1 2 Understanding different business forms DIFFERENT BUSINESS

1. 2 Understanding different business forms DIFFERENT BUSINESS FORMS AND REASONS FOR CHANGING BUSINESS FORM 1

Learning outcomes Understanding the nature and purpose of business What you need to know: • Reasons for choosing different forms of business and for changing business forms 2

Reasons for choosing different forms of business and for changing business forms Different forms of business include: • Sole traders • Private limited companies • Public limited companies • Private & public sector organisations • Non-profit organisations such as charities and mutuals. 3

Sole traders A sole trader is a business owned and run by one individual. • The owner may operate on his/her own or may employ other people. • They are an increasingly popular method as people enjoy working for themselves and keeping all of the business profits • The business is unincorporated as it has not gone through the legal incorporation process and will have unlimited liability. Unlimited liability: the owners of a business are liable for all the debts that the business may incur (sole trader and partnerships). • If the business incurs debts that cannot be repaid then the owner’s personal assets are at risk as there is no limit to their liability. 4

Sole traders • Despite only having one owner they can employ as many people as they want • It is much easier to set up than other legal structures and it gives the owner more freedom and complete control over all aspects of the business, but it is riskier as there is no legal distinction between the owner and the business • There are no legal processes required to start-up and the owner must only declare profits to HMRC (Her Majesty's Revenue and Customs) to ensure that they pay the required level of income tax • Sole traders may face many other pressures, such as increased difficulty in gaining finance, high interest charges on any loans due to the increased risk of failure, only having a limited range of skills and workload pressures. 5

Limited companies • In an incorporated business, the business has a separate legal identity from the individual owners and therefore has limited liability. Limited liability: the liability of the owners of a business is limited to the fully paid-up value of the share capital (public and private limited companies). • The firm must go through the legal ‘incorporation’ process to gain limited status and must produce various legal documents such as a Memorandum of Association and Articles of Association and must register the business at Companies House. • As a result, the organisation owns assets, owes money, employs staff and enters into contracts in its own right. • The owners of the business are known as shareholders. • Such businesses include private limited companies and public limited companies. 6

Limited companies • Being a limited business allows firms to raise money by selling shares. Individuals would be less willing to invest in a firm if their own personal assets were not protected against debts incurred by the firm. • Being a limited company requires the company accounts to be checked annually by independent accountants and filed at Companies House. For public limited companies these accounts will be available to the public who may wish to purchase shares and for existing shareholder to see how their company is performing. For private limited companies these accounts are only available to the existing or potential shareholders. • Shareholders are rewarded by the value of the shares increasing and payments known as dividends. • Dividends are a share in the profits of a company, distributed equally over each share. The amount of the profit paid to shareholders is decided by the board of directors. 7

Private limited companies A private limited company is a small to medium-sized business, often run by the family or the small group of individuals who own it. • Its shares cannot be sold without the agreement of the other shareholders and are not sold on the stock exchange. • More capital can be raised by becoming a plc but remaining an Ltd can help to keep control of the firm and maintain a more long-term perspective focused on growth rather than short-term shareholder returns. • Accounts must be produced and filed at Companies House but are not available for the public to see. • It must have ‘Ltd’ after the company name. • Shares are sold to private individuals who are usually invited by the company to invest rather than the sale being advertised publicly. Examples: Poundland, Iceland, Boots (bought and taken private in 2007) 8

Public limited companies A public limited company is a business with limited liability. • It must have share capital of over £ 50, 000, at least two shareholders, two directors and a qualified company secretary, and usually has a large number of shareholders. • Its shares are traded publicly on the Stock Exchange. Shares in a company can be released at different times and the first time they are released is known as an IPO (Initial Public Offering). • The company will have ‘plc’ after its name. • Its value is known as its market capitalisation, which is the total value of the issued shares of a public limited company (current share price x number of share issued) • Unlike in Ltds, shareholders can sell shares to whoever they like which can lead to potential takeovers. 9

Public limited companies • The main reason for becoming a plc is to gain access to much larger sources of capital. Shares are advertised and sold to the public, which gives the company greater status. Share prices are reported through the press and online and will fluctuate depending on the success of the company. • Being a limited company may also make it easier to obtain bank loans as the company is considered less risky. • However, often shareholders will want regular dividends which may mean the company focuses more on short-term returns rather than on long-term growth. This may also at times lead to plc’s putting profits before ethics. Examples: Tesco, Kingfisher, ASOS, ARM 10

Public & private sector organisations Public sector organisations are those owned and run by the government. • Their main objectives will be to provide a service for the general public. Example: the National Health Service (NHS) Private sector organisations are those owned and run by any private individuals • These types of firms will generally set as their main objectives to maximise sales and profit. Example: Tesco, Sainsbury’s, Sony, Ford 11