There are three main forms of business organizations- the Sole proprietorship, Partnership, and Limited Liability Company. Each of these has its own distinguishing features/characteristics, as well as merits and demerits.
After studying this Unit, you should be able to:
- List the three basic forms of business organizations.
- Identify their features
3.0 MAIN CONTENT
3.1 Sole Proprietorship
A Sole proprietorship or one – man business, as the name implies, is a business concern owned by one person who often is also engaged actively in the running of the business. The sole owner subscribes to all of the equity capital of the business which in most cases are raised from personal savings or soft loans obtained from relations and friends. All incomes also accrue to the owner.
Other characteristics/features of one – man business include the following:
- A sole proprietorship has no distinct legal entity.
- The owner has freedom to deal with the organisation’s assets without any restrictions;
- it is often small and can be recognised easily;
- Its capacity to borrow (especially from banks) is limited;
- It has very high risk because of the inseparability of the owner with the business;
- The structure is simplistic in nature.
A partnership is generally defined as a legal relationship between two or more persons where each person contributes something in order to carry on a lawful business with a view of profit which is to be shared between the partners in a proportion agreed upon by them. Therefore, for a partnership to exist:
- the association must be engaged in a business which may be a trade or a profession;
- the trade or the profession must be carried on together, jointly, for the benefit of all the partners; and
- there must be an intention to earn a profit.
The above description, therefore, distinguishes a partnership from a political, religious, social, or philanthropic club or association. A partnership agreement, which need not necessarily be in written form (although it is advisable or wiser that any agreements between the partners be reduced to writing as this will tend to lead to fewer possibilities of misunderstandings and disagreements between partners), will govern the relationships between the partners, including:
- name of organisation, the type of business, and duration;
- capital to be introduced by partners;
- sharing of profits between parties, including salaries since not all the partners may be employed by the partnership on a full- time basis. Such salaries will be normal operating expenses;
- drawings by partners;
- arrangements for dissolution, or on the death or retirement of partners;
- settling of disputes;
- preparation and audit of accounts.
At this juncture, it is necessary to note that, although the partnership agreement creates a legal relationship between the partners, the partnership itself is not a legal entity.
We can highlight the essential features of a partnership as follows:
- Partnership is not separated from the partners.
- Setting-up cost is low and it is easy to form.
- Life of partnership is limited because it is a legal entity.
- Regarding liability, the partners must risk all their personal assets, even those not invested in the business, for under the partnership each partner is for the business’ debts.
- Partners share in the profits of the business according to their individual financial contribution to the business.
- The death of a partner can dissolve the partnership.
State the characteristics of a sole proprietorship.
3.3 Limited Liability Company
A limited liability company (or company) may be defined as an artificial creature, invisible, intangible, and existing only in contemplation of law. As a legal (artificial) person, it is separate from the owners. It can enter into a contract, sue and be sued in its name. Examples are First Bank, Julius Berger etc.
A company is legally formed by meeting the conditions stipulated in the Companies and Allied Matters Act (Decree), 1990. The promoters must apply for registration at the Corporate Affairs Commission together with both a Memorandum and Articles of Association.
- name of the company, with the term “Limited” as the last word of the name;
- objects for which the company is formed;
- amount of the share capital with which the company proposes to be registered and the division into shares of a fixed amount;
- address of the registered office of the company; and
- a statement to the effect that the ‘liability’ of the members or shareholders is ‘limited’.
The Articles of Association, on the other hand, setting out the regulations for internal organisation, and contains provisions relating to:
- proceedings at meetings;
- alteration of capital;
- appointment of directors;
- borrowing powers of directors;
- transfer or transmission of shares;
- winding-up procedure, etc.
The Memorandum and Articles of Association, duly stamped for stamp duties and fees, and accompanied by certain other forms, are lodged with the Registrar-General, who if everything is in order, issues a Certificate of Incorporation. At that point, a Limited Liability Company is formed, and those who signed the memorandum are its “foundation members”.
From the foregoing, let us highlight the following distinguishing features of a company as follows:
- Separate legal entity, which is not affected by changes in its ownership;
- Can own assets and incur liabilities in its own right;
- Can sue or be sued in its own name;
- Has perpetual succession – does not cease to exist upon the death of any or all of the owners;
- Liability of owners/shareholders is limited to the amount paid for shares allocated;
- Has the right to borrow on its own account;
- External audit is compulsory;
- Profits are subject to Company Income Tax;
- Statutory annual returns to the Corporate Affairs Commission.
Define a Company
The knowledge of the distinguishing features/characteristics of the three basic forms of business organisations, as well as their strengths and weaknesses, is essential in the study of Managerial finance.
In this unit, we have been able to consider that:
The three basic legal forms of business organisations are:
- the Sole proprietorship (one – man business)
- Partnership and
- Limited Liability Company.
6.0 TUTOR – MARKED ASSIGNMENT
- State the basic forms of business
- List the characteristics of a limited liability company