – Cooperative society is usually formed by people with limited means. Hence it
has to face the problem of shortage of resources.
2. Inefficient management - Co-operative society is managed by elected members who may not be
competent and experienced. Moreover, it cannot afford to employ expert and experienced people
at high salaries.
3. Lack of Secrecy - Its affairs are openly discussed in its meeting which makes it difficult to maintain
secrecy.
4. Government control - It suffers from excessive rules and regulations of the govt. It has to get its
accounts audited by the auditor and has to submit a copy of its accounts to registrar.
5. Differences of opinion - The members are from different sections of society with different
viewpoints. Sometimes when some members become rigid, or when the personal motive of
members dominate the welfare motive, the result is conflict.

Types of Co-operative Societies

1. Consumers co-operative Society - It is formed to protect the interest of consumers. It
seeks to eliminate middleman by establishing a direct link with the producers. It
purchases goods of daily consumption directly from manufacturer or wholesalers and sells
them to the members at reasonable prices.
2. Producer's Co-operative Society - The main aim is to help small producers who cannot easily
collect various items of production and face some problem in marketing. These societies purchase
raw materials, tools, equipments and other items in large quantity and provide these things to their
members at reasonable price.
3. Marketing Co-operative Society - It performs various marketing function such as transportation,
warehousing, packing, grading, marketing research etc. for the benefit of its members. The
production of different members is pooled together and sold by society at good price.
4. Farmer's Co-operative Society - In such societies, small farmers join together and pool their
resources for cultivating their land collectively. Such societies provide better quality seeds,
fertilizers, machinery and other modern techniques for use in the cultivation of crops. It provides
them opportunity of cultivation on large scale.
5. Credit co-operative Society - Such societies protect the members from exploitation by money
lenders. They provide loans to their members at easy terms and reasonably low rate of interest.
6. Cooperative Housing Society – Such societies help people with limited income to construct
houses at reasonable costs. These societies construct flats or provide plots to members on which
the members themselves can construct the houses as per their choice.

Meaning of Joint Stock Company

Joint stock company is a voluntary association of persons formed for carrying out
business activities and status independent of its members. The shareholders are the
owners of the company while the Board of has legal Directors is the chief managing
body elected by the shareholders. The capital of the company is divided into smaller
parts called ‘shares’ which can be transferred freely from one shareholder to another
person.

Features
1. Artificial Person – Like natural persons it can own property, enter into contracts and can file
suits in its own name. However it is not a real person. It is just a creation of law. Therefore it is
called an artificial person.
2. Formation- The company must be incorporated or registered under the Companies Act
2013. Without registration no company can come into existence. Registration of a company is a
time consuming process.

3. Separate Legal Existence - It is created by law and it is a distinct legal entity independent
of its members. Its assets and liabilities are separate from those of its owners.

4. Perpetual Succession – Death, insolvency insanity or change of members has no effect on

life of a company. It can come to an end only through the prescribed legal procedure.

5. Limited Liability – The liability of every member is limited to the nominal value of shares
bought by him. He can only be asked to contribute to the extent of unpaid amount of share held
by him.

6. Transferability of shares – Shares of public company are easily transferable. But there are
certain restrictions on transfer of shares of private company.

7. Common Seal – It is the official signature of the company and it is affixed on all the
important documents of the company.

8. Separation of Ownership and Conrol – Management of company is in the hands of the

elected representatives of shareholders known as the Board of Directors.

Merits
1. Limitied 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.

2. Transfer of interest
Shares of public company are easily transferable. They can anytime be converted into cash.

3. Perpetual Existence
Death, insolvency insanity or change of members has no effect on life of a company. It can
come to an end only through the prescribed legal procedure.

4. Scope for Expansion

A company has large financial resources. It can further raise funds from investors and bank
loans. Thus there is great scope for Expansion.

5, Professional Management
A company can afford to pay higher salaries to specialists and professionals. This leads to
balanced decision making as well as greater efficiency in the company’s operations.

Limitations
1. Complexity in formation
The formation of a company requires greater time, effort and extensive knowledge of legal
requirements and the procedures involved.

2. Lack of secrecy
It is difficult to maintain complete secrecy about the operations of company because a lot of
information is provided to registrar from time to time, which is easily accessible by the
public.
3. Impersonal work environment
The large size of a company makes it difficult for the owners and top management to
maintain personal contact with the employees, customers and creditors.

4. Numerous regulations
The functioning of a company is subject to many legal provisions and compulsions with
respect to audit, voting, filing of reports, etc. It takes away a lot of time, effort and money.

5. Delay in Decision making

Companies have official chain of communication to be followed by everyone in the
organization. It may cause delay not only in taking decisions but also in acting upon them.

6. Oligarchic management
the shareholders are spread all over the country and therefore they have minimal influence in
terms of controlling or running the business. The Board of Directors enjoy considerable
freedom in exercising their power which they sometimes use even contrary to the interests of
the shareholders.

7. Conflict in interests
There may be conflict of interest amongst various stakeholders of a company. The employees,
for example, may be interested in higher salaries, consumers desire higher quality products at
lower prices, and the shareholders want higher returns in the form of dividends and increase
in the intrinsic value of their shares. it often becomes difficult to satisfy such diverse
interests.

Types of Companies

Basis Public Company Private Company

Minimum- 7 Minimum- 2
Members
Maximum- unlimited Maximum- 200
Minimum number of
Three Two
Directors
Index of Members Compulsory Not Compulsory
Transfer of Shares No restriction Restriction on transfer
Invitation to public to Can invite the public to subscribe Cannot invite the public to
subscribe to shares to its shares or debentures subscribe to its securities
Prospectus needs to be issued as No need to issue prospectus as
Need to issue prospectus
public is invited to subscribe shares capital is raised privately
Shares cannot be allotted without No restriction of minimum
Minimum Subscription
receiving minimum subscription subscription

Choice of Form of Business Organisation- (For detailed explanation, read it from text
book once)