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8/3/2019 Formation of Different Forms of Business Organization
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SOLE PROPRIERTORSHIP
'Sole' means single and 'proprietorship' means ownership. It means only one
person or an individual becomes the owner of the business. Thus, the business
organization in which a single person owns, manages and controls all the
activities of the business is known as sole proprietorship form of business
organization.
The individual who owns and runs the sole proprietorship business is
called a sole proprietor or sole trader.
A sole proprietor pools and organizes the resources in a systematic way
and controls the activities with the sole objective of earning profit.
This form of business is the oldest and most common form of business
organization.
Characteristics of Sole Proprietorship
Sole proprietorship form of business organizations have the following
characteristics.
Single Ownership
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No sharing of Profit and Loss
One-mans Capital
One-man Control
Unlimited Liability
Less legal formalities
Single Ownership
A single individual always owns sole proprietorship form of business
organization. That individual owns all assets and properties of the
business. Consequently, he alone bears all the risk of the business. Thus,
the business of the sole proprietor comes to an end at the will of the owner
or upon his death.
No sharing of Profit and Loss
The entire profit arising out of sole proprietorship business goes to the
sole proprietor. If there is any loss it is also to be borne by the sole
proprietor alone. Nobody else shares the profit and loss of the business
with the sole proprietor.
One mans Capital
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The capital required by a sole proprietorship form of business organization
is totally arranged by the sole proprietor. He provides it either from his
personal resources or by borrowing from friends, relatives, banks or other
financial institutions.
One-man Control
The controlling power in a sole proprietorship business always remains
with the owner. The owner or proprietor alone takes all the decisions to
run the business. Of course, he is free to consult any body as per his
liking.
Unlimited Liability
The liability of the sole proprietor is unlimited. This implies that, in case of
loss the business assets along with the personal properties of the
proprietor shall be used to pay the business liabilities.
Less Legal Formalities
The formation and operation of a sole proprietorship form of business
organization requires almost no legal formalities. It also does not require
to be registered. However, for the purpose of the business and depending
on the nature of the business, the sole proprietorship has to have a seal.
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He may be required to obtain a license from the local administration or
from the health department of the government, whenever necessary.
Advantages of Sole Proprietorship
The sole proprietorship form of business is the most simple and common in our
country. It has the following advantages:
Easy to Form and Wind up: A sole proprietorship form of business is very
easy to form. With a very small amount of capital you can start the
business. There is no need to comply with any legal formalities except for
those businesses which required license from local authorities or health
department of government. Just like formation it is also very easy to wind
up the business. It is your sole discretion to form or wind up the business
at any time.
Direct Motivation: The profits earned belong to the sole proprietor alone
and he bears the risk of losses as well. Thus, there is a direct link between
effort and reward. If he works hard, then there is a possibility of getting
more profit and of course, he will be the sole beneficiary of this profit.
Nobody will share this reward with him. This provides strong motivation for
the sole proprietor to work hard.
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Quick Decision and Prompt Action: In a sole proprietorship business the
sole proprietor alone is responsible for all decisions. Of course, he can
consult others. But he is free to take any decision on his own. Since no
one else is involved in decision making it becomes quick and prompt
action can be taken on the basis of this decision.
Better Control: In sole proprietorship business the proprietor has full
control over each and every activity of the business. He is the planner as
well as the organiser, who co-ordinates every activity in an efficient
manner. Since the proprietor has all authority with him, it is possible to
exercise better control over business.
Maintenance of Business Secrets: Business secrecy is an important factor
for every business. It refers to keeping the future plans, technical
competencies, business strategies, etc,. secret from outsiders or
competitors. In the case of sole proprietorship business, the proprietor is
in a very good position to keep his plans to himself since management
and control are in his hands. There is no need to disclose any information
to others.
Close Personal Relation: The sole proprietor is always in a position to
maintain good personal contact with the customers and employees. Direct
contact enables the sole proprietor to know the individual likes, dislikes
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and tastes of the customers. Also, it helps in maintaining close and
friendly relations with the employees and thus, business runs smoothly.
Flexibility in Operation: The sole proprietor is free to change the nature
and scope of business operations as and when required as per his
decision. A sole proprietor can expand or curtail his business according to
the requirement. Suppose, as the owner of a bookshop, you have been
selling books for school students. If you want to expand your business you
can decide to sell stationery items like pen, pencil, register, etc. If you are
running an STD booth, you can expand your business by installing a fax
machine in your booth.
Encourages Self-employment: Sole proprietorship form of business
organisation leads to creation of employment opportunities for people. Not
only is the owner self-employed, sometimes he also creates job
opportunities for others. You must have observed in different shops that
there are a number of employees assisting the owner in selling goods to
the customers. Thus, it helps in reducing poverty and unemployment in
the country.
Limited Capital: In sole proprietorship business, it is the owner who
arranges the required capital of the business. It is often difficult for a single
individual to raise a huge amount of capital. The owners own funds as
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well as borrowed funds sometimes become insufficient to meet the
requirement of the business for its growth and expansion.
Unlimited Liability: In case the sole proprietor fails to pay the business
obligations and debts arising out of business activities, his personal
properties may have to be used to meet those liabilities. This restricts the
sole proprietor from taking risks and he thinks cautiously while deciding to
start or expand the business activities.
Lack of Continuity: The existence of sole proprietorship business is linked
to the life of the proprietor. Illness, death or insolvency of the owner brings
an end to the business. The continuity of business operation is therefore
uncertain.
Limited Size: In sole proprietorship form of business organization there is
a limit beyond which it becomes difficult to expand its activities. It is not
always possible for a single person to supervise and manage the affairs of
the business if it grows beyond a certain limit.
Lack of Managerial Expertise: A sole proprietor may not be an expert in
every aspect of management. He/she may be an expert in administration,
planning, etc., but may be poor in marketing. Again, because of limited
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financial resources it is also not possible to employ a professional
manager. Thus, the business lacks benefits of professional management.
Suitability of Sole Proprietorship
Sole proprietorship form of business organisation is suitable:
Where the market for the product is small and local. For example, selling
grocery items, books, stationery, vegetables, etc.
Where customers are given personal attention, according to their personal
tastes and preferences. For example, making special type of furniture,
designing garments, etc.
Where customers are given personal attention, according to their personal
tastes and preferences. For example, making special type of furniture,
designing garments, etc.
Where the nature of business is simple. For example, grocery, garments
business, telephone booth, etc.
Where capital requirement is small and risk involvement is not heavy. For
example, vegetables and fruits business, tea stall, etc.
Where manual skill is required. For example, making jeweler, haircutting
or tailoring, cycle or motorcycle repair shop, etc.
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Formation of Sole Proprietorships
Sole proprietorships are formed simply by beginning business. Unlike
many other business organizations, no formal documents must be filed
with the secretary of state to create a sole proprietorship.
Registration of Assumed Business Name
If a sole proprietorship intends to operate under a name other than the
owners name, the owner must register the assumed business name or
trade name with the secretary of state to (1) reserve use of the name
and (2) prevent other businesses from operating with deceptively similar
names.
Licensing
The secretary of state and the counties in which a business is operating
may require a business license. The purpose of such licensing is to
regulate businesses, maintain business standards, protect existing
business interests, and protect the public (e.g., by requiring background
checks on companies that intend to work in residential environments).
Management
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Personal assets of proprietor shall not be liable for debts created by this
contract, or a breach thereof.
Note: Obviously, this doesnt work in the event of a tort (e.g., accident).
Bonding and Insurance
Sole proprietors can limit the personal liability through bonding and liability
insurance. While both are forms of insurance, their purpose is different.
Bonding ensures that a contract will be performed; liability insurance
protects against damage, theft, torts, and so on.
bonding: ensures performance of contract
liability insurance: protects against losses and damage (property
damage, theft)
Disadvantages
Bonding may not be available to high-risk or new businesses.
Additionally, it is very costly for many businesses (e.g., businesses that
deal with small children) and therefore may be cost prohibitive.
Taxation Considerations
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Sole proprietorship business profits = personal income of the sole
proprietor
Taxing the business profits as personal income allows business owners to
offset business income with other losses.
Termination
Upon Death
A sole proprietorship automatically terminates on the death of the sole
proprietor because a sole proprietorship is merely an extension of the
individual.
Upon Sale
Valuation of a business is based on the tangible assets (tables, chairs,
etc.) as well as the general reputation of a business (the goodwill).
Valuation:business assets + goodwill(reputation)
Sale Price:look to other business sales orbusiness income for specified
time
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A contract of partnership which may be oral or written, expresses or
implied, subject to the rules contained in Articles 1771 to 1773 of the New
Civil Code.
Two or more persons who have the legal capacity to enter into the
contract of partnership.
Valuable contribution to a common fund which may consist of money,
property or industry.
An intention to divide the profits between or among the partners.
Lawful purpose (s).
Characteristics of a Partnership
There are five basic characteristics of a partnership. These are:
Mutual agency
Voluntary association
Based on contract
Limited life
Unlimited liability
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Mutual Agency
Every partner is an agent of the partnership for the purpose of its
business. The act of every partner for apparently carrying on in the usual
way the business of the partnership of which he is a member binds the
partnership. This means that the act of each partner, provided that it is
within the scope of the business of the partnership, binds the partnership
or make the partnership liable to third parties.
Voluntary Association
A partnership is a voluntary association in as much as no person can be
forced against his will to become a partner to a partnership. This is
because a partner is responsible for the business acts of his partners
when the acts are within the scope of the business of the partnership; and,
also, because a general partner in unlimitedly liable for the partnership
debts. Consequently, it is only fair that a person be permitted to select the
people he wishes to join with in a partnership.
Based on contract
A partnership excludes from its concept all other associations which do
not have their origin in the contract. To form a partnership, all that is
required is that two or more competent people agree to become partners.
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Their agreement, be it oral or in writing, becomes a contract that binds all
the partners. If in writing, the contract is generally referred to as the
Articles of Co-Partnership.
Limited Life
In as much as the partnership is a relationship that originates from a
contract between or among individuals, any change in the relationship
terminates the contract and dissolves the partnership. The partnership is
dissolved by the death or withdrawal of a partner, the insolvency of a
partner, the termination of a project or purpose for which the partnership
has been formed, or the termination of the period specified in the contract
or agreement of partnership.
This does not, however, mean that the business will cease its operation. It
may or it may not. If the remaining partners decide to continue the
business, they may do so by forming a new partnership agreement. They
may even invite new partners into the business. If, on the other hand, the
remaining partners to liquidate the business, then the business ceases
operation.
Unlimited Liability
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A partnership is said to have unlimited liability in as much as the liability of
a partner extends beyond his interest in the partnership. Our law states
that all partners, including industrial ones, shall be liable pro rata with all
their property and after all the partnership assets have been exhausted. In
other words, creditors can run after the personal assets of the partners
(except limited partners), after all the partnership assets have been
exhausted, for the settlement of their claims on the partnership.
Classification of Partnerships
Partnerships may generally be classified on the basis of:
Scope of business operations
General Partnership
Special Partnership
Liability of members
General partnership
Limited partnership
Object of the partnership
Universal partnership
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Particular partnership
General Partnership (as to scope)
Is organized to engaged in a general line of business ( trading or
manufacturing) or for the exercise of a certain profession (service) during
the period of its existence. A general partnership engaged in trading or
manufacturing is referred to as a trading partnership while a general
partnership engaged in service activities is referred to as a nontrading
partnership.
Special Partnership
Is organized for a specific task or project, the completion of which shall
automatically dissolve the partnership and terminate its existence.
General Partnership (as to liability)
Is one in which all the members are general partners, i.e., all of the
partners are personally liable for partnership debts. The creditors of the
partnership can run after the personal assets of all the partners they being
general partners, after all of the partnership assets have been exhausted.
Limited Partnership
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Is one in which there is at least one (but not all) limited partner. In a limited
partnership, not all of the partners can be limited partners. There should
be at least one general partner to assume unlimited liability.
Universal Partnership
May refer to all the present property or to all of the profits. In a universal
partnership of all present property, the partners contribute all their property
to a common fund with the intention of dividing the property and all the
profits they may acquire therewith among themselves.
A universal partnership of profits comprises all that the partners may
acquire by their industry or work during the existence of the partnership.
In other words, in the universal partnership of all property, the property
becomes the common property of all the partners because ownership of
the said property passes to the partnership while the property in a
universal partnership of profits which each of the partners may possess at
the time of the formation of the partnership shall continue to pertain
exclusively to each, the usufruct or only the use of which shall pass on to
the partnership.
Particular Partnership
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Has for its object determinate things, their use or fruits, or a specific
undertaking, or the exercise of a profession or vocation.
Classification of Partners
Partners may be classified under several bases:
As to liability
General partner
Limited partner
As to contribution
Capitalist partner
Industrial partner
As to management of the firm
Managing partner
Ostensible partner
Nominal partner
Secret partner
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Silent partner
Dormant partner
General Partner
Is one who assumes unlimited liability, i.e., he is liable for partnership
debts up to the extent of his personal assets.
Limited Partner
Is one who is liable for partnership debts only up to the extent of his
interest in the partnership.
Capitalist Partner
Is one who contributes money or property.
Industrial Partner
Is one who contributes only his industry or personal service.
Managing Partner
Is one who manages the affairs of the business of the partnership. He may
be appointed as such either in the Articles of Co-Partnership or after the
Constitution of the partnership.
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Ostensible Partner
Is one who takes active part in the partnership and known to the public as
a partner in the business, whether or not he has an actual interest in the
firm. If he is not actually a partner, he is subject to liability by the doctrine
of estoppel.
Nominal Partner
Is one who is not really a partner having no financial interest in the
partnership, but is represented as being in fact a partner and, therefore,
liable as a partner. He is a partner in name only by permitting the use of
his name either for accommodation or for consideration.
Secret Partner
Is one who has financial interest in the firm and takes active part in the
business but is not known or held out to outside parties as a partner.
Silent Partner
Is one who has financial interest in the firm but does not take active part in
the business although he may be known to be a partner by outside
parties. He need not be a secret partner.
Dormant Partner
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Is one who has financial interest in the firm but who does not take active
part in the management and is not known or held out as a partner.
Corporation
Is an artificial body organized in accordance with the provision of aw in
which ownership is divided into shares of stocks.
The Corporation Code of the Philippines defines a corporation as an
artificial being created by operation of law, having the right of succession
and the powers, attributes and properties expressly authorized by law or
incident to its existence. Five or more persons are required to organize a
corporation. The owners of a corporation are called shareholders or
stockholders.
Characteristics of a Corporation
Separate legal existence
Transferable unit of ownership
Limited liability of stockholders
Continuity of existence
Centralized management by the Board of Directors
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Classification of Corporations
As to purpose. The Corporation Code of the Philippines implies two types
of corporations according to purpose. These are:
Public corporation. These are corporations formed or organized for the
government of a portion of the state, i.e., for political or public purpose
connected with the administration of government. They are also called
municipal corporations or local governments. Examples are barrios, cities,
municipalities, and provinces.
Private Corporations. These are corporations formed other than for the
government of a portion of a state. They are formed for some private
purpose, benefit, or end. Other classifications under this heading are:
Quasi-public corporations
Government-owned or controlled corporations
As to how membership is represented. The Corporation Code of the
Philippines, Section 3, classifies corporations under this basis as:
Stock corporations
Non-stock corporations
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As to the state of incorporation.
Domestic corporations
Foreign corporations
As to admission of stockholders.
Open corporations
Closed corporations
Parties to a Corporation
Corporators are those who compose the corporation whether
stockholders (for a stock corporation) or members (for a non stock
corporation). Hence, corporators include incorporators, stockholders, or
members.
Incorporators are those corporators mentioned in the articles of
incorporation as originally forming and composing the corporation and
who executed and signed the articles of incorporation as such. There
should be at least five but not more than fifteen incorporators.
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Stockholders/Shareholders are owners of shares of stock in a stock
corporation. Stockholders may be natural or artificial persons (other
corporations) but only natural persons can be incorporators.
Members are corporators of a non-stock corporation who do not own
capital stock.
Promoters are persons who undertake to form and organize a
corporation by bringing together the incorporators or the persons
interested in the enterprise. They procure subscriptions or capital for the
corporation and set in motion the machinery which leads to the
incorporation of the corporation itself.
Board of Directors We have already learned that the management of a
corporation is vested in the board of directors who are elected by the stock
holders or members among themselves. The Board of Directors shall not
be less than five or more than eleven.
The right to vote in stockholders meetings
The right to share in the profits
The right to share in the distribution of assets upon liquidation of the
corporation
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The right to purchase enough shares in case of new issues so as to be
able to maintain his proportionate interest in the corporation. This is called
stockholders preemptive right.
Organization of a Corporation
Promotion
Incorporation
Formal organization and commencement of business operations
Promotion
Refers to bringing together of the incorporators and person interested in
forming a corporation and procuring subscriptions or capital for the
corporation.
Incorporation
Registration of business name
Drafting and execution of the Articles of Incorporation by the incorporators.
Treasurers affidavit execution.
Filling of the Articles of Incorporation with the Securities and Exchange
Commission together with the treasurers affidavit.
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Issuance by SEC of the Certificate of Incorporation
Formal Organization
Adoption of By-Laws
Election of Board of Directors
Election of Officers
Commencement of business operations
The Articles of Incorporation
The Articles of Incorporation must substantially contain the following matters as
required by section 14 of the Corporation Code:
Name of the corporation;
Specific purpose or purposes for which the corporation is formed;
Location or principal place of business;
Term for which the corporation is to exist, not exceeding fifty years;
Names, nationalities, and residences of the incorporators;
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Names, nationalities, and residences of the persons who shall act as
directors or trustees until the first regular directors or trustees are duly
elected and qualified.
In case of stock corporations, the amount of its authorized capital stock,
the number of shares into which it is divided, and the par value of each
share (in case of par value shares).
In case of stock corporations, the names, nationalities, and residences of
the original subscribers and the amount subscribed and paid by each on
his subscription.
In case of non-stock corporations, the amount of its capital, the names,
nationalities, and residences of the contributors and the amount
contributed by each.
Such other matters as are not inconsistent with law and which the
incoporators may deem necessary and convenient.