TOPIC 1 - NATURE OF BUSINESS
(Types of business entity)
An entity is the name given to a business to separate the business from its owners.
Classification is about arranging businesses into groups with common characteristics.
Classification of business:
A business entity refers to the description of the business based upon:
- Legal structure: examine the legal ownership of a business in terms of such things as a company or a sole trader.
- Industry classification: look at the characteristics of businesses in particular industry sectors such as retailing or manufacturing
- Size: break all business into two groups, small and large
- Sector classification
- International, transnational
Legal structure classification: When determining a legal classification, business can be separated into 2 distinct groupings: Incorporated, unincorporated
Incorporated business: the owners of the business are regarded as a separate legal entity to the business, as in the case of private and public companies. Owners are not liable for any debts of the business beyond the amount they have already invested (limited liability)
Unincorporated business: the owners are regarded as being the same legal entity as the business and are therefore personally liable for any debts of the business, as in the case of sole trader (unlimited liability)
Par value – the value of the share when it is first issued.
Proprietor – a person who owns a sole trading business or partnership.
Business venture – something new involving the risk of failure and losing money.
There are four common legal structures used to classify private businesses:
Sole trader – one owner
Advantages:
- own is their own boss
- Owner is entitled to receive all the profits the business makes.
- The simple structure is generally inexpensive to set up and operate.
- Limited legal requirements in terms of financial reporting.
Disadvantages:
- limited in raising additional finance due to the fact that only one person can offer assets for security
- Unlimited liability exists for the owner, where their personal assets may be claimed to repay any outstanding debts.
- The owner may not be skilled in all areas of the business
- Owner is limited when taking holidays as no other owners are on hand to run the business in their absence.
Partnership – two to twenty
Advantages:
- shared responsibility
- wider variety of skills offered to the business
- greater ability to gain internal and external finance as more owners have a greater pool of assets to invest
- generally low establishment and set up costs
- limited legal requirements
Disadvantages:
- each partner is responsible and liable
- unlimited liability
- more arguments
Private company – two to fifty owners, they are called shareholders. Has the letters Pty Ltd at the end.
Advantages:
- shareholders have limited liability
- perpetual succession exists for the owners and ownership is easily transferred
- greater ability to attract additional finance
Disadvantages:
- Complex structure involving high set-up costs
- Regulations requiring financial reporting to the Australian securities and investments commission
- Limited to fifty shareholders and unable to sell shares publicly
Public company – same as Private although there is no limit on the amount of owners. Has Ltd at the end of its name.
Advantages:
- Greater access to additional equity finance due to unlimited number of owners.
- Owners can easily buy or sell shares through the ASX.
Disadvantages:
- Listing on the ASX is expensive, complex and takes a long time.
- Financial reports must be published annually and made available to all owners.
- Share values fluctuate depending upon market confidence, affecting the market capitalisation of the company.
Franchise – a license to operate an individually owned business as if it were a part of a chain of outlets or stores. This involves an agreement between:
A Franchisor – an individual or organisation granting a franchise.
Advantages:
- Fast and selective product distribution
- Avoids cost of construction
- Agreement ensures some control
Disadvantages:
- Unsuitable franchisee
- Disagreements over conditions and terms of contract.
A Franchisee – a person or organisation purchasing a franchise.
Advantages:
- Established name
- Management back-up
- Guaranteed customer base
Disadvantages:
- Franchisor retains great deal of control
- Limited scope for individuality in business operations
- If too successful, franchisor may open own outlet.
Classification by Industry
Five main industry classifications covering the different stages of production of goods and services. The type is determined by what stage of production the business is in.
Primary > Secondary > Tertiary > Quaternary > Quinary
Primary industry - It involves the gaining of the resources to make the goods and involved in the production of basic materials. E.g. forestry, fishing, mining, etc.
Secondary industry - The process for goods involves transforming the raw materials into finished or semi-finished goods. E.g. car manufacturing, construction of bridges, etc.
Tertiary industry - The processing or transfer of matter and/or energy.
Quaternary industry - This is the processing and transferring of information. E.g. bankers, teachers, communication, etc.
Quinary industry - the provision of domestic services and charitable work. E.g. Tourism, craft, child and aged care
Classification by Size
Defining a business size can be based on a number of characteristics. It is determined by the:
- number of employees
- annual financial turn over of the business
- net asset value of the business
Classification by Public and Private Sectors
Public sector business:
- Government owned enterprises otherwise called Gov. Business enterprise (GBE). Federal, state and local governments own and operate businesses to carry out their functions and to provide services to the community. Examples of GBEs – the aus tax office, ABC TV, state rail.
Private sector business:
- Businesses owned by private individuals or groups. The private sector is responsible for the majority of all businesses operating in Australia.
Classification by International/Transnational
International Business – businesses with interests in other countries and export some of its output overseas.
Transnational Business – businesses that have their operations in more than one country at the same time but manage them all from one base country in their home country.
Multinational businesses – have operations in more than one country at the same time and decentralise the management and decision making in each operation to the local country. Also known as “multidomestic” businesses.
Factors influencing choice of legal structure: Size, Ownership, Finance, Privatisation