🎉 Welcome to Types of Business Organisation! (Syllabus 2.2)
Hello future entrepreneur! This chapter is super important because before anyone starts a business, they have to decide what legal "outfit" or structure their company will wear. Choosing the right type of organisation affects everything—from how much tax you pay to whether your personal possessions are safe if the business fails.
Let's dive in and break down the six main types you need to know!
🧠 Prerequisite Concept: Understanding Liability
Before we look at the different structures, we must understand the most critical difference between them: Liability.
Liability refers to the extent to which the owner is personally responsible for the business's debts.
1. Unlimited Liability (The Scary One! 😨)
- This means there is **no legal distinction** between the owner and the business.
- If the business gets into debt, the owner is personally responsible for paying it back.
- **Analogy:** If the business owes £50,000, and the business bank account only has £5,000, creditors can legally take the owner's personal assets (like their car or house) to cover the remaining £45,000.
2. Limited Liability (The Safe One! 🛡️)
- This means the business is a **separate legal entity** from its owners.
- The owners are only responsible for the debts up to the amount they originally invested in the business (the value of their shares).
- **Analogy:** If the business owes £50,000, but it is a limited company, the creditors can only take the assets owned by the *company*. The owner's personal house, car, and savings are safe.
1. Sole Trader (The One-Person Show)
The sole trader is the simplest and most common form of business ownership. It involves one person owning and controlling the business entirely.
Legal Status:
- The owner and the business are legally the **same entity**.
- This means the owner has Unlimited Liability.
- Very few legal formalities or registration steps are needed to start.
Advantages (+) and Disadvantages (-):
- (+) All profits belong to the owner. (You keep 100% of the money!)
- (+) Easy and cheap to set up, with minimal paperwork.
- (+) Complete control and fast decision-making.
- (-) Unlimited Liability. (If the business fails, your personal assets are at risk.)
- (-) Difficult to raise capital (banks see it as high risk).
- (-) The workload and responsibility can be heavy, and the business often ceases if the owner is ill or retires.
Think of your local baker or a freelance graphic designer. They are likely sole traders, benefiting from full control but facing high personal financial risk.
2. Partnership (Sharing the Load)
A partnership involves two or more people who agree to own and run a business together.
Legal Status:
- Often governed by a formal document called a Deed of Partnership, which outlines how profits are shared and what happens if someone leaves.
- Like a sole trader, partners usually have Unlimited Liability. This means they are responsible for their partners' debts too!
Advantages (+) and Disadvantages (-):
- (+) More capital can be raised as multiple people contribute funds.
- (+) Shared workload and responsibilities. Partners can bring different skills (e.g., one partner handles marketing, the other handles finance).
- (-) Unlimited Liability. *Common mistake to avoid: You are liable for *all* business debts, even if incurred by your partner.*
- (-) Potential for disagreements and conflict between partners.
- (-) Profits must be shared.
3. Limited Company (The Protection Layer)
A limited company is owned by its shareholders and run by directors. This structure provides a crucial safeguard for the owners.
The key factor here is Limited Liability.
Legal Status:
- The company is a **separate legal entity** from the owners (shareholders).
- Must be registered with the government and file specific public documents (like financial accounts).
A. Private Limited Company (LTD)
LTDs are usually smaller businesses where shares are only sold privately to people known to the business (e.g., family, friends, or existing investors).
- (+) Owners have Limited Liability, protecting personal wealth.
- (+) Easier to raise large amounts of capital by selling shares (privately).
- (-) Cannot sell shares to the general public, limiting capital growth potential.
- (-) More complex legal formalities and paperwork compared to a sole trader.
B. Public Limited Company (PLC)
PLCs are large businesses where shares can be bought and sold freely by the public on a Stock Exchange.
- (+) Huge amounts of capital can be raised from the public.
- (+) Limited Liability for all shareholders.
- (-) Highly complex legal rules and setup requirements.
- (-) Accounts are public, meaning competitors can easily view their performance.
- (-) Risk of losing control if too many shares are bought by an outside investor.
The main reason entrepreneurs choose this structure is to gain Limited Liability and protect their private assets from business failure.
4. Franchise (Buying a Business Model)
A franchise is a business agreement where a business (the franchisor) allows another independent business person (the franchisee) to trade under its established name and system.
Example: Buying the right to open a branch of McDonald's or a specific coffee shop chain.
Legal Status:
- The franchisee is usually a sole trader or limited company, but they operate according to the franchisor's rules.
Advantages (+) and Disadvantages (-) for the Franchisee:
- (+) Lower risk of failure because the product, market, and brand name are already established and recognised.
- (+) Training and support are provided by the franchisor.
- (-) High start-up costs (the initial fee to buy the franchise license).
- (-) Must pay ongoing fees (royalties) and a percentage of sales to the franchisor.
- (-) Lack of freedom: the franchisee must follow strict rules on pricing, marketing, and decor.
5. Co-operative (Working Together)
A co-operative is a business owned and democratically controlled by its members, who are either the workers or the customers.
Legal Status:
- Often set up with Limited Liability, similar to a limited company.
- Decisions are usually made based on the principle of **one member, one vote**, regardless of how much capital they invested.
Advantages (+) and Disadvantages (-):
- (+) Democratic structure ensures everyone has a say.
- (+) Members are often highly motivated as they directly benefit from the success.
- (-) Decision-making can be slow due to the need for consensus among many members.
- (-) May lack access to huge amounts of external capital compared to PLCs.
The oldest co-operative still trading today was founded in 1844 in England! They are focused on community benefit.
6. Social Enterprise (Charities and Not-for-Profit Organisations)
These organisations exist primarily to meet a social or environmental need, rather than to maximize returns for owners or shareholders.
Key Goal:
- Unlike commercial businesses which seek profit, social enterprises seek a surplus (where income exceeds expenditure) which is then reinvested back into achieving their social mission.
A. Charities
- Defined by their legal purpose (e.g., advancing education, relief of poverty).
- They usually rely heavily on donations and fundraising.
B. Not-for-Profit (NFP) Organisations
- Includes many clubs, associations, and social enterprises whose primary aim is not profit (e.g., a local sports club).
Advantages (+) and Disadvantages (-):
- (+) Often receive significant public trust and support.
- (+) Can attract dedicated and highly motivated staff and volunteers.
- (+) May receive grants, government subsidies, or tax relief.
- (-) Cannot access capital via share issuance.
- (-) Limited scope for expansion if income is based solely on fluctuating donations.
- (-) All financial information is highly scrutinised to ensure funds are used for the stated purpose.
🚨 Common Mistake to Avoid!
When comparing businesses, remember the difference between Sole Trader and Limited Company is the *legal structure* (liability). The difference between a Commercial Business and a Social Enterprise is the *aim* (profit vs. social mission).
📝 Chapter Summary: Choosing the Right Organisation
Choosing the legal structure is one of the first and most critical decisions an entrepreneur makes. The choice depends mainly on:
- Risk Tolerance: Is the owner willing to accept Unlimited Liability (Sole Trader/Partnership)?
- Capital Needs: How much money is needed to start and grow? (Limited companies can raise the most).
- Aims: Is the main goal profit or a social benefit? (Commercial vs. Social Enterprise).
Great job! You now understand the core differences between how businesses are legally set up. Keep practicing those advantages and disadvantages—they are common exam questions!