Business Studies (0450) | Classification of businesses

IGCSE Business Studies (0450): Classification of Businesses

Welcome to the World of Business Structures!

Hello! This chapter is super important because it helps you understand the different legal "skins" a business can wear. Why does this matter? Because the structure you choose affects everything: how much money you can raise, how much control you have, and, most crucially, how much personal risk you take if the business fails. Don't worry if the legal terms seem intimidating—we'll break them down easily!

1. Understanding the Core Difference: Liability

The single most important concept in classifying businesses is Liability. Liability refers to the extent to which the owners are responsible for the debts of the business.

Key Concept: Unlimited vs. Limited Liability

There are two main types of liability, and they determine how safe the owners' personal belongings (like their house, car, or personal savings) are if the business gets into serious debt.

• Unlimited Liability:
  

  If the business cannot pay its debts, the owners are 100% responsible. Creditors (people owed money) can take the owners' personal assets to settle the debt.
  Analogy: Imagine there is no protective wall between you and the business debts. If the business sinks, you sink with it!

• Limited Liability:
  

  If the business fails, the owners (shareholders) only risk the money they originally invested in the business (the value of their shares). Their personal assets are legally protected.
  Analogy: This is like having a legal safety shield. If the business sinks, your personal assets stay afloat.

Quick Takeaway: Unlimited Liability = High Personal Risk. Limited Liability = Lower Personal Risk.

2. Unincorporated Businesses (Unlimited Liability)

Unincorporated businesses are usually small and simple to set up. Legally, there is no distinction between the owner(s) and the business itself.

2.1. Sole Trader (Sole Proprietor)

A sole trader is a business owned and controlled by just one person. This is the simplest and most common form of business organisation.
Example: A local baker, a freelance graphic designer, or a small market stall vendor.

Legal Status and Liability

The sole trader has Unlimited Liability. This means if the business fails and owes money, the owner’s personal wealth is at risk.

Advantages (A) and Disadvantages (D) for a New Enterprise

• A: Easy to set up (minimal legal requirements).
• A: Owner keeps all the profits (after paying tax).
• A: Owner has full control and makes decisions quickly.
• D: Unlimited Liability (high personal risk).
• D: Limited sources of capital (only the owner’s savings or small loans).
• D: Heavy workload and lack of continuity (if the owner is ill or retires, the business might end).

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2.2. Partnership

A partnership is an organisation where between 2 and 20 individuals agree to own and run a business together.
Example: A group of doctors (a medical practice), or two lawyers setting up a firm together.

Legal Status and Liability

Like sole traders, partners usually have Unlimited Liability. If one partner racks up debt, all other partners can be held responsible for the debt (this is called joint and several liability).

Partnership Agreement

It is highly recommended that partners draw up a Deed of Partnership (a legal document). This specifies how profits will be shared, how much capital each partner puts in, and how disagreements will be resolved.

Advantages (A) and Disadvantages (D) for a New Enterprise

• A: More capital can be raised compared to a sole trader.
• A: Shared workload and risks.
• A: Different skills and expertise are brought by different partners.
• D: Unlimited Liability for all partners.
• D: Potential for disputes and disagreements between partners.
• D: Profits must be shared.

Did you know? Most accountants and solicitors (lawyers) start their careers in partnership firms because they can pool their knowledge and start-up costs!

3. Incorporated Businesses (Limited Liability)

When a business becomes "incorporated," it becomes a separate legal entity from its owners. This separation provides the crucial protection of Limited Liability. These organisations are known as Limited Companies.

3.1. Limited Company (Private Limited Company - Ltd)

These companies sell shares, but often only to family, friends, or selected individuals. They cannot advertise their shares to the general public.
Example: A successful local manufacturer, a family-owned chain of restaurants that has grown large.

Legal Status and Liability

The company is a legal entity, and its shareholders (owners) benefit from Limited Liability.

Advantages (A) and Disadvantages (D) for a New Enterprise

• A: Limited Liability protects the personal wealth of the shareholders.
• A: Easier to raise capital by selling more shares.
• A: Continuity of existence—if an owner dies, the business continues.
• D: Complex and expensive legal formalities must be followed to set up.
• D: Financial records are often made public (less privacy).
• D: Cannot sell shares to the general public (limits major capital raising).

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3.2. Public Limited Company (PLC)

PLCs are large companies that can sell their shares to the general public on a stock exchange.
Example: Apple, Coca-Cola, or major national banks.

We focus primarily on the 'Limited Company' structure as relevant for newer enterprises, but remember that the key feature of a PLC is the ability to raise huge amounts of capital through public share sales.

4. Other Important Business Structures

Not all businesses are run just to make profit for their owners. Some have unique structures or goals.

4.1. Franchise

A franchise is not a business organisation *type* in itself (it can be run by a sole trader or a limited company), but it is a special *arrangement* between two parties:

• The Franchisor: The main company that owns the successful business idea, brand, and formula (e.g., McDonald's).
• The Franchisee: The individual who buys the licence (permission) to use the franchisor’s name, products, and methods in a specific location.

Advantages (A) and Disadvantages (D) for a New Enterprise (Franchisee)

• A: Reduced Risk: The business idea and brand name are already successful and well-known.
• A: Training and support are provided by the franchisor.
• D: High start-up cost: The franchisee must pay large fees and royalties to the franchisor.
• D: Lack of independence: The franchisee must follow strict rules about how the business is run (no creative freedom!).

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4.2. Co-operative

A co-operative is a business organisation owned and controlled by its members (often the workers or the customers). They aim to work for the benefit of their members rather than just seeking maximum profit.

Advantages (A) and Disadvantages (D)

• A: Democratic structure: Every member has an equal say (one member, one vote).
• A: Shared risks and shared purpose among members.
• D: Decision-making can be slow due to the need for consensus among all members.

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4.3. Social Enterprises and Not-for-Profit Organisations

These organisations are fundamentally different because their main aim is not to maximise profit for shareholders, but to benefit society or a specific cause.

The Goals

• Charities: Aim to provide aid for a social, environmental, or medical cause (e.g., funding a local shelter).
• Social Enterprise: Uses business methods to achieve a social goal. They earn revenue through sales but reinvest profits back into the cause.

Because they are not trying to make a profit for owners, they often record a surplus (when income exceeds expenditure) rather than a profit. This surplus is then used to further their social or ethical aims.

Key Features

• They rely heavily on grants, donations, and fundraising, alongside selling goods/services.
• They are often exempt from certain taxes.
• Their success is measured by the positive impact they have, not just financial performance.

Remember This Trick: When analysing a new business structure, always ask these three simple questions:
1. Who owns it? (Control)
2. How do they get money? (Capital)
3. What happens if it goes bust? (Liability)