ONTENTS...2014/09/25 · 6 BUSINESS STUDIES security to the manufacturers by assuming responsibility for the risks involved, especially in foreign trade. It comprised commission agents,

CONTENTS

FOREWORD iii

PART I FOUNDATIONS OF BUSINESS 1

CHAPTER 1 Business, Trade and Commerce 2

CHAPTER 2 Forms of Business Organisation 27

CHAPTER 3 Private, Public and Global Enterprises 60

CHAPTER 4 Business Services 83

CHAPTER 5 Emerging Modes of Business 118

CHAPTER 6 Social Responsibilities of Business

and Business Ethics 145

PART II CORPORATE ORGANISATION, FINANCE AND TRADE 164

CHAPTER 7 Formation of a Company 165

CHAPTER 8 Sources of Business Finance 186

CHAPTER 9 Small Business 213

CHAPTER 10 Internal Trade 231

CHAPTER 11 International Business 261

FORM NO. INC-1 Application for reservation of Name 309

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CONSTITUTION OF INDIAPart III (Articles 12 – 35)

(Subject to certain conditions, some exceptionsand reasonable restrictions)

guarantees these

Fundamental Rights

Right to Equality

• before law and equal protection of laws;

• irrespective of religion, race, caste, sex or place of birth;

• of opportunity in public employment;

• by abolition of untouchability and titles.

Right to Freedom

• of expression, assembly, association, movement, residence and profession;

• of certain protections in respect of conviction for offences;

• of protection of life and personal liberty;

• of free and compulsory education for children between the age of six and fourteen years;

• of protection against arrest and detention in certain cases.

Right against Exploitation

• for prohibition of traffic in human beings and forced labour;

• for prohibition of employment of children in hazardous jobs.

Right to Freedom of Religion

• freedom of conscience and free profession, practice and propagation of religion;

• freedom to manage religious affairs;

• freedom as to payment of taxes for promotion of any particular religion;

• freedom as to attendance at religious instruction or religious worship in educational

institutions wholly maintained by the State.

Cultural and Educational Rights

• for protection of interests of minorities to conserve their language, script and culture;

• for minorities to establish and administer educational institutions of their choice.

Right to Constitutional Remedies

• by issuance of directions or orders or writs by the Supreme Court and High

Courts for enforcement of these Fundamental Rights.

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PART I

Foundations of Business

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CHAPTER 1

BUSINESS, TRADE AND COMMERCE

LEARNING OBJECTIVES

After studying this chapter, you should be able to:

i. Appreciate the development of trade and commerce in historical past;

ii. Understand the role of indigenous banking system in trade and commerce;

iii. Explain the concept and objectives of business;

iv. Discuss types of industries;

v. Explain the activities relating to commerce;

vi. Describe the nature of business risks and their causes; and

vii. Discuss the basic factors to be considered while starting a business.

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3BUSINESS, TRADE AND COMMERCE

1.1 INTRODUCTION

All human beings, wherever they maybe, require different types of goods andservices to satisfy their needs. Thenecessity of supplying goods andservices has led to certain activities beingundertaken by people to produce andsell what is needed by others. Businessis a major economic activity in allmodern societies concerned as it isconcerned with the production and saleof goods and services required bypeople. The purpose behind mostbusiness activities is to earn money bymeeting people’s demands for goodsand services. Business is central to our

Imran, Manpreet, Joseph and Priyanka have been classmates in Class X.After their exams are over, they happen to meet at a common friend Ruchika’shouse. Just when they were sharing their experiences of examination days,Ruchika’s father Raghuraj Chaudhary intervenes and asks about theirwell- being. He also enquires about their career plans. But none of them hada definite reply. Raghuraj who himself is a successful businessman tells themabout business as a career opportunity. Joseph gets excited by the idea andsays “yes, business is really good for making lots of money”. Raghuraj tellsthem that ‘there is a lot more to business than merely money’. Businessactivities lead to growth and development of any country, he added. He furthertells them that the roots of business activities can be traced back to ancienttimes and how trading helps in the prosperity of the Indian subcontinent.Priyanka said that they have read about the Silk Route in their historytextbooks. Raghuraj then gets busy with his day-to-day tasks. However, thefour classmates begin raising questions. The conversation of the fourclassmates focused on how trading activities were conducted during ancienttimes. How far can the roots of trading activities be traced? Why was the Indiansubcontinent referred to as ‘Swaran Bharat and Swaran Dweep’ by the thentravellers to India? What made Columbus and Vasco da Gama undertakejourneys to locate India? They decided to meet the commerce teacher of theirschool to find out answers to many such questions about the development,nature and purpose of business.

lives. Although our lives are influencedby many other institutions in modernsociety, such as schools, colleges,hospitals, political parties and religiousbodies, business has a major influenceon our daily lives. It, therefore, becomesimportant that we understand theconcept, nature and purpose ofbusiness.

The chapter is divided into twosections. Section I deals with thehistory of trade and commerce inancient India. Section II deals with theconcept, nature and purpose ofbusiness.

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4 BUSINESS STUDIES

SECTION I

History of Trade and Commerce

The economic and commercial

evolution of any land depends upon its

physical environment. This stands true

for the Indian subcontinent as a whole

which has Himalayas in the North

bordered by water in the South. A

network of roads merging into the

Silk Route helped in establishing

commercial and political contacts with

adjoining foreign kingdoms and

empires of Asia, in particular, and the

world, in general. The maritime routes

linked the east and the west by sea and

were used for the trade of spices and

known as ‘spice route’. Due to the flow

of wealth through these routes, the

chief kingdoms, important trade

centres and the industrial belt

flourished, which in turn further

facilitated the progress of domestic and

international trade in ancient India.

Trade and commerce have played

a vital role in making India to envolve

as a major actor in the economic world

in ancient times. Archaeological

evidences have shown that trade and

commerce was the mainstay of the

economy of ancient India carried out

by water and land. Commercial cities

like Harappa and Mohenjodaro were

founded in the third millennium B.C.

The civilisation had established

commercial connections with

Mesopotamia and traded in gold, silver,

copper, coloured gemstones, beads,

pearls, sea shells, terracotta pots, etc.

The period was marked by substantial

commercial activities and urban

development. Political economy and

military security during ancient times

united most of the Indian subcontinent

and trade regulations were carefully

planned. There were diverse types of

coins and weighing practices which

used to vary from place to place with

the help of money changers and by

resorting to certain commonly

accepted weights and measures.

1.1 Indigenous Banking System

As economic life progressed, metals

began to supplement other

commodities as money because of its

durability and divisibility. As money

served as a medium of exchange, the

introduction of metallic money and its

use accelerated economic activities.

Documents such as Hundi and

Chitti were in use for carrying out

transactions in which money passed

from hand to hand. Hundi as an

instrument of exchange, which was

prominent in the subcontinent. It

involved a contract which — (i) warrant

the payment of money, the promise or

order which is unconditional (ii)

capable of change through transfer by

valid negotiation.

Indigenous banking system played a

prominent role in lending money and

financing domestic and foreign trade

with currency and letter of credit. With

the development of banking, people

began to deposit precious metals with

lending individuals functioning as

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bankers or Seths, and money became

an instrument for supplying the

manufacturers with a means ofproducing more goods.

Workshops (Karkhana) were

prominent where skilled artisans

worked and converted raw materials

into finished goods which were high in

demand. Family-based apprenticeship

system was in practice and duly

followed in acquiring trade-specific

skills. The artisans, craftsmen and

skilled labourers of different kinds

learnt and developed skills and

knowledge, which were passed on from

one generation to another.

1.2.1 Rise of Intermediaries

Intermediaries played a prominent rolein the promotion of trade. Theyprovided considerable financial

Hundi as practised by Indian Merchaant Communities

Name of Hundi Broader Functions of Hundi

Classification

Dhani-jog Darshani Payable to any person—no

liability over who received

payment.

Sah-jog Darshani Payable to a specific person,

someone ‘respectable’. Liability

over who received payment.

Firman-jog Darshani Hundi made payable to order.

Dekhan-har Darshani Payable to the presenter or bearer.

Dhani-jog Muddati Payable to any person—no liabilityover who received payment, butpayment over a fixed term.

Firman-jog Muddati Hundi made payable to orderfollowing a fixed term.

Jokhmi Muddati Drawn against dispatched goods. Ifgoods lost in transit, the drawer orholder bears the coasts, and theDrawee carries no liability.

Agriculture and the domestication of

animals were important components of

the economic life of ancient people. Due

to the favourable climatic conditions

they were able to raise two or sometimes

three crops in a year. In addition to this,

by resorting to weaving cotton, dyeing

fabrics, making clay pots, utensils, and

handicrafts, sculpting, cottage

industries, masonry, manufacturing,

transports (i.e., carts, boats and ships),

etc., they were able to generate surpluses

and savings for further investment.

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6 BUSINESS STUDIES

security to the manufacturers by

assuming responsibility for the risks

involved, especially in foreign trade. It

comprised commission agents, brokers

and distributors both for wholesale and

retail goods. An expanding trade

brought in huge amounts of silver

bullion into Asia and a large share of

that bullion gravitated towards India.

The institution of Jagat Seths also

developed and exercised great influence

during the Mughal period and the days

of the East India Company. Bankers

began to act as trustees and executors

of endowments. Foreign trade was

financed by loans. However, the rate of

interest for longer voyages was kept

high in view of the huge risk involved.

The emergence of credit

transactions and availability of loans

and advances enhanced commercial

operations.The Indian subcontinent

enjoyed the fruits of favourable balance

of trade, where exports exceeded

imports with large margins and the

indigenous banking system benefitted

the manufacturers, traders and

merchants with additional capital

funds for expansion and development.

Commercial and Industrial banks later

evolved to finance trade and commerce

and agricultural banks to provide both

short-and long-term loans to finance

agriculturists.

1.3 TRANSPORT

Transport by land and water was

popular in the ancient times. Trade was

maintained by both land and sea. Roads

as a means of communication had

assumed key importance in the entire

process of growth, particularly of the

inland trade and for trade over land.

The northern roadway route is believed

to have stretched originally from Bengal

to Taxila. There were also trade routes

in the south spreading east and west.

Trade routes were structurally wide

and suitable for speed and safety.

Maritime trade was anotherimportant branch of global trade

network. Malabar Coast, on which

Muziris is situated, has a long historyof international maritime trade going

back to the era of the Roman Empire.

Pepper was particularly valued in theRoman Empire and was known as

‘Black Gold’. For centuries, it remained

the reason for rivalry and conflictbetween various empires and trade

powers to dominate the route for this

trade. It was in the search for analternate route to India for spices that

led to the discovery of America by

Columbus in the closing years of15th century and also brought Vasco

da Gama to the shores of Malabar

in 1498.

Calicut was such a bustling

emporium that it was even visited byChinese ships to acquire items, like

frankincense (essential oil) and myrrh

(fragrant resin used in perfumes,medicines) from the Middle East, as well

as, pepper, diamonds, pearls and cotton

from India. On the Coromandel Coast,Pulicat was a major port in the 17th

century. Textiles were the principal

export from Pulicat to Southeast Asia.

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1.4 Trading CommunitiesStrengthened

In different parts of the country,different communities dominated trade.Punjabi and Multani merchantshandled business in the northernregion, while the Bhats managed thetrade in the states of Gujarat andRajasthan. In western India, thesegroups were called Mahajan, Chatt iswere important traders from the South.In urban centres, such as Ahmedabadthe Mahajan community collectivelyrepresented by their chief callednagarseth. Other urban groupsincluded professional classes, such ashakim and vaid (physician), wakil

(Lawyer), pundit or mulla (teachers),

painters, musicians, calligraphers, etc.

1.4.1 Merchant Corporations

The merchant community also derivedpower and prestige from guilds, whichwere autonomous corporations formedto protect the interests of the traders.These corporations, organised onformal basis, framed their own rules ofmembership and professional code ofconduct, which even kings weresupposed to accept and respect. Tradeand industry taxes were also a majorsource of revenue. Traders had to payoctroi duties that were levied on mostof the imported articles at varying rates.They were paid either in cash or inkind.

Customs duties varied according tothe commodities. Tariffs varied fromprovince to province. The ferry tax wasanother source of income generation.

It had to be paid for passengers, goods,cattle and carts. The right to receive thelabour tax was usually transferred tothe local bodies.

The guild chief dealt directly withthe king or tax collectors and settledthe market toll on behalf of its fellowmerchants at a fixed sum of money.The guild merchants also acted ascustodians of religious interests. Theyundertook the task of building templesand made donations by levying acorporate tax on their members. Thecommercial activity, thus, enabled bigmerchants to gain power in the society.

1.4.2 Major Trade Centres

There were all kinds of towns—porttowns, manufacturing towns,mercantile towns, the sacred centres,and pilgrimage towns. Their existenceis an index of prosperity of merchantcommunities and professional classes.

The following were the leadingtrade centres in ancient India:1. Pataliputra: Known as Patnatoday. It was not only a commercialtown, but also a major centre for exportof stones.

2. Peshawar: It was an important

exporting centre for wool and for theimport of horses. It had a huge share

in commercial transactions between

India, China and Rome in the firstcentury A.D.

3. Taxila: It served as a major centre

on the important land route betweenIndia and Central Asia. It was also a

city of financial and commercial

banks. The city occupied an important

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8 BUSINESS STUDIES

place as a Buddhist centre of learning.The famous Taxila Universityflourished here.4. Indraprastha: It was thecommercial junction on the royal roadwhere most routes leading to the east,west, south and north converged.5. Mathura: It was an emporium oftrade and people here subsisted oncommerce. Many routes from SouthIndia touched Mathura and Broach.6. Varanasi: It was well placed as itlay both on the Gangetic route and onthe highway that linked North with theEast. It grew as a major centre of textileindustry and became famous forbeautiful gold silk cloth andsandalwood workmanship. It hadlinks with Taxila and Bharuch.7. Mithila: The traders of Mithilacrossed the seas by boats, through theBay of Bengal to the South China Sea,and traded at ports on the islands ofJava, Sumatra and Borneo. Mithilaestablished trading colonies in SouthChina, especially in Yunnan.8. Ujjain: Agate, carnelian, muslinand mallow cloth were exported fromUjjain to different centres. It also hadtrade relations through the land routewith Taxila and Peshawar.9. Surat: It was the emporium ofwestern trade during the Mughal period.Textiles of Surat were famous for theirgold borders (zari). It is noteworthy thatSurat hundi was honoured in far offmarkets of Egypt and Iran.10. Kanchi: Today known asKanchipuram, it was here that theChinese used to come in foreign ships to

purchase pearls, glass and rare stonesand in return they sold gold and silk.11. Madura: It was the capital of thePandayas who controlled the pearlfisheries of the Gulf of Mannar. Itattracted foreign merchants,particularly Romans, for carrying outoverseas trade.

12. Broach: It was the greatest seatof commerce in Western India. It was

situated on the banks of river Narmada

and was linked with all importantmarts by roadways.13. Kaveripatta: Also known asKaveripatnam, it was scientific in itsconstruction as a city and providedloading, unloading and strong facilitiesof merchandise. Foreign traders hadtheir headquarters in this city. It was aconvenient place for trade withMalaysia, Indonesia, China and the FarEast. It was the centre of trade forperfumes, cosmetics, scents, silk, wool,cotton, corals, pearls, gold andprecious stones; and also for shipbuilding.14. Tamralipti: It was one of thegreatest ports connected both by seaand land with the West and the FarEast. It was linked by road to Banarasand Taxila.

1.4.3 Major Exports and Imports

Exports consisted of spices, wheat,sugar, indigo, opium, sesame oil,cotton, parrot, live animals and animalproducts—hides, skin, furs, horns,tortoise shells, pearls, sapphires,quartz, crystal, lapis, lazuli, granites,turquoise and copper etc.

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Imports included horses, animalproducts, Chinese silk, flax and linen,wine, gold, silver, tin, copper, lead,rubies, coral, glass, amber, etc.

1.5 POSITION OF INDIAN SUBCONTINENT

IN WORLD ECONOMY ( 1 AD UP

TO 1991)

Between the 1st and the 7th centuriesCE, India is estimated to have thelargest economy of the ancient andmedieval world, controlling about one-third and one-fourth of the world’swealth (timeline). The country was oftenreferred to as ‘Swaranbhumi’ and‘Swarndweep’ in the writings of manytravellers, such as Megasthenes,Faxian (Fa Hien), Xuanzang (HuenTsang), Al Beruni (11th century), IbnBatuta (11th century), FrenchmanFrancois (17th century) and others.They repeatedly refer to the prosperityof the country.

The pre-colonial period in Indianhistory was an age of prosperity for

Source: Angus Maddison (2001 and 2003), The World Economy: A Millennial Perspective, OECD,

Paris; Angus Maddison, The World Economy, Historical Statistics

Indian economy and made theEuropeans embark great voyage of

discovery. Initially, they came to

plunder but soon realised the rewardsof trade in exchange of gold and silver.

Despite the growing commercial sector,

it is evident that the 18th century Indiawas far behind Western Europe in

technology, innovation and ideas. With

the increasing control of the East IndiaCompany causing lack of freedom and

no occurrence of agricultural and

scientific revolution, limited reach ofeducation to the masses, population

growth and preference to machines over

manual skills made India a countrywhich was prosperous but with people

who were poor.The British empire began to take

roots in India in the mid – 18thcentury. The East India Companyused revenues generated by theprovinces under its rule for purchasingIndian raw materials, spices andgoods. Hence, the continuous inflow

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10 BUSINESS STUDIES

of bullion that used to come onaccount of foreign trade stopped. Thischanged the condition of the Indianeconomy from being an exporter ofprocessed goods to the exporter of rawmaterials and buyer of manufacturedgoods.

1.5.1 India begins to Reindustrialise

After Independence, the process ofrebuilding the economy started andIndia went for centralised planning. TheFirst Five Year Plan was implementedin 1952. Due importance was given tothe establishment of modernindustries, modern technological andscientific institutes, space and nuclearprogrammes. Despite these efforts, theIndian economy could not develop at arapid pace. Lack of capital formation,rise in population, huge expenditureon defence and inadequate

infrastructure were the major reasons.As a result, India relied heavily onborrowings from foreign sources andfinally, agreed to economicliberalisation in 1991.

The Indian economy is one of the

fastest growing economies in the world

today and a preferred FDI destination.

Rising incomes, savings, investment

opportunities, increased domestic

consumption and younger population

ensures growth for decades to come.

The high growth sectors have been

identified, which are likely to grow at a

rapid pace world over and the recent

initiatives of the Government of India

such as ‘Make in India’, Skill India’,

‘Digital India’ and roll out of the Foreign

Trade Policy (FTP 2015-20) is

expected to help the economy in terms

of exports and imports and trade

balance.

Indian entrepreneurs began to set up their own modern textile mills after 1850and, gradually, began to recapture the domestic market. In 1896, Indian millssupplied 8% of the total cloth consumed in India, 20% in 1913, 62% in 1936 and76% in 1945. Thus, during 1913-1938 India’s manufacturing output grew 5.6%during per year, which was above the world average of 3.3%. The Britishgovernment, finally, provided tariff protection from 1920s, which helpedindustrialists to expand and diversify.

By the time of Independence in 1947, Indian entrepreneurs were strong enoughand in a position to buy the businesses of departing British. Industry’s share inIndia’s GDP had doubled from 3.18% in 1913 to 7.5% in 1947 and the share ofmanufacturers in exports rose from 22.4% to 30% for the years 1913 and 1947,respectively.

Source: B.R. Tomlison, The Economy of Modern India 1870-1970, The New Cambridge History

of India, Volume 3.3. Cambridge University Press, 1996.

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SECTION II

NATURE AND CONCEPT OF BUSINESS

1.6 CONCEPT OF BUSINESS

The term business is derived from theword ‘busy’. Thus, business meansbeing busy. However, in a specificsense, business refers to an occupationin which people regularly engage inactivities related to purchase,production and/or sale of goods andservices with a view to earning profits.The activity may consist of productionor purchase of goods for sale, orexchange of goods or supply of servicesto satisfy the needs of other people.

Try it yourself:

State whether each of the following is an economic activity:

1. Farmer growing rice for her own consumption.

2. A factory owner producing school bags for sale in the market.

3. Person begging at a busy traffic intersection.

4. Services of a domestic help doing household chores at anemployer’s house.

5. Services of a housewife doing household chores at home.

In every society, people undertakevarious activities to satisfy their needs.These activities may be broadlyclassified into two groups — economicand non-economic. Economic activities

are those by which we can earn ourlivelihood, whereas, non-economicactivities are performed out of love,sympathy, sentiment, patriotism, etc.For example, a worker working in afactory, a doctor operating in his clinic,a manager working in an office and ateacher teaching in a school are doingso to earn their livelihoods and are,therefore, engaged in an economicactivity. On the other hand, ahousewife cooking food for her family,or a boy helping an old man cross theroad are performing non-economicactivities since they are doing so out oflove or sympathy. Economic activitiesmay be further divided into threecategories, namely business,profession and employment. Business

may be defined as an economic activityinvolving the production and sale ofgoods and services undertaken with amotive of earning profit by satisfyinghuman needs in society.

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1.6.1 Characteristics of BusinessActivities

In order to appreciate how businessactivity is different from other activitiesin society, the nature of business or itsfundamental character must beexplained in terms of its distinguishingcharacteristics, which are as follows:(i) An economic activity: Business

is considered to be an economicactivity because it is undertakenwith the objective of earning moneyor livelihood and not out of love,affection, sympathy or any otheremotion. It may be mentioned herethat this activity can be undertakeneither on small and individual level,e.g. (purchase and sale by ashopkeeper) or on large scale in amore formal and organised level(purchase and sale by a cooperativesociety or company).

(ii) Production or procurement ofgoods and services: Before goodsare offered to people forconsumption, these must be eitherproduced or procured by businessenterprises. Thus, every businessenterprise either manufactures thegoods it deals in or acquires themfrom producers, to be further soldto consumers or users. Goods mayconsist of consumable items ofdaily use, such as sugar, ghee,pen, notebook, etc., or capitalgoods, like machinery, furniture,etc., Services may include facilitiesoffered to consumers, businessfirms and organisations in theform of transportation, banking,electricity, etc.

(iii) Sale or exchange of goods and

services: Directly or indirectly,

business involves transfer orexchange of goods and services for

value. If goods are produced not for

the purpose of sale but for personal

consumption, it cannot be called abusiness activity. Cooking food at

home for the family is not business,

but cooking food and selling it to

others in a restaurant is business.Thus, one essential characteristic

of business is that there should be

sale or exchange of goods or

services between the seller and thebuyer.

(iv) Dealings in goods and services

on a regular basis: Business

involves dealings in goods orservices on a regular basis. One

single transaction of sale or

purchase, therefore, does not

constitute business. Thus, forexample, if a person sells his/her

domestic radio set even at a profit,

it will not be considered a business

activity. But if he/she sells radiosets regularly either through a

shop or from his/her residence, it

will be regarded as a business

activity.(v) Profit earning: One of the main

purpose of business is to earn

income by way of profit. No

business can survive for longwithout profit. That is why,

businessmen make all possible

efforts to maximise profits, by

increasing the volume of sales orreducing costs.

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(vi) Uncertainty of return: Uncertaintyof return refers to the lack ofknowledge relating to the amountof money that the business is goingto earn in a given period. Everybusiness invests money (capital) torun its activities with the objectiveof earning profit. But it is not certainas to what amount of profit will beearned. Also, there is always apossibility of losses being incurred,dispite the best efforts put into thebusiness.

(vii) Element of risk: Risk is theuncertainty associated with anexposure to loss. It is caused bysome unfavourable or undesirable

1.6.2 Comparison of Business,Profession and Employment

As has been mentioned earlier,economic activit ies may bedivided into three major categoriesviz., Business, Profession andEmployment. The difference betweenthese three terms is given in thefollowing table.

1.7 CLASSIFICATION OF BUSINESS

ACTIVITIES

Various business activities may beclassified into two broad categories —industry and commerce. Industry isconcerned with the production or

event. Risks are related with factors,

like changes in consumer taste and

fashion, changes in method of

production, strike or lockout at

workplace, increased competition

in market, fire, theft, accidents,

natural calamities, etc. No business

can altogether do away with risks.

processing of goods and materials.Commerce includes all those activities,which are necessary for facilitating theexchange of goods and services. On thebasis of these two categories, we mayclassify business firms into industrialand commercial enterprises.Let us examine in detail the activitiesrelating to business.

Business Functions at Enterprise Level

Business includes a wide variety of functions performed by different kinds oforganisations called business enterprises or firms. Financing, production,marketing and human resource management are the four major functionswhich are performed by business enterprises. Financing is concerned withmobilising and utilising funds for running a business enterprise. Productioninvolves the conversion of raw materials into finished products or generationof services. Marketing refers to all those activities which facilitate exchange ofgoods and services from producers to the people who need them at a placethey want, at a time they require and at a price they are prepared to pay.Human resource management aims at ensuring the availability of workingpeople who have necessary skills to perform various tasks in enterprises.

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14 BUSINESS STUDIES

Basic Business Profession Employment

Entrepreneur’sdecision and otherlegal formalities, if

necessary

Provision of goodsand services to the

public

No minimumqualification is

necessary

Profit earned

Capital investmentrequired as per size

and nature ofbusiness

Profits are uncertainand irregular; risk is

present

Transfer possiblewith some formalities

No code of conduct isprescribed

Shop, factory

Membership of aprofessional bodyand certificate of

practice

Rendering ofpersonalised,

expert services

Qualifications,expertise and

training in specificfield as prescribedby the professional

body is a must

Professional fee

Limited capitalneeded for

establishment

Fee is generallyregular and

certain; some risk

Not possible

Professional codeof conduct is to be

followed

Legal, medicalprofession,chartered

accountancy

Appointmentletter and service

agreement

Performing workas per service

contract or rulesof service

Qualification andtraining as

prescribed by theemployer

Salary or wages

No capitalrequired

Fixed and regularpay; no or little

risk

Not possible

Norms ofbehaviour laiddown by the

employer are tobe followed

Jobs in banks,insurancecompanies,governmentdepartments

1. Mode of establishment

2. Nature of work

3. Qualification

4. Reward or return

5. Capital investment

6. Risk

7. Transfer of interest

8. Code of conduct

9. Example

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1.7.1 Industry

Industry refers to economic activities,which are connected with conversion of

resources into useful goods. Generally,

the term industry is used for activities

in which mechanical appliances andtechnical skills are involved. These

include activities relating to producing

or processing of goods, as well as,

breeding and raising of animals. Theterm industry is also used to mean

groups of firms producing similar or

related goods. For example, cotton

textile industry refers to allmanufacturing units producing textile

goods from cotton. Similarly, electronic

industry would include all firms

producing electronic goods, and so on.Further, in common parlance, certain

services, like banking and insurance,

are also referred to as industry, say

banking industry, insurance industry,etc. Industries may be divided into three

broad categories namely primary,

secondary and tertiary.(i) Primary industries: These include

all those activities which areconcerned with the extraction andproduction of natural resourcesand reproduction and developmentof living organisms, plants, etc.These are divided as follows.

(a) Extractive industries: Theseindustries extract or draw productsfrom natural sources. Extractiveindustries supply some basic rawmaterials that are mostly productsof geographical or naturalenvironment. Products of these

industries are usually transformedinto many other useful goods bymanufacturing industries.Important extractive industriesinclude farming, mining,lumbering, hunting and fishingoperations.

(b) Genetic industries: Theseindustries are engaged in breedingplants and animals for their use infurther reproduction. Seeds andnursery companies are typicalexamples of genetic industries. Inadditional, activities of cattlebreeding farms, poultry farms, andfish hatchery come under geneticindustries.

(ii) Secondary industries: These areconcerned with using materials,which have already been extractedat the primary state. Theseindustries process such materialsto produce goods for finalconsumption or for furtherprocessing by other industrialunits. For example, mining of ironore is a primary industry, butmanufacturing of steel by way offurther processing of raw irons is asecondary industry. Secondaryindustries may be further dividedas follows:

(a) Manufacturing industries: These industries are engaged inproducing goods through processingof raw materials and, thus, creatingform utilities. They bring out diversefinished products, that we consume,or use through the conversion of rawmaterials or partly finished materials

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16 BUSINESS STUDIES

in their manufacturing operations.Manufacturing industries may befurther divided into four categorieson the basis of method of operationfor production.

• Analytical industry whichanalyses and separates differentelements from the same materials,as in the case of oil refinery.

• Synthetical industry whichcombines various ingredients into anew product, as in the case of cement.

• Processing industry whichinvolves successive stages formanfucturing finished products,as in the case of sugar and paper.

• Assembling industry whichassembles different componentparts to make a new product, asin the case of television, car,computer, etc.

(b) Construction industries: Theseindustries are involved in theconstruction of buildings, dams,bridges, roads as well as tunnelsand canals. Engineering andarchitectural skills are animportant part in constructionindustries.

(iii) Tertiary industries: These areconcerned with providing supportservices to primary and secondaryindustries as well as activitiesrelating to trade. These industriesprovide service facilities. Asbusiness activities, these may beconsidered part of commercebecause as auxiliaries to tradethese activities assist trade.Included in this category aretransport, banking, insurance,warehousing, communication,packaging and advertising.

Chart Showing Business Activities

Business

Industry Commerce

Primary Secondary Tertiary

Trade Auxiliaries to Trade

Extractive Genetic

Manufacturing Construction

Analytical Synthetic Processing Assembling

Internal External

Wholesale Retail Import Export Entrepot

Warehousing Insurance Advertising

Banking and Finance Transportation

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1.7.2 Commerce

Commerce includes two types of

activities, viz., (i) trade and (ii)auxiliaries to trade. Buying and sellingof goods is termed as trade. But there

are a lot of activities that are requiredto facilitate the purchase and sale ofgoods. These are called services or

auxiliaries to trade and includetransport, banking, insurance,communication, advertisement,packaging and warehousing.Commerce, therefore, includes both,buying and selling of goods i.e., trade,as well as, auxiliaries, such astransport, banking, etc.

Commerce provides the necessarylink between producers andconsumers. It embraces all thoseactivities, which are necessary formaintaining a free flow of goods andservices. Thus, all activities involvingthe removal of hindrances in theprocess of exchange are included incommerce. The hindrances may be inrespect of persons, place, time, risk,finance, etc. The hindrance of persons

is removed by trade, thereby, makinggoods available to consumers from the

possession or ownership producers.Transport removes the hindrances ofplace by moving goods from the place

of production to the markets for sale.Storage and warehousing activitiesremove the hindrance of time by

facilitating holding of stocks of goodsto be sold as and when required. Goodsheld in stock, as well as, goods in

course of transport are subject to a riskof loss or damage due to theft, fire,accidents, etc. Protection against these

risks is provided by insurance of goods.Capital required to undertake theabove activities is provided by

banking and financing institutions.Advertising makes it possible forproducers and traders to informconsumers about the goods and

services available in the market. Hence,commerce is said to consist of activitiesof removing the hindrances of persons,

place, time, risk, finance andinformation in the process of exchangeof goods and services.

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18 BUSINESS STUDIES

‘Make in India’ is an initiative

launched by the Government of India

on 25 September 2014, to encourage

national, as well as multinational

companies to manufacture their

products in India. The major objectives

behind the ‘Make in India’ initiative are

job creation and skill enhancement in

25 sectors of the economy, which are

as follows.

1.7.3 Trade

Trade is an essential part of commerce.It refers to sale, transfer or exchange ofgoods. It helps in making the goodsproduced available to the consumersor users. These days goods areproduced on a large scale and it isdifficult for producers to themselvesreach out to individual buyers forselling their products. Businessmen areengaged in trading activities to makethe goods available to consumers indifferent markets. In the absence oftrade, it would not be possible toundertake production activities on alarge scale.

Trade may be classified into twobroad categories – internal andexternal. Internal, domestic or hometrade is concerned with the buying andselling of goods and services within thegeographical boundaries of a country.This may further be divided intowholesale and retail trade. Whengoods are purchased and sold incomparatively smaller quantities, forfinal consumption it is referred to as

retail trade. External or foreign tradeconsists of the exchange of goods andservices between persons ororganisations operating in two or morecountries. If goods are purchased fromanother country, it is called importtrade. If they are sold to other countries,it is known as export trade. Whengoods are imported for export to othercountries, it is known as entrepottrade.

1.7.4 Auxiliaries to Trade

Activities which are meant for assistingtrade are known as auxiliaries to trade.These activities are generally referred

3. Aviation6. Construction9. Electronic Systems12. Leather15. Oil and Gas18. Railways21. Space and

Astronomy24. Tourism and

Hospitality

1. Automobile4. Biotechnology7. Defence

Manufacturing10. Food Processing13. Media and

Entertainment

16. Pharmaceuticals19. Renewable Energy22. Textiles and

Garments

25. Wellness

2. Automobile Components

5. Chemicals

8. Electrical Machinery

11. Information Technology

and Business ProcessManagement

14. Mining

17. Port and Shipping

20. Roads and Highways

23. Thermal power

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to as services because these are in thenature of facilitating the activitiesrelating to industry and trade.Transport, banking, insurance,warehousing, and advertising areregarded as auxiliaries to trade, i.e.,activities playing a supportive role. Infact, these activities support not onlytrade, but also industry and, hence, theentire business activity. Auxiliaries arean integral part of commerce inparticular and business activity ingeneral. These activities help inremoving various hindrances whicharise in connection with the productionand distribution of goods. Transportfacilitates movement of goods from oneplace to another. Banking providesfinancial assistance to themanufacturer and trader. Insurancecovers various kinds of business risks.Warehousing creates time utility byway of storage facilities. Advertisingprovides information to the consumers.In other words, these activities facilitatemovement, storage, financing, riskcoverage and sales promotion of goods.Auxiliaries to trade are brieflydiscussed below:(i) Transport and Communication:Production of goods generally takesplace in particular locations. Forinstance, tea is mainly produced inAssam; cotton in Gujarat andMaharashtra; jute in West Bengal andOdisha; sugar in U.P., Bihar andMaharashtra and so on. But thesegoods are required for consumption indifferent parts of the country. Theobstacle of place is removed by transportthrough road, rail or coastal shipping.Transport facilitates movement of raw

material, to the place of production andthe finished products from factories tothe place of consumption. Along withtransport facility, there is also a needfor communication facilities so thatproducers, traders and consumers mayexchange information with one another.Thus, postal services and telephonefacilities may also be regarded asauxiliaries to business activities.(ii) Banking and Finance: Businessactivities cannot be undertaken unlessfunds are available for acquiring assets,purchasing raw materials and meetingother expenses. Necessary funds canbe obtained by businessmen from abank. Thus, banking helps businessactivities to overcome the problem offinance. Commercial banks, generallylend money by providing overdraft andcash credit facilities, loans andadvances. Banks also undertakecollection of cheques, remittance offunds to different places, anddiscounting of bills on behalf of traders.In foreign trade, commercial bankshelp exporters in collecting money fromimporters. Commercial banks alsohelp promoters of companies to raisecapital from the public.(iii) Insurance: Business involvesvarious types of risks. Factorybuilding, machinery, furniture, etc.,must be protected against fire, theftand other risks. Material and goodshelp in stock or in transit are subjectto the risk of loss or damage.Employees are also required to beprotected against the risks of accidentand occupational hazards. Insuranceprovides protection in all such cases.

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20 BUSINESS STUDIES

On payment of a nominal premium, theamount of loss or damage andcompensation for injury, if any, can berecovered from the insurance company.(iv) Warehousing: Usually, goods arenot sold or consumed immediately afterproduction. They are held in stock tomake them available as and whenrequired. Special arrangement must bemade for the storage of goods to preventloss or damage. Warehousing helpsbusiness firms to overcome the problemof storage and facilitates the availabilityof goods when needed. Prices are,thereby, maintained at a reasonablelevel through continuous supply of goods.(v) Advertising: Advertising is one ofthe most important methods ofpromoting the sale of products,particularly, consumer goods, likeelectronic and automobile goods, soaps,detergents, etc. Most of these goods aremanufactured and supplied in themarket by numerous firms — big orsmall. It is practically impossible forproducers and traders to contact eachand every customer. Thus, forpromoting sales, information about thegoods and services available, theirfeatures, price, etc., must reach potentialbuyers. Also, there is a need topersuade potential buyers about theuses, quality, prices, competitiveinformation about the goods andservices etc. Advertising helps inproviding information about availablegoods and services and inducingcustomers to buy particular items.

1.8 OBJECTIVES OF BUSINESS

An objective is the starting point ofbusiness. Every business is directed to

the achievement of certain objectives.Objectives refer to all that the businesspeople want to get in return for whatthey do. It is generally believed thatbusiness activity is carried out only forprofit. Business persons themselvesproclaim that their primary objective isproduce or distribute goods or servicesfor profit. Every business is said to bean attempt on the part of businesspeople to get more than what has beenspent or invested, or in other words, toearn profit which is the excess ofrevenue over cost. However, it is beingincreasingly realised nowadays thatbusiness enterprises are part ofthe society and need to fulfillseveral objectives, including socialresponsibility, to survive and prosperin the long run. Profit is found to be aleading objective but not the only one.

Although earning profit cannot bethe only objective of business, itsimportance cannot be ignored. Everybusiness is an attempt to reap morethan what has been invested, and profitis the excess of revenue over cost. Profitmay be regarded as an essentialobjective of business for variousreasons: (i) it is a source of income forbusiness persons, (ii) it can be a sourceof finance for meeting expansionrequirements of business, (iii) itindicates the efficient working ofbusiness, (iv) it can be taken as thesociety’s approval of the utility ofbusiness, and (v) it builds thereputation of a business enterprise.

However, too much emphasis onprofit to the exclusion of other objectivescan be dangerous for good business.

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Obsessed with profit, businessmanagers may neglect all otherresponsibilities towards customers,employees, investors and society atlarge. They may even be inclined toexploit various sections of society to earnimmediate profit. This may result in thenon-cooperation or even opposition fromthe affected people against themalpractices of business enterprises.The enterprises might lose business andmay be unable to earn profit. That isthe reason why there is hardly anysizable business enterprise who onlyobjective is maximisation of profit.

1.9 Multiple Objectives of Business

Objectives are needed in every area thatinfluences the survival and prosperityof business. Since a business has tobalance a number of needs and goals,it requires multiple objectives. It cannotfollow only one objective and expect toachieve excellence. Objectives have tobe specific in every area and sphere ofbusiness. For example, sales targetshave to be set, the amount of capital tobe raised has to be estimated and thetarget number of units to be producedneeds to be defined. The objectivesdefine in concrete terms what thebusiness is going to do. Objectives alsoenable the business to analyse theirown performance and take steps asnecessary to improve their performancein future.

Objectives are needed in every areawhere performance and results affectthe survival and prosperity of business.Some of these areas are describedas follows.

(i) Market standing: Marketstanding refers to the position ofan enterprise in relation to itscompetitors. A business enterprisemust aim at standing on strongerfooting in terms of offeringcompetitive products to itscustomers and serving them totheir satisfaction.

(ii) Innovation: Innovation is theintroduction of new ideas ormethods in the way something isdone or made. There are twokinds of innovation in everybusiness i.e., (i) innovation inproduct or services; and (ii)innovation in various skills andactivities needed to supplyproducts and services. Nobusiness enterprise can flourishin a competitive world withoutinnovation. Therefore, innovationbecomes an important objective.

(iii) Productivity: Productivity isascertained by comparing thevalue of output with the value ofinputs. It is used as a measure ofefficiency. In order to ensurecontinuous survival and progress,every enterprise must aim atgreater productivity through thebest use of available resources.

(iv) Physical and financialresources: Any business requiresphysical resources, like plants,machines, offices, etc., andfinancial resources, i.e., funds tobe able to produce and supplygoods and services to itscustomers. The businessenterprise must aim at acquiring

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22 BUSINESS STUDIES

these resources according to theirrequirements and use themefficiently.

(v) Earning profits: One of theobjectives of business is to earnprofits on the capital employed.Profitability refers to profit inrelation to capital investment.Every business must earn areasonable profit which is soimportant for its survival andgrowth.

(vi) Manager performance anddevelopment: Business enterprisesneed managers to conduct andcoordinate business activity.Various programmes formotivating managers need to beimplemented. Managerperformance and development,therefore, is an importantobjective. The enterprises mustactively work for this purpose.

(vii) Worker performance andattitude: Workers’ performanceand attitudes determine theircontribution towards productivityand profitability of any enterprise.Therefore, every enterprise mustaim at improving its workers’performance. It should also try toensure a positive attitude on thepart of workers.

(viii) Social responsibility: Socialresponsibility refers to theobligation of business firms tocontribute resources for solvingsocial problems and work in asocially desirable manner.

Thus, a business enterprise must havemultiple objectives to satisfy different

individuals and groups. This isessential for its own survival andprosperity.

1.10 Business Risks

The term ‘business risks’ refers to the

possibility of inadequate profits or even

losses due to uncertainties orunexpected events. For example,

demand for a particular product may

decline due to change in tastes andpreferences of consumers or due to

increased competition from other

producers. Lower demand results inlong sales and profits. In another

situation, the shortage of raw materials

in the market may shoot up its price.The firm using these raw materials will

have to pay more for buying them. As a

result, cost of production may increasewhich, in turn, may reduce profits.

Business enterprises constantly

face two types of risk : speculative andpure. Speculative risks involve both the

possibility of gain, as well as, the

possibility of loss. Speculative risksarise due to changes in market

conditions, including fluctuations in

demand and supply, changes in pricesor changes in fashion and tastes of

customers. Favourable market

conditions are likely to result in gains,whereas, unfavourable ones may result

in losses. Pure risks involve only the

possibility of loss or no loss. Thechance of fire, theft or strike are

examples of pure risks. Their

occurrence may result in loss, whereas,non-occurrence may explain absence

of loss, instead of gain.

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1.10.1 Nature of Business Risks

Nature of business risks can beunderstood in terms of their peculiarcharacteristics:(i) Business risks arise due to

uncertainties: Uncertainty refersto the lack of knowledge aboutwhat is going to happen in future.Natural calamities, change indemand and prices, changes ingovernment policies and prices,improvement in technology, etc.,are some of the examples ofuncertainty which create risks forbusiness because the outcomes ofthese future events are not known.

(ii) Risk is an essential part ofevery business: Every businesshas some risk. No business canavoid risk, although the amountof risk may vary from business tobusiness. Risk can be minimised,but cannot be eliminated.

(iii) Degree of risk depends mainlyupon the nature and size ofbusiness: Nature of business (i.e.,type of goods and servicesproduced and sold) and size ofbusiness (i.e., volume ofproduction and sale) are the mainfactors which determine theamount of risk in a business. Forexample, a business dealing infashionable items has a high degreeof risk. Similarly, a large-scalebusiness generally has a higherrisk than what a small scale has.

(iv) Profit is the reward for risktaking: ‘No risk, no gain’ is an age-old principle which applies to alltypes of business. Greater the risk

involved in a business, higher isthe chance of profit. Anentrepreneur undertakes risksunder the expectation of higherprofit. Profit is thus the reward forrisk taking.

1.10.2Cause of Business Risks

Business risks arise due to a variety ofcauses, which are classified as follows:(i) Natural causes: Human beings

have little control over naturalcalamities, like flood, earthquake,lightning, heavy rains, famine, etc.property and income in business.

(ii) Human causes: Human causesinclude such unexpected events,like dishonesty, carelessness ornegligence of employees, stoppageof work due to power failure,strikes, riots, managementinefficiency, etc.

(iii) Economic causes: These includeuncertainties relating to demandfor goods, competition, price,collection of dues from customers,change of technology or methodof production, etc. Financialproblems, like rise in interest ratefor borrowing, levy of higher taxes,etc., also come under these typeof causes as they result in higherunexpected cost of operation orbusiness.

(iv) Other causes: These areunforeseen events, like politicaldisturbances, mechanicalfailures, such as the bursting ofboiler, fluctuations in exchangerates, etc., which lead to thepossibility of business risks.

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24 BUSINESS STUDIES

1.11 Starting a Business — BasicFactors

Starting a business enterprise issimilar to any other human effort inwhich resources are employed toachieve certain objectives. Successfulresults in business depend largelyupon the ability of the entrepreneursor the starters of a new business toanticipate problems and solve themwith minimum cost. This is especiallytrue of the modern business worldwhere competition is very tough andrisks are high. Some of the problems,which business firms encounter, areof basic nature. For example, to starta factory, plans must be made aboutthe location of the business, thepossible number of customers, thekind of equipment required and theamount of money needed to procurethem, the shop layout, purchasing andfinancing needs, and hiring of workersfor its effective implementation. Theseproblems become more complex in abig business. However, some of thebasic factors, which must beconsidered by anybody who is to startthe business are as follows.

(i) Selection of line business: The firstthing to be decided by an entrepreneuris the nature and type of business to

Methods of Dealing with Risks

Although no business enterprise can escape the presence of risk, there aremany methods a business enterprise can use to deal with risk situations. Forinstance, the enterprise may (a) decide not to enter into too risky transaction:(b) take preventive measures, like firefighting devices, to reduce risk; (c) takeinsurance policy to transfer risk to insurance company; (d) assume risk by makingprovisions in the current earnings as is the case of provision for bad and doubtfuldebts; or (e) share risks with other enterprises as manufacturers and wholesalersmay do by agreeing to share losses which may be caused by falling prices.

be undertaken. He/she will obviouslylike to enter that branch of industry andcommerce, which has the possibility ofgreater amount of profits. The decisionwill be influenced by the customerrequirements in the market and alsothe kind of technical knowledge andinterest the entrepreneur has forproducing a particular product.(ii) Size of the firm: Size of the firm orscale of its operation is anotherimportant decision to be taken at thestart of the business. Some factorsfavour a large size, whereas, others tendto restrict the scale of operation. If theentrepreneur is confident that thedemand for the proposed product islikely to be good over time and he/shecan arrange the necessary capital forbusiness, he/she will start the operationat a large scale. If the market conditionsare uncertain and risks are high, a smallsize business would be better choice.(iii) Choice of form of ownership:With respect to ownership, thebusiness organisation may take theform of a sale proprietorship,partnership, or a joint stock company.Each form has its own merits anddemerits. The choice of the suitableform of ownership will depend on suchfactors as the line of business, capitalrequirements, liability of owners,

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division of profit, legal formalities,continuity of business, transferabilityof interest and so on.(iv) Location of business enterprise:An important factor to be consideredat the start of the business is the placewhere the enterprise will be located.Any mistake in this regard can resultin high cost of production,inconvenience in getting, right kind ofproduction inputs or serving thecustomers in the best possibleway. Availability of raw materialsand labour; power supply andservices, like banking, transportation,communication, warehousing, etc., areimportant factors while making achoice of location.(v) Financing the proposition:Financing is concerned with providingthe necessary capital for starting, as wellas, for continuing the proposedbusiness. Capital is required forinvestment in fixed assets, like land,building, machinery and equipment andin current assets, like raw materials,books, debts, stock of finished goods,etc. Capital is also required for meetingday-to-day expenses. Proper financialplanning must be done to determine (a)the requirement of capital, (b) sourcefrom where the capital will be raised and(c) the best ways of utilising the capitalin the firm.(vi) Physical facilities: Availability ofphysical facilities, including machinesand equipment, building andsupportive services is an importantfactor to be considered at the start ofthe business. The decision relating tothis factor will depend on the natureand size of business, availability offunds and the process of production.

(vii) Plant layout: Once therequirement of physical facilities hasbeen determined, the entrepreneurshould draw a layout plan showing thearrangement of these facilities. Layoutmeans the physical arrangement ofmachines and equipment needed tomanufacture a product.(viii) Competent and committedworked force: Every enterprise needscompetent and committed workforce toperform various activities so thatphysical and financial resources areconverted into desired outputs. Sinceno individual entrepreneur can doeverything himself, he/she mustidentify the requirement of skilled andunskilled workers and managerialstaff. Plans should also be made abouthow the employees will be trained andmotivated to give their bestperformance.(ix) Tax planning: Tax planning hasbecome necessary these daysbecause there are a number of taxlaws in the country and they influencealmost every aspect of the functioningof modern business. The founder ofthe business has to consider inadvance the tax liability undervarious tax laws and its impact onbusiness decisions.(x) Launching the enterprise: Afterthe decisions relating to the abovementioned factors have been taken, theentrepreneur can go ahead with actuallaunching of the enterprise whichwould mean mobilising variousresources, fulfilling necessary legalformalities, starting the productionprocess and initiating the salespromotion campaign.

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26 BUSINESS STUDIES

EXERCISES

Short Answer Questions

1. List any five major commercial cities of ancient India?

2. What is Hundi?

3. List the major exports and imports in ancient India.

4. What were the different types of Hundi in use by traders in ancienttimes?

5. What do you understand by maritime trade?

6. State the different types of economic activities.

7. Why is business considered as economic activity?

8. State the meaning of business.

9. How would you classify business activities?

10. What are the various types of industries?

11. Explain any two business activities which are auxiliaries to trade.

12. What is the role of profit in business?

13. What is business risk? What is its nature?

Long Answer Questions

1. Discuss the development of indigenous banking system in Indiansubcontinent.

2. Define business. Describe its important characteristics.

3. Compare business with profession and employment.

4. Define Industry. Explain various types of industries giving examples.

5. Describe the activities relating to commerce.

6. Explain any five objectives of business.

7. Explain the concept of business risk and its causes.

8. What factors are to be considered while starting a business? Explain.

Projects/Assignments

1. Visit any business unit in your locality. Interact with the owner to find outthe steps in starting the business. Prepare a project report of your visit.

2. Prepare a project report on the development of Trade and Commercebetween 1st and 17th AD.

3. Collect information on any five sectors of the economy that Make in

India focuses on. Find out the amount of investment in these sectors inthe past two years. What were the possible reasons that led to an interestof investors in these sectors? Present your report in the following format:

Possible reasonsfor the change

Sector Investment inYear I

Investment inYear II

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CHAPTER 2

FORMS OF BUSINESS

ORGANISATION

LEARNING OBJECTIVES


• identify different forms of business organisation;

• explain features, merits and limitations of different forms ofbusiness organisations;

• distinguish between various forms of organisations; and

• discuss the factors determining choice of an appropriate form ofbusiness organisation.

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28 BUSINESS STUDIES

2.1 INTRODUCTION

If one is planning to start a business oris interested in expanding an existingone, an important decision relates tothe choice of the form of organisation.The most appropriate form isdetermined by weighing theadvantages and disadvantages of eachtype of organisation against one’s ownrequirements.

Various forms of businessorganisations from which one canchoose the right one include:

(a) Sole proprietorship,

(b) Joint Hindu family business,

(c) Partnership,

(d) Cooperative societies, and

(e) Joint stock company.Let us start our discussion with

sole proprietorship — the simplest formof business organisation, and thenmove on to analysing more complexforms of organisations.

2.2 SOLE PROPRIETORSHIP

Do you often go in the evenings to buyregisters, pens, chart papers, etc., froma small neighbourhood stationerystore? Well, in all probability in thecourse of your transactions, you haveinteracted with a sole proprietor.

Sole proprietorship is a popularform of business organisation and is

Neha, a bright final year student was waiting for her results to be declared.While at home she decided to put her free time to use. Having an aptitude forpainting, she tried her hand at decorating clay pots and bowls with designs.She was excited at the praise showered on her by her friends andacquaintances on her work. She even managed to sell a few pieces of uniquehand pottery from her home to people living in and around her colony.Operating from home, she was able to save on rental payments. She gained alot of popularity by word of mouth publicity as a sole proprietor. She furtherperfected her skills of painting pottery and created new motifs and designs.All this generated great interest among her customers and provided a boostto the demand for her products. By the end of summer, she found that shehad been able to make a profit of Rs. 2500 from her paltry investment incolours, pottery and drawing sheets. She felt motivated to take up this workas a career. She has, therefore, decided to set up her own artwork business.She can continue running the business on her own as a sole proprietor, butshe needs more money for doing business on a larger scale. Her father hassuggested that she should form a partnership with her cousin to meet theneed for additional funds and for sharing the responsibilities and risks. Sideby side, he is of the opinion that it is possible that the business might growfurther and may require the formation of a company. She is in a fix as to whatform of business organisation she should go in for?

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29FORMS OF BUSINESS ORGANISATION

the most suitable form for smallbusinesses, especially in their initialyears of operation. Sole proprietorshiprefers to a form of businessorganisation which is owned, managedand controlled by an individual whois the recipient of all profits and bearerof all risks. This is evident from theterm itself. The word “sole” implies“only”, and “proprietor” refers to“owner”. Hence, a sole proprietor is theone who is the only owner of abusiness.

This form of business is particularlycommon in areas of personalisedservices such as beauty parlours, hairsaloons and small scale activities likerunning a retail shop in a locality.

formation as well as closure ofbusiness.

(ii) Liability: Sole proprietors haveunlimited liability. This implies that theowner is personally responsible forpayment of debts in case the assets ofthe business are not sufficient to meetall the debts. As such the owner’spersonal possessions such as his/herpersonal car and other assets could besold for repaying the debt. Suppose thetotal outside liabilities of XYZ drycleaner, a sole proprietorship firm, areRs. 80,000 at the time of dissolution,but its assets are Rs. 60,000 only. Insuch a situation the proprietor will haveto bring in Rs. 20,000 from herpersonal sources even if she has to sell

Features

Salient characteristics of the soleproprietorship form of organisation areas follows:

(i) Formation and closure: There isno separate law that governs soleproprietorship. Hardly any legalformalities are required to start a soleproprietary business, though in somecases one may require a license.Closure of the business can also bedone easily. Thus, there is ease in

her personal property to repay thefirm’s debts.

(iii) Sole risk bearer and profitrecipient: The risk of failure ofbusiness is borne all alone by the soleproprietor. However, if the business issuccessful, the proprietor enjoys all thebenefits. He receives all the businessprofits which become a direct rewardfor his risk bearing.

(iv) Control: The right to run thebusiness and make all decisions lies

Sole trader is a type of business unit where a person is solely responsible forproviding the capital, for bearing the risk of the enterprise and for themanagement of business.

J.L. Hansen

The individual proprietorship is the form of business organisation at the headof which stands an individual as one who is responsible, who directs itsoperations and who alone runs the risk of failure.

L.H. Haney

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30 BUSINESS STUDIES

absolutely with the sole proprietor. Hecan carry out his plans without anyinterference from others.

(v) No separate entity: In the eyes ofthe law, no distinction is made betweenthe sole trader and his business, asbusiness does not have an identityseparate from the owner. The owner is,therefore, held responsible for all theactivities of the business.

(vi) Lack of business continuity: Thesale proprietorship business is ownedand controlled by one person, thereforedeath, insanity, imprisonment,physical ailment or bankruptcy of thesole proprietor will have a direct anddetrimental effect on the business andmay even cause closure of the business.

Merits

Sole proprietorship offers manyadvantages. Some of the important onesare as follows:

(i) Quick decision making: A soleproprietor enjoys considerable degreeof freedom in making businessdecisions. Further the decision makingis prompt because there is no need toconsult others. This may lead to timelycapitalisation of market opportunitiesas and when they arise.

(ii) Confidentiality of information:Sole decision making authority enablesthe proprietor to keep all theinformation related to businessoperations confidential and maintain

A Refreshing Start: Coca Cola Owes its Origin to a Sole Proprietor!

The product that has given the world its best-known taste was born in Atlanta,Georgia, on May 8, 1886. Dr. John Stith Pemberton, a local pharmacist, producedthe syrup for Coca-Cola®, and carried a jug of the new product down the streetto Jacobs’ Pharmacy, where it was sampled, pronounced “excellent” and placedon sale for five cents a glass as a soda fountain drink. Dr. Pemberton neverrealised the potential of the beverage he created. He gradually sold portions ofhis business to various partners and, just prior to his death in 1888, sold hisremaining interest in Coca-Cola to Asa G. Candler. An Atlantan with greatbusiness acumen, Mr. Candler proceeded to buy additional business rightsand acquire complete control.On May 1, 1889, Asa Candler published a full-page advertisement in The

Atlanta Journal, proclaiming his wholesale and retail drug business as “sole

proprietors of Coca-Cola ... Delicious. Refreshing. Exhilarating.

Invigorating.” Sole ownership, which Mr. Candler did not actually achieveuntil 1891, needed an investment of $ 2,300.

It was only in 1892 that Mr. Candler formed a company called The Coca-ColaCorporation.

Source: Website of Coca Cola company.

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secrecy. A sole trader is also not boundby law to publish firm’s accounts.

(iii) Direct incentive: A soleproprietor directly reaps the benefits ofhis/her efforts as he/she is the solerecipient of all the profit. The need toshare profits does not arise as he/sheis the single owner. This providesmaximum incentive to the sole traderto work hard.

(iv) Sense of accomplishment: Thereis a personal satisfaction involved inworking for oneself. The knowledgethat one is responsible for the successof the business not only contributes toself-satisfaction but also instils in theindividual a sense of accomplishmentand confidence in one’s abilities.

(v) Ease of formation and closure:An important merit of soleproprietorship is the possibility ofentering into business with minimallegal formalities. There is no separatelaw that governs sole proprietorship. Assole proprietorship is the leastregulated form of business, it is easyto start and close the business as perthe wish of the owner.

Limitations

Notwithstanding various advantages,the sole proprietorship form oforganisation is not free fromlimitations. Some of the majorlimitations of sole proprietorship areas follows:

(i) Limited resources: Resources ofa sole proprietor are limited to his/herpersonal savings and borrowings from

others. Banks and other lendinginstitutions may hesitate to extend along term loan to a sole proprietor.Lack of resources is one of the majorreasons why the size of the businessrarely grows much and generallyremains small.

(ii) Limited life of a businessconcern: The sole proprietorshipbusiness is owned and controlled byone person, so death, insanity,imprisonment, physical ailment orbankruptcy of a proprietor affects thebusiness and can lead to its closure.

(iii) Unlimited liability: A majordisadvantage of sole proprietorship isthat the owner has unlimited liability. Ifthe business fails, the creditors canrecover their dues not merely from thebusiness assets, but also from thepersonal assets of the proprietor. Apoor decision or an unfavourablecircumstance can create seriousfinancial burden on the owner. That iswhy a sole proprietor is less inclined totake risks in the form of innovationor expansion.

(iv) Limited managerial ability: Theowner has to assume the responsibilityof varied managerial tasks such aspurchasing, selling, financing, etc. It israre to find an individual who excels inall these areas. Thus decision makingmay not be balanced in all the cases.Also, due to limited resources, soleproprietor may not be able to employand retain talented and ambitiousemployees.

Though sole proprietorship suffersfrom various shortcomings, many

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32 BUSINESS STUDIES

entrepreneurs opt for this form oforganisation because of its inherentadvantages. It requires less amount ofcapital. It is best suited for businesseswhich are carried out on a small scaleand where customers demandpersonalised services.

2.3 JOINT HINDU FAMILY BUSINESS

Joint Hindu family business is aspecific form of business organisationfound only in India. It is one of theoldest forms of business organisationin the country. It refers to a form oforganisation wherein the business isowned and carried on by the membersof the Hindu Undivided Family (HUF).It is governed by the Hindu Law. Thebasis of membership in the business isbirth in a particular family and three

Features

The following points highlight theessential characteristics of the jointHindu family business.

(i) Formation: For a joint Hindu familybusiness, there should be at least twomembers in the family and ancestralproperty to be inherited by them. Thebusiness does not require anyagreement as membership is by birth.It is governed by the Hindu SuccessionAct, 1956.

(ii) Liability: The liability of allmembers except the karta is limited totheir share of co-parcenery property ofthe business. The karta, however, hasunlimited liability.

(iii) Control: The control of the familybusiness lies with the karta. He takes

successive generations can be membersin the business.

The business is controlled by thehead of the family who is the eldestmember and is called karta. Allmembers have equal ownership rightover the property of an ancestor andthey are known as co-parceners.

all the decisions and is authorised tomanage the business. His decisions arebinding on the other members.

(iv) Continuity: The businesscontinues even after the death of thekarta as the next eldest member takesup the position of karta, leaving thebusiness stable. The business can,

Gender Equality in the Joint Hindu Family a Reality

According to the Hindu Succession (Amendment) Act, 2005, the daughter of acoparcener of a Joint Hindu Family shall, by birth, become a coparcener. Atthe time of partition of such a ‘Joint Hindu Family’ the coparcenary propertyshall be equally divided to all the coparceners irrespective of their gender(male or female). The eldest member (male or female) of ‘Joint Hindu Family’shall become Karta. Married daughter has equal rights in property of a JointHindu Family.

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however, be terminated with themutual consent of the members.

(v) Minor Members: The inclusion ofan individual into the business occursdue to birth in a Hindu UndividedFamily. Hence, minors can also bemembers of the business.

Merits

The advantages of the joint Hindufamily business are as follows:

(i) Effective control: The karta hasabsolute decision making power. Thisavoids conflicts among members as noone can interfere with his right todecide. This also leads to prompt andflexible decision making.

(ii) Continued business existence:The death of the karta will not affectthe business as the next eldest memberwill then take up the position. Hence,operations are not terminated andcontinuity of business is notthreatened.

(iii) Limited liability of members:The liability of all the co-parcenersexcept the karta is limited to their sharein the business, and consequently theirrisk is well-defined and precise.

(iv) Increased loyalty andcooperation: Since the business is runby the members of a family, there is agreater sense of loyalty towards oneother. Pride in the growth of businessis linked to the achievements of thefamily. This helps in securing bettercooperation from all the members.

Limitation

The following are some of thelimitations of a joint Hindu familybusiness.

(i) Limited resources: The joint Hindufamily business faces the problem oflimited capital as it depends mainly onancestral property. This limits thescope for expansion of business.

(ii) Unlimited liability of karta: Thekarta is burdened not only with theresponsibility of decision making andmanagement of business, but alsosuffers from the disadvantage ofhaving unlimited liability. His personalproperty can be used to repay businessdebts.

(iii) Dominance of karta: Thekarta individually manages thebusiness which may at times not beacceptable to other members. Thismay cause conflict amongst them andmay even lead to break down of thefamily unit.

(iv) Limited managerial skills:Since the karta cannot be an expertin all areas of management, thebusiness may suffer as a result of hisunwise decisions. His inability todecide effectively may result intopoor profits or even losses for theorganisation.

The joint Hindu family business ison the decline because of thediminishing number of joint Hindufamilies in the country.

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34 BUSINESS STUDIES

2.4 PARTNERSHIP

The inherent disadvantage of the soleproprietorship in financing andmanaging an expanding business pavedthe way for partnership as a viable option.Partnership serves as an answer to theneeds of greater capital investment,varied skills and sharing of risks.

must be lawful and run with the motiveof profit. Thus, two people comingtogether for charitable purposes willnot constitute a partnership.

(ii) Liability: The partners of a firmhave unlimited liability. Personal assetsmay be used for repaying debts in casethe business assets are insufficient.

The Indian Partnership Act, 1932defines partnership as “the relationbetween persons who have agreed toshare the profit of the businesscarried on by all or any one of themacting for all.”

Features

Definitions given above point to thefollowing major characteristics ofthe partnership form of businessorganisation.

(i) Formation: The partnership formof business organisation is governed bythe Indian Partnership Act, 1932. Itcomes into existence through a legalagreement wherein the terms andconditions governing the relationshipamong the partners, sharing of profitsand losses and the manner ofconducting the business are specified.It may be pointed out that the business

Further, the partners are jointly andindividually liable for payment of debts.Jointly, all the partners are responsiblefor the debts and they contribute inproportion to their share in businessand as such are liable to that extent.Individually too, each partner can beheld responsible repaying the debts ofthe business. However, such a partnercan later recover from other partnersan amount of money equivalent to theshares in liability defined as per thepartnership agreement.

(iii) Risk bearing: The partners bearthe risks involved in running abusiness as a team. The reward comesin the form of profits which are sharedby the partners in an agreed ratio.However, they also share losses in thesame ratio in the event of the firmincurring losses.

Partnership is the relation between persons competent to make contractswho have agreed to carry on a lawful business in common with a view toprivate gain.

L H Haney

Partnership is the relation which subsists between persons who have agreedto combine their property, labour or skill in some business and to share theprofits therefrom between them.

The Indian Contract Act 1872

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(iv) Decision making and control:The partners share amongst themselvesthe responsibility of decision makingand control of day to day activities.Decisions are generally taken withmutual consent. Thus, the activities ofa partnership firm are managedthrough the joint efforts of all thepartners.

(v) Continuity: Partnership ischaracterised by lack of continuity ofbusiness since the death, retirement,insolvency or insanity of any partnercan bring an end to the business.However, the remaining partners mayif they so desire continue the businesson the basis of a new agreement.

(vi) Number of Partners: Theminimum number of partners neededto start a partnership firm is two.According to section 464 of theCompanies Act 2013, maximumnumber of partners in a partnershipfirm can be 100, subject to the numberprescribed by the government.As per Rule 10 of The Companies(miscelleneous) Rules 2014, at presentthe maximum number of members canbe 50.

(vii) Mutual agency: The definition ofpartnership highlights the fact that itis a business carried on by all or anyone of the partners acting for all. Inother words, every partner is both anagent and a principal. He is an agent ofother partners as he represents themand thereby binds them through hisacts. He is a principal as he too can bebound by the acts of other partners.

Merits

The following points describe theadvantages of a partnership firm.

(i) Ease of formation and closure: Apartnership firm can be formed easilyby putting an agreement between theprospective partners into placewhereby they agree to carryout thebusiness of the firm and share risks.There is no compulsion with respect toregistration of the firm. Closure of thefirm too is an easy task.

(ii) Balanced decision making: Thepartners can oversee differentfunctions according to their areas ofexpertise. Because an individual is notforced to handle different activities, thisnot only reduces the burden of workbut also leads to fewer errors injudgements. As a consequence,decisions are likely to be morebalanced.

(iii) More funds: In a partnership, thecapital is contributed by a number ofpartners. This makes it possible toraise larger amount of funds ascompared to a sole proprietor andundertake additional operations whenneeded.

(iv) Sharing of risks: The risksinvolved in running a partnership firmare shared by all the partners. Thisreduces the anxiety, burden and stresson individual partners.

(v) Secrecy: A partnership firm is notlegally required to publish its accountsand submit its reports. Hence it is ableto maintain confidentiality of informationrelating to its operations.

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36 BUSINESS STUDIES

Limitations

A partnership firm of businessorganisation suffers from the followinglimitations:

(i) Unlimited liability: Partners areliable to repay debts even from theirpersonal resources in case thebusiness assets are not sufficient tomeet its debts. The liability of partnersis both joint and several which mayprove to be a drawback for thosepartners who have greater personalwealth. They will have to repay theentire debt in case the other partnersare unable to do so.

(ii) Limited resources: There is arestriction on the number of partners,and hence contribution in terms ofcapital investment is usually notsufficient to support large scalebusiness operations. As a result,partnership firms face problems inexpansion beyond a certain size.

(iii) Possibility of conflicts:Partnership is run by a group ofpersons wherein decision makingauthority is shared. Difference inopinion on some issues may lead todisputes between partners. Further,decisions of one partner are binding onother partners. Thus an unwisedecision by some one may result infinancial ruin for all others. In case apartner desires to leave the firm, thiscan result in termination of partnershipas there is a restriction on transfer ofownership.

(iv) Lack of continuity: Partnershipcomes to an end with the death,

retirement, insolvency or lunacy of anypartner. It may result in lack ofcontinuity. However, the remainingpartners can enter into a freshagreement and continue to run thebusiness.

(v) Lack of public confidence: Apartnership firm is not legally requiredto publish its financial reports or makeother related information public. It is,therefore, difficult for any member ofthe public to ascertain the true financialstatus of a partnership firm. As a result,the confidence of the public inpartnership firms is generally low.

2.4.1 Types of Partners

A partnership firm can have differenttypes of partners with different rolesand liabilities. An understanding ofthese types is important for a clearunderstanding of their rights andresponsibilities. These are described asfollows:

(i) Active partner: An active partneris one who contributes capital,participates in the management of thefirm, shares its profits and losses, andis liable to an unlimited extent to thecreditors of the firm. These partnerstake actual part in carrying outbusiness of the firm on behalf of otherpartners.

(ii) Sleeping or dormant partner:Partners who do not take part in theday to day activities of the business arecalled sleeping partners. A sleepingpartner, however, contributes capital tothe firm, shares its profits and losses,and has unlimited liability.

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(iii) Secret partner: A secret partneris one whose association with the firmis unknown to the general public. Otherthan this distinct feature, in all otheraspects he is like the rest of thepartners. He contributes to the capitalof the firm, takes part in themanagement, shares its profits andlosses, and has unlimited liabilitytowards the creditors.

(iv) Nominal partner: A nominalpartner is one who allows the use ofhis/her name by a firm, but does notcontribute to its capital. He/she doesnot take active part in managing thefirm, does not share its profit or lossesbut is liable, like other partners, to thethird parties, for the repayments of thefirm’s debts.

(v) Partner by estoppel: A person isconsidered a partner by estoppel if,through his/her own initiative,conduct or behaviour, he/she gives animpression to others that he/she is apartner of the firm. Such partners areheld liable for the debts of the firmbecause in the eyes of the third partythey are considered partners, eventhough they do not contribute capitalor take part in its management.Suppose Rani is a friend of Seema whois a partner in a software firm —Simplex Solutions. On Seema’srequest, Rani accompanies her to abusiness meeting with MohanSoftwares and actively participates inthe negotiation process for a businessdeal and gives the impression that she

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38 BUSINESS STUDIES

is also a partner in Simplex Solutions.If credit is extended to SimplexSolutions on the basis of thesenegotiations, Rani would also be liablefor repayment of such debt, as if sheis a partner of the firm.

(vi) Partner by holding out: Apartner by ‘holding out’ is a personwho though is not a partner in a firmbut knowingly allows himself/herselfto be represented as a partner in afirm. Such a person becomes liable tooutside creditors for repayment of anydebts which have been extended to thefirm on the basis of suchrepresentation. In case he is not reallya partner and wants to save himselffrom such a liability, he shouldimmediately issue a denial, clarifyinghis position that he is not a partner inthe firm. If he does not do so, he willbe responsible to the third party forany such debts.

2.4.2 Types of Partnerships

Partnerships can be classified on thebasis of two factors, viz., duration andliability. On the basis of duration, therecan be two types of partnerships :‘partnership at will’ and ‘particularpartnership’. On the basis of liability,the two types of partnership include:one ‘with limited liability’ and the otherone ‘with unlimited liability’. Thesetypes are described in the followingsections.

Classification on the basis ofduration

(i) Partnership at will: This type ofpartnership exists at the will of thepartners. It can continue as long asthe partners want and is terminatedwhen any partner gives a notice ofwithdrawal from partnership to thefirm.

Minor as a Partner

Partnership is based on legal contract between two persons who agree toshare the profits or losses of a business carried on by them. As such aminor is incompetent to enter into a valid contract with others, he cannotbecome a partner in any firm. However, a minor can be admitted to thebenefits of a partnership firm with the mutual consent of all other partners.In such cases, his liability will be limited to the extent of the capitalcontributed by him and in the firm. He will not be eligible to take an activepart in the management of the firm. Thus, a minor can share only the profitsand can not be asked to bear the losses. However, he can if he wishes, inspectthe accounts of the firm. The status of a minor changes when he attainsmajority. In fact, on attaining majority, the minor has to decide whether hewould like to become a partner in the firm. He has to give a public notice ofhis decision within six months of attaining majority. If he fails to do so,within the stipulated time, he will be treated as a full-fledged partner andwill become liable to the debts of the firm to an unlimited extent, in the sameway as other active partners are.

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(ii) Particular partnership: Partner-ship formed for the accomplishment ofa particular project say construction ofa building or an activity to be carriedon for a specified time period is calledparticular partnership. It dissolvesautomatically when the purpose forwhich it was formed is fulfilled or whenthe time duration expires.

Classification on the basis ofliability

(i) General Partnership: In generalpartnership, the liability of partnersis unlimited and joint. The partnersenjoy the right to participate in themanagement of the firm and theiracts are binding on each other aswell as on the firm. Registration ofthe firm is optional. The existenceof the firm is affected by the death,lunacy, insolvency or retirement ofthe partners.

(ii) Limited Partnership: In limitedpartnership, the liability of at least onepartner is unlimited whereas the restmay have limited liability. Such a

partnership does not get terminatedwith the death, lunacy or insolvency ofthe limited partners. The limitedpartners do not enjoy the right ofmanagement and their acts do not bindthe firm or the other partners.Registration of such partnership iscompulsory.

This form of partnership was notpermitted in India earlier. Thepermission to form partnership firmswith limited liability has been grantedafter introduction of New SmallEnterprise Policy in 1991. The ideabehind such a move has been to enablethe partnership firms to attract equitycapital from friends and relatives ofsmall scale entrepreneurs who wereearlier reluctant to help, due to theexistence of unlimited liability clausein the partnership form of business.

2.4.3 Partnership Deed

A partnership is a voluntary associationof people who come together forachieving common objectives. In orderto enter into partnership, a clearagreement with respect to the terms,conditions and all aspects concerning

Price Waterhouse Coopers was a Partnership Firm earlier

Price Waterhouse Coopers, one of the world’s top accountancy firms has beencreated in 1998 by the merger of two companies, Price Waterhouse and Coopersand Lybrand — each with historical roots going back some 150 years to the19th century Great Britain. In 1850, Samuel Lowell Price set up his accountingbusiness in London. In 1865, he was joined in partnership by William H.Holyland and Edwin Waterhouse. As the firm grew, qualified members of itsprofessional staff were admitted to the partnership. By the late 1800s, PriceWaterhouse had gained significant recognition as an accounting firm.

Source: Price Waterhouse Coopers archives in Columbia University.

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40 BUSINESS STUDIES

the partners is essential so that there isno misunderstanding later among thepartners. Such an agreement can beoral or written. Even though it is notessential to have a written agreement, itis advisable to have a written agreementas it constitutes an evidence of theconditions agreed upon. The writtenagreement which specifies the terms andconditions that govern the partnershipis called the partnership deed.

The partnership deed generallyincludes the following aspects:

• Name of firm• Nature of business and location of

business• Duration of business• Investment made by each partner• Distribution of profits and losses• Duties and obligations of the

partners• Salaries and withdrawals of the

partners• Terms governing admission,

retirement and expulsion of apartner

• Interest on capital and interest ondrawings

• Procedure for dissolution of thefirm

• Preparation of accounts and theirauditing

• Method of solving disputes

2.4.4 Registration

Registration of a partnership firmmeans the entering of the firm’s name,along with the relevant prescribed par-ticulars, in the Register of firms keptwith the Registrar of Firms. It providesconclusive proof of the existence of apartnership firm.

It is optional for a partnership firmto get registered. In case a firm doesnot get registered, it is deprived ofmany benefits. The consequences ofnon-registration of a firm are as follows:(a) A partner of an unregistered firm

cannot file a suit against the firmor other partners,

(b) The firm cannot file a suit againstthird parties, and

(c) The firm cannot file a case againstthe partners.

In view of these consequences, it istherefore advisable to get the firmregistered. According to the IndiaPartnership Act 1932, the partners mayget the firm registered with theRegistrar of firms of the state in whichthe firm is situated. The registration canbe at the time of formation or at any timeduring its existence. The procedure forgetting a firm registered is as follows:1. Submission of application in the

prescribed form to the Registrar offirms. The application shouldcontain the following particulars:

• Name of the firm• Location of the firm• Names of other places where the

firm carries on business• The date when each partner joined

the firm• Names and addresses of the

partners• Duration of partnership

This application should be signed byall the partners.

2. Deposit of required fees with theRegistrar of Firms.

3. The Registrar after approval willmake an entry in the register offirms and will subsequently issuea certificate of registration.

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2.5 COOPERATIVE SOCIETY

The word cooperative means workingtogether and with others for a commonpurpose.

The cooperative society is avoluntary association of persons, whojoin together with the motive of welfareof the members. They are driven by theneed to protect their economic interestsin the face of possible exploitation atthe hands of middlemen obsessed withthe desire to earn greater profits.

The cooperative society iscompulsorily required to be registeredunder the Cooperative Societies Act1912. The process of setting up acooperative society is simple enoughand at the most what is required is theconsent of at least ten adult personsto form a society. The capital of asociety is raised from its membersthrough issue of shares. The societyacquires a distinct legal identity afterits registration.

Features

The characteristics of a cooperativesociety are listed below.

(i) Voluntary membership: Themembership of a cooperative societyis voluntary. A person is free to join acooperative society, and can also leave

anytime as per his desire. Therecannot be any compulsion for him tojoin or quit a society. Althoughprocedurally a member is required toserve a notice before leaving thesociety, there is no compulsion toremain a member. Membership is opento all, irrespective of their religion,caste, and gender.

(ii) Legal status: Registration of acooperative society is compulsory. Thisaccords a separate identity to the societywhich is distinct from its members. Thesociety can enter into contracts andhold property in its name, sue and besued by others. As a result of being aseparate legal entity, it is not affectedby the entry or exit of its members.

(iii) Limited liability: The liability ofthe members of a cooperative society islimited to the extent of the amountcontributed by them as capital. Thisdefines the maximum risk that amember can be asked to bear.

(iv) Control: In a cooperative society,the power to take decisions lies in thehands of an elected managing committee.The right to vote gives the members achance to choose the members who willconstitute the managing committee andthis lends the cooperative society ademocratic character.

Cooperative is a form of organisation wherein persons voluntarily associatetogether as human beings on the basis of equality for the promotion of aneconomic interest for themselves.

E. H. Calvert

Cooperative organisation is “a society which has its objectives for the promotionof economic interests of its members in accordance with cooperative principles.

The Indian Cooperative Societies Act 1912

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42 BUSINESS STUDIES

(v) Service motive: The cooperativesociety through its purpose laysemphasis on the values of mutual helpand welfare. Hence, the motive of servicedominates its working. If any surplusis generated as a result of its operations,it is distributed amongst the membersas dividend in conformity with the bye-laws of the society.

Merits

The cooperative society offers manybenefits to its members. Some of theadvantages of the cooperative form oforganisation are as follows.

(i) Equality in voting status: Theprinciple of ‘one man one vote’ governsthe cooperative society. Irrespective ofthe amount of capital contribution bya member, each member is entitled toequal voting rights.

(ii) Limited liability: The liability ofmembers of a cooperative society islimited to the extent of their capitalcontribution. The personal assets of themembers are, therefore, safe from beingused to repay business debts.

(iii) Stable existence: Death,bankruptcy or insanity of the membersdo not affect continuity of a cooperativesociety. A society, therefore, operatesunaffected by any change in themembership.

(iv) Economy in operations: Themembers generally offer honoraryservices to the society. As the focus ison elimination of middlemen, this helpsin reducing costs. The customers orproducers themselves are members of

the society, and hence the risk of baddebts is lower.

(v) Support from government: Thecooperative society exemplifies the ideaof democracy and hence finds supportfrom the Government in the form of lowtaxes, subsidies, and low interest rateson loans.

(vi) Ease of formation: The cooperativesociety can be started with a minimumof ten members. The registrationprocedure is simple involving a few legalformalities. Its formation is governed bythe provisions of Cooperative SocietiesAct 1912.

Limitations

The cooperative form of organisationsuffers from the following limitations:

(i) Limited resources: Resources of acooperative society consists of capitalcontributions of the members withlimited means. The low rate of dividendoffered on investment also acts as adeterrent in attracting membership ormore capital from the members.

(ii) Inefficiency in management:Cooperative societies are unable toattract and employ expert managersbecause of their inability to pay themhigh salaries. The members who offerhonorary services on a voluntary basisare generally not professionallyequipped to handle the managementfunctions effectively.

(iii) Lack of secrecy: As a result ofopen discussions in the meetings ofmembers as well as disclosureobligations as per the Societies Act

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(7), it is difficult to maintain secrecyabout the operations of a cooperativesociety.

(iv) Government control: In return ofthe privileges offered by thegovernment, cooperative societies haveto comply with several rules andregulations related to auditing ofaccounts, submission of accounts, etc.Interference in the functioning of thecooperative organisation through thecontrol exercised by the statecooperative departments also negativelyaffects its freedom of operation.

(v) Differences of opinion: Internalquarrels arising as a result of contraryviewpoints may lead to difficulties indecision making. Personal interestsmay start to dominate the welfaremotive and the benefit of othermembers may take a backseat ifpersonal gain is given preference bycertain members.

2.5.1 Types of CooperativeSocieties

Various types of cooperative societiesbased on the nature of their operationsare described below:

(i) Consumer’s cooperative societies:The consumer cooperative societies areformed to protect the interests ofconsumers. The members comprise ofconsumers desirous of obtaining goodquality products at reasonable prices.The society aims at eliminatingmiddlemen to achieve economy inoperations. It purchases goods in bulkdirectly from the wholesalers and sellsgoods to the members, therebyeliminating the middlemen. Profits, ifany, are distributed on the basis of eithertheir capital contributions to the societyor purchases made by individualmembers.

Amul’s amazing Cooperative ventures!

Every day Amul collects 4,47,000 litres of milk from 2.12 million farmers (many

illiterate), converts the milk into branded, packaged products, and delivers

goods worth Rs. 6 crore (Rs. 60 million) to over 5,00,000 retail outlets across

the country.

It all started in December 1946 with a group of farmers keen to free themselves

from intermediaries, gain access to markets and thereby ensure maximum

returns for their efforts. Based in the village of Anand, the Khera District Milk

Cooperative Union (better known as Amul) expanded exponentially. It joined

hands with other milk cooperatives, and the Gujarat network now covers 2.12

million farmers, 10,411 village level milk collection centres and fourteen district

level plants (unions). Amul is the common brand for most product categories

produced by various unions: liquid milk, milk powder, butter, ghee, cheese,

cocoa products, sweets, ice-cream and condensed milk. Amul’s sub-brands

include variants such as Amulspray, Amulspree, Amulya and Nutramul.

Source: Adapted from Pankaj Chandra, “Rediff.com”, Business Special, September 2005.

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44 BUSINESS STUDIES

(ii) Producer’s cooperative societies:These societies are set up to protect theinterest of small producers. Themembers comprise of producersdesirous of procuring inputs forproduction of goods to meet thedemands of consumers. The societyaims to fight against the big capitalistsand enhance the bargaining power ofthe small producers. It supplies rawmaterials, equipment and other inputsto the members and also buys theiroutput for sale. Profits among themembers are generally distributed onthe basis of their contributions to thetotal pool of goods produced or soldby the society.

(iii) Marketing cooperative societies:Such societies are established to helpsmall producers in selling their

products. The members consist ofproducers who wish to obtainreasonable prices for their output. Thesociety aims to eliminate middlemenand improve competitive position of itsmembers by securing a favourablemarket for the products. It pools theoutput of individual members andperforms marketing functions liketransportation, warehousing,packaging, etc., to sell the output atthe best possible price. Profits aredistributed according to eachmember’s contribution to the pool ofoutput.

(iv) Farmer’s cooperative societies:These societies are established toprotect the interests of farmers byproviding better inputs at a reasonablecost. The members comprise farmers

Indian Companies in League of FORTUNEGLOBAL Organisations

CompanyGLOBAL

rankRank inIndia

Revenues(Million$)

Website

Indian Oil Corporation 161 1 54,711 www.iocl.com

Reliance Industries Ltd. 215 2 43,437 www.ril.com

Tata Motors Ltd. 226 3 42,092 www.tatamotors.com

State Bank of India 232 4 41,681 www.sbi.co.in

Bharat PetroleumCorporation Ltd.

350 5 20,082 www.bharatpetroleum.in

Hindustan PetroleumCorporation Ltd.

367 6 28,820 www.hindustanpetroleum.com

Rajesh ExportsCorporation Ltd.

423 7 25,237 www.rajeshindia.com

Ltd.

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who wish to jointly take up farmingactivities. The aim is to gain the benefitsof large scale farming and increase theproductivity. Such societies providebetter quality seeds, fertilisers,machinery and other moderntechniques for use in the cultivation ofcrops. This helps not only in improvingthe yield and returns to the farmers,but also solves the problems associatedwith the farming on fragmented landholdings.

(v) Credit cooperative societies:Credit cooperative societies areestablished for providing easy crediton reasonable terms to the members.The members comprise of persons whoseek financial help in the form of loans.The aim of such societies is to protectthe members from the exploitation oflenders who charge high rates ofinterest on loans. Such societies provideloans to members out of the amountscollected as capital and deposits fromthe members and charge low ratesof interest.

(vi) Cooperative housing societies:Cooperative housing societies areestablished to help people with limitedincome to construct houses atreasonable costs. The members of thesesocieties consist of people who aredesirous of procuring residentialaccommodation at lower costs. The aimis to solve the housing problems of themembers by constructing houses andgiving the option of paying ininstalments. These societies constructflats or provide plots to members onwhich the members themselves canconstruct the houses as per their choice.

2.6 JOINT STOCK COMPANY

A company is an association of personsformed for carrying out business ac-tivities and has a legal status indepen-dent of its members. A company canbe described as an artificial person hav-ing a separate legal entity, perpetualsuccession and a common seal. Thecompany form of organisation is gov-erned by The Companies Act, 2013. Asper section 2(20) of Act 2013, a com-pany means company incorporatedunder this Act or any other previouscompany law.

The shareholders are the owners ofthe company while the Board ofDirectors is the chief managing bodyelected by the shareholders. Usually,the owners exercise an indirect controlover the business. The capital of thecompany is divided into smaller partscalled ‘shares’ which can be transferredfreely from one shareholder to anotherperson (except in a private company).

Features

The definition of a joint stock companyhighlights the following features of acompany.

(i) Artificial person: A company is acreation of law and exists independentof its members. Like natural persons,a company can own property, incurdebts, borrow money, enter intocontracts, sue and be sued but unlikethem it cannot breathe, eat, run, talkand so on. It is, therefore, called anartificial person.

(ii) Separate legal entity: From theday of its incorporation, a companyacquires an identity, distinct from its

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46 BUSINESS STUDIES

members. Its assets and liabilities areseparate from those of its owners. Thelaw does not recognise the businessand owners to be one and the same.

(iii) Formation: The formation of acompany is a time consuming, expensiveand complicated process. It involves thepreparation of several documents and

officials for running the business. Thedirectors hold a position of immensesignificance as they are directlyaccountable to the shareholders for theworking of the company. Theshareholders, however, do not have theright to be involved in the day-to-dayrunning of the business.

compliance with several legalrequirements before it can startfunctioning. Incorporation of companiesis compulsory under The Companies Act2013 or any of the previous companylaw, as state earlier. Such companieswhich are incorporated undercompanies Act 1956 or any company lawshall be included in the list of companies.

(iv) Perpetual succession: A companybeing a creation of the law, can bebrought to an end only by law. It willonly cease to exist when a specificprocedure for its closure, calledwinding up, is completed. Membersmay come and members may go, butthe company continues to exist.

(v) Control: The management andcontrol of the affairs of the company isundertaken by the Board of Directors,which appoints the top management

(vi) Liability: The liability of themembers is limited to the extent of thecapital contributed by them in acompany. The creditors can use only theassets of the company to settle theirclaims since it is the company and notthe members that owes the debt. Themembers can be asked to contribute tothe loss only to the extent of the unpaidamount of share held by them. SupposeAkshay is a shareholder in a companyholding 2,000 shares of Rs.10 each onwhich he has already paid Rs. 7 pershare. His liability in the event of lossesor company’s failure to pay debts canbe only up to Rs. 6,000 — the unpaidamount of his share capital (Rs. 3 pershare on 2,000 shares held in thecompany). Beyond this, he is not liableto pay anything towards the debts orlosses of the company.

Previous Company law means any of the laws specified below:1. Act relating to companies in force before the Indian companies Act, 1866

(10 of 1866).2. The Indian companies Act, 1866 (10 of 1866).3. The Indian companies Act, 1882 (6 of 1882).4. The Indian companies Act, 1913 (6 of 1913).5. The Registration of Transferred Companies Ordinance, 1942 (ordinance

42 of 1942).6. The Companies Act, 1956.

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(vii) Common seal: A company mayor may not have a common seal. If acompany has a common seal, it mustbe affixed to the documents such asagreements of a company. If a companydoes not have a common seal then theperson signing the document shouldbe authorised by a board’s resolutions.

(viii) Risk bearing: The risk of lossesin a company is borne by all the shareholders. This is unlike the case of soleproprietorship or partnership firmwhere one or few persons respectivelybear the losses. In the face of financialdifficulties, all shareholders in acompany have to contribute to thedebts to the extent of their shares inthe company’s capital. The risk of lossthus gets spread over a large numberof shareholders.

Merits

The company form of organisationoffers a multitude of advantages, someof which are discussed below.

(i) Limited liability: The shareholdersare liable to the extent of the amountunpaid on the shares held by them.Also, only the assets of the companycan be used to settle the debts, leavingthe owner’s personal property free fromany charge. This reduces the degree ofrisk borne by an investor.

(ii) Transfer of interest: The easeof transfer of ownership adds to theadvantage of investing in a companyas the share of a public limitedcompany can be sold in the marketand as such can be easily converted

into cash in case the need arises.This avoids blockage of investmentand presents the company as afavourable avenue for investmentpurposes.

(iii) Perpetual existence: Existence ofa company is not affected by the death,retirement, resignation, insolvency orinsanity of its members as it has aseparate entity from its members. Acompany will continue to exist even ifall the members die. It can be liquidatedonly as per the provisions of theCompanies Act, 2013.

(iv) Scope for expansion: Ascompared to the sole proprietorshipand partnership forms of organisation,a company has large financialresources. Further, capital can beattracted from the public as well asthrough loans from banks and financialinstitutions. Thus there is greater scopefor expansion. The investors areinclined to invest in shares because ofthe limited liability, transferableownership and possibility of highreturns in a company.

(v) Professional management: Acompany can afford to pay highersalaries to specialists and professionals.It can, therefore, employ people whoare experts in their area ofspecialisations. The scale of operationsin a company leads to division of work.Each department deals with aparticular activity and is headed by anexpert. This leads to balanced decisionmaking as well as greater efficiency inthe company’s operations.

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48 BUSINESS STUDIES

Limitations

The major limitations of a companyform of organisation are as follows:

(i) Complexity in formation: Theformation of a company requiresgreater time, effort and extensiveknowledge of legal requirements andthe procedures involved. As comparedto sole proprietorship and partnershipform of organisations, formation of acompany is more complex.

(iii) Impersonal work environment:Separation of ownership andmanagement leads to situations inwhich there is lack of effort as well aspersonal involvement on the part ofthe officers of a company. The largesize of a company further makes itdifficult for the owners and topmanagement to maintain personalcontact with the employees,customers and creditors.

(ii) Lack of secrecy: The Companies Actrequires each public company to providefrom time-to-time a lot of information tothe office of the registrar of companies.Such information is available to thegeneral public also. It is, therefore,difficult to maintain complete secrecyabout the operations of company.

(iv) Numerous regulations: Thefunctioning of a company is subject tomany legal provisions and compulsions.A company is burdened with numerousrestrictions in respect of aspectsincluding audit, voting, filing of reportsand preparation of documents, and isrequired to obtain various certificates

Pen is mightier than the Sword:The Case of Luxor Writing Instruments Pvt. Ltd.

In the year 1963, a young gentleman armed with the power of hard work andambition, started a new era in the field of writing instruments. At a tenderage of 19, he started a small manual assembly shop in Sadar Bazaar area inDelhi where he manufactured fountain pens under the name Luxor WritingInstruments Pvt. Ltd. (LWIPL).

Being awarded the coveted ‘Number One Writing Instruments Exporter’

award consecutively for three years, LWIPL has been given the exclusiverights of manufacturing and distributing four international brands in India,viz., Pilot, Papermate, Parker and Waterman.

Luxor Writing Instruments Pvt. Ltd. has the largest share of this market ofover 20 percent, with a turnover pushing way beyond the Rs. 150 crore mark.As of today Luxor is a leading manufacturer and exporter of writinginstruments from India. It is currently exporting over 15 percent of theoutput and has four manufacturing facilities in New Delhi and three atMumbai. It employs over 600 people. It is the leader in most segments of themarket, manufacturing and distributing a wide variety of pens for variousapplications and needs.

Source: http://www.luxorparker.com

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from different agencies, viz., registrar,SEBI, etc. This reduces the freedom ofoperations of a company and takes awaya lot of time, effort and money.

(v) Delay in decision making:Companies are democratically managedthrough the Board of Directors which isfollowed by the top management, middlemanagement and lower levelmanagement. Communication as well asapproval of various proposals maycause delays not only in takingdecisions but also in acting upon them.

(vi) Oligarchic management: Intheory, a company is a democraticinstitution wherein the Board ofDirectors are representatives of theshareholders who are the owners. Inpractice, however, in most large sizedorganisations having a multitude ofshareholders; the owners haveminimal influence in terms ofcontrolling or running the business.It is so because the shareholders are

spread all over the country and a very

small percentage attend the generalmeetings. The Board of Directors assuch enjoy considerable freedom inexercising their power which theysometimes use even contrary to theinterests of the shareholders.Dissatisfied shareholders in such asituation have no option but to selltheir shares and exit the company. Asthe directors virtually enjoy the rightsto take all major decisions, it leads torule by a few.

(vii) Conflict in interests: There maybe conflict of interest amongst variousstakeholders of a company. Theemployees, for example, may beinterested in higher salaries, consumersdesire higher quality products at lowerprices, and the shareholders wanthigher returns in the form of dividendsand increase in the intrinsic value oftheir shares. These demands poseproblems in managing the company asit often becomes difficult to satisfy suchdiverse interests.

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50 BUSINESS STUDIES

Bharat Heavy Electricals Limited — A Public Company’s Journey inQuality

Bharat Heavy Electricals Limited (BHEL) is the largest engineering andmanufacturing enterprise in India today in the energy-related/infrastructure sector.BHEL was established more than 40 years ago, ushering in the indigenousheavy electrical equipment industry in India — a dream that has beenmore than realised with a well-recognised track record of performance.The company has been earning profits continuously since 1971-72 andpaying dividends since 1976-77.

BHEL manufactures over 180 products under 30 major productgroups and caters to core sectors of the Indian economy, viz., powergeneration and transmission, transportation, telecommunication,renewable energy, etc.

BHEL has acquired certifications to Quality Management Systems (ISO9001), Environmental Management Systems (ISO 14001) and OccupationalHealth and Safety Management Systems (OHSAS 18001) and is also wellon its journey towards Total Quality Management.

Major achievements of BHEL include:• Installed equipment for over 90,000 MW of power generation — for utilities,

captive and industrial users.• Supplied over 2,25,000 MVA transformer capacity and other equipment

operating in transmission and distribution network up to 400 kV (AC andDC).

• Supplied over 25,000 motors with Drive Control System to power projects,petrochemicals, refineries, steel, aluminium, fertiliser, cement plants, etc.

• Supplied traction electrics and AC/DC locos to power over 12,000 kmsrailway network.

• Supplied over one million valves to power plants and other industries.

BHEL’s vision is to become a world-class engineering enterprise, committedto enhancing stakeholder value. The company is striving to give shape to itsaspirations and fulfil the expectations of the country to become a globalplayer.

The greatest strength of BHEL is its highly skilled and committed 43,500employees. Every employee is given an equal opportunity to develop himselfand grow in his career. Continuous training and retraining, career planning,a positive work culture and participative style of management — all thesehave engendered development of a committed and motivated workforcesetting new benchmarks in terms of productivity, quality andresponsiveness.

Source: website of BHEL

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2.6.1 Types of Companies

A company can be either a private or apublic company. These two types ofcompanies are discussed in detail in thefollowing paragraphs.

Private Company

A private company means a companywhich:(a) restricts the right of members to

transfer its shares;(b) has a minimum of 2 and a maximum

of 200 members, excluding thepresent and past employees;

(c) does not invite public to subscribeto its securities and

It is necessary for a private companyto use the word private limited after itsname. If a private company contravenesany of the aforesaid provisions, it ceasesto be a private company and loses allthe exemptions and privileges to whichit is entitled.The following are some of the privileges

of a private limited company as againsta public limited company:1. A private company can be formed

by only two members whereasseven people are needed to form apublic company.

2. There is no need to issue aprospectus as public is not invitedto subscribe to the shares of aprivate company.

3. Allotment of shares can be donewithout receiving the minimumsubscription. A private limitedcompany can start business assoon as it receives the certificate ofincorporation.

4. A private company needs to haveonly two directors as against theminimum of three directors in thecase of a public company. Howeverthe maximum number of directorsfor both types of companies isfifteen.

5. A private company is not requiredto keep an index of members whilethe same is necessary in the caseof a public company.

Public Company

A public company means a companywhich is not a private company. As perThe Companies Act, a public companyis one which:(a) has a minimum of 7 members and

no limit on maximum members;(b) has no restriction on transfer

securities; and(c) is not prohibited from inviting the

public to subscribe to its securities.However, a private company which is asubsidiary of a public company is alsotreated as a public company.

2.7 CHOICE OF FORM OF BUSINESS

ORGANISATION

After studying various forms of

business organisations, it is evident that

each form has certain advantages as well

as disadvantages. It, therefore, becomes

vital that certain basic considerations are

kept in mind while choosing an

appropriate form of organisation. The

important factors determining the

choice of organisation are listed in Table

2.4 and are discussed as follows:

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52 BUSINESS STUDIES

(i) Cost and ease in setting up theorganisation: As far as initial

business setting-up costs are

concerned, sole proprietorship is the

most inexpensive way of starting a

business. However, the legal

requirements are minimum and the

scale of operations is small. In case of

partnership also, the advantage of less

legal formalities and lower cost is there

because of limited scale of operations.

Cooperative societies and companies

have to be compulsorily registered.

Formation of a company involves a

lengthy and expensive legal procedure.

From the point of view of initial cost,

therefore, sole proprietorship is the

preferred form as it involves least

expenditure. Company form of

organisation, on the other hand, is

more complex and involves greater

costs.

(ii) Liability: In case of soleproprietorship and partnership firms,the liability of the owners/partners isunlimited. This may call for paying thedebt from personal assets of the owners.In joint Hindu family business, only thekarta has unlimited liability. Incooperative societies and companies,however, liability is limited and creditorscan force payment of their claims onlyto the extent of the company’s assets.Hence, from the point of view ofinvestors, the company form oforganisation is more suitable as the riskinvolved is limited.

(iii) Continuity: The continuity of soleproprietorship and partnership firms isaffected by such events as death,insolvency or insanity of the owners.However, such factors do not affect thecontinuity of business in the case oforganisations like joint Hindu familybusiness, cooperative societies and

Table 2.4 Factors influencing the choice of form of Business Organisation

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53

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54 BUSINESS STUDIES

companies. In case the business needsa permanent structure, company formis more suitable. For short termventures, proprietorship or partnershipmay be preferred.

(iv) Management ability: A soleproprietor may find it difficult to haveexpertise in all functional areas ofmanagement. In other forms oforganisations like partnership andcompany, there is no such problem.Division of work among the membersin such organisations allows themanagers to specialise in specificareas, leading to better decisionmaking. But this may lead tosituations of conflicts because ofdifferences of opinion amongst people.Further, if the organisation’soperations are complex in nature andrequire professionalised management,company form of organisation is abetter alternative. Proprietorship orpartnership may be suitable, wheresimplicity of operations allow evenpeople with limited skills to run thebusiness. Thus, the nature ofoperations and the need forprofessionalised management affectthe choice of the form of organisation.

(v) Capital considerations: Companiesare in a better position to collect largeamounts of capital by issuing sharesto a large number of investors.Partnership firms also have theadvantage of combined resources of allpartners. But the resources of a soleproprietor are limited. Thus, if thescale of operations is large, company

form may be suitable whereas formedium and small sized business onecan opt for partnership or soleproprietorship. Further, from the pointof view of expansion, a company ismore suitable because of its capabilityto raise more funds and invest inexpansion plans. It is precisely for thispurpose that in our opening caseNeha’s father suggested she shouldconsider switching over to the companyform of organisation.

(vi) Degree of control: If direct controlover operations and absolute decisionmaking power is required,proprietorship may be preferred. Butif the owners do not mind sharingcontrol and decision making,partnership or company form oforganisation can be adopted. Theadded advantage in the case ofcompany form of organisation is thatthere is complete separation ofownership and management and it isprofessionals who are appointed toindependently manage the affairs ofa company.

(vii) Nature of business: If directpersonal contact is needed with thecustomers such as in the case of agrocery store, proprietorship may bemore suitable. For large manufacturingunits, however, when direct personalcontact with the customer is notrequired, the company form oforganisation may be adopted. Similarly,in cases where services of a professionalnature are required, partnership form ismuch more suitable.

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Key Terms

Sole proprietorship Partnership Joint Hindu Family

Mutual agency Cooperative Societies Joint Stock Company

Perpetual succession Artificial person Holding company

Co-parceners Incorporation of a Company

SUMMARY

Forms of business organisation refers to the types of organisations whichdiffer in terms of ownership and management. The major forms oforganisation include proprietorship, partnership, joint Hindu familybusiness, cooperative society and company.

Sole proprietorship refers to a form of organisation where business isowned, managed and controlled by a single individual who bears all therisks and is the only recipient of all the profits. Merits of this form oforganisation include quick decision making, direct incentive, personalsatisfaction, and ease of formation and closure. But this form oforganisation suffers from limitations of limited resources, unstable lifespan of business, unlimited liability of sole proprietor and his/her limitedmanagerial ability.

Partnership is defined as an association of two or more persons who agreeto carry on a business together and share the profits as well as bear riskscollectively. Major advantages of partnership are: ease of formation andclosure, benefits of specialisation, greater funds, and reduction of risk. Majorlimitations of partnership are unlimited liability, possibility of conflicts, lackof continuity and lack of public confidence. As there are different types ofpartners such as active, sleeping, secret and nominal partners; so is thecase with types of partnerships which can vary from general partnership,limited partnership, partnership at will to particular partnership.

It would not be out of place tomention here that the factors statedabove are inter-related. Factors likecapital contribution and risk vary withthe size and nature of business, andhence a form of business organisationthat is suitable from the point of viewof the risks for a given business when

run on a small scale might not beappropriate when the same businessis carried on a large scale. It is,therefore, suggested that all the relevantfactors must be taken intoconsideration while making a decisionwith respect to the form of organisationthat should be adopted.

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56 BUSINESS STUDIES

Joint Hindu family business is a business owned and carried on by themembers of a Hindu Undivided Family, which is governed by the Hindulaw. Karta — the oldest male member of the family — controls the business.The strong points of joint Hindu family business include effective control,stability in existence, limited liability and increased loyalty among familymembers. But this form of organisation too suffers from certain limitationssuch as limited resources, lack of incentives, dominance of the karta andlimited managerial ability.

A cooperative society is a voluntary association of persons who get togetherto protect their economic interests. The major advantages of a cooperativesociety are equality in voting, members’ limited liability, stable existence,economy in operations, support from government, and ease of formation.But this form of organisation suffers from weaknesses such as limitedresources, inefficiency in management, lack of secrecy, government control,and differences among members in regard to the way society should bemanaged and organised. Based on their purpose and nature of members,various types of societies that can be formed include: consumers cooperativesociety, producers cooperative society, marketing cooperative society, farmerscooperative society, credit cooperative society, and cooperative housingsociety.

A company, on the other hand, may be defined as an artificial person,existing only in the eyes of the law with perpetual succession and havinga separate legal identity. While major advantages of a company form oforganisation are members’ limited liability, transfer of interest, stableexistence, scope for expansion, and professional management; its keylimitations are: complexity in formation, lack of secrecy, impersonal workenvironment, numerous regulations, delay in decision making, oligarchicmanagement, and conflict of interests among different shareholders.

Companies can be of two types — private and public. A private company isone which restricts transfer of shares and does not invite the public tosubscribe to its securities. A public company, on the other hand, is allowedto raise its funds by inviting the public to subscribe to its securities.Furthermore, there is a free transferability of securities in the case of apublic company.

Choice of form of organisation: Selection of an appropriate form oforganisation can be made after taking various factors into consideration.Initial costs, liability, continuity, capital considerations, managerial ability,degree of control and nature of business are the key factors that need totaken into account while deciding about the suitable form of organisationfor one’s business.

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EXERCISES

Multiple Choice Questions

Tick the appropriate answer

1. The structure in which there is separation of ownership and management

is called

(a) Sole proprietorship (b) Partnership

(c) Company (d) All business

organisations

2. The karta in Joint Hindu family business has

(a) Limited liability (b) Unlimited liability

(c) No liability for debts (d) Joint liability

3. In a cooperative society the principle followed is

(a) One share one vote (b) One man one vote

(c) No vote (d) Multiple votes

4. The board of directors of a joint stock company is elected by

(a) General public (b) Government bodies

(c) Shareholders (d) Employees

5. Profits do not have to be shared. This statement refers to

(a) Partnership (b) Joint Hindu family business

(c) Sole proprietorship (d) Company

6. The capital of a company is divided into number of parts each one of

which are called

(a) Dividend (b) Profit

(c) Interest (d) Share

7. The Head of the joint Hindu family business is called

(a) Proprietor (b) Director

(c) Karta (d) Manager

8. Provision of residential accommodation to the members at reasonable

rates is the objective of

(a) Producer’s cooperative (b) Consumer’s cooperative

(c) Housing cooperative (d) Credit cooperative

9. A partner whose association with the firm is unknown to the general

public is called

(a) Active partner (b) Sleeping partner

(c) Nominal partner (d) Secret partner

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58 BUSINESS STUDIES


1. Compare the status of a minor in a Joint Hindu family business withthat in a partnership firm.

2. If registration is optional, why do partnership firms willingly go throughthis legal formality and get themselves registered? Explain.

3. State the important privileges available to a private company.

4. How does a cooperative society exemplify democracy and secularism?Explain.

5. What is meant by ‘partner by estoppel’? Explain.

6. Briefly explain the following terms in brief.(a) Perpetual succession (b) Common seal(c) Karta (d) Artificial person


1. What do you understand by a sole proprietorship firm? Explain its meritsand limitation?

2. Why is partnership considered by some to be a relatively unpopularform of business ownership? Explain the merits and limitations ofpartnership.

3. Why is it important to choose an appropriate form of organisation?Discuss the factors that determine the choice of form of organisation.

4. Discuss the characteristics, merits and limitation of cooperative formof organisation. Also describe briefly different types of cooperativesocieties.

5. Distinguish between a Joint Hindu family business and partnership.

6. Despite limitations of size and resources, many people continue to prefersole proprietorship over other forms of organisation? Why?

Application Questions

1. In which form of organisation is a trade agreement made by one ownerbinding on the others? Give reasons to support your answer.

2. The business assets of an organisation amount to Rs. 50,000 but thedebts that remain unpaid are Rs. 80,000. What course of action canthe creditors take if(a) The organisation is a sole proprietorship firm

(b) The organisation is a partnership firm with Anthony and Akbar aspartners. Which of the two partners can the creditors approachfor repayment of debt? Explain giving reasons

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3. Kiran is a sole proprietor. Over the past decade, her business has grownfrom operating a neighbourhood corner shop selling accessories suchas artificial jewellery, bags, hair clips and nail art to a retail chain withthree branches in the city. Although she looks after the varied functionsin all the branches, she is wondering whether she should form acompany to better manage the business. She also has plans to openbranches countrywide.

(a) Explain two benefits of remaining a sole proprietor

(b) Explain two benefits of converting to a joint stock company

(c) What role will her decision to go nationwide play in her choice ofform of the organisation?

(d) What legal formalities will she have to undergo to operate businessas a company?


Divide students into teams to work on the following(a) To study the profiles of any five neighbourhood grocery/stationery

store

(b) To conduct a study into the functioning of a Joint Hindu familybusinesses

(c) To enquire into the profile of five partnerships firms

(d) To study the ideology and working of cooperative societies in thearea

(e) To study the profiles of any five companies (inclusive of both privateand public companies)

Notes

1. Some of the following aspects can be assigned to the students forundertaking above mentioned studies.

Nature of business, size of the business measured in terms of capitalemployed, number of persons working, or sales turnover, problems faced,Incentive, reason behind choice of a particular form, decision makingpattern, willingness to expand and relevant considerations, Usefulnessof a form, etc.

2. Students teams should be encouraged to submit their findings andconclusions in the form of project reports and multi-media presentations.

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CHAPTER 3

PRIVATE, PUBLIC AND GLOBAL ENTERPRISES

LEARNING OBJECTIVES


• explain the concept and characteristics of business;

• explain the features of different forms of public enterprises viz.,

departmental, statutory corporations and government companies;

• critically examine the changing role of the public sector;

• explain the features of global enterprises; and

• appreciate the benefits of joint ventures.

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61PRIVATE, PUBLIC AND GLOBAL ENTERPRISES

3.1 INTRODUCTION

You must have come across all typesof business organisations in your dailylife. In your neighbourhood market,there are shops owned by soleproprietors or big retail organisationsrun by a company. Then there arepeople providing you services like legalservices, medical services, being ownedby more than one person i.e.,partnership firms. These are allprivately owned organisations.Similarly, there are other offices orplaces of business which may be ownedby the government. For example,Railways is an organisation whollyowned and managed by thegovernment. The post office, in yourlocality is owned by the Post andTelegraph Department, Government ofIndia, though our dependence on theirpostal services, particularly in cities

and towns has been greatly reduced.This is because of plenty of privatecourier services firms operating inbigger towns. Then there are businesseswhich operate in more than one countryknown as global enterprises. Therefore,you may have observed that all typesof organisations are doing business inthe country whether they are public,private or global. In this chapter weshall be studying how the economy isdivided into two sectors, public andprivate, the different types of publicenterprises, their role and that of theglobal enterprises.

3.2 PRIVATE SECTOR AND PUBLIC

SECTOR

There are all kinds of businessorganisations — small or large,industrial or trading, privately ownedor government owned existing in our

Anita, a student of class XI, was going through some newspapers. The headlinesstared at her face, Government plans to disinvest its shares in a few companies.The next day there was another news item on one public sector company incurringheavy losses and the proposal for closing the same. In contrast to this, she readanother item on how some of the companies under the private sector were doingso well. She was actually curious to know what these terms like public sector,disinvestment, privatisation meant. She realised that in certain areas therewas only the government which operates like the railways and in some areasboth the privately owned and government run business were operating. Forexample, in the heavy industry sector SAIL, BHEL and TISCO, Reliance, Birlasall were there and in the telecom sector, companies like Tata, Reliance, Airteloperate and in airlines Sahara and Jet have recently gained entry. Thesecompanies along with the Government-owned companies like MTNL, BSNL, IndianAirlines, Air India. She then started wondering where from companies like Cocacola, Pepsi, Hyundai came? Were they always here or did they operate somewhereelse, in some other country. She went to the library and was surprised to knowthat there was so much information about all these in books, business magazinesand newspapers.

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country. These organisations affect ourdaily economic life and thereforebecome part of the Indian economy.Since the Indian economy consists ofboth privately owned and governmentowned business enterprises, it isknown as a mixed economy. TheGovernment of India has opted for amixed economy where both private andgovernment enterprises are allowed tooperate. The economy, therefore, maybe classified into two sectors viz.,private sector and public sector.

The private sector consists ofbusiness owned by individuals or agroup of individuals, as you havelearnt in the previous chapter. Thevarious forms of organisation aresole proprietorship, partnership,joint Hindu family, cooperativeand company.

The public sector consists ofvarious organisations owned andmanaged by the government. Theseorganisations may either be partly orwholly owned by the central or state

government. They may also be a partof the ministry or come into existenceby a Special Act of the Parliament. The

government, through these enterprisesparticipates in the economic activitiesof the country.

The government in its industrialpolicy resolutions, from time-to-time,defines the area of activities in which

the private sector and public sector areallowed to operate. In the IndustrialPolicy Resolution 1948, the

Government of India had specified theapproach towards development of theindustrial sector. The roles of the

private and public sector were clearlydefined and the government throughvarious Acts and Regulations wasoverseeing the economic activities ofboth the private and public sector. TheIndustrial Policy Resolution, 1956 hadalso laid down certain objectives for thepublic sector to follow so as toaccelerate the rate of growth andindustrialisation. The public sector wasgiven a lot of importance but at thesame time mutual dependency ofpublic and private sectors wasemphasised. The 1991 industrialpolicy was radically different from allthe earlier policies where thegovernment was deliberatingdisinvestment of public sector andallowing greater freedom to the privatesector. At the same time, foreign directinvestment was invited from businesshouses outside India. Thus,multinational corporations or globalenterprises which operate in more thanone country gained entry into theIndian economy. Thus, we have publicsector units, private sector enterprisesand global enterprises coexisting in theIndian economy.

3.3 FORMS OF ORGANISING PUBLIC

SECTOR ENTERPRISES

Government’s participation in businessand economic sectors of the countryneeds some kind of organisationalframework to function. You havestudied about the forms of businessorganisation in the private sector viz.,sole proprietorship, partnership, Hinduundivided family, cooperative andcompany.

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In the public sector, as it grows, animportant question arises in respect of

how it is to be organised or what formof organisation it should take. Thegovernment has a major role to play in

the formation of the public sector. Butthe government acts through its people,its offices, employees and they take

decisions on behalf of the government.For this purpose, public enterpriseswere formed by the government to

participate in the economic activities ofthe country. They are expected tocontribute to the economic deve-

lopment of the country in today’sliberalised, competitive world. Thesepublic enterprises are owned by the

public and are accountable to thepublic through the Parliament. Theyare characterised by public ownership,

public funds being used for its activitiesand public accountability.

A public enterprise may take anyparticular form of organisationdepending upon the nature of itsoperations and their relationship withthe government. The suitability of aparticular form of organisation woulddepend upon its requirements. At thesame time, in accordance with generalprinciples, any organisation in thepublic sector should ensure organisationalperformance productivity and qualitystandards.

The forms of organisation which apublic enterprise may take are asfollows:(i) Departmental undertaking(ii) Statutory corporation(iii) Government company

3.3.1 Departmental Undertakings

This is the oldest and most traditionalform of organising public enterprises.

Indian Economy

Public Sector Private Sector

Departmental

Undertakings

Statutory

Corporation

Government

Companies

Private

(Ltd.)

Sole

Properietorship

Partnership Joint

Hindu

Family

Cooperative

Company

Public

(Ltd.)

Multinational

Corporations

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64 BUSINESS STUDIES

These enterprises are established asdepartments of the ministry and areconsidered part or an extension of theministry itself. The Governmentfunctions through these departmentsand the activities performed by themare an integral part of the functioningof the government. They have not beenconstituted as autonomous orindependent institutions and as suchare not independent legal entities. Theyact through the officers of theGovernment and its employees areGovernment employees. Theseundertakings may be under the centralor the state government and the rulesof central/state government areapplicable. Examples of theseundertakings are railways and postand telegraph department.

Features

The main characteristics ofDepartmental undertakings are asfollows:

(i) The funding of these enterprisescome directly from the Govern-ment Treasury and are an annualappropriation from the budget ofthe Government. The revenueearned by these is also paid intothe treasury;

(ii) They are subject to accountingand audit controls applicable toother Government activities;

(iii) The employees of the enterprise areGovernment servants and theirrecruitment and conditions ofservice are the same as that ofother employees directly under theGovernment. They are headed by

Indian Administrative Service (IAS)officers and civil servants who aretransferable from one ministry toanother;

(iv) It is generally considered to bea major subdivision of theGovernment department and issubject to direct control of theministry;

(v) They are accountable to theministry since their managementis directly under the concernedministry.

Merits

Departmental undertakings havecertain advantages which are as follows:

(i) These undertakings facilitate theParliament to exercise effectivecontrol over their operations;

(ii) These ensure a high degree ofpublic accountability;

(iii) The revenue earned by theenterprise goes directly to thetreasury and hence is a source ofincome for the Government;

(iv) Where national security isconcerned, this form is mostsuitable since it is under the directcontrol and supervision of theconcerned Ministry.

Limitations

This form of organisation suffers fromserious drawbacks, some of which areas follows:

(i) Departmental undertakings fail toprovide flexibility, which is essentialfor the smooth operation of business;

(ii) The employees or heads of depart-ments of such undertakings are

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not allowed to take independentdecisions, without the approval ofthe ministry concerned. This leadsto delays, in matters whereprompt decisions are required;

(iii) These enterprises are unable totake advantage of businessopportunities. The bureaucrat’sover-cautious and conservativeapproval does not allow them totake risky ventures;

(iv) There is red tapism in day-to-dayoperations and no action can betaken unless it goes through theproper channels of authority;

(v) There is a lot of political inter-ference through the ministry;

(vi) These organisations are usuallyinsensitive to consumer needs anddo not provide adequate servicesto them.

3.3.2 Statutory Corporations

Statutory corporations are publicenterprises brought into existence bya Special Act of the Parliament. The Actdefines its powers and functions, rulesand regulations governing itsemployees and its relationship withgovernment departments.

This is a corporate body created bythe legislature with defined powers andfunctions and is financially independentwith a clear control over a specifiedarea or a particular type of commercialactivity. It is a corporate person andhas the capacity of acting in its ownname. Statutory corporations thereforehave the power of the government andconsiderable amount of operatingflexibility of private enterprises.

Features

Statutory corporations have certaindistinct features, which are discussedas below:

(i) Statutory corporations are set upunder an Act of Parliament andare governed by the provisions ofthe Act. The Act defines the objects,powers and privileges of astatutory corporation;

(ii) This type of organisation is whollyowned by the state. Thegovernment has the ultimatefinancial responsibility and hasthe power to appropriate itsprofits. At the same time, the statealso has to bear the losses, if any;

(iii) A statutory corporation is a bodycorporate and can sue and besued, enter into contract andacquire property in its own name;

(iv) This type of enterprise is usuallyindependently financed. It obtainsfunds by borrowings from thegovernment or from the publicthrough revenues, derived fromsale of goods and services. It hasthe authority to use its revenues;

(v) A statutory corporation is notsubject to the same accountingand audit procedures applicableto government departments. It isalso not concerned with the centralbudget of the Government;

(vi) The employees of these enterprisesare not government or civilservants and are not governed bygovernment rules and regulations.The conditions of service of theemployees are governed by theprovisions of the Act itself. At

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66 BUSINESS STUDIES

times, some officers are takenfrom government departments,on deputation, to head theseorganisations.

Merits

This form of organisation enjoys certainadvantages in its working, which areas follows:

(i) They enjoy independence in theirfunctioning and a high degree ofoperational flexibility. They are freefrom undesirable governmentregulation and control;

(ii) Since the funds of these organi-sations do not come from thecentral budget, the governmentgenerally does not interfere in theirfinancial matters, including theirincome and receipts;

(iii) Since they are autonomousorganisations they frame their ownpolicies and procedures within thepowers assigned to them by theAct. The Act may, however,provide few issues/matters whichrequire prior approval of aparticular ministry;

(iv) A statutory corporation is avaluable instrument for economicdevelopment. It has the power ofthe government, combined withthe initiative of private enterprises.

Limitations

This type of organisation suffers fromseveral limitations, which are as follows:

(i) In reality, a statutory corporationdoes not enjoy as much operationalflexibility as stated above. Allactions are subject to many rulesand regulations;

(ii) Government and politicalinterference has always been therein major decisions or where hugefunds are involved;

(iii) Where there is dealing with public,rampant corruption exists;

(iv) The Government has a practice ofappointing advisors to theCorporation Board. This curbs thefreedom of the corporation inentering into contracts andother decisions. If there is anydisagreement, the matter isreferred to the government for finaldecisions. This further delays action.

3.3.3 Government Company

A government company is establishedunder The Companies Act, 2013 andis registered and governed by theprovisions of The Act. These areestablished for purely businesspurposes and in true spirit competewith companies in the private sector.

According to the section 2(45) of theCompanies Act 2013, a governmentcompany means any company in whichnot less than 51 per cent of the paidup capital is held by the centralgovernment, or by any stategovernment or partly by Centralgovernment and partly by one or moreState governments and includes acompany which is a subsidiary of agovernment company. Under theCompanies Act 2013, there is nochange in the definition of a company.All provisions of the Act are applicableto government companies unlessotherwise specified. A governmentcompany may be formed as a privatelimited company or a public limitedcompany. There are certain provisions

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which are applicable to theappointment/retirement of directorsand other managerial personnel.

From the above it is clear that thegovernment exercises control over thepaid up share capital of the company.The shares of the company arepurchased in the name of the Presidentof India. Since the government is themajor shareholder and exercisescontrol over the management of thesecompanies, they are known asgovernment companies.

Features

Government companies have certaincharacteristics which makes themdistinct from other forms of organisations.These are discussed as follows:

(i) It is an organisation created underthe Companies Act, 2013 or anyother previous Company Law.

(ii) The company can file a suit in acourt of law against any thirdparty and be sued;

(iii) The company can enter into acontract and can acquire propertyin its own name;

(iv) The management of the companyis regulated by the provisions ofthe Companies Act, like any otherpublic limited company;

(v) The employees of the company areappointed according to their ownrules and regulations as containedin the Memorandum and Articles ofAssociation of the company. TheMemorandum and Articles ofAssociation are the main documentsof the company, containing theobjects of the company and its rulesand regulations;

(vi) These companies are exemptedfrom the accounting and auditrules and procedures. An auditoris appointed by the CentralGovernment and the AnnualReport is to be presented in theParliament or the State Legislature;

(vii) The government company obtainsits funds from governmentshareholdings and other privateshareholders. It is also permitted toraise funds from the capital market.

Merits

Government companies enjoy severaladvantages, which are as follows:

(i) A government company can beestablished by fulfilling therequirements of the IndianCompanies Act. A separate Act inthe Parliament is not required;

(ii) It has a separate legal entity, apartfrom the Government;

(iii) It enjoys autonomy in allmanagement decisions and takesactions according to businessprudence;

(iv) These companies by providinggoods and services at reasonableprices are able to control themarket and curb unhealthybusiness practices.

Limitations

Despite the autonomy given to thesecompanies, they have certaindisadvantages:

(i) Since the Government is the onlyshareholder in some of thecompanies, the provisions of theCompanies Act does not havemuch relevance;

(ii) It evades constitutionalresponsibility, which a company

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68 BUSINESS STUDIES

financed by the government shouldhave. It is not answerable directly

to the Parliament;(iii) The government being the sole

shareholder, the management and

administration rests in the handsof the government. The mainpurpose of a government

company, registered like othercompanies, is defeated.

3.4 CHANGING ROLE OF PUBL IC

SECTOR

At the time of Independence, it wasexpected that the public sectorenterprises would play an importantrole in achieving certain objectives ofthe economy either by directparticipation in business or by actingas a catalyst. The public sector wouldbuild up infrastructure for other sectorsof the economy and invest in key areas.The private sector was unwilling toinvest in projects which required heavyinvestment and had long gestationperiods. The government then took itupon itself to develop infrastructuralfacilities and provide for goods andservices essential for the economy.

The Indian economy is in a stage

of transition. The Five Year Plans inthe initial stages of development gave

lot of importance to the public sector.In the post–1990s, the new economicpolicies, emphasised on liberalisation,

privatisation and globalisation. Therole of public sector was redefined. Itwas not supposed to play a passive

role but to actively participate and

compete in the market with other

private sector companies in the same

industry. They were also held

accountable for losses and return oninvestment. If a public sector was

making losses continuously, it was

referred to the Board for Industrial

and Financial Reconstruction (BIFR) forcomplete overhauling or shut down.

Various committees were set up to

study the working of inefficient public

sector units with reports on how toimprove their managerial efficiency

and profitability. The role of public

sector is definitely not what was

envisaged in the early 1960s or 70s.

(i) Development of infrastructure:

The development of infrastructure is a

prerequisite for industrialisation in any

country. In the pre-Independence

period, basic infrastructure was not

developed and therefore, industrialisation

progressed at a very slow pace. The

process of industrialisation cannot

be sustained without adequate

transportation and communication

facilities, fuel and energy, and basic and

heavy industries. The private sector did

not show any initiative to invest in heavy

industries or develop it in any manner.

They did not have trained personnel or

finances to immediately establish heavy

industries which was the requirement

of the economy.

It was only the government which

could mobilise huge capital, coordinate

industrial construction and train

technicians and workforce. Rail, road,

sea and air transport was the

responsibility of the government, and

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their expansion has contributed to the

pace of industrialisation and ensured

future economic growth. The public

sector enterprises were to operate in

certain spheres. Investments were to be

made to:

(a) Give infrastructure to the core

sector, which requires huge capital

investment, complex and upgraded

technology, big and effective

organisation structures like steel

plants, power generation plants,

civil aviation, railways, petroleum,

state trading, coal, etc;

(b) Give a lead in investment to the core

sector where private sector

enterprises are not functioning in

the desired direction, like fertilizers,

pharmaceuticals, petro-chemicals,

newsprint, medium and heavy

engineering;

(c) Give direction to future investments

like hotels, project management,

consultancies, textiles, auto-

mobiles, etc.

(ii) Regional balance: The government

is responsible for developing all regions

and states in a balanced way and

removing regional disparties. Most of

the industrial progress was limited to

a few areas like the port towns in the

pre-Independence period. After 1951,

the government laid down in its Five

Year Plans, that particular attention

would be paid to those regions which

were lagging behind and public sector

industries were deliberately set up.

Four major steel plants were set up in

the backward areas to accelerate

economic development, provide

employment to the workforce and

develop ancilliary industries. This was

achieved to some extent but there is

scope for a lot more. Development of

backward regions so as to ensure a

regional balance in the country is one

of the major objectives of planned

development. Therefore, the govern-

ment had to locate new enterprises in

backward areas and at the same time

prevent the mushrooming growth of

private sector units in already

advanced areas.

(iii) Economies of scale: Where large

scale industries are required to be set

up with huge capital outlay, the public

sector had to step in to take advantage

of economies of scale. Electric power

plants, natural gas, petroleum and

telephone industries are some

examples of the public sector setting

up large scale units. These units

required a larger base to function

economically which was only possible

with government resources and mass

scale production.

(iv) Check over concentration of

economic power: The public sector

acts as a check over the private sector.

In the private sector there are very few

industrial houses which would be

willing to invest in heavy industries

with the result that wealth gets

concentrated in a few hands and

monopolostic practices are encouraged.

This gives rise to inequalities in income,

which is detrimental to society.

The public sector is able to set large

industries which requires heavy

investment and thus the income and

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70 BUSINESS STUDIES

benefits that accrue are shared by a

large of number of employees and

workers. This prevents concentration

of wealth and economic power in the

private sector.

(v) Import substitution: During the

second and third Five Year Plan period,

India was aiming to be self-reliant in

many spheres. Obtaining foreign

exchange was also a problem and it

was difficult to import heavy machinery

required for a strong industrial base.

At that time, public sector companies

involved in heavy engineering which

would help in import substitution were

established. Simultaneously, several

public sector companies like STC and

MMTC have played an important role

in expanding exports of the country.

(vi) Government policy towards the

public sector since 1991: The

Government of India had introduced

four major reforms in the public sector

in its new industrial policy in 1991. The

main elements of the Government policy

are as follows:

• Restructure and revive potentially

viable PSUs

• Close down PSUs, which cannot

be revived

• Bring down governments equity in

all non-strategic PSUs to 26 per

cent or lower, if necessary; and

• Fully protect the interest of

workers.

(a) Reduction in the number of

industries reserved for the public

sector from 17 to 8 (and then to 3):

In the 1956 resolution on Industrial

policy, 17 industries were reserved

for the public sector. In 1991, only

8 industries were reserved for

the public sector, they were restricted

to atomic energy, arms and

communication, mining, and

railways. In 2001, only three

industries were reserved exclusively

for the public sector. These are

atomic energy, arms and rail

transport. This meant that the private

sector could enter all areas (except

the three) and the public sector

would have to compete with them.

The public sector has played a vital

role in the development of the

economy. However, the private sector

is also quite capable of contributing

substantially to the nation building

process. Therefore, both the public

sector and the private sector need to

be viewed as mutually complementary

parts of the national sector. Private

sector units also have to assume

greater public responsibilities.

Simultaneously, the public sector

needs to focus on achieving more in a

highly competitive market.

(b) Disinvestment of shares ofa select set of public sector

enterprises: Disinvestment involves

the sale of the equity shares to the

private sector and the public. Theobjective was to raise resources and

encourage wider participation of the

general public and workers in the

ownership of these enterprises. Thegovernment had taken a decision to

withdraw from the industrial sector

and reduce its equity in allundertakings. It was expected that

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this would lead to improvingmanagerial performance andensuring financial discipline. Butthere remains a lot to be done inthis area.

The primary objectives of privatisingpublic sector enterprises are:

• Releasing the large amount of

public resources locked up in non-

strategic Public Sector Enterprises(PSEs), so that they may be utilised

on other social priority areas such

as basic health, family welfare and

primary education.• Reducing the huge amount of

public debt and interest burden;

• Transferring the commercial risk

to the private sector so that thefunds are invested in able projects;

• Freeing these enterprises from

government control and

introduction of corporategovernance; and

• In many areas where the public

sector had a monopoly, for

example, telecom sector theconsumers have benefitted by more

choices, lower prices and better

quality of products and services.

(c) Policy regarding sick units to bethe same as that for the private

sector: All public sector units were

referred to the Board of Industrial

and Financial Reconstruction todecide whether a sick unit was to

be restructured or closed down. The

Board has reconsidered revival and

rehabilitation schemes for somecases and winding up for a numberof units. There is a lot of resentment

amongst workers of the units whichare to be closed down. A NationalRenewal Fund was set up by thegovernment to retrain or redeployretrenched labour and to providecompensation to public sectoremployees seeking voluntaryretirement.

There are many enterprises

which are sick and not capable of

being revived as they have

accumulated huge losses. With

public finances under intense

pressure, both central and state

government are just not able to

sustain them much longer. The only

option available to the government

in such cases is to close down these

undertakings after providing a safety

net for the employees and workers.

Resources under the National

Renewal Fund have not been

sufficient to meet the cost of

Voluntary Separation Scheme or

Voluntary Retirement Scheme.

(d) Memorandum of Understanding:

Improvement of performancethrough a MoU (Memorandum of

Understanding) system by which

managements are to be granted

greater autonomy but heldaccountable for specified results.

Under this system, public sector

units were given clear targets and

operational autonomy for achievingthose targets. The MoU was between

the particular public sector unit and

their administrative ministries

defining their relationship andautonomy.

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3.5 GLOBAL ENTERPRISES

At some time you must have comeacross products produced by MultiNational Corporations (MNCs). In thelast ten years MNCs have played animportant role in the Indian economy.They have become a common featureof most developing economies in theworld. MNCs as is evident from whatwe see around us, are giganticcorporations which have theiroperations in a number of countries.They are characterised by their hugesize, large number of products,advanced technology, marketingstrategies and network of operations allover the world. Global enterprises thusare huge industrial organisations whichextend their industrial and marketingoperations through a network of theirbranches in several countries. Theirbranches are also called MajorityOwned Foreign Affiliates (MOFA). Theseenterprises operate in several areasproducing multiple products with theirbusiness strategy extending over anumber of countries. They do not aimat maximising profits from one or twoproducts but instead spread theirbranches all over. They have an impacton the international economy also. Thisis evident from the fact that the sales oftop 200 corporations were equivalentto 28.3 percent of the world’s GDP in1998. This shows that top 200 MNCscontrol over a quarter of the worldeconomy. Therefore, MNCs are in aposition to exercise massive control onthe world economy because of theircapital resources, latest technology andgoodwill. By virtue of this, they are able

to sell any product in differentcountries. Some of these corporationsmay be slightly exploitative in natureand concentrate more on sellingconsumer goods and luxury itemswhich are not always desirable fordeveloping countries.

Features

These corporations have distinctfeatures which distinguish them fromother private sector companies, publicsector companies and public sectorenterprises. These are as follows:(i) Huge capital resources: Theseenterprises are characterised bypossessing huge financial resourcesand the ability to raise funds fromdifferent sources. They are able to tapfunds from various sources. They mayissue equity shares, debentures orbonds to the public. They are also in aposition to borrow from financialinstitutions and international banks.They enjoy credibility in the capitalmarket. Even investors and banks ofthe host country are willing to invest inthem. Because of their financialstrength they are able to survive underall circumstances.(ii) Foreign collaboration: Globalenterprises usually enter intoagreements with Indian companiespertaining to the sale of technology,production of goods, use of brandnames for the final products, etc. TheseMNCs may collaborate with companiesin the public and private sector. Thereare usually various restrictive clausesin the agreement relating to transferof technology, pricing, dividend

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payments, tight control by foreigntechnicians, etc. Big industrial houseswanting to diversify and expand havegained by collaborating with MNCs interms of patents, resources, foreignexchange etc. But at the same timethese foreign collaborations have givenrise to the growth of monopolies andconcentration of power in few hands.(iii) Advanced technology: Theseenterprises possess technologicalsuperiorities in their methods ofproduction. They are able to conformto international standards and qualityspecifications. This leads to industrialprogress of the country in which suchcorporations operate since they areable to optimally exploit local resourcesand raw materials. Computerisationand other inventions have come due tothe technological advancementsprovided by MNCs.

(iv) Product innovation: Theseenterprises are characterised by havinghighly sophisticated research anddevelopment departments engaged inthe task of developing new productsand superior designs of existingproducts. Qualitative research requireshuge investment which only globalenterprises can afford.(v) Marketing strategies: Themarketing strategies of globalcompanies are far more effective thanother companies. They use aggressivemarketing strategies in order to increasetheir sales in a short period. They possesa more reliable and up-to-date marketinformation system. Their advertisingand sales promotion techniques arenormally very effective. Since they

already have carved out a place forthemselves in the global market, andtheir brands are well-known, sellingtheir products is not a problem.(vi) Expansion of market territory:Their operations and activities extendbeyond the physical boundaries of theirown countries. Their internationalimage also builds up and their marketterritory expands enabling them tobecome international brands. Theyoperate through a network ofsubsidiaries, branches and affiliates inhost countries. Due to their giant sizethey occupy a dominant position in themarket.(vii) Centralised control: They havetheir headquaters in their homecountry and exercise control over allbranches and subsidiaries. However,this control is limited to the broadpolicy framework of the parentcompany. There is no interference inday-to-day operations.

3.6 JOINT VENTURES

Meaning

Business organisations as you havestudied earlier can be of various typesprivate or government owned or globalenterprises. Now, any businessorganisation if it so desires canjoin hands with another businessorganisation for mutual benefit. Thesetwo organisations may be private,government-owned or a foreigncompany. When two businesses agreeto join together for a common purposeand mutual benefit, it gives rise to ajoint venture. Businesses of any size

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can use joint ventures to strengthenlong-term relationships or tocollaborate on short term projects. Ajoint venture can be flexible dependingupon the party’s requirements. Theseneed to be clearly stated in a jointventure agreement to avoid conflict ata later stage.

A joint venture may also be the resultof an agreement between two businessesin different countries. In this case, thereare certain provisions provided by thegovernments of the two countries, whichwill have to be adhered to.

Thus, we see that joint venturesmay mean many things, dependingupon the context we are using it in. Butin a broader sense, a joint venture isthe pooling of resources and expertiseby two or more businesses, to achievea particular goal. The risks andrewards of the business are alsoshared. The reasons behind the jointventure often include businessexpansion, development of new

products or moving into new markets,particularly in another country. It isbecoming increasingly common forcompanies to create joint ventures withother businesses/companies and formstrategic alliances with them. Thereasons for these alliances may becomplementary capabilities andresources such as distributionchannels, technology or finance. In thiskind of a joint venture, two or more(parent) companies agree to sharecapital, technology, human resources,risks and rewards in the formation of anew entity, under shared control.

In India, joint venture companiesare the best way of doing business.There are no separate laws for thesejoint ventures. The companiesincorporated in India are treated thesame as domestic companies.

Joint Ventures are of two types —

Contractual joint venture

Equity-based joint venture

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3.6.1 Types of Joint Ventures

(i) Contractual Joint Venture (CJV):

In a contractual joint venture, a newjointly-owned entity is not created.There is only an agreement to worktogether. The parties do not shareownership of the business but exercisesome elements of control in the jointventure. A typical example of acontractual joint venture is a franchiseerelationship. In such a relationship thekey elements are:

(a) Two or more parties have a

common intention – of running

a business venture;

(b) Each party brings some inputs;

(c) Both parties exercise some control

on the business venture; and

(d) The relationship is not a

transaction-to-transaction

relationship but has a character

of relatively longer duration.

(ii) Equity-based Joint Venture (EJV):

An equity joint venture agreement isone in which a separate business entity,jointly owned by two or more parties,is formed in accordance with theagreement of the parties. The keyoperative factor in such case is jointownership by two or more parties. Theform of business entity may vary —company, partnership firm, trusts,limited liability partnership firms,venture capital funds, etc.

(a) There is an agreement to eithercreate a new entity or for one ofthe parties to join into

ownership of an existing entity;

(b) Shared ownership by the parties

involved;

(c) Shared management of the

jointly owned entity;

(d) Shared responsibilities regarding

capital investment and other

financing arrangements; and

(e) Shared profits and losses

according to the agreement.

A joint venture must be based on amemorandum of understanding signedby both the parties, highlighting thebasis of a joint venture agreement. Theterms should be thoroughly discussedand negotiated to avoid any legalcomplications at a later stage.Negotiations and terms must take intoaccount the cultural and legalbackground of the parties. The jointventure agreement must also state thatall necessary governmental approvalsand licences will be obtained within aspecified period.

Examples of Joint Ventures:

1. AVI Oil India Pvt. Ltd.

Date of establishment: 4

November, 1993

Joint Venture Holders: Balmer

Lawrie & Co. Ltd., NYCO SA,

France.

Areas of operation: Mineral-

based lubricating oil, defence

and civil aviation uses, greases.

2. Green Gas Ltd.


October, 2005

Joint Venture Holders: GAIL

(India) Ltd. and IOCL

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76 BUSINESS STUDIES

Areas of operations: Providing

safe and reliable natural gas to

customers.

3. Delhi Aviation Fuel Facility Pvt.

Ltd.


March, 2010

Joint Venture Holders: BPCL

and DIAL

Areas of operations:Construction, management,maintenance, developing,designing. The company isformed with a joint venturebetween Delhi InternationalAirport Ltd. and AirportAuthority of India with the viewof maintenance, designing and

modernisation.

3.6.2 Benefits

Business can achieve unexpected gainsthrough joint ventures with a partner.Joint ventures can prove to beextremely beneficial for both partiesinvolved. One party may have strongpotential for growth and innovativeideas, but is still likely to benefit fromentering into a joint venture because itenhances its capacity, resources andtechnical expertise. The major benefitsof joint ventures are as follows:( i ) Increased resources andcapacity: Joining hands with anotheror teaming up adds to existingresources and capacity enabling thejoint venture company to grow andexpand more quickly and efficiently.The new business pools in financial

and human resources and is able to

face market challenges and takeadvantage of new opportunities.

(ii) Access to new markets anddistribution networks: When abusiness enters into a joint venture witha partner from another country, itopens up a vast growing market. Forexample, when foreign companies formjoint venture companies in India theygain access to the vast Indian market.Their products which have reachedsaturation point in their home marketscan be easily sold in new markets.

They can also take advantage of theestablished distribution channels i.e.,the retail outlets in different localmarkets. Otherwise, establishing theirown retail outlets may prove to bevery expensive.(iii) Access to technology:Technology is a major factor for mostbusinesses to enter into joint ventures.Advanced techniques of productionleading to superior quality productssaves a lot of time, energy andinvestment as they do not have todevelop their own technology.Technology also adds to efficiency andeffectiveness, thus leading to reductionin costs.

(iv) Innovation: The marketsare increasingly becoming moredemanding in terms of new andinnovative products. Joint venturesallow business to come up withsomething new and creative forthe same market. Specially foreignpartners can come up with innovativeproducts because of new ideas andtechnology.

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(v) Low cost of production: When

international corporations invest in

India, they benefit immensely due to the

lower cost of production. They are able

to get quality products for their global

requirements. India is becoming an

important global source and extremely

competitive in many products.

There are many reasons for this, low

cost of raw materials and labour,

technically qualified workforce;

management professionals, excellent

manpower in different cadres, like

lawyers, chartered accountants,

engineers, scientists. The international

partner thus, gets the products of

required quality and specifications at a

much lower cost than what is prevailing

in the home country.

(vi) Established brand name: When

two businesses enter into a joint

venture, one of the parties benefits from

the other’s goodwill which has already

been established in the market. If the

joint venture is in India and with an

Indian company, the Indian company

does not have to spend time or money

in developing a brand name for the

product or even a distribution system.

There is a ready market waiting for the

product to be launched. A lot of

investment is saved in the process.

3.7 PUBLIC PRIVATE PARTNERSHIP (PPP)

The Public Private Partnership model

allocates tasks, obligations and risks

among the public and private partners

in an optimal manner. The public

partners in PPP are Government

entities, i.e., ministries, government

departments, municipalities or state-

owned enterprises. The private partners

can be local or foreign (international)

and include businesses or investors

with technical or financial expertise

relevant to the project. PPP also

includes NGOs and/or community-

based organisations who are the

stakeholders directly affected by the

project. PPP is, therefore, defined as a

relationship between public and

private entities in the context of

infrastructure and other services.

Under the PPP model, public sector

plays an important role and ensures

that the social obligations are fulfilled

and sector reforms and public

investment are successfully met. The

government’s contribution to PPP is in

the form of capital for investment and

transfer of assets that support the

partnership in addition to social

responsibility, environmental awareness

and local knowledge. The private

sector’s role in the partnership is to

make use of its expertise in operations,

managing tasks and innovation to run

the business efficiently.Sectors in which PPPs have been

completed worldwide include powergeneration and distribution, waterand sanitation, refuse disposal,pipelines, hospitals, school buildingsand teaching facilities, stadiums, airtraffic control, prisons, railways,roads, billing and other informationtechnology systems, and housing.

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78 BUSINESS STUDIES

PPP ModelFeatures

• Contract with the private party to design and build public facility.• Facility is financed and owned by the public sector.• Key driver is the transfer of design and construction risk.

Application• Suited to capital projects with small operating requirement.• Suited to capital projects where the public sector wishes to retain the

operating responsibility.

Strengths• Transfer of design and construction risk.• Potential to accelerate project.

Weaknesses• Conflict between parties may arise on environmental considerations• Does not attract private finance easily.

Example• Kundli Manesar Expressway Ltd.: In this 135 km expressway, land

has been provided by the government and surface has been laid outby the company.

Key Terms

Public sector Departmental undertaking Globalisation

Public enterprises Government companies Global enterprises

Statutory corporation Disinvestment Public Sector Undertakings

Joint ventures Public accountability

Public Private Partnership Privatisation

SUMMARY

Private sector and public sector: There are all kinds of businessorganisations — small or large, industrial or trading, privately owned orgovernment owned existing in our country. These organisations affect ourdaily economic life and therefore, become part of the Indian economy. TheGovernment of India has opted for a mixed economy, where both privateand government enterprises are allowed to operate. The economy, therefore,may be classified into two sectors viz., private sector and public sector. Theprivate sector consists of business owned by individuals or a group ofindividuals. Various forms of organisation are sole proprietorship,partnership, joint Hindu family, cooperative and company. The public sectorconsists of various organisations owned and managed by the government.These organisations may either be partly or wholly owned by the Central orState government.

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Forms of organising public sector enterprises: Government’s participation

in business and economic sectors of the country needs some kind of

organisational framework to function. A public enterprise may take any

particular form of organisation depending upon the nature of it’s operations

and their relationship with the government. The suitability of a particular

form of organisation would depend upon its requirements. The forms of

organisation which a public enterprise may take are as follows:

(i) Departmental undertaking

(ii) Statutory corporation

(iii) Government company

Departmental undertakings: These enterprises are established as

departments of the ministry and are considered part or an extension of the

ministry itself. The Government functions through these departments and

the activities performed by them are an integral part of the functioning of

the government.

Statutory corporations: Statutory corporations are public enterprises

brought into existence by a Special Act of the Parliament. The Act defines

its powers and functions, rules and regulations governing its employees

and its relationship with Government departments. This is a corporate body

created by legislature with defined powers and functions and financially

independent with a clear control over a specified area or a particular type

of commercial activity.

Government company: A Government company means any company in

which not less than 51 percent of the paid up capital is held by the central

government, or by any state governments or government or partly by central

government and partly by one or more state governments and includes a

company which is a subsidiary company of such a government company.

Changing role of public sector: At the time of Independence, it was expected

that the public sector enterprises would play an important role in achieving

certain objectives of the economy either by direct participation in business

or by acting as a catalyst. The Indian economy is in a stage of transition.

In the post 90’s period, the new economic policies emphasised liberalisation,

privatisation and globalisation. The role of the public sector was redefined.

It was not supposed to play a passive role but to actively participate

and compete in the market with other private sector companies in the

same industry.

Development of infrastructure: The process of industrialisation cannot

be sustained without adequate transportation and communication facilities,

fuel and energy, and basic and heavy industries. It is only the government

which could mobilise huge capital, coordinate industrial construction and

train technicians and workforce.

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80 BUSINESS STUDIES

Regional balance: The government is responsible for developing all regionsand states in a balanced way and removing regional disparties. Development

of backward regions so as to ensure a regional balance in the country is

one of the major objectives of planned development. Therefore, the

government had to locate new enterprises in backward areas and at thesame time prevent the mushrooming growth of private sector unit in already

advanced areas.

Economies of scale: Where large scale industries are required to be set up

with huge capital outlay, the public sector had to step in to take advantageof economies of scale.

Check over concentration of economic power: The public sector acts as

a check over the private sector. In the private sector there are very few

industrial houses which would be willing to invest in heavy industries withthe result that wealth gets concentrated in a few hands and monopolostic

practices are encouraged.

Import substitution: During the second and third Five Year Plan period,

India was aiming to be self-reliant in many spheres. Public sector companiesinvolved in heavy engineering which would help in import substitution were

established.

Government policy towards public sector since 1991. Its

main elements are: Restructure and revive potentially viable PSUs, Closedown PSUs, which cannot be revived. Bring down governments equity in

all non-strategic PSUs to 26 per cent or lower if necessary; and fully protect

the interest of workers.

(a) Reduction in the number of industries reserved for the public sector from

17 to 8 (and then to 3): This meant that the private sector could enter allareas (except 3) and the public sector would have to compete with them.

(b) Disinvestment of shares of a select set of public sector enterprises:

Disinvestment involves the sale of the equity shares to the private sectorand the public. The objective was to raise resources and encouragewider participation of the general public and workers in the ownershipof these enterprises. The government had taken a decision to withdrawfrom the industrial sector and reduce its equity in all undertakings.

(c) Policy regarding sick units to be the same as that for the private sector: Allpublic sector units were referred to the Board of Industrial and FinancialReconstruction to decide whether a sick unit was to be restructured orclosed down.

Memorandum of Understanding: Improvement of performance through a

MoU (Memorandum of Understanding) system by which managements are

to be granted greater autonomy but held accountable for specified results.

Global enterprises: In the last ten years MNCs have played an important

role in the Indian economy. They are characterised by their huge size, large

number of products, advanced technology, marketing strategies and network

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of operations all over the world. Global enterprises thus are huge industrial

organisations which extend their industrial and marketing operations

through a network of their branches in several countries.

Features: These corporations have distinct features which distinguishes

them from other private sector companies, public sector companies and public

sector enterprises i.e., (i) Huge capital resources, (ii) Foreign collaboration,

(iii) Advanced Technology, (iv) Product innovation, (v) Marketing strategies,

(vi) Expansion of market territory, (vii) Centralised control.

Joint ventures: Joint ventures may mean many things, depending upon

the context we are using it in. But in a broader sense, a joint venture is the

pooling of resources and expertise by two or more businesses, to achieve a

particular goal. The risks and rewards of the business are also shared. The

reasons behind the joint venture often include business expansion,

development of new products or moving into new markets, particularly in

another country.

Benefits: Business can achieve unexpected gains through joint ventures

with a partner. The major benefits of joint venture are as follows:

(i) Increased resources and capacity (ii) Access to new markets and

distribution networks (iii) Access to technology (iv) Innovation (v) Low cost

of production (vi) Established brand name.

Public Private Partnership: It is a relationship among public sector and

private sector for allocation and completion of development projects.

EXERCISES

Multiple Type Questions

1. A government company is any company in which the paid up capital

held by the government is not less than

(a) 49 per cent (b) 51 per cent

(c) 50 per cent (d) 25 per cent

2. Centralised control in MNC’s implies control exercised by

(a) Branches (b) Subsidiaries

(c) Headquarters (d) Parliament

3. PSE’s are organisations owned by

(a) Joint Hindu family (b) Government

(c) Foreign Companies (d) Private entrepreneurs

4. Reconstruction of sick public sector units is taken up by

(a) MOFA (b) MoU

(c) BIFR (d) NRF

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82 BUSINESS STUDIES

5. Disinvestments of PSE’s implies(a) Sale of equity shares to (b) Closing down

private sector/public operations(c) Investing in new areas (d) Buying shares PSE’s

6. The equity-based joint venture does not include(a) Cooperative development (b) Company(c) Partnership (d) Limited liability partnership


1. Explain the concept of public sector and private sector.

2. State the various types of organisations in the private sector.

3. What are the different kinds of organisations that come under the publicsector?

4. List the names of some enterprises under the public sector and classifythem.

5. Why is the government company form of organisation preferred to othertypes in the public sector?

6. How does the government maintain a regional balance in the country?

7. State the meaning of public private partnership.


1. Describe the Industrial Policy 1991, towards the public sector.

2. What was the role of the public sector before 1991?

3. Can the public sector companies compete with the private sector interms of profits and efficiency? Give reasons for your answer.

4. Why are global enterprises considered superior to other businessorganisations?

5. What are the benefits of entering into joint ventures and public privatepartnership?


1. Make a list of Indian companies entering into joint ventures with foreigncompanies. Find out the apparent benefits derived out of such ventures.

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CHAPTER 4

BUSINESS SERVICES

LEARNING OBJECTIVES


• state the characteristics of services;

• distinguish services from goods;

• classify different types of business services;

• explain the concept of e-banking;

• identify and classify different types of insurance policies; and

• describe different types of warehouses.

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84 BUSINESS STUDIES

4.1 INTRODUCTION

You must all have, at some time or theother experienced the effect of businessactivities on your lives. Let us examinefew examples of business activity i.e.,purchasing ice cream from a store andeating ice cream in a restaurant,watching a movie in a cinema hall orpurchasing a video cassette/CD,purchasing a school bus and leasing itfrom a transporter. If you analyse allthese activities, you will observe thatthere is a difference between purchasingand eating, purchasing and watchingand purchasing and leasing. What iscommon in all of them is that one ispurchasing an item and the other is

experiencing a service. But there isdefinitely a difference between the itemor good and the service performed.

For a layperson, services areessentially intangibles. Their purchasedoes not result in the ownership ofanything physical. For example, you canonly seek advice from the doctor, youcannot purchase him. Services are allthose economic activities that areintangible and imply an interaction tobe realised between the service providerand the consumer.

Services are those separatelyidentifiable, essentially intangibleactivities that provides satisfaction ofwants, and are not necessarily linked tothe sale of a product or another service.

All of us have seen a petrol pump. Have your ever thought how a petrol pump

owner does his business in a village? How he gets the petrol and diesel to the

villages in the interior? How he gets the money to purchase large quantities of

petrol and diesel? How he communicates to petrol depots for requirement and

also to customers? How he safeguards himself from various risks associated

with this business? The answer to all the above questions lies in the

understanding of business services. The transportation of petrol and diesel

from oil refineries to petrol pumps is carried out by train and tankers (transport

services). They are then stored at various depots of oil companies situated in

all major towns across India (warehousing services). Petrol pump owners use

postal, mail and telephone facilities to be in touch with customers, banks and

the depots for the availability of their requirements on regular basis

(communication services). As oil companies always sell the petrol and diesel

on advance payment, the owners have to take loans and advances from banks

to fund their purchases (banking services). Petrol and diesel being highly risky

products, the owners have to safeguard themselves from various risks by getting

the business, the products, the life of people working there, etc., insure

(insurance services). Thus, we see that a single business of providing petrol

and diesel at a petrol pump is actually a collective outcome of various business

services. These services are being utilised in the entire process of shipment of

petrol and diesel from oil refineries to the point of sale at petrol pumps, spread

across the length and breath of India.

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85BUSINESS SERVICES

A good is a physical productcapable of being delivered to apurchaser and involves the transfer ofownership from seller to customer.Goods are also generally used to referto commodities or items of all types,except services, involved in trade orcommerce.

4.2 NATURE OF SERVICES

There are five basic features of services.These features also distinguish themfrom goods and are known as the five Isof services. These are discussed asbelow:(i) Intangibility: Services areintangible, i.e., they cannot be touched.They are experiential in nature. Onecannot taste a doctor’s treatment, ortouch entertainment. One can onlyexperience it. An important implicationof this is that quality of the offer canoften not be determined beforeconsumption and, therefore, purchase.It is, therefore, important for the serviceproviders that they consciously workon creating a desired service so that thecustomer undergoes a favourableexperience. For example, treatment by adoctor should be a favourable experience.(ii) Inconsistency: The secondimportant characteristic of services isinconsistency. Since there is nostandard tangible product, serviceshave to be performed exclusively eachtime. Different customers have differentdemands and expectations. Serviceproviders need to have an opportunityto alter their offer to closely meet therequirements of the customers. This is

happening, for example, in the case ofmobile services.

(iii) Inseparability: Anotherimportant characteristic of services is

the simultaneous activity of productionand consumption being performed.This makes the production and

consumption of services seem to beinseparable. While we can manufacturea car today and sell it after, say, a

month; this is often not possible withservices that have to be consumed asand when they are produced. Service

providers may design a substitute forthe person by using appropriatetechnology but the interaction with the

customer remains a key feature ofservices. Automated Teller Machines(ATMs) may replace the banking clerk

for the front office activities like cashwithdrawal and cheque deposit. But,at the same time, the presence of the

customer, is required and his/herinteraction with the process has to bemanaged.

(iv) Inventory (Less): Services havelittle or no tangible components and,

therefore, cannot be stored for a futureuse. That is, services are perishableand providers can, at best, store some

associated goods but not the serviceitself. This means that the demand andsupply needs to be managed as the

service has to be performed as andwhen the customer asks for it. Theycannot be performed earlier to be

consumed at a later date. For example,a railway ticket can be stored but therailway journey will be experienced

only when the railways provides it.

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86 BUSINESS STUDIES

(v) Involvement: One of the mostimportant characteristics of services is

the participation of the customer in theservice delivery process. A customerhas the opportunity to get the services

modified according to specificrequirements.

4.2.1 Difference between Services

and Goods

From the above, it is clear that the twomain differentiating characteristics of

services and goods are non-transferability of ownership andpresence of both provider as well as

consumer. While goods are produced,services are performed. A service is anact which cannot be taken home. Whatwe can take home is the effect of the

services. And as the services are sold

at the consumption point, there are noinventories. On the basis of abovefeatures, we can have followingpoints of distinction between goodsand services.

4.3 TYPES OF SERVICES

When speaking of the service sector,services can be classified into threebroad categories, viz., businessservices, social services and personalservices. These have been explained inthe following pages.

(i) Business Services: Businessservices are those services which areused by business enterprises for theconduct of their activities. Forexample, banking, insurance,transportation, warehousing and

communication services.

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87BUSINESS SERVICES

(ii) Social Services: Social services

are those services that are generally

provided voluntarily in pursuit ofcertain social goals. These social goals

may be to improve the standard of

living for weaker sections of society, to

provide educational services to theirchildren, or to provide health care and

hygienic conditions in slum areas.

These services are usually provided

voluntarily but for some considerationto cover their costs. For example,

health care and education services

provided by certain Non-government

organisations (NGOs) and governmentagencies.

(iii) Personal Services: Personal

services are those services which are

experienced differently by differentcustomers. These services cannot be

consistent in nature. They will differ

depending upon the service provider.

They will also depend uponcustomer’s preferences and demands.

For example, tourism, recreational

services, restaurants.

In the context of betterunderstanding of the business

world, we will be limiting our

further discussions to the first

category of the service sector i.e.,business services.

4.3.1 Business Services

Today’s world is of tough competition,where the survival of the fittest is therule. There is no room for non-performance, and hence companiestend to stick to what they can do best.In order to be competitive, business

enterprises, are becoming more andmore dependant on specialisedbusiness services. Business enterpriseslook towards banks for availability offunds; insurance companies for gettingtheir plant, machinery, goods, etc.,insured; transport companies fortransporting raw material; and finishedgoods, and telecom and postal servicesfor being in touch with their vendors,suppliers and customers. Today’sglobalised world has ushered in a rapidchange in the service industry in India.India has been gaining a highlycompetitive edge over other countrieswhen it comes to providing services tothe developed economies of the world.Many foreign companies are looking toIndia for performing a host of businessservices. They are even transferring apart of their business operations to beperformed in India. We will discussthese in detail in the next chapter.

4.4 BANKING

Commercial banks are an importantinstitution of the economy for providinginstitutional credit to its customers. Abanking company in India is the onewhich transacts the business ofbanking which means accepting, for thepurpose of lending and investment ofdeposits of money from the public,repayable on demand or otherwise andwithdrawable by cheques, draft, orderor otherwise. In simple terms, a bankaccepts money on deposits, repayableon demand and also earns a margin ofprofit by lending money. A bankstimulates economic activity in themarket by dealing in money. It mobilises

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88 BUSINESS STUDIES

Banking and Social Objectives

In the recent past there has been a concerted effort by the policy makers inreorienting banking towards achieving social objectives. There has been a majorshift in the banking policy of the country:

from to(i) Urban orientation — Rural orientation(ii) Class banking — Mass banking(iii) Traditional — Innovative practices(iv) Short term objectives — Development objectives

the savings of people and makes fundsavailable to business financing theircapital and revenue expenditure. Italso deals in financial instruments andprovides financial services for a price,

i.e., interest, discount, commission, etc.

stake and they usually need toemphasise on social objectives than onprofitability. Private sector banks areowned, managed and controlled byprivate promoters and they are freeto operate as per market forces. There

4.4.1 Type of Banks

The focus of banking is varied, theneeds diverse and methods different.Thus, we need distinctive kinds ofbanks to cater to the above mentionedcomplexities.

Banks can be classified into thefollowing:

1. Commercial banks

2. Cooperative banks

3. Specialised banks

4. Central bank

(i) Commercial Banks: Commercialbanks are institutions dealing inmoney. These are governed by IndianBanking Regulation Act 1949 andaccording to it banking meansaccepting deposits of money from thepublic for the purpose of lending orinvestment. There are two types ofcommercial banks, public sector andprivate sector banks.

Public sectors banks are those inwhich the government has a major

are a number of public sector bankslike SBI, PNB, IOB etc., and otherprivate sector banks represented byHDFC Bank, ICICI Bank, KotakMahindra Bank and Jammu andKashmir Bank.(ii) Cooperative Banks: CooperativeBanks are governed by the provisionsof State Cooperative Societies Act andmeant essentially for providing cheapcredit to their members. It is animportant source of rural credit, i.e.,agricultural financing in India.(iii) Specialised Banks: Specialisedbanks are foreign exchange banks,industrial banks, development banks,export-import banks catering tospecific needs of these unique activities.These banks provide financial aid toindustries, heavy turnkey projects andforeign trade.(iv) Central Bank: The Central bankof any country supervises, controls andregulates the activities of all thecommercial banks of that country. It

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89BUSINESS SERVICES

also acts as a government banker. Itcontrols and coordinates currency andcredit policies of any country. TheReserve Bank of India is the centralbank of our country.

4.4.2 Functions of CommercialBanks

Banks perform a variety of functions.Some of them are the basic or primaryfunctions of a bank while others areagency or general utility services innature. The important functions arebriefly discussed below:(i) Acceptance of deposits: Depositsare the basis of the loan operationssince banks are both borrowers andlenders of money. As borrowers theypay interest and as lenders they grantloans and get interest. These depositsare generally taken through currentaccount, savings account and fixeddeposits. Current account deposits canbe withdrawn to the extent of thebalance at any time without any priornotice.

Savings accounts are forencouraging savings by individuals.Banks pay rate of interest as decidedby RBI on these deposits. Withdrawalfrom these accounts has somerestrictions in relation to the amountas well as number of times in a givenperiod. Fixed accounts are timedeposits with higher rate of interest ascompared to the savings accounts. Apremature withdrawal is permissiblewith a percentage of interest beingforfeited.(ii) Lending of funds: Second majoractivity of commercial banks is to

provide loans and advances out of themoney received through deposits.

These advances can be made in the formof overdrafts, cash credits, discountingtrade bills, term loans, consumer credits

and other miscellaneous advances. Thefunds lent out by banks contribute agreat deal to trade, industry, transport

and other business activities.(iii) Cheque facility: Banks render avery important service to their

customers by collecting their chequesdrawn on other banks. The cheque isthe most developed credit instrument,

a unique feature and function of banksfor the withdrawal of deposits. It is themost convenient and an inexpensive

medium of exchange. There are twotypes of cheques mainly (a) bearercheques, which are encashableimmediately at bank counters and

(b) crossed cheques which are to bedeposited only in the payees account.(iv) Remittance of funds: Another

salient function of commercial banksis of providing the facility of fundtransfer from one place to another, on

account of the interconnectivity ofbranches. The transfer of funds isadministered by using bank drafts, pay

orders or mail transfers, on nominalcommission charges. The bank issuesa draft for the amount on its own

branches at other places or other banksat those places. The payee can presentthe draft on the drawee bank at his

place and collect the amount.(v) Allied services: In addition toabove functions, banks also provide

allied services such as bill payments,locker facilities, underwriting services.

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90 BUSINESS STUDIES

They also perform other services like buyingand selling of shares and debentureson instructions and other personalservices like payment of insurancepremium, collection of dividend etc.

4.4.3 e-Banking

The growth of Internet and e-commerceis dramatically changing everydaylife, with the world wide web ande-commerce transforming the worldinto a digital global village. The latestwave in information technology isinternet banking. It is a part of virtualbanking and another delivery channelfor customers.

In simple terms, internet bankingmeans any user with a PC and abrowser can get connected to the bankswebsite to perform any of the virtualbanking functions and avail of any ofthe bank’s services. There is no humanoperator to respond to the needs of thecustomer. The bank has a centraliseddata base that is web-enabled. All theservices that the bank has permittedon the internet are displayed on amenu. Any service can be selected andfurther interaction is dictated by thenature of service.

In this new digital market placebanks and financial institutions havestarted providing services over theinternet. These type of services providedby the banks on the internet, callede-banking, lowers the transaction cost,adds value to the banking relationshipand empowers customers. e-banking iselectronic banking or banking usingelectronic media. Thus, e-banking is aservice provided by many banks, that

allows, a customer to conduct bankingtransactions, such as managing savings,checking accounts, applying for loansor paying bills over the internet using apersonal computer, mobile telephone orhandheld computer (personal digitalassistant) The range of services offeredby e-banking are: Automated TellerMachines (ATM) and Point of Sales (PoS),Electronic Data Interchange (EDI) andCredit Cards Electronic orDigital cash and Electronic banktransfer (EFT). The two ways in whichEFT can be done are: NEFT (NationalElectronic Fund Transfer) and RTGS(Real Time Gross Settlement).

Benefits

There are various benefits of e-bankingprovided to customers which are:(i) E-banking facilitates digital

payments and promotestransparency in financialstatements.

(ii) e-banking provides 24 hours,365 days a year services to thecustomers of the bank;

(iii) Customers can make some of thepermitted transactions from officeor house or while travelling viamobile telephone;

(iv) It inculcates a sense of financialdiscipline by recording each andevery transaction;

(v) Greater customer satisfaction byoffering unlimited access to thebank, not limited by the walls of thebranch and less risk and greatersecurity to the customer as theycan avoid travelling with cash.

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92 BUSINESS STUDIES

The banks also stand to gain bye-banking. The benefits are:(i) e-banking provides competitive

advantage to the bank;(ii) e-banking provides unlimited

network to the bank and is notlimited to the number of branches,Any PC connected to a modem anda telephone having an internetconnection can provide cashwithdrawl needs of the customer;

(iii) Load on branches can beconsiderably reduced byestablishing centralised data baseand by taking over some of theaccounting functions.

4.5 INSURANCE

Life is full of uncertainties. The chancesof occurrence of an event causing lossesare quite uncertain. There are risks ofdeath and disability for human life; fireand burglary risk for property; perils ofthe sea for shipment of goods and, soon. If any of these takes place, theindividuals and/or, organisations maysuffer a great loss, sometimes beyondtheir capacities to bear the same. Itis to minimise the impact of suchuncertainties that there is a need forinsurance. Investment in factorybuildings or heavy equipments or otherassets is not possible unless there isarrangement for covering the risks, withthe help of insurance. Keeping this inmind, people facing common risks cometogether and make small contributionsto a common fund, which helps tospread the loss caused to an individualby a particular risk over a number of

persons who are exposed to it.

Insurance is thus a device by whichthe loss likely to be caused by anuncertain event is spread over anumber of persons who are exposed toit and who prepare to insure themselvesagainst such an event. It is a contractor agreement under which one partyagrees in return for a consideration topay an agreed amount of money toanother party to make a loss, damageor injury to something of value inwhich the insured has a pecuniaryinterest as a result of some uncertainevent. The agreement/contract is putin writing and is known as ‘policy’. Theperson whose risk is insured is called‘insured’ and the firm which insures therisk of loss is known as insurer/assurance underwriter.

4.5.1 Fundamental principle of

Insurance

The basic principle of insurance is thatan individual or a business concernchooses to spend a definitely knownsum in place of a possible huge amountinvolved in an indefinite future loss.Thus insurance is the substitution ofa small periodic payment (premium) fora risk of large possible loss. The loss ofrisk still remains but the loss is spreadover a large number of policyholdersexposed to the same risk. The premiumpaid by them are pooled out of whichthe loss sustained by any policy holderis compensated. Thus, risks are sharedwith others. From the analysis of pastevents the insurer (an insurancecompany or an underwriter) knows theprobable losses caused by each type

of risk covered by insurance.

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Insurance, therefore, is a form of risk

management primarily used to safe

guard against the risk of potential

financial loss. Ideally, insurance is

defined as the equitable transfer of the risk

of a potential loss, from one entity to

another, in exchange for a reasonable

fee. Insurance company, therefore, is

an association, corporation or an

organisation engaged in the business

of paying all legitimate claims that may

arise, in exchange for a fee (known as

premium).

Insurance is a social device in which

a group of individuals (insured)

transfers risk to another party (insurer)

in order to combine loss experience, which

provides for payment of losses from

funds contributed (premium) by all

members. Insurance is meant to protect

the insured, against uncertain events,which may cause disadvantage to him.

Sector of Economy and GDP of India

The Indian economy is classified in three sectors — Agriculture and allied,industry and services. The services sector is the largest sector of India. TheGross Value Added (GVA) at current prices for the services sector is estimated at73.79 lakh crore INR in 2016-17. The services sector accounts for 53.66% ofIndia’s total GVA of Rs. 137.51 lakh crore. With GVA of Rs. 39.90 lakh crore, theindustry sector contributes 29.05%. While, agriculture and allied sector shares17.32% and the GVA is around of 23.82 lakh crore INR. At 2011-12 prices, thecomposition of agriculture and allied, industry, and services sector are 15.11%,31.12%, and 53.77%, respectively.

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94 BUSINESS STUDIES

4.5.2 Functions of Insurance

The various functions of insurance areas follows:(i) Providing certainty: Insuranceprovides certainity of payment for therisk of loss. There are uncertainties ofhappenings of time and amount of loss.Insurance removes these uncertaintiesand the assured receives payment ofloss. The insurer charges premium forproviding the certainity.(ii) Protection: The second mainfunction of insurance is to provideprotection from probable chances ofloss. Insurance cannot stop thehappening of a risk or event but cancompensate for losses arising out of it.(iii) Risk sharing: On the happeningof a risk event, the loss is shared by allthe persons exposed to it. The share isobtained from every insured memberby way of premiums.(iv) Assist in capital formation: Theaccumulated funds of the insurerreceived by way of premium payments

made by the insured are invested invarious income generating schemes.

4.5.3 Principles of Insurance

The principles of insurance are the

rules of action or conduct adopted by

the stakeholders involved in the

insurance business. The specific

principles of utmost significance to a

valid insurance contract consists of the

following:

(i) Utmost good faith: A contract of

insurance is a contract of uberrimae

fidei i.e., a contract found on utmost

good faith. Both the insurer and the

insured should display good faith

towards each other in regard to the

contract. It is the duty of the insured

to voluntarily make full, accurate

disclosure of all facts, material to the

risk being proposed and the insurer to

make clear all the terms and conditions

in the insurance contract. Thus, it is

binding on the proposer to disclose all

http:statistimes.com/economy/sectorwisedgp

Source: http://statisticstimes.com/economy/sectorwisegdpcalculationofindia.php

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95BUSINESS SERVICES

material facts about the subject matter

of the proposed insurance. Any fact,

which is likely to affect the mind of aprudent insurer in deciding to accept

the proposal of insurance or in fixing

the rate of premium is material for this

purpose. Failure to make disclosure ofmaterial facts by the insured makes the

contract of insurance voidable at the

discretion of the insurer.(ii) Insurable Interest: The insuredmust have an insurable interest in thesubject matter of insurance. Onefundamental fact of this principle isthat ‘it is not the house, ship,machinery, potential liability of life thatis insured, but it is the pecuniaryinterest of the insured in them, whichis insured.’ Insurable interest meanssome pecuniary interest in the subjectmatter of the insurance contract. Theinsured must have an interest in thepreservation of the thing or life insured,so that he/she will suffer financially onthe happening of the event againstwhich he/she is insured. In case ofinsurance of property, insurableinterest of the insured in the subjectmatter of the insurance must exist atthe time of happening of the event. Inorder to name insurable interesthowever, it is not necessary that oneshould be the owner of the property.For example, a trustee holding

property on behalf of others has aninsurable interest in the property.(iii) Indemnity: All insurancecontracts of fire or marine insuranceare contracts of indemnity. Accordingto it, the insurer undertakes to put theinsured, in the event of loss, in the sameposition that he occupied immediatelybefore the happening of the eventinsured against. In other words theinsurer undertakes to compensate theinsured for the loss caused to him/herdue to damage or destruction ofproperty insured. The compensationpayable and the loss suffered are to bemeasured in terms of money. Theprinciple of indemnity is not applicableto life insurance.(iv) Proximate Cause: According tothis principle, an insurance policy isdesigned to provide compensation onlyfor such losses as are caused by theperils which are stated in the policy.When the loss is the result of two ormore causes, the proximate causemeans the direct, the most dominantand most effective cause of which theloss is the natural consequence. In caseof loss arising out of any mishap, themost proximate cause of the mishapshould be taken into consideration.(v) Subrogation: It refers to the rightof the insurer to stand in the place ofthe insured, after settlement of a claim,as far as the right of insured in respect

Examples of facts to be disclosed

Fire insurance: Construction of building, fire detection and fire fighting

equipment; nature of its use.

Motor insurance: Type of vehicle; driver details.

Personal Accident insurance: Age, height, weight, occupation, previous medical

history.

Life insurance: Age, previous medical history, smoking/drinking habits.

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96 BUSINESS STUDIES

of recovery from an alternative sourceis involved. After the insured iscompensated for the loss or damage tothe property insured by him/her theright of ownership of such propertypasses on to the insurer. This isbecause the insured should not beallowed to make any profit, by sellingthe damaged property or in the case oflost property being recovered.(vi) Contribution: As per this principleit is the right of an insurer who has paidclaim under an insurance, to call uponother liable insurers to contribute forthe loss of payment. It implies, that incase of double insurance, the insurersare to share the losses in proportion tothe amount assured by each of them.In case there is a loss, when there ismore than one policy on the sameproperty, the insured will have no rightto recover more than the full amountof his actual loss. If the full amount isrecovered from one insurer the right toobtain further payment from the otherinsurer will cease.(vii) Mitigation: This principle statesthat it is the duty of the insured to takereasonable steps to minimise the lossor damage to the insured property.Suppose goods kept in a store housecatch fire then the owner of the goodsshould try to recover the goods andsave them from fire to minimise theloss or damage. The insured mustbehave with great prudence and notbe careless just because there is aninsurance cover. If reasonable care isnot taken like any prudent person thenthe claim from the insurance companymay be lost.

4.5.4 Types of Insurance

Various types of insurance exist byvirtue of practice of insurancecompanies and the influence of legalenactments controlling the insurance

business. Broadly speaking, insurancemay be classified as follows:

LIFE INSURANCE

Since life itself is uncertain, allindividuals try to assure themselves ofa certain sum of money in the future totake care of unforeseen events orhappenings. Individuals in the courseof their life are always exposed to somekind of risks.

The risk may be of an event whichis certain that is death. In that case,what will happen to the other members

of the family who are dependent on aparticular individuals income. Theother risk may be living too long in

which an individual may become tooold to earn i.e., retirement. In this casealso, the earnings will decline or end.

Under such circumstances, individualsseek protection against these risksand life insurance companies offer

protection against such risks.A life insurance policy was

introduced as a protection against the

uncertainity of life. But gradually itsscope has widened and there arevarious types of insurance policies

available to suit the requirements of anindividual. For example, disabilityinsurance, health/medical insurance,

annuity insurance and life insuranceproper.

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Life insurance may be defined as acontract in which the insurer inconsideration of a certain premium,either in a lump sum or by otherperiodical payments, agrees to pay tothe assured, or to the person for whosebenefit the policy is taken, the assuredsum of money, on the happening of aspecified event contingent on thehuman life or at the expiry of certainperiod. Thus, the insurance companyundertakes to insure the life of a personin exchange for a sum of money calledpremium. This premium may be paid

in one lump sum, or periodically i.e.,monthly, quarterly, half yearly oryearly. At the same time, the companypromises to pay a certain sum of moneyeither on the death of the person or onhis attaining a certain age (i.e., theexpiry of certain period). Thus, theperson is sure that a specified amountwill be given to him when he attains acertain age or that his dependents willget that sum in the event of his death.

This agreement or contract whichcontains all the terms and conditionsis put in writing and such document is

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98 BUSINESS STUDIES

called the policy. The person whose lifeis insured is called the assured. Theinsurance company is the insurer andthe consideration paid by the assuredis the premium. The premium can bepaid periodically in instalments.

This insurance provides protectionto the family at the premature death orgives adequate amount at old age whenearning capacities are reduced. Theinsurance is not only a protection butis a sort of investment because a certainsum is returnable to the insured atthe time of death or at the expiry of acertain period.

Life insurance also encouragessavings as the amount of premium hasto be paid regularly. It thus, providesa sense of security to the insured andhis dependents.

The general principles of insurancediscussed in the previous section applyto life insurance also with a fewexceptions. The main elements of a lifeinsurance contract are:(i) The life insurance contract must

have all the essentials of a validcontract. Certain elements like offerand acceptance, free consent,capacity to enter into a contract,lawful consideration and lawfulobject must be present for thecontract to be valid;

(ii) The contract of life insurance is acontract of utmost good faith. Theassured should be honest andtruthful in giving information to theinsurance company. He mustdisclose all material facts about hishealth to the insurer. It is his dutyto disclose accurately all materialfacts known to him even if theinsurer does not ask him;

(iii) In life insurance, the insured musthave insurable interest in the lifeassured. Without insurable interestthe contract of insurance is void. Incase of life insurance, insurableinterest must be present at the timewhen the insurance is affected. It isnot necessary that the assuredshould have insurable interest atthe time of maturity also. Forexample, a person is presumed tohave an interest in his own life andevery part of it, a creditor has aninsurable interest in the life of hisdebtor, and a proprietor of a dramacompany has an insurable interestin the lives of the actors;

(iv) Life insurance contract is not acontract of indemnity. The lifeof a human being cannot be

compensated and only a specified

sum of money is paid. That is why

the amount payable in life

insurance on the happening of the

event is fixed in advance. The sum

of money payable is fixed, at the

time of entering into the contract.

A contract of life insurance,

therefore, is not a contract of

indemnity.

Types of life insurance policies

The document containing the writtencontract between the insurer and theinsured alongwith the terms andconditions of insurance is called thePolicy. After the proposal form is filledby the insured (or the proposer) andthe insurer (insurance company)accepts the form and the premium, apolicy is issued to the insurer.

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People have different requirements

and therefore they would like a policy

to fulfill all their needs. The needs of

people for life insurance can be family

needs, children’s needs, old age and

special needs. To meet the needs of

people the insurers have developed

different types of products such as

Whole Life Assurance, Endowment type

plans, combination of Whole Life and

Endowment type plans, Children’s

Assurance plans and Annuity plans.

Some of these are explained below:

(i) Whole Life Policy: In this kind of

policy, the amount payable to the

insured will not be paid before the

death of the assured. The sum then

becomes payable only to the

beneficiaries or heir of the deceased.

The premium will be payable for a

fixed period (20 or 30 years) or for the

whole life of the assured. If the premiumis payable for a fixed period, the policy will

continue till the death of the assured.

(ii) Endowment Life Assurance

Policy: The insurer (InsuranceCompany) undertakes to pay a specified

sum when the insured attains a

particular age or on his death which

ever is earlier. The sum is payable to hislegal heir/s or nominee named therein

in case of death of the assured.

Otherwise, the sum will be paid to the

assured after a fixed period i.e., till he/she attains a particular age. Thus, the

endowment policy matures after a

limted number of years.

(iii) Joint Life Policy: This policy istaken up by two or more persons. The

premium is paid jointly or by either of

them in instalments or lump sum. The

assured sum or policy money is payable

upon the death of any one person to the

other survivor or survivors. Usually thispolicy is taken up by husband and wife

jointly or by two partners in a

partnership firm where the amount is

payable to the survivor on the death ofeither of the two.

(iv) Annuity Policy: Under this policy,

the assured sum or policy money is

payable after the assured attains acertain age in monthly, quarterly, half

yearly or annual instalments. The

premium is paid in instalments over a

certain period or single premium maybe paid by the assured. This is useful

to those who prefer a regular income

after a certain age.(v) Children’s Endowment Policy:

This policy is taken by a person for his/her children to meet the expenses oftheir education or marriage. The

agreement states that a certain sum willbe paid by the insurer when thechildren attain a particular age. The

premium is paid by the person enteringinto the contract. However, no premiumwil be paid, if he dies before the maturity

of the policy.

FIRE INSURANCE

Fire insurance is a contract wherebythe insurer, in consideration of the

premium paid, undertakes to makegood any loss or damage caused by fireduring a specified period upto the

amount specified in the policy.Normally, the fire insurance policy isfor a period of one year after which it is

to be renewed from time to time. Thepremium may be paid either in lump

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100 BUSINESS STUDIES

sum or instalments. A claim for lossby fire must satisfy the two following

conditions:(i) There must be actual loss; and(ii) Fire must be accidental and non-

intentional.The risk covered by a fire insurance

contract is the loss resulting from fireor some other cause, and which is theproximate cause of the loss. Ifoverheating without ignition causesdamage, it will not be regarded as a fireloss within the meaning of fireinsurance and the loss will not berecoverable from the insurer.

A fire insurance contract is basedon certain fundamental principleswhich have been discussed in generalprinciples. The main elements of a fireinsurance contract are:(i) In fire insurance, the insured must

have insurable interest in the subjectmatter of the insurance. Withoutinsurable interest the contract ofinsurance is void. In case of fireinsurance, unlike life insuranceinsurable interest must be presentboth at the time of insurance and atthe time of loss. For example, aperson has insurable interest in theproperty he owns, a businessmanhas insurable interest in his stock,plant, machinery and building, anagent has an insurable interest inthe property of his principal, apartner has insurable interest in theproperty of a partnership firm, anda mortgagee has insurable interest

in the property, which is mortgaged.(ii) Similar to the life insurance

contract, the contract of fire

insurance is a contract of utmostgood faith i.e., uberrimae fidei. Theinsured should be truthful andhonest in giving information to theinsurance company regarding thesubject matter of the insurance. Heis duty-bound to discloseaccurately all facts regarding thenature of property and risksattached to it. The insurancecompany should also disclose thefacts of the policy to the proposer.

(iii) The contract of fire insurance is acontract of strict indemnity. Theinsured can, in the event of loss,recover the actual amount of lossfrom the insurer. This is subject tothe maximum amount for which thesubject matter is insured. Forexample, if a person has insured hishouse for Rs. 4,00,000 the insureris not necessarily liable to pay thatamount, although the house mayhave been totally destroyed by fire;but he will pay the actual loss afterdeducting depreciation within themaximum limit of Rs. 4,00,000. Thepurpose being that a person shouldnot be allowed to gain by insurance.

(iv) The insurer is liable to compensateonly when fire is the proximatecause of damage or loss.

MARINE INSURANCE

A marine insurance contract is anagreement whereby the insurerundertakes to indemnify the insuredin the manner and to the extent therebyagreed against marine losses. Marineinsurance provides protection againstloss by marine perils or perils of the sea.

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Difference between Life, Fire and Marine Insurance

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Marine perils are collision of ship withthe rock, or ship attacked by theenemies, fire and captured by piratesand actions of the captains and crew ofthe ship. These perils cause damage,destruction or disappearance of theship and cargo and non-payment offreight. So, marine insurance insuresship hull, cargo and freight. Thus, it is

a device wherein the insurer undertakesto compensate the owner of a ship orcargo for complete or partial loss at sea.The insurer gurantees to make good thelosses due to damage to the ship or cargoarising out of the risks incidental to seavoyages. The insurer in this case is knownas the underwriter and a certain sum ofmoney is paid by the insured inconsideration for the guarantee/protection he gets. Marine insurance isslightly different from other types. Thereare three things involved i.e., ship or hull,cargo or goods, and freight.

(a) Ship or hull insurance: Since the

ship is exposed to many dangers atsea, the insurance policy is for

indemnifying the insured for losses

caused by damage to the ship.(b) Cargo insurance: The cargo while

being transported by ship is subject

to many risks. These may be at porti.e., risk of theft, lost goods or onvoyage etc. Thus, an insurance

policy can be issued to cover againstsuch risks to cargo.

(c) Freight insurance: If the cargo does

not reach the destination due todamage or loss in transit, theshipping company is not paid freightcharges. Freight insurance is forreimbursing the loss of freight to theshipping company i.e., the insured.

The fundamental principles ofmarine insurance are the same as thegeneral principles. The main elementsof a marine insurance contract are:(i) Unlike life insurance, the contract

of marine insurance is a contract ofindemnity. The insured can, in theevent of loss recover the actualamount of loss from the insurer.Under no circumstances, the

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insured is allowed to make profitout of the marine insurancecontract. But cargo policies providecommercial indemnity rather thanstrict indemnity. The insurerspromise to indemnify the insured“in the manner and to the extent

agreed.” In case of ‘Hull Policy’, theamount insured is fixed at a levelabove the current market value;

(ii) Similar to life and fire insurance, thecontract of marine insurance is acontract of utmost good faith. Boththe insured and insurer mustdisclose everything, which is in theirknowledge and can affect theinsurance contract. The insured isduty-bound to accurately discloseall facts which include the natureof shipment and the risk of damageit is exposed to;

(iii) Insurable interest must exist at thetime of loss but not necessary at thetime when the policy was taken;

(iv) The principle of causa proxima willapply to it. The insurance companywill be liable to pay only if thatparticular or nearest cause iscovered by the policy. For example,if a loss is caused by severalreasons then nearest cause of losswill be considered. Refer to page105 for types of insurance andsocial secuirty scheme.

4.6 COMMUNICATION SERVICES

Communication services are helpful tothe business for establishing links withthe outside world viz., suppliers,customers, competitors etc. Businessdoes not exist in isolation, it has to

communicate with others for

transmission of ideas and information.

Communication services need to be

very efficient, accurate and fast for them

to be effective. In this fast moving and

competitive world it is essential to have

advanced technology for quick

exchange of information. The electronic

media is mainly responsible for this

transformation. The main services

which help business can be classified

into postal and telecom.

Postal Services

Indian post and telegraph department

provides various postal services across

India. For providing these services the

whole country has been divided into 22

postal circles. These circles manage the

day-to-day functioning of the various

head post offices, sub-post offices and

branch post offices. Through their

regional and divisional level

arrangements the various facilities

provided by postal department are

broadly categorised into:

(i) Financial facilities: These facilitiesare provided through the post office’ssavings schemes like Public ProvidentFund (PPF), Kisan Vikas Patra, andNational Saving Certificates in additionto normal retail banking functions ofmonthly income schemes, recurringdeposits, savings account, time

deposits and money order facility.

(ii) Mail facilities: Mail services consist

of parcel facilities that is transmission

of articles from one place to another;

registration facility to provide security

of the transmitted articles and

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insurance facility to provide insurancecover for all risks in the course oftransmission by post.

Postal department also offers alliedfacilities of the following types:

1. Greeting post — A range ofdelightful greeting cards forevery occasion.

2. Media post — An innovativeand ef fect ive vehicle forIndian corporates to advertisetheir brand through postcards,envelopes, aerograms, tele-grams, and also throughletterboxes.

3. Direct post is for direct advertising.It can be both addressed as wellas unaddressed.

4. International Money Transferthrough collaboration withWestern Union financial services,USA, which enables remittance ofmoney from 185 countries to India.

5. Passport facilities — A uniquepartnership with the ministry ofexternal affairs for facilitatingpassport application.

6. Speed Post: It has over 1000destinations in India and links with97 major countries across the globe.

7. e-bill post is the latest offering ofthe department to collect billpayment across the counter forBSNL and Bharti Airtel.

Telecom Services

World class telecommunicationsinfrastructure is the key to rapideconomic and social development of thecountry. It is in fact the backbone ofevery business activity. In today’s world

the dream of doing business acrosscontinents will remain a dream in theabsence of telecom infrastructure.There have been far reachingdevelopments in the convergence oftelecom, IT, consumer electronics andmedia industries worldwide.Recognising the potential in enhancingquality of life and to facilitate India’svision of becoming IT super power bythe year 2025, new Telecom PolicyFramework 1999 and BroadbandPolicy 2004 were developed by theGovernment of India. Through thisframework the government intends toprovide both universal services toall uncovered areas and high-levelservices for meeting the needs of thecountry’s economy.

The various types of telecomservices are:

(i) Cellular mobile services: These areall types of mobile telecom servicesincluding voice and non-voicemessages, data services and PCOservices utilising any type of networkequipment within their service area.They can also provide direct interconnectivity with any other type oftelecom service provider.(ii) Fixed line services: These are alltypes of fixed services including voiceand non-voice messages and dataservices to establish linkages for longdistance traffic. These utilise any typeof network equipment primarilyconnected through fiber optic cableslaid across the length and breadth ofthe country. The also provide interconnectivity with other types of telecomservices.

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(iii) Cable services: These arelinkages and switched services withina licensed area of operation to operatemedia services, which are essentiallyone-way entertainment relatedservices. The two-way communicationincluding voice, data and informationservices through cable network wouldemerge significantly in the future.Offering services through the cablenetwork would be similar to providingfixed services.

(iv) VSAT services: VSAT (Very SmallAperture Terminal) is a satellite-basedcommunications service. It offersbusinesses and government agenciesa highly flexible and reliablecommunication solution in bothurban and rural areas. Compared toland-based services, VSAT offersthe assurance of reliable anduninterrupted service that is equal toor better than land-based services. Itcan be used to provide innovative

Different Types of Insurance

1. Health InsuranceHealth Insurance is a safeguard against rising medical costs. A health insurancepolicy is a contract between an insurer and an individual or group, in which theinsurer agrees to provide specified health insurance at an agreed-upon price(the premium). Depending upon the policy, premium may be payable either in alump sum or in instalments. Health insurance usually provides either directpayment or reimbursement for expenses associated with illness and injuries.The cost and range of protection provided by health insurance depends on theprovider and the policy purchased. In India, presently the health insuranceexists primarily in the form of Mediclaim policy offered to an individual or to any

group, association or corporate bodies.

2. Motor Vehicle Insurance

Motor Vehicle Insurance falls under the classification of General Insurance.This insurance is becoming very popular and its importance increasing day-by-day. In motor insurance the owner’s liability to compensate people who werekilled or insured through negligence of the motorists or drivers is passed on tothe insurance company. The rate of premium under motor insurance is

standardised.

3. Burglary Insurance

Burglary insurance falls under the classification of insurance of property. Incase of burglary policy, the loss of damages of household goods and propertiesand personal effects due to theft, larceny, burglary, house-breaking and acts ofsuch nature are covered. The actual loss is compensated.(i) Insurable interest must exist at the time of loss but not necessarily at the

time when the policy was taken.

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(ii) The principle of causa proxima will apply to it. The insurance company will

be liable to pay only that particular or nearest cause that is covered by the

policy. For example, if a loss is caused by several reasons then the nearest

cause of loss will be considered.

4. Cattle Insurance

A contract of cattle insurance is a contract whereby a sum of money is secured to

the assured in the event of death of animals like bulls, buffaloes, cows and heifers.

It is a contract against death resulting from accident, disease, or pregnant

condition as the case may be. The insurer usually undertakes to pay the excess

in the event of loss.

5. Crop Insurance

A contract of crop insurance is a contract to provide a measure of financial

support to farmers in the event of a crop failure due to drought or flood. This

insurance covers against all risks of loss or damages relating to production of

rice, wheat, millets, oil seeds and pulses etc.

6. Sports Insurance

This policy assures a comprehensive cover available to amateur sportsmen

covering their sporting equipment, personal effects, legal liability and personal

accident risks. If desired the cover can also be made available in respect of the

named member of insured’s family residing with him. This cover is not available

to professional sportsmen. The cover is available in respect of any one or more of

the following sports: angling, badminton, cricket, golf, lawn tennis, squash, use of

sporting guns.

7. Amartya Sen Siksha Yojana

This policy offered by the General Insurance Company secures the education of

dependent children. If the insured parent/legal guardian sustains any bodily

injury resulting solely and directly from an accident, caused by external, violent

and visible means and if such injury shall within twelve calendar months of its

occurrence be the sole and direct cause of his/her death or permanent total

disablement, the insurer shall indemnify the insured student, in respect of all

covered expenses to be incurred from the date of occurrence of such accident till

the expiry date of policy or completion of the duration of covered course whichever

occurs first and such indemnity shall not exceed the sum insured as stated in the

policy schedule.

8. Rajeswari Mahila Kalyan Bima Yojana

This policy has been designed to provide relief to the family members of insured

women in case of their death or disablement arising due to all kinds of accidents

and/or death and/or disablement arising out of problems incidental to women only.

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applications such as tele-medicine,newspapers-on-line, market rates andtele-education even in the most remoteareas of our country.(v) DTH services: DTH (Direct toHome) is again a satellite-based mediaservices provided by cellularcompanies. One can receive mediaservices directly through a satellite withthe help of a small dish antenna and aset top box. The service provider of DTHservices provides a bouquet of multiplechannels. It can be viewed on ourtelevision without being dependent onthe services provided by the cablenetwork services provider.

4.7 TRANSPORTATION

Transportation comprises freightservices together with supporting andauxiliary services by all modes oftransportation i.e., rail, road, air andsea for the movement of goods andinternational carriage of passengers.

You have already studied thecomparative advantages anddisadvantages of different modes oftransportation in earlier classes. Theirservices are considered to be importantfor business since speed is of essencein any business transaction. Alsotransportation removes the hindranceof place, i.e., it makes goods availableto the consumer from the place ofproduction. We need to develop ourtransportation system to keep pacewith the requirements of our economy.We need better infrastructure of roadswith sufficient width and high quality.We have few ports and they too arecongested. Both government andindustry needs to be proactive and viewthe effective functioning of this serviceas a necessity for providing a lifeline toa business services. In sectors likeagriculture and food, there are massivelosses of product in the process oftransportation and storage.

Social Security Schemes

1. Atal Pension Yojana : This scheme is offered to individuals in the age group

of 18 to 40 years. The individual is expected to contribute in the scheme

until he/she attains the age of 60 years. The scheme acts as an investment

for availing old-age pension.

2. Pradhan Mantri Suraksha Bima Yojana : This scheme offers accidental

and disability cover of Rs. 2 lakh at a premium of Rs. 12 per year. Any

individual holding a savings account can be enrolled under this scheme.

3. Pradhan Mantri Jan Dhan Yojana : The scheme offers savings account

with no minimum balance. The Rupay ATM-cum-Debit card has in-built

accident and life cover of Rs. 1,00,000 and Rs. 30,000, respectively. The

scheme, suitable for economically weaker sections of society.

4. Pradhan Mantri Jeevan Jyoti Bima Yojana : The scheme offers a protection

term insurance cover of Rs 2,00,000 to the dependents of the policy holder in

the event of his/her death at a premium of Rs. 330 per year. Any individual in

the age group of 18-70 years having a savings account can opt for this scheme.

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Warehousing

Storage has always been an importantaspect of economic development. The

warehouse was initially viewed as astatic unit for keeping and storinggoods in a scientific and systematic

manner so as to maintain their originalquality, value and usefulness.The typical warehouse received

merchandise by rail, truck or bullockcart. The items were moved manuallyto a storage within the warehouse and

hand piled in stacks on the floor. Theyare used by manufacturers, importers,exporters, wholesalers, transport

business, customs etc., in India.Today’s warehouses have ceased to

be a mere storage service providers and

have really become logistical serviceproviders in a cost efficient manner.That is making available the right

quantity, at the right place, in the righttime, in the right physical form at theright cost. Modern warehouses are

automated with automatic conveyors,computer operated cranes and forklifts

for moving goods and also usage of

logistics automation software’s forwarehouse management.

Types of Warehouses

(i) Private warehouses: Private

warehouses are operated, owned orleased by a company handling theirown goods, such as retail chain

stores or multi-brand multi-productcompanies. As a general rule an efficientwarehouse is planned around a

material handling system in order toencourage maximum efficiency ofproduct movement. The benefit of

private warehousing includes control,flexibility, and other benefits likeimproved dealer relations.

(ii) Public warehouses: Publicwarehouses can be used for storage ofgoods by traders, manufacturers or

any member of the public after thepayment of a storage fee or charges.The government regulates the operation

of these warehouses by issuing licencesfor them to private parties.

Infrastructure in Transportation

In the first, 50 years of independence, India saw the construction of around13, 000 kilometers of national highways. The ambitious NHAI, Government ofIndia’s project consisting of Golden Quadrilateral connecting Delhi-Kolkata-Chennai-Mumbai and the North-South, East-West corridors linking Srinagar toKanyakumari and Silchar to Porbandar will see the construction of 13,151 kmsof National Highways within a span of eight years. This project will not onlychange the face of road transport in India, but it will also have a lasting impacton our economy. The Ministry of Railways have also done massive innovationsin their movement and monitoring of goods trains to facilitate the needs of thebusiness community.

The Government of India is also serious in ensuring better and more facilities atthe seaports and airports to provide an impetus to business activities. Thegovernment plans not only to enhance capacities of existing ports but also todevelop modern and new ports at strategic locations.

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The owner of the warehouse standsas an agent of the owner of the goodsand is expected to take appropriate careof the goods.

These warehouses provide otherfacilities also, like transportation by railand road. They are responsible for thesafety of the goods. Small manufacturersfind it convenient as they cannot affordto construct their own warehouses.

The other benefits include flexibilityin the number of locations, no fixed costand capability of offering value added

services, like packaging and labelling.(iii) Bonded warehouses: Bondedwarehouses are licensed by thegovernment to accept imported goodsprior to payment of tax and customsduty. These are goods which areimported from other countries.Importers are not permitted to removegoods from the docks or the airport tillcustoms duty is paid.

At times, importers are not in aposition to pay the duty in full or doesnot require all the goods immediately.The goods are kept in bondedwarehouses by the customs authoritiestill the customs duty is paid. Thesegoods are said to be in bond.

These warehouses have facilities forbranding, packaging, grading andblending. Importers may bring theirbuyers for inspection of goods andrepackage them according to theirrequirements. Thus, it facilitatesmarketing of goods.

Goods can be removed in part asand when required by the importersand buyers, and import duty can bepaid in instalments.

The importer need not block fundsfor payment of import duties before thegoods are sold or used. Even if hewishes to export the goods kept in thebonded warehouse he may do sowithout payment of customs duty.Thus, bonded warehouses facilitateentrepot trade.(iv) Government warehouses: Thesewarehouses are fully owned andmanaged by the government. Thegovernment manages them throughorganisations set up in the publicsector. For example, Food Corporation

of India, State Trading Corporation,

and Central Warehousing Corporation.

(v) Cooperative warehouses: Somemarketing cooperative societies oragricultural cooperative socities haveset up their own warehouses formembers of their cooperative society.

Functions of Warehousing

The functions of warehousing arediscussed as follows:(a) Consolidation: In this function

the warehouse receives andconsolidates, materials/goods fromdifferent production plants anddispatches the same to a particularcustomer on a single transportationshipment.

Plant B

Plant A

Consolidation

WarehousesA / B / C

Plant C

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(b) Break the bulk: The warehouseperforms the function of dividing thebulk quantity of goods receivedfrom the production plants intosmaller quantities. These smallerquantities are then transportedaccording to the requirements ofclients to their places of business.

PLANT ABreak-Bulk

WarehouseCustomer B

Customer C

Customer A

throughout the year also need to be

stored and released in lots.

(d) Value added services: Certain

value added services are also

provided by the warehouses, such

as in transit mixing, packaging and

labelling. Goods sometimes need to

be opened and repackaged and

labelled again at the time of

inspection by prospective buyers.

Grading according to quantity and

dividing goods in smaller lots is

another function.

Central Warehousing Corporation

At present, a Central Government undertaking CWC i.e., Central Warehousing

Corporation provides these services for businessmen across the country. Private

warehousing companies, like TCI, Shanker International, Blue Dart, DHL, etc.,

are providing cargo facilities of both transportation and warehousing.

(c) Stock piling: The next function ofwarehousing is the seasonal storageof goods to select businesses. Goodsor raw materials, which are notrequired immediately for sale ormanufacturing, are stored inwarehouses. They are made availableto business depending on customers’demand. Agricultural productswhich are harvested at specific timeswith subsequent consumption

(e) Price stablisation: By adjustingthe supply of goods with thedemand situation, warehousingperforms the function of stabilisingprices. Thus, prices are controlledwhen supply is increasing anddemand is slack and vice versa.

(f) Financing: Warehouse ownersadvance money to the owners onsecurity of goods and further supplygoods on credit terms to customers.

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Key Terms

Business services Insurance Subrogation Fire insurance

Banking Insurable interest Contribution Marine insurance

e-Banking Indemnity Mitigation Telecom services

Commercial banks Proximate cause Life insurance Warehousing

SUMMARY

Nature of services: Services are those separately identifiable, essentiallyintangible activities that provide satisfaction of wants, and are notnecessarily linked to the sale of a product or another service. There are fivebasic features of services. These features also distinguish them from goodsand are known as the five Is of services i.e., Intangibility, Inconsistency,Inseparability, Inventory (less), Involvement.

Difference between services and goods: While goods are produced,services are performed. A service is an act which cannot be taken home.What we can take home is the effect of the services. And as the services aresold at the consumption point, there are no inventories.

Types of services: Business Services, Social Services, Personal Services.

Business services: In order to be competitive, business enterprises arebecoming more and more dependent on specialised business services.Business enterprises look towards banks for availability of funds; insurancecompanies for getting their plant, machinery, goods, etc., insured; transportcompanies for transporting raw material and finished goods; and telecomand postal services for being in touch with their vendors, suppliers andcustomers.

Banking: A banking company in India is one which transacts the businessof banking which means accepting, for the purpose of lending and investmentof deposits of money from the public, repayable on demand or otherwise andwithdrawable by cheques, draft, order or otherwise.

Type of banks: Banks can be classified into the following i.e., commercialbanks, cooperative banks, specialised banks, central bank.

Functions of commercial bank: Some of them are the basic or primaryfunctions of a bank while others are agency services or general utility servicesin nature. Acceptance of deposits, lending of funds, cheque facility, remittanceof funds, allied services.

e-Banking: The latest wave in information technology is internet banking. Itis a part of virtual banking and another delivery channel for customers.e-banking is electronic banking or banking using the electronic media. Thus,

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e-banking is a service provided by many banks, that allows a customer toconduct banking transactions, such as managing savings, checkingaccounts, applying for loans or paying bills over the internet using a personalcomputer, mobile telephone or handheld computer (personal digital assistant)

Insurance: Insurance is thus a device by which the loss likely to be causedby an uncertain event is spread over a number of persons who are exposedto it and who are prepared to insure themselves against such an event. It isa contract or agreement under which one party agrees in return for aconsideration to pay an agreed amount of money to another party to makegood a loss, damage or injury to something of value in which the insured hasa pecuniary interest as a result of some uncertain event.

Fundamental principle of insurance: The basic principle of insurance isthat an individual or a business concern chooses to spend a definitely knownsum in place of a possible huge amount involved in an indefinite future loss.Insurance, therefore, is a form of risk management primarily used to safeguard against the risk of potential financial loss.

Functions of insurance: Providing certainty, Protection, Risk sharing, Assistin capital formation.

Principles of Insurance

Utmost good faith: A contract of insurance is a contract of uberrimae fideii.e., a contract found on utmost good faith. Both the insurer and the insureddisplay good faith towards each other in regard to the contract.

Insurable interest: The insured must have an insurable interest in thesubject matter of insurance.

Insurable interest means some pecuniary interest in the subject matter ofthe insurance contract.

Indemnity: According to it, the insurer undertakes to put the insured, inthe event of loss, in the same position that he occupied immediately beforethe happening of the event insured against.

Proximate cause: When the loss is the result of two or more causes, theproximate cause means the direct, the most dominant and most effectivecause of which the loss is a natural consequence.

Subrogation: It refers to the right of the insurer to stand in the place of theinsured, after settlement of a claim, as far as the right of the insured inrespect of recovery from an alternative source is involved.

Contribution: As per this principle it is the right of an insurer who has paidclaim under an insurance, to call upon other liable insurers to contributefor the loss payment.

Mitigation: This principles states that it is the duty of the insured to takereasonable steps to minimise the loss or damage to the insured property.

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Types of Insurance

Life insurance: Life insurance may be defined as a contract in which theinsurer, in consideration of a certain premium, either in a lump sum or byother periodical payments, agrees to pay to the assured, or to the personfor whose benefit the policy is taken, the assured sum of money, on thehappening of a specified event contingent on the human life or at the expiryof a certain period.

This insurance provides protection to the family at premature death of anindividual or gives adequate amount at an old age when earning capacitiesare reduced. The insurance is not only a protection but is a sort of investmentbecause a certain sum is returnable to the insured at the time of death or atthe expiry of a certain period.

The main elements of a life insurance contract are:

(i) The life insurance contract must have all the essentials of a validcontract.

(ii) The contract of life insurance is a contract of utmost good faith.

(iii) In life insurance, the insured must have insurable interest in the lifeassured.

(iv) Life insurance contract is not a contract of indemnity.

Types of life insurance policies: People have different requirements andtherefore they would like a policy to fulfill all their needs. The needs of peoplefor life insurance can be family needs, children’s needs, old age and specialneeds. To meet the needs of people the insurer’s have developed differenttypes of products such as Whole Life Assurance, Endowment type plans,combination of Whole Life and Endowment type plans, Children’s Assuranceplans and Annuity plans.

Fire insurance: Fire insurance is a contract whereby the insurer, inconsideration of the premium paid, undertakes to make good any loss ordamage caused by a fire during a specified period upto the amount specifiedin the policy.

The main elements of a fire insurance contract are:

(i) In fire insurance, the insured must have insurable interest in thesubject matter of the insurance.

(ii) Similar to the life insurance contract, the contract of fire insurance is acontract of utmost good faith i.e., uberrimae fidei.

(iii) The contract of fire insurance is a contract of strict indemnity.

(iv) The insurer is liable to compensate only when fire is the proximatecause of damage or loss.

Marine insurance: A marine insurance contract is an agreement wherebythe insurer undertakes to indemnify the insured in the manner and to theextent thereby agreed against marine losses. Marine insurance provides

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protection against loss by marine perils or perils of the sea. Marine insuranceis slightly different from other types. There are three things involved i.e.,ship or hull, cargo or goods and freight.

The main elements of a marine insurance contract are:

(i) Unlike life insurance, the contract of marine insurance is a contractof indemnity.

(ii) Similar to life and fire insurance, the contract of marine insurance isa contract of utmost good faith.

(iii) Insurable interest must exist at the time of loss.

(iv) The principle of causa proxima will apply to it.

Communication services: Communication services are helpful to businessfor establishing links with the outside world viz., suppliers, customers,competitors etc. The main services which help business can be classifiedinto postal and telecom.

Postal services: Various facilities provided by postal department are broadlycategorised into financial facilities, mail facilities.

Telecom services: The various types of telecom services are of the followingtypes: Cellular Mobile Services, Radio Paging Services, Fixed line services,Cable Services, VSAT Services, DTH services.

Transportation: Transportation comprises freight services together withsupporting and auxiliary services by all modes of transportation i.e., rail,road, air and sea for the movement of goods and international carriage ofpassengers.

Warehousing: The warehouse was initially viewed as a static unit for keepingand storing goods in a scientific and systematic manner so as to maintaintheir original quality, value and usefulness.

Today’s warehouses have ceased to be mere storage service providers andhave really become logistical service providers in a cost efficient manner.

Types of warehouses: private warehouses, public warehouses,bondedwarehouses, government warehouses, cooperative warehouses.

Functions of warehousing: The functions of warehousing are normallydiscussed as follows : consolidation, break the bulk, stock piling, value addedservices, price stablisation, financing.

EXERCISES


1. DTH services are provided by________.

a. Transport companies. b. Banksc. Cellular companies d. None of the above

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2. The benefits of public warehousing includes_______.

a. Control b. Flexibilityc. Dealer relationship d. None of the above

3. Which of the following is not a function of insurance?

a. Risk sharing b. Assist in capitalformation

c. Lending of funds d. None of the above

4. Which of the following is not applicable in life insurance contract?

a. Conditional contract b. Unilateral contractc. Indemnity contract d. None of the above

5. CWC stands for_______.

a. Central Water Commission b. Central WarehousingCommission

c. Central Warehousing d. Central WaterCorporation Corporation


1. Define services and goods.

2. What is e-banking. What are the advantages of e-banking?

3. Write a note on various telecom services available for enhancingbusiness.

4. Explain briefly the principles of insurance with suitable examples.

5. Explain warehousing and its functions.


1. What are services? Explain their distinct characteristics.

2. Explain the functions of commercial banks with an example of each.

3. Write a detailed note on various facilities offered by Indian PostalDepartment.

4. Describe various types of insurance and examine the nature of risksprotected by each type of insurance.

5. Explain in detail the warehousing services.


1. Identify a list of various services you use on a regular basis and identifytheir distinct characteristics.

2. Do a project on banking services. Approach a nearby bank and collectinformation about various services offered by them and also collectleaflets about salient features of different schemes. Compile and suggestwhat extra services you may like to propose.

3. Visit a nearby bank branch in your locality and collect informationabout various types of account available for customers to open as pertheir requirement.

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In the second part of the activity match the information given in column Awith the information given in Column B.

It is a temporary pass through account held by a thirdparty during the process of a transaction between twoparties unless the transaction is completed.

Multiple OptionDeposit

1.

Savings Account2. A kind of deposit scheme introduced by different banks,where the excess amount in the savings bank accountis transferred to fixed deposit account and the accountholder earns more rate of interest. If the bank receivesa cheque for this account and the balance is notsufficient, the amount will be transferred from fixeddeposit account to savings bank account to clear thecheque. In short, it gives the account holder the interestof a term deposit with the flexibility of partial withdrawal,whereas, the remaining cash will get better interest.

3. Current Account It is also called cumulative deposit scheme. Anyresident, individual, association, club, institution/agency is eligible to open this account in single/jointnames. The account can be opened for any periodranging from 6 months to 120 months, in multiple of 1month for monthly installment. The amount selectedfor installment at the start of the scheme is payableevery month and the number of installments once fixed,cannot be changed. The rate of interest is compoundedquarterly and the final amount is paid on maturity.

Fixed DepositAccount

4. Any resident, individual, association, club, etc., iseligible for this account. It is a kind of modest creditoption available to the depositor. Two free chequebooks will be issued each year. Internet bankingfacility will be provided without any charge. Balanceenquiry, NEFT, bill payment, mobile recharge, etc.,are provided through mobile phones. Students canopen this account with zero balance by providing therequired documents.

5. Demat Account This account can be opened by any resident,individual, association, limited company, religiousinstitution, educational institution, charitableinstitution, club, etc. Payments can be done unlimitednumber of times. Funds can be remitted from any partof the country to the corresponding account. Overdraftfacility and Internet banking facility are available.

S. No. Column A Column B

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6. Escrow Account It is classified as short deposit receipt andfixed deposit receipt

(i) Banks accept deposits from customersvarying from 7 days to a maximumof 10 years.

(ii) The period for ‘short deposits’ can vary from7 days to 179 days.

(iii) The minimum amount that can bedeposited under this scheme is Rs. 5lakh for a period of 7-14 days.

b. Fixed Deposit Receipt

(i) Any resident, individual, association,minor, society, club, etc., is eligiblefor this account.

(ii) The minimum FDR in metro and Urbanbranches is Rs. 10,000 and in ruraland semi-urban and for senior citizensis Rs. 5000.

(iii) Interest rate differs from bank to bankdepending upon the tenure of thedeposits and as bank changes the rate.

(iv) Additional interest of 0.50% is offered tosenior citizens on deposits placed for ayear and above.

7. Recurring DepositAccount

(i) This account offers stress-free transactionson the shares.

(ii) An individual, Non-Resident Indian,foreign institutional investor, foreignnational, corporate, trusts, clearinghouses, financial institution, clearingmember, mutual funds, banks and otherdepository account.

(iii) For opening this account, an applicantrequires to fill a form, submit his/her photoalong with a photocopy of Voter ID/Passport/Aadhar Card/Driving Licence and aDemat account number will be provided tothe applicant immediately after thecompletion of processing of the application.

a. Short Deposit Receipt

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CHAPTER 5

EMERGING MODES OF BUSINESS

LEARNING OBJECTIVES


• state the meaning of e-business;

• explain the process of online buying and selling as a part ofe-business;

• distinguish e-business from traditional business;

• state benefits of switching over to electronic mode;

• explain requirements for a firm’s initiation into e-business;

• identify major security concerns of electronic mode of doingbusiness;

• discuss the need for business process outsourcing; and

• appreciate the scope of business process outsourcing.

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119EMERGING MODES OF BUSINESS

5.1 INTRODUCTION

The way business is done hasundergone fundamental changesduring the last decade or so. Themanner of conducting business isreferred to as the ‘mode of business,’and, the prefix ‘emerging’ underlinesthe fact, that these changes arehappening here and now, and, thatthese trends are likely to continue.In fact, if one were to list thethree strongest trends that areshaping business, these would be:(i) digitisation — the conversion of text,sound, images, video, and othercontent into a series of ones and zeroesthat can be transmitted electronically,(ii) outsourcing, and, (iii) inter -nationalisation and globalisation. Youwill read about international businessin Chapter 11. In this chapter, we willbe familiarising you with the first twodevelopments, i.e., digitisation (a termfrom electronics) of business — alsoreferred to as electronic business(e-business), and Business ProcessOutsourcing (BPO). Before we do so, abrief discussion about the factors

responsible for these two new modesof business would be in order.

The newer modes of business arenot new business. These are rathersimply the new ways of doing businessattributable to a number of factors.You are aware that business as anactivity is aimed at creating utilities orvalue in the form of goods and serviceswhich the household and industrialbuyers purchase for meeting theirneeds and wants. In an effort toimprove the business processes — beit purchase and production,marketing, finance or human resourcesbusiness managers and businessthinkers keep evolving newer and betterways of doing things. Business firmshave to strengthen their capabilities ofcreating utilities and delivering valueto successfully meet the competitivepressures and ever-growing demandsof consumers for better quality, lowerprices, speedier deliveries and bettercustomer care. Besides, the quest forbenefitting from emerging technologiesmeans that business as an activitykeeps evolving.

“Let us do some shopping,” Rita woke up Rekha, her friend from the home-

village who had come to Delhi during the vacations. “At this hour well past

midnight,” said Rekha rubbing her eyes, “Who would be sitting with his shop

open for you?” “Oh! Perhaps I could not convey it properly. We are not going

anywhere! I am talking about online shopping over the internet!” told Rita.

“Oh yes! I have heard of online shopping, but have never done any,” Rekha

said, “What would they be selling over the internet, how will they deliver,

What about payment… and why is it that internet has not yet become as popular

in the villages? As Rekha was grappling with these questions, Rita had already

logged on to one of India’s largest online shopping mall.

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5.2 e-BUSINESS

If the term business is taken to meana wide range of activities comprisingindustry, trade and commerce;e-business may be defined as theconduct of industry, trade andcommerce using the computernetworks. The network you are mostfamiliar with as a student or consumeris the internet. Whereas internet is apublic thorough way, firms use moreprivate, and, hence more securenetworks for more effective and efficientmanagement of their internal functions.e-business versus e-commerce:Though, many a times, the termse-business and e-commerce are usedinterchangeably, yet more precisedefinitions would distinguish betweenthe two. Just as the term ‘business’ isa broader term than ‘commerce’,e-business is a more elaborate termand comprises various business

transactions and functions conductedelectronically, including the morepopular gamut of transactions called‘e-commerce.’ e-commerce covers afirm’s interactions with its customersand suppliers over the internet.e-business includes not onlye-commerce, but also otherelectronically conducted businessfunctions such as production,inventory management, productdevelopment, accounting and financeand human resource management.e-business is, therefore, clearly muchmore than buying and selling over theInternet, i.e., e-commerce.

5.2.1 Scope of e-Business

We have mentioned above that thescope of e-business is quite vast.Almost all types of business functionssuch as production, finance, marketingand personnel administration as well

Figure 5.1 Business to Business e-Commerce

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as managerial activities like planning,organising and controlling can becarried out over computer networks.The other way of looking at the scopeof e-business is to examine it in termsof people or parties involved inelectronic transactions. Viewed fromthis perspective, a firm’s electronictransactions and networks can bevisualised as extending into threedirections viz., (i) B2B which is a firm’sinteractions with other businesses,(ii) B2C i.e., a firm’s interactions withits customers and (iii) intra-B or a firm’sinternal processes.

A brief discussion of variousconstituents of e-business and inter-and intra-transactions among them isgiven as below:(i) B2B Commerce: Here, both theparties involved in e-commercetransactions are business firms, and,hence the name B2B, i.e., business-to-business (see Figure 5.1). Creation ofutilities or delivering value requires abusiness to interact with a number ofother business firms which may besuppliers or vendors of diverse inputs;or else they may bea part of the channel through whicha firm distributes its products tothe consumers. For example, themanufacture of an automobile requiresassembly of a large number ofcomponents which in turn are beingmanufactured elsewhere — within thevicinity of the automobile factory or evenoverseas. To reduce dependence on asingle supplier, the automobile factoryhas to cultivate more than one vendorfor each of the components. A network

of computers is used for placing orders,monitoring production and delivery ofcomponents, and making payments.Likewise, a firm may strengthen andimprove its distribution system byexercising a real time (as it happens)control over its stock-in-transit as wellas that with different middlemen indifferent locations. For example, eachconsignment of goods from a warehouseand the stock-at-hand can be monitoredand replenishments and reinforcementscan be set in motion as andwhen needed. Or else, a customer’sspecifications may be routed throughthe dealers to the factory and fedinto the manufacturing system forcustomised production. Use ofe-commerce expedites the movement ofthe information and documents; and oflate, money transfers as well.

Historically, the term e-commerceoriginally meant facilitation of B2Btransactions using Electronic DataInterchange (EDI) technology to sendand receive commercial documents likepurchase orders or invoices.

(ii) B2C Commerce: As the nameimplies, B2C (business-to-customers)transactions have business firms atone end and its customers on the otherend. Although, what comes to one’smind instantaneously is onlineshopping, it must be appreciated that‘selling’ is the outcome of the marketingprocess. And, marketing begins wellbefore a product is offered for sale andcontinues even after the product hasbeen sold. B2C commerce, therefore,entails a wide gamut of marketing

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activities such as identifying activities,promotion and sometimes even deliveryof products (e.g., music or films) thatare carried out online. e-Commercepermits conduct of these activities at amuch lower cost but high speed. Forexample, ATM speeds up withdrawalof money.

Customers these days arebecoming very choosy and desireindividual attention to be given to them.Not only do they require the product

features to be tailor-made to suit theirrequirements, but also the convenienceof delivery and payment at theirpleasure. With the onset of e-commerce,all this has become a reality.

Further, B2C variant of e-commerceenables a business to be in touch withits customers on round-the-clockbasis. Companies can conduct onlinesurveys to ascertain as to who isbuying what and what the customersatisfaction level is.

Benefits of e-Commerce

1. Business Organisation:

(i) Expands the marketplace to national and international markets,

(ii) Gradual decline in the cost of operations,

(iii) Facilitates ‘pull’ supply chain management,

(iv) Competitive advantage over competitors,

(v) Proper time management and support business processes, and

(vi) Small firms co-exist with big firms (win-win).

2. Benefits to Consumers and Society

(i) Flexibility, (ii) Competitive price/discounts/waive offs, (iii) More options and choices and Customised products, (iv) Quick and Timely delivery (digitised products), (v) Employment potential, (vi) Facilitate e-Auctions and e-Tenders, (vii) Interaction with consumers,

ATM speeds up Withdrawal of Money

e-Commerce greatly facilitates and speeds up the entire B2C process. Withdrawalof one’s own money from banks was, for example, a tedious process in the past.One had to go through a series of procedural formalities before he or she wasable to get the payment. After the introduction of ATMs, all that is fast becominga history now. The first thing that occurs is that the customer is able to withdrawhis money, and the rest of the back-end processes take place later.

(viii) Wider outreach.

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requirements of the individualcustomer. In a similar vein, closercomputer-based interactions amongthe other departments makes itpossible for the firm to reapadvantages of efficient inventoryand cash management, greaterutilisation of plant and machinery,effective handling of customers’orders, and effective human resourcemanagement.

Just as intercom facilitated voicecommunication within the office,intranet facilitates multimedia and even3-D graphic communication amongorganisational units for well-informed decisions, permitting bettercoordination, faster decisions andspeedier workflows. Take for example,a firm’s interactions with its employees,sometimes referred to as B2Ecommerce. Companies are resorting topersonnel recruitment, interviewingand selection, training, developmentand education via e-commerce(captured in a catch-all phrase‘e-learning’). Employees can useelectronic catalogues and orderingforms and access inventory informationfor better interaction with thecustomers. They can send field reportsvia e-mail and the management canhave them on real time basis. In fact,Virtual Private Network (VPN)technology would mean that employeesdo not have to come to office. Instead,in a way the office goes to them andthey can work from wherever they are,and at their own speed and timeconvenience. Meetings can be heldonline via tele/ video conferencing.

By now, you might have formed theopinion that B2C is a one-way traffic,i.e., from business-to-customers. Butdo remember that its corollary, C2Bcommerce is very much a reality whichprovides the consumers with thefreedom of shopping-at-will. Customerscan also make use of call centres setup by companies to make toll free callsto make queries and lodge complaintsround the clock at no extra cost tothem. The beauty of the process is thatone need not set up these call centresor help lines; they may be outsourced.We shall discuss this aspect later in thesection devoted to Business ProcessOutsourcing (BPO).(iii) Intra-B Commerce: Here, partiesinvolved in the electronic transactionsare from within a given business firm,hence, the name intra-B commerce. Asnoted earlier too, one critical differencebetween e-commerce and e-businessis that, e-commerce comprises abusiness firm’s interaction with itssuppliers, and distributors/otherbusiness firms (hence, the name B2B)and customers (B2C) over the internet.While e-business is a much wider termand also includes the use of intranetfor managing interactions anddealings among various departmentsand persons within a firm. It is largelydue to use of intra-B commerce thattoday it has become possible forthe firms to go in for flexiblemanufacturing. Use of computernetworks makes it possible for themarketing department to interactconstantly with the productiondepartment and get the customisedproducts made as per the

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(iv) C2C Commerce: Here, thebusiness originates from the consumerand the ultimate destination is alsoconsumers, thus the name C2Ccommerce (see Figure 5.2). This typeof commerce is best suited for dealingin goods for which there is noestablished market mechanism, forexample, selling used books or clotheseither on cash or barter basis. The vastspace of the internet allows persons toglobally search for potential buyers.Additionally, e-commerce technologyprovides market system security tosuch transactions which otherwisewould have been missing ifthe buyers and sellers were tointeract in anonymity of one-to-onetransactions? An excellent example ofthis is found at eBay where consumerssell their goods and services to otherconsumers. To make this activitymore secure and robust, severaltechnologies have emerged. Firstly,eBay allows all the sellers and buyersto rate one another. In this manner,future prospective purchasers may seethat a particular seller has sold to morethan 2,000 customers — all of whomrate the seller as excellent. In anotherexample, a prospective purchaser maysee a seller who has previously soldonly four times and all four rate theseller poorly. This type of informationis helpful. Another technology that hasemerged to support C2C activities isthat of the payment intermediary.PayPal is a good example of this kind.Instead of purchasing items directlyfrom an unknown, untrusted seller; the

buyer can instead send the money toPay Pal. From there, PayPal notifies theseller that they will hold the money forthem until the goods have been shippedand accepted by the buyer.

An important C2C area ofinteractive commerce can be theformation of consumers’ forum andpressure groups. You might have heardof Yahoo groups. Like a vehicle ownerin a traffic jam can alert others viamessage on radio (you must haveheard traffic alerts on FM) about thetraffic situation of the area he is stuckin; an aggrieved customer can share hisexperience with a product/service/vendor and warn others by writing justa message and making it known to theentire group. And, it is quite possiblethat the group pressure might resultin a solution of this problem.

From the foregoing discussionconcerning scope of e-business, it isclear that e-business applications arevaried and many.

e-Business versus TraditionalBusiness

By now, you must have formed an ideaas to how e-enabling has radicallytransformed the mode of doingbusiness. Table 5.1 (page 129) providesa feature on comparison betweentraditional business and e-business.

A comparative assessment of thefeatures of traditional and e-businessas listed in Table 5.1 points towardsthe distinct benefits and limitations ofe-business that we shall discuss in thefollowing paragraphs.

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e-commerce makes flexible Manufacturing andMass Customisation possible

Customised products have traditionally been made to order by craftsmen andhave, therefore, been expensive and delivery times have been long. Industrialrevolution meant that organisations could engage in mass production and couldsell homogeneous products rolled out of the factory at a lower cost due to theeconomies of scale. Thanks to e-commerce, now organisations can offercustomised products/ services at lower costs, that previously were only associatedwith mass produced commodity items. Here are a few examples:

401(k) Forum (US) Customises educational content and investment advice basedon individual interviews.

Acumin Corp. (US) Customises vitamin pills specified by using the Internet.Customers fill in lifestyle and health questionnaire.

Dell (US) Build your own PC.

Green Mountain Electricity supplier (but not generator). Customers could selectEnergy Resources sources for their electricity, e.g., hydro, solar, etc.(US)

Levi Jeans Tailored jeans service. Web service suspended after complaints(Original Spin) by retailers but service now offered through retailers. Offers(US) 49,500 different sizes and 30 styles for a total of nearly 1.5

million options for a cost of just $55. Orders are sent by netand jeans are produced and shipped in 2-3 weeks.

N.V. Nutsbedrijf Westland supplies natural gas to many tulip growers in theWestland Netherlands. Computers in the greenhouse help greenhouse(Newzealand) owners maintain temperature, CO2 output, humidity, light and

other factors in the most cost-efficient manner.

National Bicycle Custom built bicycles within 2/3 days of taking the order.(Japan)

Simon and Teachers can order customised books specifically matched toSchuster (US) individual course and student needs. Xerox DocuTech printers

are generating in excess of 125,000 customised books a month.

Skyway (US) Skyway is a logistics company offering whole order delivery.Shipments from multiple origins with different modes oftransport can be merged in transit and delivered as a singleorder with one set of paperwork to the store or consumer.

SmithKline Creates customised stop smoking programme for customers.Beecham (US) Uses call centre questionnaire to generate a series of

personalised communications.

Source: Adapted from http://www.managingchange.com

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5.3 BENEFITS OF e-BUSINESS

(i) Ease of formation and lowerinvestment requirements: Unlike ahost of procedural requirements forsetting up an industry, e-business isrelatively easy to start. The benefits ofinternet technology accrue to big orsmall business alike. In fact, internetis responsible for the popularity of thephrase: ‘networked individuals and

firms are more efficient than

networthed individuals.’ This meansthat even if you do not have much ofthe investment (networth) but havecontacts (network), you can dofabulous business.

Imagine a restaurant that does nothave any requirement of a physicalspace. Yes, you may have an online‘menu’ representing the best of cuisinesfrom the best of restaurants the world-over that you have networked with. Thecustomer visits your website, decidesthe menu, places the order that in turn

is routed to the restaurant locatedclosest to his location. The food isdelivered and the payment collected bythe restaurant staff and the amount dueto you as a client solicitor is credited toyour account through an electronicclearing system.(ii) Convenience: Internet offers theconvenience of ‘24 hours ××××× 7 days aweek ××××× 365 days’ a year business thatallowed Rita and Rekha to go forshopping well after midnight. Suchflexibility is available even to theorganisational personnel whereby theycan do work from wherever they are,and whenever they may want to do it.Yes, e-business is truly a businessas enabled and enhanced byelectronics and offers the advantageof accessing anything, anywhere,anytime.(iii) Speed: As already noted, much ofthe buying or selling involves exchangeof information that internet allows at

Customer

Place advertisement

Want to sell products Want to buy products

Receives money

Receives products

Customer

Figure 5.2 Consumer to Consumer e-Commerce (C2C)

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hand, it allows the seller an access tothe global market; on the other hand,it affords to the buyer a freedom tochoose products from almost any partof the world. It would not be anexaggeration to say that in the absenceof internet, globalisation would havebeen considerably restricted in scopeand speed.(v) Movement towards a paperlesssociety: Use of internet hasconsiderably reduced dependence onpaperwork and the attendant ‘red tape.’You know that Maruti Udyog does bulkof its sourcing of supplies of materialsand components in a paper less fashion.Even the government departments andregulatory authorities are increasinglymoving in this direction whereby they

the click of a mouse. This benefitbecomes all the more attractive in thecase of information-intensive productssuch as softwares, movies, music,e-books and journals that can even bedelivered online. Cycle time, i.e., thetime taken to complete a cycle from theorigin of demand to its fulfilment,is substantially reduced due totransformation of the businessprocesses from being sequential tobecoming parallel or simultaneous.You know that in the digital era, moneyis defined as electronic pulses atthe speed of light, thanks to theelectronic funds transfer technology ofe-commerce.(iv) Global reach/access: Internet istruly without boundaries. On the one

Box ASome e-Business Applications

e-Procurement: It involves internet-based sales transactions between businessfirms, including both, “reverse auctions” that facilitate online trade between asingle business purchaser and many sellers, and, digital marketplaces thatfacilitate online trading between multiple buyers and sellers.

e-Bidding/e-Auction: Most shopping sites have ‘Quote your price’ whereby youcan bid for the goods and services (such as airline tickets!). It also includese-tendering whereby one may submit tender quotations online.

e-Communication/e-Promotion: Right from e-mail, it includes publication ofonline catalogues displaying images of goods, advertisement through banners,pop-ups, opinion poles and customer surveys, etc. Meetings and conferencesmay be held by the means of video conferencing.

e-Delivery: It includes electronic delivery of computer software, photographs,videos, books (e-books) and journals (e-journals) and other multimedia contentto the user’s computer. It also includes rendering of legal, accounting, medical,and other consulting services electronically. In fact, internet provides the firmswith the opportunities for outsourcing of a host of Information Technology EnabledServices (ITES) that we will be discussing under business process outsourcing.Now, you can even print the airlines and railway tickets at home!

e-Trading: It involves securities trading, that is online buying and selling ofshares and other financial instruments. For example, sharekhan.com is India’slargest online trading firm.

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allow electronic filing of returns andreports. In fact, e-commerce tools areeffecting the administrative reformsaimed at speeding up the process ofgranting permissions, approvals andlicences. In this respect, the provisionsof Information Technology Act 2000are quite noteworthy.

5.4 LIMITATIONS OF e-BUSINESS

e-business is not all that rosy. Doingbusiness in the electronic mode suffersfrom certain limitations. It is advisableto be aware of these limitations as well.(i) Low personal touch: High-tech itmay be, e-business, however, lackswarmth of interpersonal interactions. Tothis extent, it is relatively less suitablemode of business in respect of productcategories requiring high personaltouch such as garments, toiletries, etc.(ii) Incongruence between ordertaking/giving and order fulfilmentspeed: Information can flow at the clickof a mouse, but the physical delivery ofthe product takes time. Thisincongruence may play on the patienceof the customers. At times, due totechnical reasons, web sites takeunusually long time to open. This mayfurther frustrate the user.(iii) Need for technology capabilityand competence of parties toe-business: Apart from the traditional3R’s (Reading, WRiting, andARithmetic), e-business requires afairly high degree of familiarity of theparties with the world of computers.And, this requirement is responsible forwhat is known as digital divide, that is

the division of society on the basis offamiliarity and non-familiarity withdigital technology.(iv) Increased risk due to anonymityand non-traceability of parties:Internet transactions occur betweencyber personalities. As such, it becomesdifficult to establish the identity of theparties. Moreover, one does not knoweven the location from where the partiesmay be operating. It is riskier, therefore,transacting through internet.e-business is riskier also in the sensethat there are additional hazards ofimpersonation (someone else maytransact in your name) and leakage ofconfidential information such as creditcard details. Then, there also areproblems of ‘virus,’ and ‘hacking,’ thatyou must have heard of. If not, we willbe dealing with security and safetyconcerns of online business.(v) People resistance: The process ofadjustment to new technology and newway of doing things causes stress anda sense of insecurity. As a result,people may resist an organisation’splans of entry into e-business.(vi) Ethical fallouts: “So, you areplanning to quit, you may as well quitright now”, said the HR managershowing her a copy of the e-mail thatshe had written to her friend. Sabeenawas both shocked and stunned as tohow her boss got through to her e-mailaccount. Nowadays, companies use an‘electronic eye’ to keep track of thecomputer files you use, your e-mailaccount, the websites you visit etc.Is it ethical?

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Table 5.1 Difference between Traditional and e-Business

Basis of distinction Traditional business e-business

Ease of formation Difficult Simple

Physical presence Required Not required

Locational requirementsProximity to the source of rawmaterials or the market for the

productsNone

Cost of setting up HighLow as no requirement of

physical facilities

Operating cost

High due to fixed chargesassociated with investment in

procurement and storage,production, marketing and

distribution facilities

Low as a result of relianceon network of

relationships rather thanownership of resources

Nature of contact with thesuppliers and the

customersIndirect through intermediaries Direct

Nature of internalcommunication

Hierarchical - from top levelmanagement to middle levelmanagement to lower levelmanagement to operatives

Non-hierarchical,allowing direct vertical,horizontal and diagonal

communication

Response time for meetingcustomers'/internal

requirementsLong Instantaneous

Shape of the organisationalstructure

Vertical/tall, due to hierarchy orchain of command

Horizontal/flat due todirectness of commandand communication.

Business processes andlength of the cycle

Sequential precedence-succession relationship, i.e.,

purchase - production/operation- marketing - sales. The,

business process cycle is,therefore, longer

Simultaneous(concurrence) differentprocesses. Business

process cycle is,therefore, shorter

Opportunity for inter-personal touch

Much more Less

Opportunity for physicalpre-sampling of the

productsMuch more

Less. However, fordigitable products such

an opportunity istremendous. You can pre-

sample music, books,journals, software,

videos, etc.

Ease of going global LessMuch, as cyber space istruly without boundaries

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Despite limitations, e-commerceis the way

It may be pointed out that most of thelimitations of e-business discussedabove are in the process of beingovercome. Websites are becomingmore and more interactive to overcomethe problem of ‘ low touch.’Communication technology iscontinually evolving to increase thespeed and quality of communicationthrough internet. Efforts are on toovercome the digital divide, forexample, by resorting to suchstrategies as setting up of communitytelecentres in villages and rural areasin India with the involvement ofgovernment agencies, NGOs andinternational institutions. In order todiffuse e-commerce in all nooks andcorners, India has undertaken about150 such projects.

In view of the above discussion, itis clear that e-business is here to stayand is poised to reshape thebusinesses, governance and theeconomies. It is, therefore, appropriatethat we familiarise ourselves with howe-business is conducted.

5.5 ONLINE TRANSACTIONS

Operationally, one may visualise threestages involved in online transactions.Firstly, the pre-purchase/sale stageincluding advertising and information-seeking; secondly, the purchase/salestage comprised of steps such as pricenegotiation, closing of purchase/salesdeal and payment; and thirdly, thedelivery stage (see Figure 5.2). It maybe observed from Figure 5.2 that, exceptthe stage relating to delivery, all otherstages involve flow of information. Theinformation is exchanged in thetraditional business mode too, but atsevere time and cost constraints. In face-to-face interaction in traditionalbusiness mode, for example, one needsto travel to be able to talk to the otherparty, requiring travel effort, greater timeand costs. Exchange of informationthrough the telephone is alsocumbersome. It requires simultaneouspresence of both the parties for verbalexchange of information. Informationcan be transmitted by post too, but thisagain is quite a time consuming andexpensive process. Internet comes in asthe fourth channel which is free from

Government patronage Shrinking Much, as IT sector isamong the topmost

priorities of thegovernment

Nature of human capitalSemi-skilled and even

unskilled manpower needed.

Technically andprofessionally qualified

personnel needed

Transaction riskLow due to arm's length

transactions and face-to-facecontact.

High due to the distanceand anonymity of the

parties

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most of the problems referred to above.In the case of information-intensiveproducts and services such as softwareand music, even delivery can takeplace online.

What is described here is theprocess of online trading from acustomer’s standpoint. We will be

discussing the seller’s perspective in theparagraphs on resource requirementsfor e-business. So, are you ready withthe shopping list or would you like torely on your instincts as you takea tour of the shopping mall? Letus follow Rita and Rekha browsingindiatimes.com.

Information Technology Act 2000 paves way for Paperless Society

Below are given some of the provisions of Information Technology Act 2000 thathave made it possible to have paper less dealings in the business world as wellas in the government domain.

Legal recognition of electronic records (Section 4): Where any law providesthat information or any other matter shall be in writing or in the typewritten orprinted form, then, notwithstanding anything contained in such law, suchrequirement shall be deemed to have been satisfied if such information or matteris rendered or made available in an electronic form; and accessible so as to beusable for a subsequent reference.

Legal recognition of digital signatures (Section 5): Where any law providesthat information or any other matter shall be authenticated by affixing thesignature or any document shall be signed or bear the signature of any person,hence notwithstanding anything contained in such law, such requirement shallbe deemed to have been satisfied, if such information or matter is authenticatedby means of digital signature affixed in such a manner as may be prescribed bythe Central Government.

Use of electronic records and digital signatures in Government and itsagencies (Section 6-1): Where any law provides for the filing of any form,application or any other document with any office, authority, body or agencyowned or controlled by the appropriate Government in a particular manner; theissue or grant of any licence, permit, sanction or approval by whatever namecalled in a particular manner; the receipt or payment of money in a particularmanner, then, notwithstanding anything contained in any other law for thetime being in force, such requirement shall be deemed to have been satisfied ifsuch filing, issue, grant, receipt or payment, as the case may be, is effected bymeans of such electronic form as may be prescribed by the appropriateGovernment.

Retention of electronic records (Section 7-1): Where any law provides thatdocuments, records or information shall be retained for any specific period, then,that requirement shall be deemed to have been satisfied if such documents,records or information are retained in the electronic form.

Source: Information Technology Act, 2000

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(i) Registration: Before onlineshopping, one has to register with theonline vendor by filling-up aregistration form. Registration meansthat you have an ‘account’ with theonline vendor. Among various detailsthat need to be filled in is a ‘password’as the sections relating to your‘account’, and ‘shopping cart’ arepassword protected. Otherwise, anyonecan login using your name and shop inyour name. This can put you in trouble.(ii) Placing an order: You can pickand drop the items in the shopping cart.Shopping cart is an online record ofwhat you have picked up whilebrowsing the online store. Just as in aphysical store you can put in and takeitems out of your cart, likewise, you cando so even while shopping online. Afterbeing sure of what you want to buy,you can ‘checkout’ and choose yourpayment options.(iii) Payment mechanism: Paymentfor the purchases through onlineshopping may be done in a number ofways:

• Cash-on Delivery (CoD): As isclear from the name, payment forthe goods ordered online may bemade in cash at the time ofphysical delivery of goods.

• Cheque: Alternatively, the onlinevendor may arrange for the pickupof the cheque from the customer’send. Upon realisation, the deliveryof goods may be made.

• Net-banking Transfer: Modernbanks provide to their customers thefacility of electronic transfer of fundsover the Internet using Immediate

Payment Services (IMPS), NEFTand RTGS. In this case, therefore,the buyer may transfer the amountfor the agreed price of the transactionto the account of the online vendorwho may, then, proceed to arrangefor the delivery of goods.

• Credit or Debit Cards: Popularlyreferred to as ‘plastic money,’ thesecards are the most widely usedmedium for online transactions. Infact, about 95 per cent of onlineconsumer transactions areexecuted with a credit card. Creditcard allows its holder to makepurchase on credit. The amountdue from the card holder to theonline seller is assumed by the cardissuing bank, who later transfersthe amount involved in thetransaction to the credit of the seller.Buyer’s account is debited, whooften enjoys the freedom to depositthe amount in instalments and athis convenience. Debit card allowsits holder to make purchasesthrough it to the extent of theamount lying in the correspondingaccount. The moment anytransaction is made, the amountdue as payment is deductedelectronically from the card.

To accept credit card as an onlinepayment type, the seller first needsa secure means of collecting creditcard information from its customer.Payments through credit cards canbe processed either manually, orthrough an online authorisationsystem, such as SSL Certificate (seebox on, History of e-commerce).

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• Digital Cash: This is a form ofelectronic currency that exists onlyin cyberspace. This type ofcurrency has no real physicalproperties, but offers the ability touse real currency in an electronicformat. First you need to pay to abank (vide cheque, draft, etc.) anamount equivalent to the digitalcash that you want to get issuedin your favour. Then the bankdealing in e-cash will send you aspecial software (you candownload on your hard disk) thatwill allow you to draw digital cashfrom your account with the bank.You may then use the digital fundsto make purchases over the web.

5.6 SECURITY AND SAFETY OF

e-TRANSACTIONS: e-BUSINESS RISKS

Online transactions, unlike arm’slength transactions in physical

exchange, are prone to a number ofrisks. Risk refers to the probability ofany mishappening that can resultinto f inancial, reputational orpsychological losses to the partiesinvolved in a transaction. Because ofgreater probability of such risks inthe case of online transactions,security and safety issues becomesthe most crucial concern ine-business. One may broadly discussthese issues under three headings:transaction risks, data storageand transmission risks, andthreat to intellectual property andprivacy risks.(i) Transaction risks: Onlinetransactions are vulnerable to thefollowing types of transaction risks:

• Seller denies that the customer everplaced the order or the customerdenies that he ever placed theorder. This may be referred to as‘default on order taking/giving.’

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• The intended delivery does nottake place, goods are delivered atwrong address, or goods otherthan ordered may be delivered.This may be regarded as ‘default

on delivery’.• Seller does not get the payment for

the goods supplied whereas thecustomer claims that the paymentwas made. This may be referredto as ‘default on payment’.

Thus, in e-business risk may arisefor the seller or the buyer on accountof default on order taking/giving,delivery as well as payment. Suchsituations can be averted by providingfor identity and location/addressverification at the time of registration,and obtaining authorisation as to theorder confirmation and paymentrealisation. For example, in order toconfirm that the customer has correctlyentered his details in the registrationform, the seller may verify the samefrom the ‘cookies’. Cookies are verysimilar to the caller ID in telephonesthat provide telemarketers with suchrelevant information as: the consumer’sname, address and previous purchasepayment record. As for customer’sprotection from anonymous sellers, itis always advisable to shop from well-established shopping sites. Whileallowing advertisers to sell theirproducts online, these sites assurecustomers of the sellers’ identities,locations and service records. Sitessuch as eBay even provide for rating ofthe sellers. These sites provideprotection to the customers against

default on delivery and reimburse thepayments made up to some extent.

As for the payments, we havealready seen that in almost 95 per centof the cases people use credit cards fortheir online purchases. At the time ofconfirming the order, the buyer isrequired to furnish the details such asthe card number, card issuer and cardvalidity online. These details may beprocessed offline; and only aftersatisfying himself or herself about theavailability of the credit limits, etc., theseller may go ahead with the deliveryof goods. Alternatively, e-commercetechnology today permits even onlineprocessing of the credit cardinformation. For protecting the creditcard details from being misused,shopping malls these days use theencryption technology such asNetscape’s Secure Sockets Layer (SSL).You can gain some information aboutSSL from box on history of e-commerce.In the succeeding section, we willfamiliarise you with the encryption orcryptography — an important toolused for safeguarding against datatransmission risks in onlinetransactions.

(ii) Data storage and transmissionrisks: Information is power indeed. Butthink for a moment if the power goesinto the wrong hands. Data stored inthe systems and en-route is exposedto a number of risks. Vital informationmay be stolen or modified to pursuesome selfish motives or simply for fun/adventure. You must have heard of‘virus’ and ‘hacking’. Do you know the

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5.7 RESOURCES REQUIRED FOR

SUCCESSFUL e-BUSINESS

IMPLEMENTATION

Setting up of any business requiresmoney, men and machines (hardware).For e-business, you require additionalresources for developing, operating,maintaining and enhancing a websitewhere ‘site’ means location and ‘web’means world wide web (www). Simplyspeaking, a website is a firm’s locationon the world wide web. Obviously,website is not a physical location.Rather, it is an online embodiment ofall the content that a firm may like toprovide to others.

5.8 OUTSOURCING: CONCEPT

Outsourcing is yet another trend thatis radically reshaping business. Itrefers to a long-term contracting outgenerally the non-core and of late evensome of the core activities to captiveor third party specialists with aview to benefitting from theirexperience, expertise, efficiency and,even investment.

This simple definition leads one tothe salient features of the concept thatare not peculiar to an industry/business or country, but have becomea global phenomenon.(i) Outsourcing involves contractingout: Literally, outsourcing means tosource from outside what you havehitherto been doing in-house. Forexample, most companies have so farappointed their own sanitation staff formaintaining neatness, cleanliness andoverall housekeeping of their premises.

full form of the acronym ‘VIRUS?’ Itmeans Vital Information Under Siege.Actually, virus is a program (a series ofcommands) which replicates itself on theother computer systems. The effect ofcomputer viruses can range from mereannoyance in terms of some on-screendisplay (Level-1 virus), disruption offunctioning (Level-2 virus) damage totarget data files (Level-3 virus), tocomplete destruction of the system(Level-4 virus). Installing and timelyupdating anti-virus programmes andscanning the files and disks with themprovides protection to your data files,folders and systems from virus attacks.

Data may be intercepted in thecourse of transmission. For this, onemay use cryptography. It refers to theart of protecting information bytransforming it (encrypting it) into anunreadable format called ‘cyphertext’.Only those who possess a secret key candecipher (or decrypt) the message into‘plaintext’. This is similar to using ‘codewords’ with some one so that others donot understand your conversation.(iii) Risks of threat to intellectualproperty and privacy: Internet is anopen space. Once the information isavailable over the internet, it moves outof the private domain. It then becomesdifficult to protect it from being copied.Data furnished in the course of onlinetransactions may be supplied to otherswho may start dumping a host ofadvertising and promotional literatureinto your e-mail box. You are then atthe receiving end, with little respite fromreceiving junk mails.

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That is, sanitation and housekeepingfunctions were being performed in-house. But of late, many companieshave started outsourcing theseactivities, i.e., they have entrustedoutside agencies to perform theseactivities for their organisations on acontractual basis.(ii) Generally non-core businessactivities are outsourced: Sanitationand housekeeping functions are non-core for most organisations. Of course,for municipalities and sanitationsservices providers, these activitiescomprise the core of their businessactivity. Housekeeping is a core activityfor a hotel. In other words, dependingupon what business a company is in,there will be some activities that arecentral and critical to its basic businesspurpose. Other activities may beregarded as secondary or incidental tofulfilling that basic purpose. Thepurpose of a school, for example, is todevelop a child by means of curricularand co-curricular activities. Clearly,these activities comprise the ‘core’activities. Running a cafeteria/canteenor a book store is non-core activity fora school.

As the organisations venture toexperiment with outsourcing, they mayinitially outsource only the non-core activities. But later on, as theybecome comfortable with managinginterdependencies, they may startgetting even the core activitiesperformed by the outsiders. Forexample, a school may tie-up with somecomputer training institute to impartcomputer education to its students.

(iii) Processes may be outsourced toa captive unit or a third party: Thinkof a large multinational corporationthat deals in diverse products andmarkets them to a large number ofcountries. A number of processes suchas recruitment, selection, training,record and payroll (Human Resources),management of accounts receivableand accounts payable (accounting andfinance), customer support/grievancehandling /troubleshooting (marketing)are common to all its subsidiariesoperating in different countries. If theseprocesses could be centralised andparcelled out to a business unit createdespecially for this purpose, this wouldresult in avoidance of duplication ofresources, realisation of efficiency andeconomy’s performance of same activityon a large scale at one or a few selectlocations, thereby resulting insubstantial reduction in costs. Clearly,therefore, if the task of performing someactivity internally is sufficiently large,it may be beneficial for the firm to havea captive service provider, i.e., a serviceprovider set up for providing servicesof a given kind to only one firm. GeneralElectric (GE) is, for instance, the largestcaptive BPO unit in India for providingcertain kinds of services to the parentcompany in the United States as wellas to its subsidiaries in other countries.Or else, these processes may beparcelled out to third party serviceproviders who operate independentlyin the market and provide services toother firms too.

Figure 5.4 provides a synopticalview of how a firm can outsource someof its activities to the captive and third

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party service providers. The hired partyservice providers are the persons/firmswhich specialise in some processessuch as Human Resource Management(HRM) and provide their services to awide base of clients, cutting acrossindustries. Such service providers arecalled ‘horizontals’ in the outsourcingterminology. Else, they may specialisein one or two industries and scale upto doing a number of processes fromnon-core to core. These are called‘verticals.’ As the service providersmature, they move simultaneouslyhorizontal and vertical.

The most important reasonunderlying the use of outsourcing isto benefit from the expertise andexperience of others. Institutions likeschools, companies and hospitals canoutsource the cafeteria activity to thecatering and nutrition firms for whomthese activities comprise the core orheart of their operations. The idea ofoutsourcing is valuable as you tend togain not only in terms of their expertiseand experience and the resultantefficiency, but it also allows you to limityour investment and focus attention towhat your core processes are.

Little wonder that outsourcing isfast becoming an emerging mode ofbusiness. Firms have startedincreasingly outsourcing one or moreof their processes which can be moreefficiently and effectively carried out byothers. What qualifies outsourcingas an emerging mode of businessis its increasing acceptance as afundamental business policy andphilosophy, as opposed to the earlierphilosophy of ‘doing it all by yourself ’.

5.8.1 Scope of Outsourcing

Outsourcing comprises four keysegments: contract manufacturing,contract research, contract sales andinformatics (see Figure 5.5).

The term outsourcing has morepopularly come to be associated withIT -enabled services or BusinessProcess Outsourcing (BPO). In fact,even more popular term is ‘call centres’providing customer-oriented voicebased services. About 70 per cent ofthe BPO industry’s revenue comesfrom call-centers, 20 per cent fromhigh-volume, low-value data work andthe remaining 10 per cent from higher-value information work. ‘Customer Care’

Figure 5.4 Types of Outsourcing Service Providers

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accounts for the bulk of the call centreactivities with 24 hours × 7 dayshandling of in-bound (customer queriesand grievances) and out-bound(customer surveys, payment follow-upand telemarketing) traffic. Figure 5.5outlines various types of outsourcingactivities.

5.8.2 Need for Outsourcing

Necessity, they say, is the mother of allinventions. This can be said to be trueeven in case of the idea of outsourcing.

As discussed in the introduction to thechapter, global competitive pressuresfor higher quality products at lowercosts, ever demanding customers, andemerging technologies are the threemajor drivers causing a rethink orre-look at business processes. Thesemay be regarded as factors responsiblefor the continuing emergence ofoutsourcing as a mode of business. Infact, today outsourcing is beingresorted to not out of compulsion,

Figure 5.5 Anatomy of Outsourcing

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but also out of choice. Some of themajor reasons (and also benefits) ofoutsourcing are discussed below.(i) Focusing of attention: You may begood at doing so many things inacademics and extra-curricularactivities, yet you would be better off byfocusing your limited time and moneyon just a few things for better efficiencyand effectiveness. Likewise, businessfirms are realising the usefulness offocusing on just a few areas where theyhave distinct capability or corecompetence, and contracting out therest of the activities to their outsourcingpartners. You are aware, that, in orderto create utilities or value, a businessengages in a number of processes, viz.,purchase and production, marketingand sales, R&D, accounting andfinance, HR and administration etc.Firms need to define or redefinethemselves. They, for example, need toconsider as to whether they would liketo be called a manufacturing ormarketing organisation. Such a way ofdelimiting the scope of businessenables them to focus their attentionand resources on select activities forbetter efficiency and effectiveness.(ii) Quest for excellence: You areaware of the benefits of division of labourand specialisation. Outsourcingenables the firms to pursue excellencein two ways. One, they excel themselvesin the activities that they can do thebest by virtue of limited focus. And,they excel by extending theircapabilities through contracting outthe remaining activities to those whoexcel in performing them. In the quest

for excellence, it is necessary not onlyto know what you would like to focuson, but also what you would likeothers to do for you.(iii) Cost reduction: Globalcompetitiveness necessitates not onlyglobal quality, but also globalcompetitive pricing. As the prices turnsouthwards due to competitivepressures, the only way to survival andprofitability is cost reduction. Divisionof labour and specialisation, besidesimproving quality, reduces cost too.This happens due to the economies oflarge scale accruing to the outsourcingpartners as they deliver the sameservice to a number of organisations.Differences in prices of factors ofproduction across the countriesare also a factor contributing tocost reduction. For example, Indiais a preferred destination forglobal outsourcing of Research andDevelopment, manufacturing, softwaredevelopment and IT enabled services(ITES) because of large scale availabilityof required manpower at lower costs.(iv) Growth through alliance: To theextent you can avail of the services ofothers, your investment requirementsare reduced, others have invested inthose activities for you. Even if you maylike to have a stake in the business ofyour outsourcing partners, you profitfrom not only the low-cost and betterquality services provided by them toyou but also by virtue of a share in theprofit from the overall business they do.Therefore, you can expand rapidly asthe same amount of investible fundsresult in creation of a large number of

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businesses. Apart from financialreturns, outsourcing facilitates inter-organisational knowledge sharing andcollaborative learning. This may alsoexplain the reasons why the firms todayare outsourcing not only their routine,non-core processes, but also seekingto benefit from outsourcing suchstrategic and core processes asResearch and Development.(v) Fillip to economic development:Outsourcing, more so offshore out-sourcing, stimulates entrepreneurship,employment and exports in the hostcountries (i.e., the countries from whereoutsourcing is done). In India in the ITsector alone, for example, there hasbeen such a tremendous growth ofentrepreneurship, employment andexports that today we are theundisputed leaders as far as globaloutsourcing in software developmentand IT-enabled services are concerned.Presently, we have 60 per cent of the$150 billion (1 billion = Rs. 100 crores)global outsourcing share in theinformatics sector.

5.8.3 Concerns over Outsourcing

It will not be out of place to be aware ofsome of the concerns that outsourcingis besieged with.(i) Confidentiality: Outsourcingdepends on sharing a lot of vitalinformation and knowledge. If theoutsourcing partner does not preservethe confidentiality, and, say, forexample, passes it on to competitors, itcan harm the interest of the party thatoutsources its processes. If outsourcinginvolves complete processes/products,there is a further risk of the outsourcing

partner starting up a competitivebusiness.(ii) Sweat-shopping: As the firms thatoutsource seek to lower their costs,they try to get maximum benefit fromthe low-cost manpower of the hostcountries. Moreover, it is observed thatwhether in the manufacturing sector orthe IT-sector, what is outsourced is thekind of components or work that doesnot much build the competency andcapability of the outsourcing partnerbeyond the skills needed to complywith a rigidly prescribed procedure/method. So, what the firm that go infor outsourcing look for is the ‘doing’skills rather than development of the‘thinking’ skills.(iii) Ethical concerns: Think of a shoecompany that, in order to cut costs,outsources manufacturing to adeveloping country where they usechild labour/women in the factories.Back home, the company cannot do sodue to stringent laws forbidding use ofchild labour. Is cost cutting by usingchild labour in countries where it is notoutlawed or where the laws are ‘weak’,ethical? Similarly, is it ethical tooutsource the work to countries wherethere exists wage-discrimination on thebasis of sex of the worker?(iv) Resentment in the homecountries: In the course of contractingout manufacturing, marketing,Research and Development orIT-based services, what is ultimatelycontracted out is ‘employment’ or jobs.This may cause resentment back in thehome country (i.e., the country from

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Key Terms

e-Business e-Commerce Browser

Virus Secure Sockets Layer (SSL) Online trading

e-Trading e-Procurement e-Bidding

e-Cash Business Process Outsourcing Call Centres

Verticals Horizontals Captive BPO units

Sweat-shopping

which the job is being sourced out)particularly if the home country issuffering from the problem ofunemployment.

The aforementioned concerns,however, do not seem to matter muchas the global outsourcing continues to

flourish. As India emerges as a globaloutsourcing hub, the industry isforecast to explode at exponentialrates — from 23,000 people and $ 10million per annum in 1998 to over amillion people and revenues in excessof $ 20 billion by 2008.

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SUMMARY

The world of business is changing. e-business and outsourcing are the twomost obvious expressions of this change. The trigger for the change owesits origin to both internal and external forces. Internally, it is the businessfirm’s own quest for improvement and efficiency that has propelled it intoe-business and outsourcing. Externally, the ever mounting competitivepressures and ever demanding customers have been the force behind thechange.

Electronic mode of doing business, or e-business as it is referred to, presentsthe firm with promising opportunities for anything, anywhere and anytimeto its customers, thereby, dismantling the time and space/locationalconstraints on its performance. Though e-business is high-tech, it suffersfrom the limitation of being low in personal touch. The customers as aresult do not get attended to on an interpersonal basis. Besides, there areconcerns over security of e-transactions and privacy of those who transactbusiness over the internet. The benefits of e-commerce also seem to haveaccrued unevenly across countries and across regions within a country.

Apart from becoming digital, the firms are also resorting to a departurefrom the erstwhile ‘do it all by yourself’ mindset. They are increasinglycontracting out manufacturing, R and D as well as of business processesirrespective of whether these are IT enabled or not. India is riding high onthe global outsourcing business and has gained considerably in termsof employment generation, capability building and contribution to exportsand GDP.

Together, the two trends of e-business and outsourcing are reshaping theway business is and will be conducted. Interestingly, both e-business andoutsourcing are continuing to evolve, and that is why these are referred toas the emerging modes of business.

EXERCISES


Tick mark (ü) the most appropriate answer to the following questions

1. e-commerce does not include

a. A business’s interactions with its suppliers

b. A business’s interactions with its customers

c. Interactions among the various departments within thebusiness

d. Interactions among the geographically dispersed units of thebusiness

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2. Outsourcing

a. Restricts only to the contracting out of Information TechnologyEnabled Services (ITES)

b. Restricts only to the contracting out of non-core businessprocesses

c. Includes contracting out of manufacturing and R&D as well asservice processes — both core and non-core — but restricts onlyto domestic territory

d. Includes off-shoring

3. The payment mechanism typical to e-business

a. Cash on Delivery (CoD) b. Cheques

c. Credit and Debit Cards d. e-Cash

4. A Call Centre handles

a. Only in-bound voice based business

b. Only out-bound voice based business

c. Both voice based and non-voice based business

d. Both customer facing and back-end business

5. It is not an application of e-business

a. Online bidding b. Online procurement

c. Online trading d. Contract R&D

Short Answer Questions (50 Words)

1. State any three differences between e-business and traditionalbusiness.

2. How does outsourcing represent a new mode of business?

3. Describe briefly any two applications of e-business.

4. What are the ethical concerns involved in outsourcing?

5. Describe briefly the data storage and transmission risks in e-business.


1. Why are e-business and outsourcing referred to as the emerging modesof business? Discuss the factors responsible for the growing importanceof these trends.

2. Elaborate the steps involved in on-line trading.

3. Evaluate the need for outsourcing and discuss its limitations.

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4. Discuss the salient aspects of B2C commerce.

5. Discuss the limitations of electronic mode of doing business. Are theselimitations severe enough to restrict its scope? Give reasons for youranswer.


1. Compare and contrast the products and their prices available on theinternet and in retail shops. Is the quality, customer satisfaction andother factors the same?

2. Study any business unit/company which is using e-commerce,e-business as a way of doing business. Interview some people workingthere and find out the advantages in practical business in terms of itscosts also.

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CHAPTER 6

SOCIAL RESPONSIBILITIES OF BUSINESS AND

BUSINESS ETHICS

LEARNING OBJECTIVES


• explain the concept of social responsibility;

• discuss the need for social responsibility;

• identify the social responsibility towards different interest groups;

• analyse the relationship between business and environmental

protection; and

• define the concept of business ethics and state the elements of

business ethics.

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6.1 INTRODUCTION

A business enterprise should dobusiness and earn money in ways thatfulfill the expectations of the society.Every individual living in society hascertain obligations towards society. Hehas to respect social values and normsof behaviour. A business enterprise ispermitted by society to carry onindustrial or commercial activities andthereby earn profits. But it is obligatoryon part of the business enterprise notto do anything, that is undesirable fromsociety’s point of view. Manufactureand sale of adulterated goods, makingdeceptive advertisements, not payingtaxes which are due, polluting theenvironment and exploiting workersare some examples of sociallyundesirable practices which mayincrease the profit of enterprises butwhich have adverse effect on society atlarge. On the other hand, supplyinggood quality goods, creating healthyworking conditions, honestly payingtaxes prevention/installing pollution

devices in the factory, and sincerelyattending to customer complaints areexamples of socially desirable practiceswhich improve the image of enterprisesand also make them profitable. In fact,it is through socially responsible andethically upright behaviour thatbusiness enterprises can get durablesuccess.

6.2 CONCEPT OF SOCIAL RESPONSIBILITY

Social responsibility of business refersto its obligation to take those decisionsand perform those actions which aredesirable in terms of the objectives andvalues of our society. The assumptionof social responsibilities by businessenterprises implies that they respectthe aspirations of society and would trytheir best to contribute to theachievement of these aspirations alongwith their profit interests. This idea isin contrast to the common notion thatbusiness exists only for maximisingprofits for its owners and it is irrelevantto talk of public good. It follows that a

Mani is a young newspaper reporter and has been writing for almost six months

on malpractices by business enterprises including such issues as misleading

advertisements, supply of adulterated products, poor working conditions,

environmental pollution, bribing government officials, and so on. He has started

believing that business people tend to do anything to mint money. He happens

to take an interview of Mr. Raman Jhunjhunwala, chairman of a leading truck

manufacturing company which is known for its fair dealing with customers,

employees, investors as well as other social groups. Through this interview,

Mani develops the understanding that it is possible for a business enterprise

to be socially responsible and ethically upright and, at the same time, be highly

profitable. He then gets busy with studying more about the social responsibility

of business and business ethics.

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147SOCIAL RESPONSIBILITIES OF BUSINESS AND BUSINESS ETHICS

responsible business, and indeed anyresponsible member of society, mustact with due concern for the effects onthe lives of other people.

In this sense, social responsibilityis broader than legal responsibility ofbusiness. Legal responsibility may befulfilled by mere compliance with thelaw. Social responsibility is more thanthat. It is a firm’s recognition of socialobligations even though not covered bylaw, along with the obligations laiddown by law. In other words, socialresponsibility involves an element ofvoluntary action on the part of businesspeople for the benefit of society.

6.3 NEED FOR SOCIAL RESPONSIBILITY

What is the right thing to do when itcomes to social responsibility? Shoulda business enterprise be run for thebenefit of its owners who may desire to

get as much profit as is possible or else,

it needs to be responsible for serving

the interest of other sections of society

such as customers, employees,

suppliers, government and community?

The very concept of social responsibility

implies that it is essentially an ethical

issue, since it involves the question of

what is morally right or wrong in

relation to the firm’s responsibilities.

Social responsibility also has an

element of voluntary action on the part

of the business person who may feelfree to perform or not to perform such

responsibilities. They may also exercise

their freedom for deciding the extent towhich they would like to serve various

sections of society. In fact, all business

people do not feel equally responsible

towards society. There has been a

debate, for some time now whether

business should assume social

responsibilities or not. Some peoplestrongly believe that a firm’s only social

Corporate Social Responsibility

Corporate sustainability refers to the role that companies can play in meetingthe agenda of sustainable development and entails a balanced approach toeconomic progress, social progress and environmental protection.

There is no single universally accepted definition of CSR, each definition thatcurrently exists underpins the impact that businesses have on society at largeand the societal expectations of them.

i. The European Commission defines CSR as “the responsibility of enterprisesfor their impacts on society”.

ii. The World Business Council for Sustainable Development defines CSR as“the continuing commitment by business to contribute to economicdevelopment while improving the quality of life of the workforce and theirfamilies, as well as, of the community and society at large”.

iii. The United Nations Industrial Development Organisation defines “Corporatesocial responsibility” as a management concept whereby companies integratesocial and environmental concerns in their business operations andinteractions with their stakeholders. CSR is generally understood as being the

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responsibility is towards its owners.Some others, however, hold an oppositeview and argue that the firm has a socialresponsibility to serve all sections ofsociety who are affected by its decisionsand actions. It would be useful tounderstand the arguments offeredboth in favour of and against theassumption of social responsibilitiesby business.

6.3.1 Arguments for SocialResponsibility

(i) Justification for existence andgrowth: Business exists for providinggoods and services to satisfy humanneeds. Though, profit motive is animportant justification for undertakingbusiness activity, it should be looked

upon as an outcome of service to thepeople. In fact, the prosperity andgrowth of business is possible onlythrough continuous service to society.Thus, assumption of socialresponsibility by business providesjustifications for its existence andgrowth.

(ii) Long-term interest of the firm:A firm and its image stands to gainmaximum profits in the long run whenit has its highest goal as ‘service tosociety’. When increasing number ofmembers of society — includingworkers, consumers, shareholders,government officials, feel that businessenterprise is not serving its bestinterest, they will tend to withdraw theircooperation to the enterprise

way through which a company achieves a balance of economic, environmentaland social imperatives while at the same time addressing the expectationsof shareholders and stakeholders. In this sense, it is important to draw adistinction between CSR, which can be strategic business managementconcept and charity, sponsorships or philanthropy. Even though the lattercan also make a valuable contribution to poverty reduction, it will directlyenhance the reputation of a company and strengthen its brand, the conceptof CSR clearly goes beyond that”.

In India, the concept of CSR is governed by Clause 135 of the Companies Act,2013, which was passed by both the Houses of the Parliament, and had receivedthe assent of the President of India on 23 August 2013.

The CSR provisions within the Act is applicable to companies with an annualturnover of 1,000 crore and more, or a net worth of Rs. 500 crore and more, or anet profit of Rs. 5 crore and more.

1. The new rules, which are applicable from the fiscal year 2014-15 onwards,also require companies to setup a CSR committee consisting of their boardmembers, including at least one independent director.

2. The Act encourages companies to spend at 2% of their average net profit inthe previous three years on CSR activities.

3. The indicative activities, which can be undertaken by a company underCSR, have been specified under Schedule VII of the Act.

4. Only CSR activities undertaken in India will be taken into consideration.5. Activities meant exclusively for employees and their families will not qualify

under CSR.

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concerned. Therefore, it is in its owninterest if a firm fulfills its socialresponsibility. The public image of anyfirm would also be improved when itsupports social goals.

(iii) Avoidance of governmentregulation: From the point of view of abusiness, government regulations areundesirable because they limitfreedom. Therefore, it is believed thatbusinessmen can avoid the problem ofgovernment regulations by voluntarilyassuming social responsibilities, whichhelps to reduce the need for new laws.(iv) Maintenance of society: Theargument here is that laws cannot bepassed for all possible circumstances.People who feel that they are not gettingtheir due from the business may resortto anti-social activities, not necessarilygoverned by law. This may harm theinterest of business itself. Therefore, itis desirable that business enterprisesshould assume social responsibilities.(v) Availability of resources withbusiness: This argument holds thatbusiness institutions have valuablefinancial and human resources whichcan be effectively used for solvingproblems. For example, business hasa pool of managerial talent and capitalresources, supported by years ofexperience in organising businessactivities. It can help society to tackleits problems better, given the hugefinancial and human resources at itsdisposal.(vi) Converting problems intoopportunities: Related with thepreceding argument is the argumentthat business with its glorious history

of converting risky situations intoprofitable deals, can not only solvesocial problems but it can also makethem effectively useful by accepting thechallenge.(vii) Better environment for doingbusiness: If business is to operate in asociety which is full of diverse andcomplicated problems, it may have littlechance of success. Therefore, it isargued that the business systemshould do something to meet needsbefore it is confronted with a situationwhen its own survival is endangereddue to enormous social illnesses. Asociety with fewer problems providesbetter environment for a firm toconduct its business.(viii) Holding business responsiblefor social problems: It is argued thatsome of the social problems have eitherbeen created or perpetuated bybusiness enterprises themselves.Environmental pollution, unsafeworkplaces, corruption in publicinstitutions, and discriminatorypractices in employment are some ofthese problems. Therefore, it is themoral obligation of business to getinvolved in solving these problems,instead of merely expecting that othersocial agencies will deal with them ontheir own.

6.3.2 Arguments against SocialResponsibility

Major arguments against socialresponsibility are:

(i) Violation of profit maximisationobjective: According to this argument,business exists only for profit

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maximisation. Therefore, any talk ofsocial responsibility is against thisobjective. In fact, business can bestfulfill its social responsibility if itmaximises profits through increasedefficiency and reduced costs.(ii) Burden on consumers: It is arguedthat social responsibilities like pollutioncontrol and environmental protectionare very costly and often require hugefinancial investments. In suchcircumstances, businessmen are likelyto simply shift this burden of socialresponsibility by charging higher pricesfrom the consumers instead of bearingit themselves. Therefore, it is unfair totax the consumers in the name of socialresponsibility.(iii) Lack of social skills: All socialproblems cannot be solved the waybusiness problems are solved. In fact,businessmen do not have the necessaryunderstanding and training to solvesocial problems. Therefore, accordingto this argument, social problemsshould be solved by other specialisedagencies.(iv) Lack of broad public support:Here the argument is that the public ingeneral does not like businessinvolvement or interference in socialprogrammes. Therefore, businesscannot operate successfully because oflack of public confidence andcooperation in solving social problems.

6.3.3 Reality of Social Responsibility

On the basis of the above argumentsfor and against social responsibility,one may wonder what the businessmendo in reality. Do they concentrate on

profit maximisation? Or, do theysupport social goals? The fact is thatone of the most important recentchanges in the attitude of businesspeople has been the realisation thatthey have social obligations to fulfillbesides ensuring their own existencethrough profitable activity. Of course,part of this realisation is not genuineand takes the form of lip service, whichis thought necessary to ensure thesurvival of private enterprise. But at thesame time it cannot be denied thatprivate business does partly realise andrecognise the hard reality that aprivately owned firm has to meet thechallenge of a democratic society,where all people have certain humanrights and therefore, can demandresponsible conduct from business.Unless the business sets its house inorder, changes its outlook and isprepared to play its legitimate role asan organ of society, it has little chanceof success. It will be useful here to gointo some of the reasons and factors,which have forced and persuadedbusinessmen to consider theirresponsibilities and the conditionswhich were favourable to thedevelopment of business concern withsocial responsibility. Some of the moreimportant among them are:(i) Threat of public regulation:Democratically elected governments oftoday are expected to act as welfarestates whereby they have to take careof all sections of society. Thus, wherebusiness institutions operate in asocially irresponsible manner, action istaken to regulate them for safeguardingpeople’s interest. This threat of public

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regulation is one important reason dueto which business enterprise feelsconcerned with social responsibility.(ii) Pressure of labour movement:Over the last century or so, labour hasbecome far more educated andorganised. Accordingly, labourmovement for extracting gains for theworking class throughout the worldhas become very powerful. This hasforced business enterprises to pay dueregard to the welfare of workers insteadof following a policy of ‘hire and fire’under which they could deal withworkers at their will.(iii) Impact of consumerconsciousness: Development ofeducation and mass media andincreasing competition in the markethave made the consumer conscious ofhis right and power in determiningmarket forces. The principle of caveat

emptor (or let the buyer beware) hasbeen substituted by the principle of‘customer is king’. Business enterpriseshave started following customer-oriented policies.(iv) Development of social standardfor business: Businesses are no longerconsidered merely money crazy entities,which can be allowed to mint money atany cost and get away with any kind ofbusiness practices. New socialstandards consider economic activity ofbusiness enterprises as legitimate butwith the condition that they must alsoserve social needs. No business can bedone in isolation from society. It is thesociety that permits business to existand grow and it is on the basis of socialstandards that business functioning isto be ultimately judged.

(v) Development of businesseducation: Development of businesseducation with its rich content of socialresponsibility has made more andmore people aware of the socialpurpose of business. Educatedpersons as consumers, investors,employees, or owners have becomemore sensitive towards social issuesthan was the case earlier, when sucheducation was not available.(vi) Relationship between socialinterest and business interest:Business enterprises have startedrealising the fact that social interest andbusiness interest are not contradictory.Instead, these are complementary toeach other. The feeling that businesscan grow only through exploitation ofsociety has given way to the belief thatlong-term benefit of business lies inserving the society well. So also, auseful institution like business isrecognised as an essential element of amodern civilised society.

(vii) Development of professional,managerial class: Professionalmanagement education in universitiesand specialised management instituteshave created a separate class ofprofessional managers who have got analtogether different attitude towardssocial responsibility as compared to theearlier class of owner manager.Professional managers are moreinterested in satisfying a multiplicity ofinterest groups in society for runningtheir enterprises successfully thanmerely following profit goals.

These and a number of other socialand economic forces have combined

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together to make business a socio-economic activity. Business is no longera mere occupation; it is an economicinstitution that has to reconcile itsshort-term and long range economicinterests with the demands of thesociety in which it functions.Essentially, it is this which gives rise tothe general and specific socialresponsibilities of business. While thereis no denial of the fact that business isessentially an economic enterprise andthat it must ultimately justify itself oneconomic performance, it is also truethat business is an organ of society andas such it must justify its continuanceby fulfilling its roles and responsibilitiesof society.

6.4 KINDS OF SOCIAL RESPONSIBILITY

Social responsibility of business canbroadly be divided into four categories,which are as follows:(a) Economic responsibility: A

business enterprise is basically aneconomic entity and, therefore, itsprimary social responsibility iseconomic i.e., produce goods andservices that society wants and sellthem at a profit. There is littlediscretion in performing thisresponsibility.

(b) Legal responsibility: Everybusiness has a responsibility tooperate within the laws of the land.Since these laws are meant for thegood of the society, a law abidingenterprise is a socially responsibleenterprise as well.

(c) Ethical responsibility: Thisincludes the behaviour of the firm

that is expected by society but notcodified in law. For example,respecting the religious sentimentsand dignity of people whileadvertising for a product. There isan element of voluntary action inperforming this responsibility.

(d) Discretionary responsibility.This refers to purely voluntaryobligation that an enterpriseassumes, for instance, providingcharitable contributions toeducational institutions orhelping the affected people duringfloods or earthquakes. It is theresponsibility of the companymanagement to safeguardthe capital investment byavoiding speculative activity andundertaking only healthy businessventures which give good returnson investment.

6.5 SOCIAL RESPONSIBILITY TOWARDS

DIFFERENT INTEREST GROUPS

Once the social objective of business isrecognised, it is important to know towhom and for what the business andits management are responsible.Obviously, a business unit has todecide in which areas it should carryout social goals. Some of the specificresponsibilities and enterprise may beoutlined as under:(i) Responsibility towards theshareholders or owners: A businessenterprise has the responsibility toprovide a fair return to the shareholdersor owners on their capital investmentand to ensure the safety of suchinvestment. The corporate enterprise on

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a company form of organisation mustalso provide the shareholders withregular, accurate and full informationabout its working as well as schemesof future growth.(ii) Responsibility towards theworkers: Management of an enterpriseis also responsible for providingopportunities to the workers formeaningful work. It should try to createthe right kind of working conditions sothat it can win the cooperation ofworkers. The enterprise must respectthe democratic rights of the workers toform unions. The worker must also beensured of a fair wage and a fair dealfrom the management.(iii) Responsibility towards theconsumers: Supply of right qualityand quantity of goods and services toconsumers at reasonable pricesconstitutes the responsibility of anenterprise toward its customers. Theenterprise must take proper precautionagainst adulteration, poor quality, lackof desired service and courtesy tocustomers, misleading and dishonestadvertising, and so on. They must alsohave the right of information about theproduct, the company and othermatters having a bearing on theirpurchasing decision.

(iv) Responsibility towards thegovernment and community: Anenterprise must respect the laws of thecountry and pay taxes regularly andhonestly. It must behave as a goodcitizen and act according to the wellaccepted values of the society. It mustprotect the natural environment andshould avoid bad, effluent, smoky

chimneys, ugly buildings dirty workingconditions. It must also develop aproper image in society throughcontinuous interaction with variousgroups of people.

6.6 BUSINESS AND ENVIRONMENTAL

PROTECTION

Protection of the environment is a

serious issue that confronts businessmanagers and decision makers. Theenvironment is defined as the totality

of man’s surroundings — both naturaland man-made. These surroundingsare also in the nature of resources, that

are useful for human life. Theresources may also be called naturalresources like land, water, air, fauna

and flora and raw materials; or man-made resources such as culturalheritage, socio-economic institutionsand the people. It is widely recognised

that the quality of the environment isfast deteriorating particularly due toindustrial activity. This is a common

sight around major cities like Kanpur,Jaipur, Delhi, Panipat, Kolkata, andothers, in various states of our

country. Their emissions are seriouslyaffecting the health of the people.Pollution — the injection of harmful

substances into the environment is, infact, largely the result of industrialproduction. Since some waste is

inevitable in the use of materials andenergy, the manufacturers face a greatchallenge in minimising the adverse

impact of this waste by using propertechnologies. Protection of theenvironment is good for all of us.

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Pollution changes the physical,chemical and biological characteristicsof air, land and water. Pollution harmshuman life and the life of other species.It also degrades living conditions whilewasting or depleting raw materialresources. The country’s culturalheritage is also affected and it isbecoming increasingly difficult toprotect all historical monuments.Pollution exists because theenvironment can absorb only a limitedamount of pollutants and wastes.Some hazardous wastes or toxicby-products and chemicals are termedas hazardous pollutants because theyhave toxic characteristics that theenvironment can not assimilate.Pollution thus causes risks toenvironmental quality, human healthand damage to natural and man-maderesources. Protection of theenvironment is directly related to thecontrol of pollution.

6.6.1 Causes of Pollution

It must be recognised that all sectorsof our society viz., industry,government, agriculture, mining,energy, transportation, construction,and consumers generate waste. Wastescontain pollutants which are the

materials of chemicals that have beendiscarded during the process ofproduction or consumption. Pollutionis caused by these pollutants which arereleased into the environment beyondits assimilation capacity. Among thevarious sources of pollution, industryis a major generator of waste in termsof both its quantity and toxicity.Business activities such as production,distribution, transport, storage,consumption of goods and services areknown to be the most critical sourcesof environmental pollution problems.Many business enterprises have beenresponsible for causing (i) air, (ii) water(iii) land, and (iv) noise pollution.

These types of pollution arediscussed as follows:(i) Air pollution: Air pollution is theresult of a combination of factors whichlowers the air quality. It is mainly dueto carbon monoxide emitted byautomobiles which contributes to airpollution. Similarly, smoke and otherchemicals from manufacturing plantspollute the air. Resultant air pollutionhas created a hole in the ozone layerleading to dangerous warming ofthe earth.(ii) Water pollution: Water becomespolluted primarily from chemical andwaste dumping. For years, business

Environmental Problems

The United Nations has identified eight problems that cause damage to thenatural environment. These are:(i) Ozone depletion (v) Freshwater quality and quantity(ii) Global warming (vi) Deforestation(iii) Solid and hazardous wastes (vii) Land degradation(iv) Water pollution (viii) Danger to biological diversity

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enterprises have been dumping wasteinto rivers, streams and lakes with littleregard for the consequences. Waterpollution has led to the death of severalanimals and posed a serious threat tohuman life.(iii) Land pollution: Dumping of toxicwastes on land causes land pollution.This damages the quality of landmaking it unfit for agriculture orplantation. Restoring the quality of theland that has already been damaged isa big problem.(iv) Noise pollution: Noise caused bythe running of factories and vehiclesis not merely a source of annoyancebut is also a serious health hazard.Noise pollution can be responsiblefor many diseases like loss of hearing,malfunctioning of the heart andmental disorder.

6.6.2 Need for Pollution Control

Pollution prevention or control isneeded to preserve preciousenvironmental resources and to

improve the environmental quality sothat the preserved resources can beutilised for the benefit of mankind and

the improvement of health and well-being of the people. The amount ofdamage to a particular medium (air,

water, land) varies according to the typeof pollutant, the amount of pollutantdisposed of, and the distance from the

source of pollution. But all pollutantsalter the quality of the environment andrender it, to some degree, unfit to

preserve normal life. People are nowraising their voice loudly against

pollution generating activities.Business enterprises cannot remainunaffected by environmentaldestruction. They need to take suitablemeasures for pollution control notmerely to avoid criticisms against thembut also to enjoy other benefits of suchmeasures. Some of the importantreasons which make a case for pollutioncontrol are as follows:

(i) Reduction of health hazards:There is increasing evidence that manydiseases like cancer, heart attacks andlung complications are caused bypollutants in the environment.Pollution control measures can notonly check the seriousness of suchdiseases but can also be supportive ofa healthy life on earth.(ii) Reduced risk of liability: It ispossible that an enterprise is held liableto pay compensation to people affectedby the toxicity of gaseous, liquid andsolid wastes it has released into theenvironment. Therefore, it is soundbusiness policy to install pollutioncontrol devices in its premises to reducethe risk of liability.(iii) Cost savings: An effective pollutioncontrol programme is also needed tosave costs of operating business. Costsavings are particularly noticeablewhen improper production technologyresults in greater wastes which leadsto higher cost of waste disposal andcost of cleaning the plants.

(iv) Improved public image: Associety becomes increasingly consciousof environmental quality, a firm’spolicies and practices for controllingwastes will increasingly influence

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people’s attitude towards its working.A firm that promotes the cause forenvironment will be able to enjoy a goodreputation and will be perceived as asocially responsible enterprise.(v) Other social benefits: Pollutioncontrol results in many other benefitslike clearer visibility, cleaner buildings,better quality of life, and the availabilityof natural products in a purer form.

6.6.3 Role of Business inEnvironmental Protection

Since the quality of the environment isimportant for all of us, we have acollective responsibility to protect itfrom being spoiled. Whether it isgovernment, business enterprises,consumers, workers, or other membersof society, each one can do somethingto stop polluting the environment.Government can enact laws to banhazardous products. Consumers,workers and the members of societycan avoid using certain productsand doing things that are notenvironment friendly.

The business enterprises should,however, take the lead in providing theirown solutions to environmentalproblems. It is the social responsibilityof every business to take steps not onlyto check all sorts of pollution but alsoto protect environmental resources.Business enterprises are leadingcreators of wealth, employment, tradeand technology. They also commandhuge financial, physical and humanresources. They also have the know-how to solve environmental pollutionproblems with a preventive approach

by controlling pollutants at the source.In most cases, a modification or changein the process of production, redesignof equipment, substituting poor qualitymaterials with better ones or otherinnovative approaches could greatlyreduce or even eliminate pollutionentirely. Some of the specific steps whichcan be taken by business enterprisesfor environmental protection are asstated below:

(i) A definite commitment by topmanagement of the enterpriseto create, maintain and developwork culture for environmentalprotection and pollution prevention.

(ii) Ensuring that commitment toenvironmental protection is sharedthroughout the enterprise by alldivisions and employees.

(iii) Developing clear-cut policies andprogrammes for purchasing goodquality raw materials, employingsuperior technology, usingscientific techniques of disposaland treatment of wastes anddeveloping employee skills for thepurpose of pollution control.

(iv) Complying with the laws andregulations enacted by theGovernment for prevention ofpollution.

(v) Participation in governmentprogrammes relating tomanagement of hazardoussubstances, clearing up of pollutedrivers, plantation of trees, andchecking deforestation.

(vi) Periodical assessment of pollutioncontrol programmes in terms ofcosts and benefits so as to increasethe progress with respect toenvironmental protection.

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(vii) Arranging educational workshopsand training materials to sharetechnical information and experiencewith suppliers, dealers andcustomers to get them activelyinvolved in pollution controlprogrammes.

6.7 BUSINESS ETHICS

From the social point of view, businessexists to supply goods and services tothe people. From the individual pointof view, the primary objective of abusiness firm is to earn profit. One mayexpect that the individual goals of thefirm would not be in conflict with theobjectives of society. However,business enterprises are run by human

beings whose decisions and actionsmay not always be in accordance withthe expectations of society. Anenterprise may be good in terms ofeconomic performance (like revenue,costs and profits) but poor in terms ofsocial performance like supplyingproducts of reasonable quality and atreasonable prices. This raises thequestion of what is right or wrong fromsociety’s point of view. The answer tothis question is important becausebusiness enterprises are products ofand are influenced by society. Theyhave to interpret and adjust to thepreferences or values of society. Thesubject matter of ethics is concernedwith establishing linkages betweenindividual good and social good.

Environmental Protection in India(Steps by the Government)

1. Laws: The directive principles of state policy in the Constitution of India layemphasis on protection of environment. Some of the laws enacted are as under:i. The Wildlife Protection Act, 1972ii. The Water (Prevention and Control of Pollution) Act, 1974 amended in

1974 and 1988iii. The Air (Prevention and Control of Pollution) Act, 1974 amended in 1974

and 1988iv. The Environment (Protection) Act, 1986v. The Forests (Conservation Act, 1980 amended in 1988vi. The Hazardous Wastes Act, 1989

2. Regulations: Administrative orders/policy guidelines have been laid downby the government. A separate Department of Environment, Government ofIndia was created in 1980.

3. Certain regulatory bodies or quasi-judicial authorities have been established such as:• National Afforestation and Eco-development Board, and• National Wastelands Development Board

4. Manufacturing units have been closed in cities. High Court of Delhi orderedshifting of manufacturing units out of Delhi and closing them. Similarly,courts have ordered removal of foundaries from Agra city, and shifting ofmanufacturing factories from Kanpur.

5. Various programmes on environment education, and seminars on creatingawareness and resource are being organised regularly.

6. Government has also laid down Environment Action Plan (EAP).

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6.7.1 CONCEPT OF BUSINESS ETHICS

The word ‘ethics’ has its origin in theGreek word ‘ethics’ meaning character;norms, ideals or morals prevailing in agroup or society. Ethics is concernedwith what is right and what is wrong inhuman behaviour judged on the basisof a standard form of conduct/ehaviourof individuals, as approved by societyin a particular field of activity. Ethicsmay be viewed as the entire body ofmoral values that society attaches tothe actions of human beings. Ethics canalso refer to codes or other system forcontrolling means so that they servehuman ends. Ethical standards areoften enacted into laws. But ethicalbehaviour is just and fair conductwhich goes beyond observing laws andgovernment regulations. It meansadhering to moral principles, beingguided by particular values, andbehaving in a way people ought to act.The set of principles called ethics maybe written or unwritten codes orprinciples governing a professional orhuman activity.

Business ethics concerns itself withthe relationship between businessobjectives, practices, and techniquesand the good of society. Businessethics refer to the socially determinedmoral principles which should governbusiness activities. A few examples ofbusiness ethics are: charging fair pricesfrom customers, using fair weights formeasurement of commodities, givingfair treatment to workers and earningreasonable profits. A businesspersonbehaves ethically when her or hisactions are upright and serve the

interests of society. This, of course, alsoapplies to those not in business. Theessential difference is perhaps thatbusinesspersons by virtue of theirwidespread control over society’sresources have a much greater effecton what happens in a society thanpersons in other areas of activity do.Business people and politicians areexpected to have higher standards overand above other people. This is perhapsthe price they pay for being allowed tomake decisions on behalf of society.

There is a growing realisation allover the world that ethics is vitallyimportant for every business and forthe progress of any society. Ethicalbusiness is good business. Ethicalbusiness behaviour improves publicimage, earns people’s confidence andtrust, and leads to greater success.Ethics and profits go together in the longrun. Ethics alone, and not governmentor laws, can make a society great. Anethically responsible enterprise developsa culture of caring for people andenvironment and commands a highdegree of integrity in dealing with others.Ethical activity is indeed valuable initself, for its own sake, because itenhances the quality of our lives andthat of the work we do.

6.7.2 Elements of Business Ethics

Since ethical business behaviour is good

for both the business enterprise and

society, it makes sense to discuss how the

enterprises can foster ethics in their day-

to-day working. Some of the basic

elements of business ethics while running

a business enterprise are as follows:

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(i) Top management commitment:

Top management has a crucial role in

guiding the entire organisation towards

ethically upright behaviour. To achieveresults, the Chief Executive Officer(CEO) and other higher level managersneed to be openly and stronglycommitted to ethical conduct. Theymust give continuous leadership fordeveloping and upholding the valuesof the organisation.(ii) Publication of a ‘Code’:Enterprises with effective ethicsprogrammes do define the principles ofconduct for the whole organisation inthe form of written documents whichis referred to as the “code”. Thisgenerally covers areas such asfundamental honesty and adherence tolaws; product safety and quality; healthand safety in the workplace; conflictsof interest; employment practices;fairness in selling/marketing practices;and financial reporting.(iii) Establishment of compliancemechanisms: In order to ensure thatactual decisions and actions complywith the firm’s ethical standards,suitable mechanisms should be

established. Some examples of suchmechanisms are: paying attention tovalues and ethics in recruiting andhiring; emphasising corporate ethics intraining; auditing performanceregularly to analyse the degreeof compliance; and institutingcommunication systems to helpemployees report incidents of unethicalbehaviour.

(iv) Involving employees at alllevels: It is the employees at differentlevels who implement ethics policies tomake ethical business a reality.Therefore, their involvement in ethicsprogrammes becomes a must. Forexample, small groups of employeescan be formed to discuss the importantethics policies of firms and examineattitudes of employees towards thesepolicies.(v) Measuring results: Although it isdifficult to accurately measure the endresults of ethics programmes, the firmscan certainly audit to monitorcompliance with ethical standards. Thetop management team and otheremployees should then discuss theresults for further course of action.

Ground Rules of Ethics

The following are some of the universal virtues which every human being shouldimbibe, develop and practise to be ethical in life:

(a) Be trustworthy

(b) Have respect for others

(c) Own responsibility

(d) Be fair in dealings

(e) Be caring towards the well-being of others

(f) Prove to be a good citizen — through civil virtues and duties

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Key Terms

Social responsibility Water pollution Business ethics

Environment Noise pollution Legal responsibility

Environmental protection Air pollution Ethics

Pollution Land pollution Code of ethics

SUMMARY

Concept of social responsibility: Social responsibility of business refersto its obligation to take those decisions and perform those actions whichare desirable in terms of the objectives and values of our society.

Need for social responsibility: Need for social responsibility of businessarises both because of firm’s interest and the interest of society. However,there are arguments both for and against social responsibility.

Arguments for social responsibility: Major arguments are: (i) justificationfor existence and growth, (ii) long-term interest and image of the firm,(iii) avoidance of government regulation, (iv) maintenance of orderly society,(v) availability of resources with business, (vi) converting problems intoopportunity, (vii) better environment for doing business, and (viii) holdingthe business responsible for social problems.

Arguments against social responsibility: Major arguments against socialresponsibility are: (i) violation of profit maximisation objective, (ii) burdenon consumers, (iii) lack of social skills and (iv) lack of broad public support.

Reality of social responsibility: Reality of social responsibility is that,despite differing arguments relating to social responsibility, businessenterprises are concerned with social responsibility because of the influenceof certain external forces. These forces are: (i) threat of public regulation,(ii) pressure of labour movement, (iii) impact of consumer consciousness,(vi) development of social standard for businessmen, (v) development ofbusiness education, (vi) relationship between social interest and businessinterest, and (vii) development of professional, managerial class.

Social responsibility towards different interest groups: Businessenterprises have responsibility towards (i) shareholders or owners,(ii) workers, (iii) consumers and (iv) government and community giving fairreturn on and safety of investment to shareholders, providing opportunitiesto workers for meaningful work, supplying right quality and quantity ofgoods and services to consumers and paying to the government, andprotecting natural environment are some of the social responsibilities ofbusiness.

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Business and environment protection: Protection of the environment isa serious issue that confronts managers and decision makers. Theenvironment is defined as the totality of man’s surroundings — both natural

and man-made. Pollution — the injection of harmful substances into theenvironment is, in fact, largely the result of industrial production. Pollutionhas harmful effects both for human life and the life of other species.

Causes of Pollution: Among the various sources of pollutions, industry isa major generator of waste in terms of both its quantity and toxicity. Manybusiness enterprises have been responsible for causing air, water, land

and noise pollution.

Need for pollution control: Important reasons which make a case forpollution control are: (i) reduction of health hazards, (ii) reduced risk

of liability, (iii) cost savings (iv) improved public image, and (v) othersocial benefits.

Role of business in environmental protection: Each member of society

can do something to protect the environment. The business enterprisesshould, however, take the lead in providing their own solutions toenvironmental problems. Some of the steps that they can take are: top

management commitment, clear-out policies and programmes, abiding bygovernment regulations, participation in government programmes, periodicalassessment of pollution control programmes, and proper education andtraining of concerned people.

Concept of business ethics: Ethics is concerned with what is right andwhat is wrong in human behaviour judged on the basis of sociallydetermined standards of behaviour. Business ethics concerns itself with

relationship between objectives, practices, and techniques and the good ofsociety. Ethics is important for every business.

Elements of business ethics: An enterprise can foster ethics at the

workplace by following basic elements of business ethics, such as (i) topmanagement’s commitment, (ii) publication of a establishment of compliancemechanism, (iv) involving employees at all levels and (v) measuring results.

EXERCISES


1. Social responsibility is

a. Same as legal responsibility b. Broader than legalresponsibility

c. Narrower thanlegal responsibility d. None of them

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2. If business is to operate in a society which is full of diverse andcomplicated problems, it may have

a. Little chance of success b. Great chance of successc. Little chance of failure d. No relation with success

or failure.

3. Business people have the skills to solve

a. All social problems b. Some social problemsb. No social problems d. All economic problems

4. That an enterprise must behave as a good citizen is an example of itsresponsibility towards

a. Owners b. Workersc. Consumers d. Community

5. Environmental protection can best be done by the efforts of

a. Business people b. Governmentc. Scientists d. All the people

6. Carbon monoxide emitted by automobiles directly contributes to

a. Water pollution b. Noise pollutionc. Land pollution d. All the people

7. Which of the following can explain the need for pollution control?

a. Cost savings b. Reduced risk of liabilityc. Reduction of health hazards d. All of them

8. Which of the following is capable of doing maximum good to society?

a. Business success b. Laws and regulationsc. Ethics d. Professional management

9. Ethics is important for

a. Top management b. Middle-level managersc. Non-managerial employees d. All of them

10. Which of the following alone can ensure effective ethics programme in abusiness enterprise?

a. Publication of a code b. Involvement of employeesc. Establishment of compliance d. None of them

mechanisms


1. What do you understand by social responsibility of business? How is itdifferent from legal responsibility?

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2. What is environment? What is environmental pollution?

3. What is business ethics? Mention the basic elements of business ethics.

4. Briefly explain (a) Air Pollution, (b) Water pollution, and (c) Land pollution.

5. What are the major areas of social responsibility of business?

6. State the meaning of Corporate Social Responsibility as per theCompanies Act 2013.


1. Build up arguments for and against social responsibilities.

2. Discuss the forces which are responsible for increasing concern ofbusiness enterprises toward social responsibility.

3. ‘Business is essentially a social institution and not merely a profitmaking activity’. Explain.

4. Why do the enterprises need to adopt pollution control measures?

5. What steps can an enterprise take to protect the environment from thedangers of pollution?

6. Explain the various elements of business ethics.

7. Discuss the guidelines enumerated by the Companies Act 2013 forCorporate Social Responsibility.


1. Develop and put in writing a code of ethics for use in the classroom.Your document should include guidelines for students, teachers, andthe principal.

2. Using newspapers, magazines and other business references, identifyand describe at least three companies that you think are sociallyresponsible and three that you think are socially irresponsible.

3. Choose a company and prepare a report on Corporate SocialResponsibility undertaken by it.

(Hint : Swachh Bharat Abhiyan, Budding Artists Fund, start-ups, Education,Skill India, women and other marginalised groups.)

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PART-II

Corporate Organisation,Finance and Trade

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165FORMATION OF A COMPANY

CHAPTER 7

FORMATION OF A COMPANY

LEARNING OBJECTIVES


• specify the important stages in the formation of a company;

• describe the steps involved in each stage of company formation;

• specify the documents to be submitted to the registrar of

companies; and

• state the need of certificate of incorporation and certificate to

commence business.

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7.1 INTRODUCTION

Modern day business requires largeamount of money. Also, due toincreasing competition and fastchanging technological environment,the element of risk is increasing. As aresult, the company form oforganisation is being preferred by moreand more business firms, particularlyfor setting up medium and large sizedorganisations.

The steps which are required fromthe time a business idea originates tothe time, a company is legally ready tocommence business are referred to asstages in the formation of a company.Those who are taking these steps andthe associated risks are promoting acompany and are called its promoters.

The present chapter describes insome details the stages in the formationof a company and also the stepsrequired to be taken in each stage sothat a fair idea about these aspects canbe made.

7.2 FORMATION OF A COMPANY

Formation of a company is a complexactivity involving completion of legal

formalities and procedures. To fullyunderstand the process one can divide

the formalities into three distinct stages,which are: (i) Promotion; (ii)Incorporation and (iii) Subscription of

capital.It may, however, be noted that these

stages are appropriate from the pointof view of formation of any kind of

company. Private company as againstthe public limited company is prohibitedto raise funds from public, it does not

need to issue a prospectus and completethe formality of minimum subscription.

In the next section, we shall discuss

the stages in the formation of acompany in detail.

7.2.1 Promotion of a Company

Promotion is the first stage in the

formation of a company. It involves

conceiving a business idea and taking

an initiative to form a company so that

practical shape can be given to

exploiting the available business

opportunity. Thus, it begins with

somebody having discovered a potential

business idea. Any person or a group

of persons or even a company may have

Avtar, a brilliant automobile engineer, has recently developed a new carburettorin his factory which he is running as a sole proprietor. The new carburettor cancut down petrol consumption of a car engine by 40 percent. He is now thinkingof producing it on a large scale for which he requires a large amount of money.He is to evaluate different forms of organisations for doing the business ofmanufacturing and marketing his carburettor. He decides against convertinghis sole proprietorship to partnership as the requirement of funds for the projectis large and the product being new, there is a lot of risk involved. He is advisedto form a company. He wants to know about the formalities required for theformation of a company.

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discovered an opportunity. If such a

person or a group of persons or a

company proceeds to form a company,

then, they are said to be the promoters

of the company.

A promoter is said to be the one who

undertakes to form a company with

reference to a given project and to set it

going and who takes the necessary

steps to accomplish that purpose.

Thus, apart from conceiving a business

opportunity the promoters analyse its

prospects and bring together the men,

materials, machinery, managerial

abilities and financial resources and set

the organisation going.

As per section 69, a promoter

means a person

(a) Who has been named as such in a

prospectus or is identified by the

company in the annual return

referred to in section 92; or

(b) Who has control over the affairs of

the company, directly or indirectly

whether as a shareholder, director

or otherwise; or

(c) In accordance with whose advice,

directions or instructions the Board

of Directors of the company is

accustomed to act. However, it is

provided that nothing in this sub-

clause shall apply to a person who

is acting merely in a professional

capacity.

After thoroughly examining the

feasibility of the idea, the promoters

assemble resources, prepare necessary

documents, give a name and perform

various other activities to get a

company registered and obtain the

necessary certificate enabling the

company to commence business.

Thus, the promoters perform various

functions to bring a company into

existence.

Functions of a Promoter

The important functions of promoters

may be listed as below:

(i) Identification of business

opportunity: The first and foremost

activity of a promoter is to identify a

business opportunity. The

opportunity may be in respect of

producing a new product or service or

making some product available

through a different channel or any

other opportunity having an

investment potential. Such

opportunity is then analysed to see its

technical and economic feasibility.

(ii) Feasibility studies: It may not be

feasible or profitable to convert all

identified business opportunities into

real projects. The promoters, therefore,

undertake detailed feasibility studies

to investigate all aspects of the business

they intend to start. Depending upon

the nature of the project, the following

feasibility studies may be undertaken,

with the help of the specialists like

engineers, chartered accountants etc.,

to examine whether the perceived

business opportunity can be profitably

exploited.

(a) Technical feasibility: Sometimes

an idea may be good but

technically not possible to execute.

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It may be so because the required

raw material or technology is not

easily available. For example, in our

earlier story suppose Avtar needs

a particular metal to produce the

carburettor. If that metal is not

produced in the country and

because of poor political relations,

it can not be imported from the

country which produces it, the

project would be technically

unfeasible until arrangements are

made to make the metal available

from alternative sources.

(b) Financial feasibility: Every

business activity requires funds.

The promoters have to estimate the

fund requirements for the identified

business opportunity. If the

required outlay for the project is so

large that it cannot easily be

arranged within the available

means, the project has to be given

up. For example, one may think

that developing townships is very

lucrative. It may turn out that the

required funds are in several crores

of rupees, which cannot be

arranged by floating a company by

the promoters. The idea may be

abandoned because of the lack of

financial feasibility of the project.

(c) Economic feasibility: Sometimes

it so happens that a project is

technically viable and financially

feasible but the chance of it being

profitable is very little. In such cases

as well, the idea may have to be

abondoned. Promoters usually take

the help of experts to conduct these

studies. It may be noted that these

experts do not become promoters

just because they are assisting the

promoters in these studies.

Only when these investigations

throw up positive results, the

promoters may decide to actually

launch a company.

Name Clause

A name is considered undesirable in the following cases:

(a) If it is identical with or too closely resembles the name of an existing

company

(b) If it is misleading. It is so considered if the name suggests that the company

is in a particular business or it is an association of a particular type when

it is not true

(c) If it is violative of the provisions of ‘The Emblem and Names (Prevention of

Improper Use) Act 1950, as given in the schedule to this Act. This schedule

specifies, inter alia, the name, emblem or official seal of the UNO and its

bodies like WHO, UNESCO etc. Government of India, State Governments,

President of India or Governer of any State, the Indian National Flag. The

Act also prohibits use of any name which may suggest patronage of

Government of India, or any state government or any local authority

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(iii) Name approval: Having decided

incorporate to a company, the

promoters have to select a name for it

and submit, an application to the

registrar of companies of the state in

which the registered office of the

company is to be situated, for its

approval. The proposed name may be

approved if it is not considered

undesirable. It may happen that

another company exists with the same

name or a very similar name or the

preferred name is misleading, say, to

suggest that the company is in a

particular business when it is not true.

In such cases the proposed name is not

accepted but some alternate name may

be approved. Therefore, three names,

in order of their priority are given in the

application to the Registrar of

Companies. (Performa INC1 is given at

the end of the Book).

(iv) Fixing up Signatories to the

Memorandum of Association:

Promoters have to decide about the

members who will be signing the

Memorandum of Association of the

proposed company. Usually the people

signing memorandum are also the first

Directors of the Company. Their written

consent to act as Directors and to take

up the qualification shares in the

company is necessary.

(v) Appointment of professionals:

Certain professionals such as

mercantile bankers, auditors etc., are

appointed by the promoters to assist

them in the preparation of necessary

documents which are required to be

with the Registrar of Companies. The

names and addresses of shareholders

and the number of shares allotted to

each is submitted to the Registrar in a

statement called return of allotment.

(vi) Preparation of necessary

documents: The promoter takes up

steps to prepare certain legal

documents, which have to be

submitted under the law, to the

Registrar of the Companies for getting

the company registered. These

documents are Memorandum of

Association, Articles of Association and

Consent of Directors.

Documents Required to be

Submitted

A. Memorandum of Association:

Memorandum of Association is the

most important document as it

defines the objectives of the

company. No company can legally

undertake activities that are not

contained in its Memorandum of

Association. As per section 2(56)

of The Companies Act, 2013

“memorandum” means the

memorandum of association of a

company as originally framed or as

altered from time to time in

pursuance of any previous

company law or of this Act. The

Memorandum of Association

contains different clauses, which are

given as follows:

(i) The name clause: This clause

contains the name of the company with

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which the company will be known,

which has already been approved by

the Registrar of Companies.

(ii) Registered office clause: This

clause contains the name of the state,

in which the registered office of the

company is proposed to be situated.

The exact address of the registered

office is not required at this stage but

the same must be notified to the

Registrar within thirty days of the

incorporation of the company.

(ii i ) Objects c lause : This i s

probably the most important

clause of the memorandum. It

defines the purpose for which the

company is formed. A company is

not legally entitled to undertake an

activity, which is beyond the objects

stated in this clause. The main

objects for which the company is

formed are l isted in this sub-

clause. It must be observed that an

act which is either essential or

incidental for the attainment of the

main objects of the company is

deemed to be valid, although it may

not have been stated explicitly.

Respective forms for Memorandum of Association

1. Table A MOA of a company limited by shares

2. Table B MOA of a company limited by guarantee and not having

share capital

3. Table C MOA of a company limited by guarantee and not having

share capital

4. Table D MOA of an unlimited company and not having share capital

5. Table E MOA of an unlimited company and having share capital

Respective forms for Articles of a Company

6. Table F AOA of a company limited by shares

7. Table G AOA of a company limited by guarantee and having share

capital

8. Table H AOA of a company limited by guarantee and not having

share capital

9. Table I AOA of an unlimited company and having share capital

10. Table J AOA of an unlimited company and not having share capital

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(iv) Liability clause: This clause limitsthe liability of the members to theamount unpaid on the shares ownedby them.

For example, if a shareholder haspurchased 1000 shares of Rs.10 eachand has already paid Rs. 6 per share,his/her liability is limited to Rs. 4 pershare. Thus, even in the worst case,he/she may be called upon to payRs. 4, 000 only.(v) Capital clause: This clausespecifies the maximum capital whichthe company will be authorised to raisethrough the issue of shares. Theauthorised share capital of theproposed company along with itsdivision into the number of shareshaving a fixed face value is specified inthis clause. For example, theauthorised share capital of thecompany may be Rs. 25 lakhs withdivided into 2.5 lakh shares of Rs.10each. The said company cannot issueshare capital in excess of the amountmentioned in this clause.

The signatories to theMemorandum of Association state theirintention to be associated with thecompany and give their undertaking tosubscribe to the shares mentionedagainst their names. The memorandumof a company shall be in respectiveforms specified in Tables A, B, C, D andE in Schedule I as may be applicableto such company.

The Memorandum of Associationmust be signed by at least sevenpersons in case of a public companyand by two persons in case of a privatecompany.

A copy of a Memorandum ofAssociation is given at the end of thechapter.B. Articles of Association: Articles of

Association are the rules regardinginternal management of a company.These rules are subsidiary to theMemorandum of Association andhence, should not contradict orexceed anything stated in theMemorandum of Association.According to section 2(5) of TheCompanies Act, 2013, ‘articles’means the article of association of acompany as originally framed or asaltered from time to time or appliedin pursuance of any previouscompany law or of this Act. Thearticles of a company shall be inrespective forms as specified in TableF, G, H, I and J in schedule I as maybe applicable to such company.However, the companies are free tomake their own articles of associationwhich may be contrary to the clausesof Table F,G,H,I,J and in that casearticles of association as adopted bythe company shall apply.

C. Consent of Proposed Directors:Apart from the Memorandum andArticles of Association, a writtenconsent of each person named as adirector is required confirming thatthey agree to act in that capacity andundertake to buy and pay forqualification shares, as mentioned inthe Articles of Association.

D. Agreement: The agreement, if any,which the company proposes toenter with any individual forappointment as its Managing

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Qualification Shares

To ensure that the directors have some stake in the proposed company, theArticles usually have a provision requiring them to buy a certain number ofshares. They have to pay for these shares before the company obtains Certificateof Commencement of Business. These are called Qualification Shares.

The Articles generally contains the following matters:

1. Exclusion wholly or in part of Table F.

2. Adoption of preliminary contracts.

3. Number and value of shares.

4. Issue of preference shares.

5. Allotment of shares.

6. Calls on shares.

7. Lien on shares.

8. Transfer and transmission of shares.

9. Nomination.

10. Forfeiture of shares.

11. Alteration of capital.

12. Buy back.

13. Share certificates.

14. Dematerialization.

15. Conversion of shares into stock. Incorporation of Companies and Matters

Incidental Thereto

16. Voting rights and proxies.

17. Meetings and rules regarding committees.

18. Directors, their appointment and delegations of powers.

19. Nominee directors.

20. Issue of Debentures and stocks.

21. Audit committee.

22. Managing director, Whole-time director, Manager, Secretary.

23. Additional directors.

24. Seal.

25. Remuneration of directors.

26. General meetings.

27. Directors meetings.

28. Borrowing powers.

29. Dividends and reserves.

30. Accounts and audit.

31. Winding up.

32. Indemnity.

33. Capitalisation of reserves.

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Director or a whole time Director orManager is another documentwhich is required to be submittedto the Registrar for getting thecompany registered under the Act.

E. Statutory Declaration: Adeclaration stating that all the legalrequirements pertaining toregistration have been compliedwith is to be submitted to theRegistrar with the above mentioneddocuments for getting the companyregistered under the law. Thisstatement can be signed by anadvocate or by a CharteredAccountant or a Cost Accountantor a Company Secretary in practicewho is engaged in the formation ofa company and by a person namedin the articles as a director ormanager or secretary of thecompany.

F. Receipt of Payment of fee: Alongwith the above-mentioneddocuments, necessary fees has to bepaid for the registration of thecompany. The amount of such feesshall depend on the authorisedshare capital of the company.

Position of Promoters

Promoters undertake various activitiesto get a company registered and get itto the position of commencement ofbusiness. But they are neither theagents nor the trustees of the company.They can’t be the agents as thecompany is yet to be incorporated.Therefore, they are personally liable for

all the contracts which are entered bythem, for the company before itsincorporation, in case the same are notratified by the company later on. Alsopromoters are not the trustees ofthe company.

Promoters of a company enjoy afiduciary position with the company,which they must not misuse. Theycan make a profit only if it is disclosedbut must not make any secret profits.In the event of a non-disclosure, thecompany can rescind the contractand recover the purchase price paidto the promoters. It can also claimdamages for the loss suffered due tothe non-disclosure of materialinformation.

Promoters are not legally entitledto claim the expenses incurred in thepromotion of the company. However,the company may choose toreimburse them for the pre-incorporation expenses. The companymay also remunerate the promotersfor their efforts by paying a lump sumamount or a commission on thepurchase price of property purchasedthrough them or on the shares sold.The company may also allot themshares or debentures or give them anoption to purchase the securities at afuture date.

7.2.2 Incorporation

After completing the aforesaidformalities, promoters make an

application for the incorporation ofthe company. The application is to be

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filed with the Registrar of Companiesof the state within which they plan toestablish the registered office of thecompany. The application forregistration must be accompaniedwith certain documents about whichwe have already discussed in theprevious sections. These may bebriefly mentioned again:

1. The Memorandum of Associationduly stamped, signed andwitnessed. In case of a publiccompany, at least seven membersmust sign it. For a privatecompany however the signaturesof two members are sufficient.The signatories must also giveinformation about their address,occupation and the number ofshares subscribed by them.

2. The Articles of Association dulystamped and witnessed as in caseof the Memorandum. However, asstated earlier, a public companymay adopt Table A, which is amodel set of Articles, given in theCompanies Act. In that case astatement in lieu of the prospectusis submitted, instead of Articlesof Association.

3. Written consent of the proposeddirectors to act as directors andan undertaking to purchasequalification shares.

4. The agreement, if any, with theproposed Managing Director,Manager or whole-time director.

5. A copy of the Registrar’s letterapproving the name of thecompany.

6. A statutory declaration affirmingthat all legal requirements forregistration have been compliedwith. This must be duly signed.

7. A notice about the exact addressof the registered office may alsobe submitted along with thesedocuments. However, if the sameis not submitted at the time ofincorporation, it can besubmitted within 30 days of thereceipt of the certificate ofincorporation.

8. Documentary evidence of paymentof registration fees.

The Registrar upon submission ofthe application along with the requireddocuments has to be satisfied that thedocuments are in order and that all the

Preliminary Contracts

During the promotion of the company, promoters enter into certain contractswith third parties on behalf of the company. These are called preliminarycontracts or pre-incorporation contracts. These are not legally binding onthe company. A company after coming into existence may, if it so chooses,decide to enter into fresh contracts with the same terms and conditions tohonour the contracts made by the promoters. Note that it cannot ratify apreliminary contract. A company thus cannot be forced to honour a preliminarycontract. Promoters, however, remain personally liable to third parties forthese contracts.

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statutory requirements regarding theregistration have been complied with.However, it is not his duty to carry outa thorough investigation about theauthenticity of the facts mentioned inthe documents.

When the Registrar is satisfied,about the completion of formalitiesfor registration, a Certificate ofIncorporation is issued to the company,which signify the birth of the company.The certificate of incorporation maytherefore be called the birth certificateof the company.

With effect from November 1, 2000,the Registrar of Companies allots aCIN (Corporate Identity Number) to

the Company.

Effect of the Certificate of

Incorporation

A company is legally born on the dateprinted on the Certificate ofIncorporation. It becomes a legal entitywith perpetual succession on suchdate. It becomes entitled to enter intovalid contracts. The Certificate ofIncorporation is a conclusive evidenceof the regularity of the incorporation of

a company. Imagine, what wouldhappen to an unsuspecting party withwhich the company enters into acontract, if it is later found that theincorporation of the company wasimproper and hence invalid. Therefore,the legal situation is that once aCertificate of Incorporation has beenissued, the company has become alegal business entity irrespective of anyflaw in its registration. The Certificateof Incorporation is thus conclusiveevidence of the legal existence of thecompany. Some interesting examplesshowing the impact of theconclusiveness of the Certificate ofIncorporation are as under:(a) Documents for registration were

filed on 6th January. Certificate ofIncorporation was issued on 8thJanuary. But the date mentionedon the Certificate was 6th January.It was decided that the companywas in existence and the contractssigned on 6th January wereconsidered valid.

(b) A person forged the signaturesof others on the Memorandum.The Incorporation was stillconsidered valid.

Director Identification Number (DIN)

Every Individual intending to be appointed as director of a company shall makean application for allotment of Director Identification Number (DIN) to the CentralGovernment in prescribed form along with fees.The Central Government shall allot a Director Identification Number to anapplication within one month from the receipt of the application.No individual, who has already been allotted a Director Identification Number,shall apply for, obtain or possess another Director Identification Number

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Thus, whatever be the deficiency inthe formalities, the Certificate ofIncorporation once issued, is aconclusive evidence of the existence ofthe company. Even when a companygets registered with illegal objects, thebirth of the company cannot bequestioned. The only remedy available

is to wind it up. Because the Certificateof Incorporation is so crucial, the

Registrar has to go very carefully before

issuing it.

On the issue of Certificate of

Incorporation, a private company can

immediately commence its business. It

can raise necessary funds from

friends, relatives or through private

arrangement and proceed to start

business.

7.2.3 Capital Subscription

A public company can raise the

required funds from the public by

means of issue of securities (shares and

debentures etc.). For doing the same,

it has to issue a prospectus which is

an invitation to the public to subscribe

to the capital of the company and

undergo various other formalities. The

following steps are required for raising

funds from the public:

(i) SEBI Approval: SEBI (Securities

and Exchange Board of India) which is

the regulatory authority in our country

has issued guidelines for the disclosure

of information and investor protection.

A public company inviting funds from

the general public must make adequate

disclosure of all relevant information

and must not conceal any material

information from the potential

investors. This is necessary for

protecting the interest of the investors.

Prior approval from SEBI is, therefore,

required before going ahead with

raising funds from public.

(ii) Filing of Prospectus: A copy of

the prospectus or statement in lieu of

prospectus is filed with the Registrar

of Companies. A prospectus is ‘any

document described or issued as a

prospectus including any notice,

circular, advertisement or other

document inviting deposits from the

public or inviting offers from the

public for the subscription or

purchase of any securities of, a body

corporate’. In other words, it is an

invitation to the public to apply for

securities (shares, debentures etc.) of

the company or to make deposits in

the company. Investors make up

their minds about investment in a

company primarily on the basis of the

information contained in this

document. Therefore, there must not

be a mis-statement in the prospectus

and all material signif icant

information must be fully disclosed.

(iii) Appointment of Bankers,

Brokers, Underwriters: Raising funds

from the public is a stupendous task.

The application money is to be received

by the bankers of the company. The

brokers try to sell the shares

by distributing the forms and

encouraging the public to apply for the

shares. If the company is not

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Difference between Memorandum of Association and Articles of Association

Basis of Memorandum of Articles ofDifference Association Association

Objectives Memorandum of Association Articles of Association are

defines the objects for which rules of internal

the company is formed. management of the

company. They indicate

how the objectives of the

company are to be

achieved.

Position This is the main document This is a subsidiary

of the company and is document and is

subordinate to the subordinate to both the

Companies Act. Memorandum of

Association and the

Companies Act.

Relationship Memorandum of Association Articles define the

defines the relationship of relationship of the

the company with outsiders. members and the

company.

Validity Acts beyond the Acts which are beyond

Memorandum of Association Articles can be ratified by

are invalid and cannot be the members, provided

ratified even by a unanimous they do not violate the

vote of the members. Memorandum.

Necessity Every company has to file a It is not compulsory for a

Memorandum of Association. public ltd. company to file

Articles of Association. It

may adopt Table F of The

Companies Act, 2013

reasonably assured of a good public

response to the issue, it may appoint

underwriters to the issue. Underwriters

undertake to buy the shares if these

are not subscribed by the public. They

receive a commission for underwriting

the issue. Appointment of underwriters

is not necessary.

(iv) Minimum Subscription: In

order to prevent companies from

commencing business with inadequate

resources, it has been provided that the

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One Person Company

With the implementation of The Companies Act, 2013, a single person could

constitute a company, under the One Person Company (OPC) concept.

The introduction of OPC in the legal system is a move that would encourage

corporatisation of micro businesses and entrepreneurship.

In India, in the year 2005, the JJ Irani Expert Committee recommended the

formation of OPC. It had suggested that such an entity may be provided with a

company must receive applications for

a certain minimum number of shares

before going ahead with the allotment

of shares. According to the Companies

Act, this is called the ‘minimum

subscription’. As per the SEBI

Guidelines the limit of minimum

subscription is 90 per cent of the size

of the issue. Thus, if applications

received for the shares are for an

amount less than 90 per cent of the

issue size, the allotment cannot be

made and the application money

received must be returned to the

applicants.

(v) Application to Stock Exchange:

An application is made to at least one

stock exchange for permission to deal

in its shares or debentures. If such

permission is not granted before the

expiry of ten weeks from the date of

closure of subscription list, the

allotment shall become void and all

money received from the applicants

will have to be returned to them within

eight days.

(vi) Allotment of Shares: Till the time

shares are alloted, application money

received shoud remain in a seperate

bank account and must not be usedby the company. In case the number of

shares allotted is less than the number

applied for, or where no shares are

allotted to the applicant, the excessapplication money, if any, is to be

returned to applicants or adjusted

towards allotment money due from

them. Allotment letters are issued to thesuccessful allottees. ‘Return of

allotment’, signed by a director or

secretary is filed with the Registrar of

Companies within 30 days of allotment.A public company may not invite

public to subscribe to its securities

(shares, debentures etc.). Instead, it

can raise the funds through friends,relatives or some private

arrangements as done by a private

company. In such cases, there is no

need to issue a prospectus. A‘Statement in Lieu of Prospectus’ is

filed with the Registrar at least three

days before making the allotment.

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simpler legal regime through exemptions so that the small entrepreneur is not

compelled to devote considerable time, energy and resources on complex legal

compliance.

One Person Company is a company with only one person as a member. That one

person will be the shareholder of the company. It avails all the benefits of a

private limited company such as separate legal entity, protecting personal assets

from business liability and perpetual succession.

Characteristics

(1) Only a natural person who is an Indian citizen and resident in India-

(a) Shall be eligible to incorporate a One Person Company;

(b) Shall be a nominee for the sole member of a One Person Company.

Explanation – For the purposes of this rule, the term “resident in India”

means a person who has stayed in India for a period of not less than one

hundred and eighty two days during the immediately preceding one

calendar year.

(2) No person shall be eligible to incorporate more than a One Person Company

or become nominee in more than one such company.

(3) Where a natural person, being member in One Person Company in accordance

with this rule becomes a member in another such Company by virtue of his

being a nominee in that One Person Company, such person shall meet the

eligibility criteria specified in sub rule (2) within a period of one hundred

and eighty days.

(4) No minor shall become member or nominee of the One Person Company or

can hold share with beneficial interest.

(5) Such Company cannot be incorporated or converted into a company under

section 8 of the Act.

(6) Such Company cannot carry out Non-Banking Financial Investment

activities including investment in securities of anybody corporates.

(7) No such company can convert voluntarily into any kind of company unless

two years have expired from the date of incorporation of One Person Company,

except threshold limit (paid up share capital) is increased beyond fifty lakh

rupees or its average annual turnover during the relevant period exceeds

two crore rupees.

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“SCHEDULE I”

(See sections 4 and 5)Table A

MEMORANDUM OF ASSOCIATION OF A COMPANY LIMITED BY SHARES

1st The name of the company is “.......................................... Limited/Private

Limited”.

2nd The registered office of the company will be situated in the State of ..................

3rd (a) The objects to be pursued by the company on its incorporation are:-

.........................................................................................................................

.........................................................................................................................

(b) Matters which are necessary for furtherance of the objects specified in

clause 3 (a) are:-

.........................................................................................................................

.........................................................................................................................

4th The liability of the member(s) is limited and this liability is limited to the

amount unpaid, if any, on the shares held by them.

5th The share capital of the company is ...................................................................

rupees, divided into ........................ shares of ........................ rupees each.

6th We, the several persons, whose names and addresses are subscribed, are

desirous of beingformed into a company in pursuance of this memorandum

of association, and we respectively agree to take the number of shares in the

capital of the company set against our respective names:-

Names, addresses, No. of shares Signature Signature, names

descriptions and taken by each of subscriber addresses,

occupations of descriptions and

subscribers occupations of

witnesses

A.B. of ................ Merchant ..................... Signed before me:

Signature ...............

C.D. of ................ Merchant ..................... Signed before me:

Signature ...............

E.F. of ................ Merchant ..................... Signed before me:

Signature ...............

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G.H. of ............... Merchant ..................... Signed before me:

Signature ..............

I.J. of ................ Merchant ..................... Signed before me:

Signature ..............

K.L. of ................ Merchant ..................... Signed before me:

Signature ..............

M.N. of ............... Merchant ..................... Signed before me:

Signature ..............

Total shares taken:

7th I, whose name and address is given below, am desirous of forming a

company in pursuance of this memorandum of association and agree to

take all the shares in the capital of the company (Applicable in case of one

person company):-

___________________________________________________________________________________

Names, addresses, Signature of subscribed Signature, name, address,

occupations of description and occupation

Subscribers of witness

___________________________________________________________________________________

8th Shri/Smt ......................................, son/daughter of ......................................,

resident of .................................................................... aged ...................... years

shall be the nominee in the event of death of the sole member (Applicable in

case of one person company)

Dated ...................................... The day of ......................................

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Key Terms

Promotion Memorandum of Association Articles of AssociationProspectus Incorporation Capital subscriptionCommencement of

Business

SUMMARY

There are two stages in the formation of a private company, promotion andincorporation. A public company has to undergo capital subscription stageto begin operations.

1. Promotion: It begins with a potential business idea. Certain feasibilitystudies e.g., technical, financial and economic, are conducted todetermine whether the idea can be profitably exploited. In case, theinvestigations yield favourable results, promoters may decide to formthe company. Persons who conceive the business idea, decide to form acompany, take necessary steps for the same, and assume associatedrisks, are called promoters.

Steps in Promotion

i. Approval of company’s name is taken from the Registrar ofCompanies

ii. Signatories to the Memorandum of Association are fixed

iii. Certain professionals are appropriated to assist the promoters

iv. Documents necessary for registration are prepared

Necessary Documents

a. Memorandum of Association

b. Articles of Association

c. Consent of proposed directors

d. Agreement, if any, with proposed managing or whole time director

e. Statutory declaration

2. Incorporation: An application is made by promoters to the Registrar ofCompanies alongwith necessary documents and registration fee. TheRegistrar, after due scrutiny, issues certificate of incorporation. Thecertificate of incorporation is a conclusive evidence of the legal existence

of the company.

3. Capital Subscription: A public company raising funds from the public

needs to take following steps for fundraising:

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(i) SEBI approval;

(ii) File a copy of prospectus with the Registrar of Companies;

(iii) Appointment of brokers, bankers and underwriters etc.;

(iv) Ensure that minimum subscription is received;

(v) Application for listing of company’s securities;

(vi) Refund/adjust excess application money received;

(vii) Issue allotment letters to successful applicants; and

(viii) File return of allotment with the Registrar of Companies (ROC).

A public company, raising funds, raising funds from friends/relatives (not

public) has to file a statement in lieu of prospectus with the ROC at least

three days before allotment of shares and returns of allotment after

completing the allotment. As per the SEBI guidelines, minimum subcription

has to be 90% of the shares to be issued to be public.

Preliminary Contracts: Contracts signed by promoters with third parties

before the incorporation of company.

Provisional Contracts: Contracts signed after incorporation but before

commencement of business.

EXERCISES


1. Minimum number of members to form a private company is

(a) 2 (b) 3(c) 5 (d) 7

2. Minimum number of members to form a public company is

(a) 5 (b) 7(c) 12 (d) 21

3. Application for approval of name of a company is to be made to

(a) SEBI (b) Registrar of Companies(c) Government of India (d) Government of the State

in which Company is tobe registered

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4. A proposed name of Company is considered undesirable if

(a) It is identical with the name (b) It resembles closely withof an existing company the name of an existing

company(c) It is an emblem of Government (d) In case of any of the above

of India, United Nations etc.

5. A prospectus is issued by

(a) A private company (b) A public company seekinginvestment frompublic

(c) A public enterprise (d) A public company

6. Stages in the formation of a public company are in the following order

(a) Promotion, Commencement (b) Incorporation, Capitalof Business, Capital Subscription, PromotionSubscription, Incorporation,

(c) Promotion, Incorporation, (d) Capital Subscription,Capital Subscription, Promotion, Incorporation,

7. Preliminary Contracts are signed

(a) Before the incorporation (b) After incorporation butbefore capital subscription

(c) After incorporation but before (d) After commencement ofcommencement of business business

8. Preliminary Contracts are

(a) binding on the Company (b) binding on the Company, if

ratified after incorporation

(c) binding on the (d) not binding on the

Company, after incorporation Company

True/False Answer Questions

1. It is necessary to get every company incorporated, whether private or

public.

2. Statement in lieu of prospectus can be filed by a public company going

for a public issue.

3. A company can commence business after incorporation.

4. Experts who help promoters in the promotion of a company are also

called promoters.

5. A company can ratify preliminary contracts after incorporation.

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6. If a company is registered on the basis of fictitious names, its

incorporation is invalid.

7. ‘Articles of Association’ is the main document of a company.

8. Every company must file Articles of Association.

9. If a company suffers heavy issues and its assets are not enough to pay

off its liabilities, the balance can be recovered from the private assets of

its members.


1. Name the stages in the formation of a company.

2. List the documents required for the incorporation of a company.

3. What is a prospectus? Is it necessary for every company to file a

prospectus?

4. Briefly explain the term ‘Return of Allotment’.

5. At which stage in the formation of a company does it interact with SEBI.


1. What is meant by the term ‘Promotion’. Discuss the legal position of

promoters with respect to a company promoted by them.

2. Explain the steps taken by promoters in the promotion of a company.

3. What is a ‘Memorandum of Association’? Briefly explain its clauses.

4. Distinguish between ‘Memorandum of Association’ and ‘Articles of

Association.’

5. What is the meaning of ‘Certificate of Incorporation’?

6. Discuss the stages of formation of a company?

Project/Assignment

Find out from the office of the Registrar of Companies, the actual procedure

for formation of companies. Does it match with what you have studied.

What are the obstacles which companies face in getting themselves

registered.

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CHAPTER 8

SOURCES OF BUSINESS FINANCE

LEARNING OBJECTIVES


• state the meaning, nature and importance of business finance;

• classify the various sources of business finance;

• evaluate merits and limitations of various sources of finance;

• identify the international sources of finance; and

• examine the factors that affect the choice of an appropriate sourceof finance.

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187SOURCES OF BUSINESS FINANCE

8.1 INTRODUCTION

This chapter provides an overview of thevarious sources from where funds canbe procured for starting as also forrunning a business. It also discussesthe advantages and limitations ofvarious sources and points out thefactors that determine the choice of asuitable source of business finance.

It is important for any person whowants to start a business to know aboutthe different sources from where moneycan be raised. It is also important toknow the relative merits and demeritsof different sources so that choice of anappropriate source can be made.

8.2 MEANING, NATURE AND

SIGNIFICANCE OF BUSINESS

FINANCE

Business is concerned with theproduction and distribution of goodsand services for the satisfaction of needs

of society. For carrying out variousactivities, business requires money.Finance, therefore, is called thelife blood of any business. Therequirements of funds by business tocarry out its various activities is calledbusiness finance.

A business cannot function unlessadequate funds are made available toit. The initial capital contributed by theentrepreneur is not always sufficient totake care of all financial requirementsof the business. A business person,therefore, has to look for different othersources from where the need for fundscan be met. A clear assessment of thefinancial needs and the identificationof various sources of finance, therefore,is a significant aspect of running abusiness organisation.

The need for funds arises from thestage when an entrepreneur makes adecision to start a business. Somefunds are needed immediately say for

Mr. Anil Singh has been running a restaurant for the last two years. The excellentquality of food has made the restaurant popular in no time. Motivated by thesuccess of his business, Mr. Singh is now contemplating the idea of opening achain of similar restaurants at different places. However, the money availablewith him from his personal sources is not sufficient to meet the expansionrequirements of his business. His father told him that he can enter into apartnership with the owner of another restaurant, who will bring in more fundsbut it would also require sharing of profits and control of business. He is alsothinking of getting a bank loan. He is worried and confused, as he has no ideaas to how and from where he should obtain additional funds. He discusses theproblem with his friend Ramesh, who tells him about some other methods likeissue of shares and debentures, which are available only to a company form oforganisation. He further cautions him that each method has its own advantagesand limitations and his final choice should be based on factors like the purposeand period for which funds are required. He wants to learn about these methods.

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the purchase of plant and machinery,furniture, and other fixed assets.Similarly, some funds are required forday-to-day operations, say to purchaseraw materials, pay salaries toemployees, etc. Also when the businessexpands, it needs funds.

The financial needs of a business canbe categorised as follows:(a) Fixed capital requirements: In

order to start business, funds arerequired to purchase fixed assets likeland and building, plant andmachinery, and furniture andfixtures. This is known as fixedcapital requirements of theenterprise. The funds required infixed assets remain invested in thebusiness for a long period of time.Different business units need varyingamount of fixed capital depending onvarious factors such as the nature ofbusiness, etc. A trading concern forexample, may require small amountof fixed capital as compared to amanufacturing concern. Likewise,the need for fixed capital investmentwould be greater for a largeenterprise, as compared to that of asmall enterprise.

(b) Working Capital requirements:The financial requirements of anenterprise do not end with theprocurement of fixed assets. Nomatter how small or large a businessis, it needs funds for its day-to-dayoperations. This is known as workingcapital of an enterprise, which is usedfor holding current assets such asstock of material, bills receivables andfor meeting current expenses likesalaries, wages, taxes, and rent.

The amount of working capitalrequired varies from one businessconcern to another depending on variousfactors. A business unit selling goods oncredit, or having a slow sales turnover,for example, would require moreworking capital as compared to aconcern selling its goods and services oncash basis or having a speedier turnover.

The requirement for fixed andworking capital increases with thegrowth and expansion of business. Attimes additional funds are required forupgrading the technology employed sothat the cost of production or operationscan be reduced. Similarly, larger fundsmay be required for building higherinventories for the festive season or tomeet current debts or expand thebusiness or to shift to a new location. Itis, therefore, important to evaluate thedifferent sources from where funds canbe raised.

8.3 CLASSIFICATION OF SOURCES OF

FUNDS

In case of proprietary and partnershipconcerns, the funds may be raised eitherfrom personal sources or borrowingsfrom banks, friends etc. In case ofcompany form of organisation, thedifferent sources of business financewhich are available may be categorisedas given in Table 8.1

As shown in the table, the sourcesof funds can be categorised usingdifferent basis viz., on the basis of theperiod, source of generation and theownership. A brief explanation of theseclassifications and the sources isprovided as follows:

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18

9S

OU

RC

ES

OF

BU

SIN

ES

S F

INA

NC

E

Table 8.1 Classification of Sources of Funds

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8.3.1 Period Basis

On the basis of period, the differentsources of funds can be categorisedinto three parts. These are long-termsources, medium-term sources andshort-term sources.

The long-term sources fulfil thefinancial requirements of an enterprisefor a period exceeding 5 years andinclude sources such as shares anddebentures, long-term borrowings andloans from financial institutions. Suchfinancing is generally required for theacquisition of fixed assets such asequipment, plant, etc.

Where the funds are required for aperiod of more than one year but lessthan five years, medium-term sourcesof finance are used. These sourcesinclude borrowings from commercialbanks, public deposits, lease financingand loans from financial institutions.

Short-term funds are those whichare required for a period not exceedingone year. Trade credit, loans fromcommercial banks and commercialpapers are some of the examples of thesources that provide funds for shortduration.

Short-term financing is mostcommon for financing of current assetssuch as accounts receivable andinventories. Seasonal businesses thatmust build inventories in anticipationof selling requirements often need short-term financing for the interim periodbetween seasons. Wholesalers andmanufacturers with a major portion oftheir assets tied up in inventories orreceivables also require large amountof funds for a short period.

8.3.2 Ownership Basis

On the basis of ownership, the sourcescan be classified into ‘owner’s funds’and ‘borrowed funds’. Owner’s fundsmeans funds that are provided by theowners of an enterprise, which maybe a sole trader or partners orshareholders of a company. Apartfrom capital, it also includes profitsreinvested in the business. Theowner’s capital remains invested in thebusiness for a longer duration and isnot required to be refunded during thelife period of the business. Such capitalforms the basis on which ownersacquire their right of control ofmanagement. Issue of equity sharesand retained earnings are the twoimportant sources from where owner’sfunds can be obtained.

‘Borrowed funds’ on the otherhand, refer to the funds raised throughloans or borrowings. The sources forraising borrowed funds include loansfrom commercial banks, loans fromfinancial institutions, issue ofdebentures, public deposits and tradecredit. Such sources provide funds fora specified period, on certain termsand conditions and have to be repaidafter the expiry of that period. A fixedrate of interest is paid by theborrowers on such funds. At times itputs a lot of burden on the businessas payment of interest is to be madeeven when the earnings are low orwhen loss is incurred. Generally,borrowed funds are provided on thesecurity of some fixed assets.

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8.3.3 Source of Generation Basis

Another basis of categorising the sourcesof funds can be whether the funds aregenerated from within the organisation orfrom external sources. Internal sourcesof funds are those that are generated fromwithin the business. A business, forexample, can generate funds internally byaccelerating collection of receivables,disposing of surplus inventories andploughing back its profit. The internalsources of funds can fulfill only limitedneeds of the business.

External sources of funds includethose sources that lie outside anorganisation, such as suppliers,lenders, and investors. When largeamount of money is required to beraised, it is generally done through theuse of external sources. External fundsmay be costly as compared to thoseraised through internal sources. Insome cases, business is required tomortgage its assets as security whileobtaining funds from external sources.Issue of debentures, borrowing fromcommercial banks and financialinstitutions and accepting publicdeposits are some of the examples ofexternal sources of funds commonlyused by business organisations.

8.4 SOURCES OF FINANCE

A business can raise funds fromvarious sources. Each of the source hasunique characteristics, which must beproperly understood so that the bestavailable source of raising funds canbe identified. There is not a single bestsource of funds for all organisations.Depending on the situation, purpose,

cost and associated risk, a choice maybe made about the source to be used.For example, if a business wants toraise funds for meeting fixed capitalrequirements, long term funds may berequired which can be raised in the formof owned funds or borrowed funds.Similarly, if the purpose is to meet theday-to-day requirements of business,the short term sources may be tapped.A brief description of various sources,along with their advantages andlimitations is given below.

8.4.1 Retained Earnings

A company generally does not distributeall its earnings amongst theshareholders as dividends. A portion ofthe net earnings may be retained in thebusiness for use in the future. This isknown as retained earnings. It is asource of internal financing or self-financing or ‘ploughing back of profits’.The profit available for ploughing backin an organisation depends on manyfactors like net profits, dividend policyand age of the organisation.

Merits

The merits of retained earning as asource of finance are as follows:

(i) Retained earnings is a permanentsource of funds available to anorganisation;

(ii) It does not involve any explicit costin the form of interest, dividend orfloatation cost;

(iii) As the funds are generatedinternally, there is a greater degreeof operational freedom andflexibility;

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(iv) It enhances the capacity of thebusiness to absorb unexpectedlosses;

(v) It may lead to increase in themarket price of the equity sharesof a company.

Limitations

Retained earning as a source of fundshas the following limitations:

(i) Excessive ploughing back maycause dissatisfaction amongst theshareholders as they would getlower dividends;

(ii) It is an uncertain source of fundsas the profits of business arefluctuating;

(iii) The opportunity cost associatedwith these funds is not recognisedby many firms. This may lead tosub-optimal use of the funds.

8.4.2 Trade Credit

Trade credit is the credit extended byone trader to another for the purchaseof goods and services. Trade creditfacilitates the purchase of supplieswithout immediate payment. Suchcredit appears in the records of thebuyer of goods as ‘sundry creditors’ or‘accounts payable’. Trade credit iscommonly used by businessorganisations as a source of short-termfinancing. It is granted to thosecustomers who have reasonable amountof financial standing and goodwill. Thevolume and period of credit extendeddepends on factors such as reputationof the purchasing firm, financial positionof the seller, volume of purchases, past

record of payment and degree ofcompetition in the market. Terms oftrade credit may vary from one industryto another and from one person toanother. A firm may also offer differentcredit terms to different customers.

Merits

The important merits of trade credit areas follows:

(i) Trade credit is a convenient andcontinuous source of funds;

(ii) Trade credit may be readilyavailable in case the creditworthiness of the customers isknown to the seller;

(iii) Trade credit needs to promote thesales of an organisation;

(iv) If an organisation wants to increaseits inventory level in order to meetexpected rise in the sales volumein the near future, it may use tradecredit to, finance the same;

(v) It does not create any charge onthe assets of the firm whileproviding funds.

Limitations

Trade credit as a source of funds hascertain limitations, which are given asfollows:

(i) Availability of easy and flexibletrade credit facilities may induce afirm to indulge in overtrading,which may add to the risks of thefirm;

(ii) Only limited amount of funds canbe generated through trade credit;

(iii) It is generally a costly source offunds as compared to most othersources of raising money.

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8.4.3 Factoring

Factoring is a financial service underwhich the ‘factor’ renders variousservices which includes:(a) Discounting of bills (with or without

recourse) and collection of the client’sdebts. Under this, the receivables onaccount of sale of goods or servicesare sold to the factor at a certaindiscount. The factor becomesresponsible for all credit control anddebt collection from the buyer andprovides protection against any baddebt losses to the firm. There are twomethods of factoring — recourse andnon-recourse. Under recoursefactoring, the client is not protectedagainst the risk of bad debts. On theother hand, the factor assumes theentire credit risk under non-recoursefactoring i.e., full amount of invoiceis paid to the client in the event ofthe debt becoming bad.

(b) Providing information about creditworthiness of prospective client’s etc.,Factors hold large amounts ofinformation about the tradinghistories of the firms. This can bevaluable to those who are usingfactoring services and can therebyavoid doing business with customershaving poor payment record. Factorsmay also offer relevant consultancyservices in the areas of finance,marketing, etc.

The factor charges fees for theservices rendered. Factoringappeared on the Indian financialscene only in the early nineties as aresult of RBI initiatives. Theorganisations that provides such

services include SBI Factors andCommercial Services Ltd., CanbankFactors Ltd., Foremost Factors Ltd.,State Bank of India, Canara Bank,Punjab National Bank, AllahabadBank. In addition, many non-bankingfinance companies and otheragencies provide factoring service.

Merits

The merits of factoring as a source offinance are as follows:

(i) Obtaining funds through factoringis cheaper than financing throughother means such as bank credit;

(ii) With cash flow accelerated byfactoring, the client is able to meethis/her liabilities promptly as andwhen these arise;

(iii) Factoring as a source of funds isflexible and ensures a definitepattern of cash inflows from creditsales. It provides security for adebt that a firm might otherwisebe unable to obtain;

(iv) It does not create any charge onthe assets of the firm;

(v) The client can concentrate on otherfunctional areas of business as theresponsibility of credit control isshouldered by the factor.

Limitations

The limitations of factoring as a sourceof finance are as follows:

(i) This source is expensive when theinvoices are numerous andsmaller in amount;

(ii) The advance finance provided bythe factor firm is generally availableat a higher interest cost than theusual rate of interest;

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(iii) The factor is a third party to thecustomer who may not feelcomfortable while dealing with it.

8.4.4 Lease Financing

A lease is a contractual agreementwhereby one party i.e., the owner of anasset grants the other party the rightto use the asset in return for a periodicpayment. In other words it is a rentingof an asset for some specified period.The owner of the assets is called the‘lessor’ while the party that uses theassets is known as the ‘lessee’ (seeBox A). The lessee pays a fixed periodicamount called lease rental to the lessorfor the use of the asset. The terms andconditions regulating the leasearrangements are given in the leasecontract. At the end of the lease period,the asset goes back to the lessor. Leasefinance provides an important meansof modernisation and diversification tothe firm. Such type of financing is moreprevalent in the acquisition of suchassets as computers and electronicequipment which become obsoletequicker because of the fast changingtechnological developments. Whilemaking the leasing decision, the costof leasing an asset must be comparedwith the cost of owning the same.

Merits

The important merits of lease financingare as follows:

(i) It enables the lessee to acquire theasset with a lower investment;

(ii) Simple documentation makes iteasier to finance assets;

(iii) Lease rentals paid by the lessee aredeductible for computing taxableprofits;

(iv) It provides finance withoutdiluting the ownership or controlof business;

(v) The lease agreement does not affectthe debt raising capacity of anenterprise;

(vi) The risk of obsolescence is borneby the lesser. This allows greaterflexibility to the lessee to replacethe asset.

Limitations

The limitations of lease financing aregiven as below:

(i) A lease arrangement may imposecertain restrictions on the use ofassets. For example, it may notallow the lessee to make anyalteration or modification in theasset;

(ii) The normal business operationsmay be affected in case the leaseis not renewed;

(iii) It may result in higher payoutobligation in case the equipmentis not found useful and the lesseeopts for premature termination ofthe lease agreement; and

(iv) The lessee never becomes theowner of the asset. It deprives himof the residual value of the asset.

8.4.5 Public Deposits

The deposits that are raised byorganisations directly from the publicare known as public deposits. Rates ofinterest offered on public deposits are

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usually higher than that offered onbank deposits. Any person who isinterested in depositing money in anorganisation can do so by filling up aprescribed form. The organisation inreturn issues a deposit receipt asacknowledgment of the debt. Publicdeposits can take care of both mediumand short-term financial requirementsof a business. The deposits are

beneficial to both the depositor as wellas to the organisation. While thedepositors get higher interest rate thanthat offered by banks, the cost ofdeposits to the company is less thanthe cost of borrowings from banks.Companies generally invite publicdeposits for a period upto three years.The acceptance of public deposits isregulated by the Reserve Bank of India.

Box AThe Lessors

1. Specialised leasing companies: There are about 400-odd large companieswhich have an organisational focus on leasing, and hence, are known asleasing companies.

2. Banks and bank-subsidiaries: In February 1994, the RBI allowed banks todirectly enter leasing. Till then, only bank subsidiaries were allowed to engagein leasing operations, which was regarded by the RBI as a non-banking activity.

3. Specialised financial institutions: A number of financial institutions, atthe Central as well as the State level in India, use the lease instrument alongwith traditional financing instruments. Significantly, the ICICI is one of thepioneers in Indian leasing.

4. Manufacturer-lessors: As competition forces the manufacturer to add valueto his sales, he finds the best way to sell the product on lease. Vendor leasingis gaining increasing importance. Presently, vendors of automobiles, consumerdurables, etc., have alliances or joint ventures with leasing companies to offerlease finance against their products.

The Lessees1. Public sector undertakings: This market has witnessed a good rate of growth

in the past. There is an increasing number of both centrally as well as State-owned entities which have resorted to lease financing.

2. Mid-market companies: The mid-market companies (i.e., companies withreasonably good creditworthiness but with lower public profile) have resortedto lease financing basically as an alternative to bank/institutional financing.

3. Consumers: Recent bad experience with corporate financing has focussedattention towards retail funding of consumer durables. For instance, carleasing is a big market in India today.

4. Government deptts. and authorities: One of the latest entrants in leasingmarkets is the government itself. Recently the Department ofTelecommunications of the central government took the lead by floating tendersfor lease finance worth about Rs. 1000 crores.

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Merits

The merits of public deposits are:(i) The procedure of obtaining

deposits is simple and does notcontain restrictive conditions as aregenerally there in a loan agreement;

(ii) Cost of public deposits is generallylower than the cost of borrowingsfrom banks and financialinstitutions;

(iii) Public deposits do not usuallycreate any charge on the assets ofthe company. The assets can beused as security for raising loansfrom other sources;

(iv) As the depositors do not havevoting rights, the control of thecompany is not diluted.

Limitations

The major limitation of public depositsare as follows:

(i) New companies generally find itdifficult to raise funds throughpublic deposits;

(ii) It is an unreliable source of financeas the public may not respondwhen the company needs money;

(iii) Collection of public deposits mayprove difficult, particularly whenthe size of deposits required is large.

8.4.6 Commercial Paper (CP)

Commercial Paper emerged as a sourceof short term finance in our country inthe early nineties. Commercial paper isan unsecured promissory note issuedby a firm to raise funds for a shortperiod, varying from 90 days to 364days. It is issued by one firm to other

business firms, insurance companies,pension funds and banks. The amountraised by CP is generally very large. Asthe debt is totally unsecured, the firmshaving good credit rating can issue theCP. Its regulation comes under thepurview of the Reserve Bank of India.

The merits and limitations of aCommercial Paper are as follows:

Merits

(i) A commercial paper is sold on anunsecured basis and does notcontain any restrictive conditions;

(ii) As it is a freely transferableinstrument, it has high liquidity;

(iii) It provides more funds comparedto other sources. Generally, thecost of CP to the issuing firm islower than the cost of commercialbank loans;

(iv) A commercial paper provides acontinuous source of funds. Thisis because their maturity can betailored to suit the requirementsof the issuing firm. Further,maturing commercial paper canbe repaid by selling newcommercial paper;

(v) Companies can park their excessfunds in commercial paperthereby earning some good returnon the same.

Limitations

(i) Only financially sound and highlyrated firms can raise moneythrough commercial papers. Newand moderately rated firms arenot in a position to raise funds bythis method;

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(ii) The size of money that can beraised through commercial paperis limited to the excess liquidityavailable with the suppliers offunds at a particular time;

(iii) Commercial paper is an impersonalmethod of financing. As such if afirm is not in a position to redeemits paper due to financialdifficulties, extending the maturityof a CP is not possible.

8.4.7 Issue of Shares

The capital obtained by issue of sharesis known as share capital. The capitalof a company is divided into small unitscalled shares. Each share has itsnominal value. For example, acompany can issue 1,00,000 sharesof Rs. 10 each for a total value ofRs. 10,00,000. The person holding theshare is known as shareholder. Thereare two types of shares normally issuedby a company. These are equity sharesand preference shares. The moneyraised by issue of equity shares is calledequity share capital, while the moneyraised by issue of preference shares iscalled preference share capital.

(a) Equity SharesEquity shares is the mostimportant source of raising longterm capital by a company. Equityshares represent the ownership ofa company and thus the capitalraised by issue of such shares isknown as ownership capital orowner’s funds. Equity sharecapital is a prerequisite to thecreation of a company. Equityshareholders do not get a fixed

dividend but are paid on the basisof earnings by the company. Theyare referred to as ‘residual owners’since they receive what is left afterall other claims on the company’sincome and assets have beensettled. They enjoy the reward aswell as bear the risk of ownership.Their liability, however, is limitedto the extent of capital contributedby them in the company. Further,through their right to vote, theseshareholders have a right toparticipate in the management ofthe company.

Merits

The important merits of raising fundsthrough issuing equity shares are givenas below:

(i) Equity shares are suitable forinvestors who are willing toassume risk for higher returns;

(ii) Payment of dividend to the equityshareholders is not compulsory.Therefore, there is no burden onthe company in this respect;

(iii) Equity capital serves aspermanent capital as it is to berepaid only at the time ofliquidation of a company. As itstands last in the list of claims, itprovides a cushion for creditors,in the event of winding up of acompany;

(iv) Equity capital provides creditworthiness to the company andconfidence to prospective loanproviders;

(v) Funds can be raised throughequity issue without creating

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any charge on the assets of thecompany. The assets of a companyare, therefore, free to be mortgagedfor the purpose of borrowings, if theneed be;

(vi) Democratic control overmanagement of the company isassured due to voting rights ofequity shareholders.

Limitations

The major limitations of raising fundsthrough issue of equity shares are asfollows:

(i) Investors who want steady incomemay not prefer equity shares asequity shares get fluctuatingreturns;

(ii) The cost of equity shares isgenerally more as compared to thecost of raising funds through othersources;

(iii) Issue of additional equity sharesdilutes the voting power, andearnings of existing equityshareholders;

(iv) More formalities and proceduraldelays are involved while raisingfunds through issue of equityshare.

(b) Preference SharesThe capital raised by issue ofpreference shares is calledpreference share capital. Thepreference shareholders enjoy apreferential position over equityshareholders in two ways:(i) receiving a fixed rate of dividend,out of the net profits of thecompany, before any dividend isdeclared for equity shareholders;

and (ii) receiving their capital afterthe claims of the company’screditors have been settled, at thetime of liquidation. In other words,as compared to the equityshareholders, the preferenceshareholders have a preferentialclaim over dividend and repaymentof capital. Preference sharesresemble debentures as they bearfixed rate of return. Also as thedividend is payable only at thediscretion of the directors and onlyout of profit after tax, to that extent,these resemble equity shares.Thus, preference shares have somecharacteristics of both equityshares and debentures. Preferenceshareholders generally do notenjoy any voting rights. A companycan issue different types ofpreference shares (see Box B).

Merits

The merits of preference shares are givenas follows:

(i) Preference shares providereasonably steady income in theform of fixed rate of return andsafety of investment;

(ii) Preference shares are useful forthose investors who want fixedrate of return with comparativelylow risk;

(iii) It does not affect the control ofequity shareholders over themanagement as preferenceshareholders don’t have votingrights;

(iv) Payment of fixed rate of dividendto preference shares may enable a

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company to declare higher ratesof dividend for the equityshareholders in good times;

(v) Preference shareholders have apreferential right of repaymentover equity shareholders in the eventof liquidation of a company;

(vi) Preference capital does not createany sort of charge against theassets of a company.

Limitations

The major limitations of preferenceshares as source of business financeare as follows:

(i) Preference shares are not suitablefor those investors who are willingto take risk and are interested inhigher returns;

(ii) Preference capital dilutes theclaims of equity shareholders overassets of the company;

(iii) The rate of dividend on preferenceshares is generally higher than therate of interest on debentures;

(iv) As the dividend on these shares isto be paid only when the companyearns profit, there is no assuredreturn for the investors. Thus,these shares may not be veryattractive to the investors;

(v) The dividend paid is notdeductible from profits as expense.Thus, there is no tax saving as inthe case of interest on loans.

8.4.8 Debentures

Debentures are an importantinstrument for raising long term debtcapital. A company can raise fundsthrough issue of debentures, whichbear a fixed rate of interest. Thedebenture issued by a company is anacknowledgment that the company hasborrowed a certain amount of money,which it promises to repay at a futuredate. Debenture holders are, therefore,termed as creditors of the company.Debenture holders are paid a fixedstated amount of interest at specified

Box BTypes of Preference Shares

1. Cumulative and Non-Cumulative: The preference shares which enjoy theright to accumulate unpaid dividends in the future years, in case the sameis not paid during a year are known as cumulative preference shares. Onthe other hand, on non-cumulative shares, dividend is not accumulated if itis not paid in a particular year.

2. Participating and Non-Participating: Preference shares which have a rightto participate in the further surplus of a company shares which after dividendat a certain rate has been paid on equity shares are called participatingpreference shares. The non-participating preference are such which do notenjoy such rights of participation in the profits of the company.

3. Convertible and Non-Convertible: Preference shares that can be convertedinto equity shares within a specified period of time are known as convertiblepreference shares. On the other hand, non-convertible shares are such thatcannot be converted into equity shares.

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intervals say six months or one year.Public issue of debentures requiresthat the issue be rated by a credit ratingagency like CRISIL (Credit Rating andInformation Services of India Ltd.) onaspects like track record of thecompany, its profitability, debtservicing capacity, credit worthinessand the perceived risk of lending. Acompany can issue different types ofdebentures (see Box C and D). Issue ofZero Interest Debentures (ZID) whichdo not carry any explicit rate of interesthas also become popular in recentyears. The difference between the facevalue of the debenture and its purchaseprice is the return to the investor.

Merits

The merits of raising funds throughdebentures are given as follows:(i) It is preferred by investors who

want fixed income at lesser risk;(ii) Debentures are fixed charge funds

and do not participate in profits ofthe company;

(iii) The issue of debentures is suitablein the situation when the sales andearnings are relatively stable;

(iv) As debentures do not carryvoting rights, financing throughdebentures does not dilute controlof equity shareholders onmanagement;

(v) Financing through debentures isless costly as compared to cost ofpreference or equity capital as theinterest payment on debentures istax deductible.

Limitations

Debentures as source of funds hascertain limitations. These are given asfollows:(i) As fixed charge instruments,

debentures put a permanentburden on the earnings of acompany. There is a greater riskwhen earnings of the companyfluctuate;

(ii) In case of redeemable debentures,the company has to makeprovisions for repayment on thespecified date, even during periodsof financial difficulty;

(iii) Each company has certainborrowing capacity. With the issueof debentures, the capacity of acompany to further borrow fundsreduces.

8.4.9 Commercial Banks

Commercial banks occupy a vitalposition as they provide funds fordifferent purposes as well as for differenttime periods. Banks extend loans tofirms of all sizes and in many ways, like,cash credits, overdrafts, term loans,purchase/discounting of bills, andissue of letter of credit. The rate ofinterest charged by banks dependson various factors such as thecharacteristics of the firm and the levelof interest rates in the economy. Theloan is repaid either in lump sum or ininstallments.

Bank credit is not a permanentsource of funds. Though banks havestarted extending loans for longer

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periods, generally such loans are usedfor medium to short periods. Theborrower is required to provide somesecurity or create a charge on the assetsof the firm before a loan is sanctionedby a commercial bank.

Merits

The merits of raising funds from acommercial bank are as follows:

(i) Banks provide timely assistance tobusiness by providing funds asand when needed by it.

(ii) Secrecy of business can bemaintained as the informationsupplied to the bank by theborrowers is kept confidential;

(iii) Formalities such as issue ofprospectus and underwriting arenot required for raising loans froma bank. This, therefore, is an easiersource of funds;

(iv) Loan from a bank is a flexiblesource of finance as the loanamount can be increasedaccording to business needs andcan be repaid in advance whenfunds are not needed.

Limitations

The major limitations of commercialbanks as a source of finance are as

follows:

(i) Funds are generally available forshort periods and its extension orrenewal is uncertain and difficult;

(ii) Banks make detailed investigationof the company’s affairs, financialstructure etc., and may also ask forsecurity of assets and personalsureties. This makes the procedureof obtaining funds slightlydifficult;

Box CTypes of Debentures

1. Secured and Unsecured: Secured debentures are such which create a chargeon the assets of the company, thereby mortgaging the assets of the company.Unsecured debentures on the other hand do not carry any charge or securityon the assets of the company.

2. Registered and Bearer: Registered debentures are those which are dulyrecorded in the register of debenture holders maintained by the company.These can be transferred only through a regular instrument of transfer. Incontrast, the debentures which are transferable by mere delivery are calledbearer debentures.

3. Convertible and Non-Convertible: Convertible debentures are thosedebentures that can be converted into equity shares after the expiry of aspecified period. On the other hand, non-convertible debentures are thosewhich cannot be converted into equity shares.

4. First and Second: Debentures that are repaid before other debentures arerepaid are known as first debentures. The second debentures are those whichare paid after the first debentures have been paid back.

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(iii) In some cases, difficult terms andconditions are imposed by banks.for the grant of loan. For example,restrictions may be imposed on thesale of mortgaged goods, thusmaking normal business workingdifficult.

8.4.10 Financial Institutions

The government has established anumber of financial institutions all overthe country to provide finance tobusiness organisations (see Box E).These institutions are established bythe central as well as state governments.They provide both owned capital andloan capital for long and medium termrequirements and supplement thetraditional financial agencies likecommercial banks. As theseinstitutions aim at promoting theindustrial development of a country,these are also called ‘developmentbanks’. In addition to providingfinancial assistance, these institutionsalso conduct market surveys andprovide technical assistance andmanagerial services to people who runthe enterprises. This source of financingis considered suitable when large fundsfor longer duration are required forexpansion, reorganisation andmodernisation of an enterprise.

Merits

The merits of raising funds throughfinancial institutions are as follows:

(i) Financial institutions provide long-term finance, which are notprovided by commercial banks;

(ii) Besides providing funds, many ofthese institutions provide financial,managerial and technical adviceand consultancy to business firms;

(iii) Obtaining loan from financialinstitutions increases thegoodwill of the borrowingcompany in the capital market.Consequently, such a companycan raise funds easily from othersources as well;

(iv) As repayment of loan can be madein easy instalments, it does notprove to be much of a burden onthe business;

(v) The funds are made available evenduring periods of depression, whenother sources of finance are notavailable.

Limitations

The major limitations of raising fundsfrom financial institutions are as givenbelow:

(i) Financial institutions follow rigidcriteria for grant of loans. Too manyformalities make the proceduretime consuming and expensive;

(ii) Certain restrictions such asrestriction on dividend payment areimposed on the powers of theborrowing company by thefinancial institutions;

(iii) Financial institutions may havetheir nominees on the Board ofDirectors of the borrowingcompany thereby restricting thepowers of the company.

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Box DSpecial Financial Institutions

1. Industrial Finance Corporation of India (IFCI): It was established in July1948 as a statutory corporation under the Industrial Finance CorporationAct, 1948. Its objectives include assistance towards balanced regionaldevelopment and encouraging new entrepreneurs to enter into the prioritysectors of the economy. IFCI has also contributed to the development ofmanagement education in the country.

2. State Financial Corporations (SFC): The State Financial Corporations Act,1951 empowered the State Governments to establish State FinancialCorporations in their respective regions for providing medium and short termfinance to industries which are outside the scope of the IFCI. Its scope is widerthan IFCI, since the former covers not only public limited companies but alsoprivate limited companies, partnership firms and proprietary concerns.

3. Industrial Credit and Investment Corporation of India (ICICI): This wasestablished in 1955 as a public limited company under the Companies Act.ICICI assists the creation, expansion and modernisation of industrialenterprises exclusively in the private sector. The corporation has alsoencouraged the participation of foreign capital in the country.

4. Industrial Development Bank of India (IDBI): It was established in 1964under the Industrial Development Bank of India Act, 1964 with an objective tocoordinate the activities of other financial institutions including commercialbanks. The bank performs three types of functions, namely, assistance toother financial institutions, direct assistance to industrial concerns, andpromotion and coordination of financial-technical services.

5. State Industrial Development Corporations (SIDC): Many state governmentshave set up State Industrial Development Corporations for the purpose ofpromoting industrial development in their respective states. The objectives ofthe SIDCs differ from one state to another.

6. Unit Trust of India (UTI): It was established by the Government of India in1964 under the Unit Trust of India Act, 1963. The basic objective of UTI is tomobilise the community’s savings and channelise them into productiveventures. For this purpose, it sanctions direct assistance to industrialconcerns, invests in their shares and debentures, and participates with otherfinancial institutions.

7. Industrial Investment Bank of India Ltd.: It was initially set up as a primaryagency for rehabilitation of sick units and was known as IndustrialReconstruction Corporation of India. It was reconstituted and renamed as theIndustrial Reconstruction Bank of India in 1985 and again in 1997 its namewas changed to Industrial Investment Bank of India. The Bank assists sickunits in the reorganisation of their share capital, improvement in managementsystem, and provision of finance at liberal terms.

8. Life Insurance Corporation of India (LIC): LIC was set up in 1956 under theLIC Act, 1956 after nationalising 245 existing insurance companies. It mobilisesthe community’s savings in the form of insurance premia and makes it availableto industrial concerns, both public as well as private, in the form of directloans and underwriting of and subscription to shares and debentures.

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8.5 INTERNATIONAL FINANCING

In addition to the sources discussedabove, there are various avenues fororganisations to raise fundsinternationally. With the opening up ofan economy and the operations of thebusiness organisations becomingglobal, Indian companies have anaccess to funds in global capital market.Various international sources fromwhere funds may be generated include:(i) Commercial Banks: Commercialbanks all over the world extend foreigncurrency loans for business purposes.They are an important source offinancing non-trade internationaloperations. The types of loans andservices provided by banks vary fromcountry to country. For example,Standard Chartered emerged as amajor source of foreign currency loansto the Indian industry.(ii) International Agencies andDevelopment Banks: A numberof international agencies and

development banks have emerged overthe years to finance international tradeand business. These bodies providelong and medium term loans andgrants to promote the development ofeconomically backward areas in theworld. These bodies were set up by theGovernments of developed countries ofthe world at national, regional andinternational levels for funding variousprojects. The more notable among theminclude International FinanceCorporation (IFC), EXIM Bank andAsian Development Bank.

(iii) International Capital Markets:Modern organisations includingmultinational companies depend uponsizeable borrowings in rupees as wellas in foreign currency. Prominentfinancial instruments used for thispurpose are:(a) Global Depository Receipts

(GDR’s): The local currency sharesof a company are delivered to thedepository bank. The depositorybank issues depository receipts

BOX E

Inter Corporate Deposits (ICD)

Inter Corporate Deposits are unsecured short-term deposits made by a companywith another company. ICD market is used for short-term cash management ofa large corporate. As per the RBI guidelines, the minimum period of ICDs is 7days which can be extended to one year.

The three types of Inter Corporate Deposits are:(i) Three months deposits;(ii) Six months deposits;(iii) Call deposits.

Interest rate on ICDs may remain fixed or may be floating. The rate of intereston these deposits is higher than that of banks. These deposits are usuallyconsidered by the borrower company to solve problems of short-term fundsinsufficiency.

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against these shares. Suchdepository receipts denominated inUS dollars are known as GlobalDepository Receipts (GDR). GDR is anegotiable instrument and can betraded freely like any other security.In the Indian context, a GDR is aninstrument issued abroad by anIndian company to raise funds insome foreign currency and is listedand traded on a foreign stockexchange. A holder of GDR can at anytime convert it into the number ofshares it represents. The holders ofGDRs do not carry any voting rightsbut only dividends and capitalappreciation. Many Indiancompanies such as Infosys, Reliance,Wipro and ICICI have raised moneythrough issue of GDRs (see Box F).

(b) American Depository Receipts(ADRs): The depository receiptsissued by a company in the USAare known as American DepositoryReceipts. ADRs are bought and soldin American markets, like regularstocks. It is similar to a GDR exceptthat it can be issued only toAmerican citizens and can be listedand traded on a stock exchangeof USA.

(c) Indian Depository Receipt(IDRs): An Indian DepositoryReceipt is a financial instrumentdenominated in Indian Rupees inthe form of a Depository Receipt. Itis created by an Indian Depositoryto enable a foreign company toraise funds from the Indiansecurities market. The IDR is a

Box FCompanies rush to float GDR issues

It’s not the IPO (initial public offer) market alone which is humming with activity.Companies — mostly small and medium-sized — are rushing to the overseasmarket to raise funds through Global Depository Receipts (GDRs). Five firmshave already raised $464 million (around Rs 2,040 crore) from the internationalmarkets through GDR offerings this year. This is almost double of $228.6 mnraised by nine companies in 2004 and $63.09 mn mobilised by four companiesin 2003. Nearly 20 companies are waiting in the wings to launch GDR issuesworth over $1 bn in the coming months. On the other hand, though the numberof companies going for FCCB (Foreign Currency Convertible Bonds) issues hascome down, several companies are still in the FCCB race, thanks to lax rulesand disclosure norms. For example, Aarti Drugs Ltd. has decided to raise$12 mn by issuing FCCBs.

Significantly, small and medium companies are now taking the GDR route toraise funds this time even for a small amount. For example, Opto Circuits hasdecided to go for a GDR issue of $20 mn with a green-shoe option of $5 mn. Theshare price of this company shot up by 370 per cent from Rs 34 on May 17, 2004to around Rs 160 on the BSE recently. Videocon Industries, Lyka Labs, IndianOverseas Bank, Jubilant Organosys, Maharashtra Seamless, MoschipSemiconductors, and Crew BOS are planning GDR issues. Two banks — UTIBank ($240 million) and Centurion Bank ($70 million) — raised funds from theGDR market recently. Companies now prefer GDR over FCCB issues in view ofthe rise in interest rates abroad.

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specific Indian version of the similarglobal depository receipts.The foreign company issuing IDR

deposits shares to an Indian Depository(custodian of securities registered withthe Securities and Exchange Board ofIndia). In turn, the depository issuesreceipts to investors in India againstthese shares. The benefits of theunderlying shares (like bonus,dividends, etc.) accrue to the IDRholders in India.

According to SEBI guidelines, IDRsare issued to Indian residents in thesame way as domestic shares areissued. The issuer company makes apublic offer in India, and residents canbid in exactly the same format andmethod as they bid for Indian shares.

‘Standard Chartered PLC’ was thefirst company that issued IndianDepository Receipt in Indian securitiesmarket in June 2010.(d) Foreign Currency Convertible

Bonds (FCCBs): Foreign currencyconvertible bonds are equity linkeddebt securities that are to beconverted into equity or depositoryreceipts after a specific period. Thus,a holder of FCCB has the option ofeither converting them into equityshares at a predetermined price orexchange rate, or retaining thebonds. The FCCB’s are issued in aforeign currency and carry a fixedinterest rate which is lower than therate of any other similar non-convertible debt instrument.FCCB’s are listed and traded inforeign stock exchanges. FCCB’sare very similar to the convertibledebentures issued in India.

8.6 FACTORS AFFECTING THE CHOICE

OF THE SOURCE OF FUNDS

Financial needs of a business are ofdifferent types — long term, short term,fixed and fluctuating. Therefore,business firms resort to different typesof sources for raising funds. Short-termborrowings offer the benefit of reducedcost due to reduction of idle capital, butlong – term borrowings are considereda necessity on many grounds. Similarlyequity capital has a role to play in thescheme for raising funds in thecorporate sector.

As no source of funds is devoid oflimitations, it is advisable to use acombination of sources, instead ofrelying only on a single source. Anumber of factors affect the choice ofthis combination, making it a verycomplex decision for the business. Thefactors that affect the choice of sourceof finance are briefly discussed below:(i) Cost: There are two types of cost viz.,

the cost of procurement of funds andcost of utilising the funds. Boththese costs should be taken intoaccount while deciding about thesource of funds that will be used byan organisation.

(ii) Financial strength and stabilityof operations: The financialstrength of a business is also a keydeterminant. In the choice of sourceof funds business should be in asound financial position so as to beable to repay the principal amountand interest on the borrowedamount. When the earnings of theorganisation are not stable, fixed

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charged funds like preferenceshares and debentures should becarefully selected as these add to thefinancial burden of the organisation.

(iii) Form of organisation and

legal status: The form of businessorganisation and status influencesthe choice of a source for raisingmoney. A partnership firm, forexample, cannot raise money byissue of equity shares as these canbe issued only by a joint stockcompany.

(iv) Purpose and time period:

Business should plan according tothe time period for which the fundsare required. A short-term need forexample can be met throughborrowing funds at low rate ofinterest through trade credit,commercial paper, etc. For longterm finance, sources such as issueof shares and debentures are moreappropriate. Similarly, the purposefor which funds are required needto be considered so that the sourceis matched with the use. Forexample, a long-term businessexpansion plan should not befinanced by a bank overdraft whichwill be required to be repaid in theshort term.

(v) Risk profile: Business shouldevaluate each of the source offinance in terms of the risk involved.For example, there is a least risk inequity as the share capital has tobe repaid only at the time of windingup and dividends need not be paidif no profits are available. A loan onthe other hand, has a repayment

schedule for both the principal andthe interest. The interest is requiredto be paid irrespective of the firmearning a profit or incurring a loss.

(vi) Control: A particular source offund may affect the control andpower of the owners on themanagement of a firm. Issue ofequity shares may mean dilution ofthe control. For example, as equityshare holders enjoy voting rights,financial institutions may takecontrol of the assets or imposeconditions as part of the loanagreement. Thus, business firmshould choose a source keeping inmind the extent to which they arewilling to share their control overbusiness.

(vii) Effect on credit worthiness: Thedependence of business on certainsources may affect its creditworthiness in the market. Forexample, issue of secureddebentures may affect the interestof unsecured creditors of thecompany and may adversely affecttheir willingness to extend furtherloans as credit to the company.

(viii) Flexibility and ease: Anotheraspect affecting the choice of asource of finance is the flexibilityand ease of obtaining funds.Restrictive provisions, detailedinvestigation and documentationin case of borrowings from banksand financial institutions forexample may be the reason that abusiness organisations may notprefer it, if other options are readilyavailable.

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Key Terms

Finance Owned capital Fixed capital

Working capital Borrowed capital Short term sources

Restrictive conditions Long term sources Charge on assets

Voting power Fixed charge funds Accounts receivable

Bill discounting Factoring GDRs

FCCBs ADRs 1CD1DR

SUMMARY

Meaning and significance of business finance: Finance required bybusiness to establish and run its operations is known as business finance.No business can function without adequate amount of funds for undertakingvarious activities. The funds are required for purchasing fixed assets (fixedcapital requirement), for running day-to-day operations (working capitalrequirement), and for undertaking growth and expansion plans in a businessorganisation.

Classification of sources of funds: Various sources of funds available to abusiness can be classified according to three major basis, which are(i) time period (long, medium and short term), (ii) ownership (owner’s fundsand borrowed funds), and (iii) source of generation (internal sources andexternal sources).

Long, medium and short-term sources of funds: The sources that providefunds for a period exceeding 5 years are called long-term sources. Thesources that fulfill the financial requirements for the period of more thanone year but not exceeding 5 years are called medium term sources andthe sources that provide funds for a period not exceeding one year aretermed as short term sources.

Owner’s funds and borrowed funds: Owner’s funds refer to the funds thatare provided by the owners of an enterprise. Borrowed capital, on the otherhand, refers to the funds that are generated through loans or borrowingsfrom other individuals or institutions.

Internal and external sources: Internal sources of capital are those sourcesthat are generated within the business say through ploughing back of profits.

(ix)Tax benefits: Various sourcesmay also be weighed in terms oftheir tax benefits. For example,while the dividend on preferenceshares is not tax deductible,

interest paid on debentures andloan is tax deductible and may,therefore, be preferred byorganisations seeking taxadvantage.

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External sources of capital, on the other hand are those that are outsidethe business such as finance provided by suppliers, lenders, and investors.

Sources of business finance: The sources of funds available to a businessinclude retained earnings, trade credit, factoring, lease financing, publicdeposits, commercial paper, issue of shares and debentures, loans fromcommercial banks, financial institutions and international sources of finance.

Retained earnings: The portion of the net earnings of the company that isnot distributed as dividends is known as retained earnings. The amount ofretained earnings available depends on the dividend policy of the company.It is generally used for growth and expansion of the company.

Trade credit: The credit extended by one trader to another for purchasinggoods or services is known as trade credit. Trade credit facilitates thepurchase of supplies on credit. The terms of trade credit vary from oneindustry to another and are specified on the invoice. Small and new firmsare usually more dependent on trade credit, as they find it relatively difficultto obtain funds from other sources.

Factoring: Factoring has emerged as a popular source of short-term fundsin recent years. It is a financial service whereby the factor is responsiblefor all credit control and debt collection from the buyer and providesprotection against any bad-debt losses to the firm. There are two methodsof factoring — recourse and non-recourse factoring.

Lease financing: A lease is a contractual agreement whereby the owner ofan asset (lessor) grants the right to use the asset to the other party (lessee).The lessor charges a periodic payment for renting of an asset for somespecified period called lease rent.

Public deposits: A company can raise funds by inviting the public to deposittheir savings with their company. Pubic deposits may take care of both longand short-term financial requirements of business. Rate of interest on depositsis usually higher than that offered by banks and other financial institutions.

Commercial paper (CP): It is an unsecured promissory note issued by afirm to raise funds for a short period The maturity period of commercialpaper usually ranges from 90 days to 364 days. Being unsecured, onlyfirms having good credit rating can issue the CP and its regulation comesunder the purview of the Reserve Bank of India.

Issue of equity shares: Equity shares represents the ownership capital ofa company. Due to their fluctuating earnings, equity shareholders are calledrisk bearers of the company. These shareholders enjoy higher returns duringprosperity and have a say in the management of a company, throughexercising their voting rights.

Issue of preference shares: These shares provide a preferential right tothe shareholders with respect to payment of earnings and the repayment

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of capital. Investors who prefer steady income without undertaking higherrisks prefer these shares. A company can issue different types of preferenceshares.

Issue of debentures: Debenture represents the loan capital of a companyand the holders of debentures are the creditors. These are the fixed chargedfunds that carry a fixed rate of interest. The issue of debentures is suitablein the situation when the sales and earnings of the company are relativelystable.

Commercial banks: Banks provide short and medium-term loans to firmsof all sizes. The loan is repaid either in lump sum or in instalments. Therate of interest charged by a bank depends upon factors including thecharacteristics of the borrowing firm and the level of interest rates in theeconomy.

Financial institutions: Both central and state governments haveestablished a number of financial institutions all over the country to provideindustrial finance to companies engaged in business. They are also calleddevelopment banks. This source of financing is considered suitable whenlarge funds are required for expansion, reorganisation and modernisationof the enterprise.

International financing: With liberalisation and globalisation of theeconomy, Indian companies have started generating funds frominternational markets. The international sources from where the fundscan be procured include foreign currency loans from commercial banks,financial assistance provided by international agencies and developmentbanks, and issue of financial instruments (GDRs/ ADRs/ FCCBs) ininternational capital markets.

Factors affecting choice: An effective appraisal of various sources mustbe instituted by the business to achieve its main objectives. The selectionof a source of business finance depends on factors such as cost, financialstrength, risk profile, tax benefits and flexibility of obtaining funds. Thesefactors should be analysed together while making the decision for the choiceof an appropriate source of funds.

EXERCISES


Tick (ü) the correct answer out of the given alternatives

1. Equity shareholders are called

(a) Owners of the company (b) Partners of the company(c) Executives of the company (d) Guardian of the company

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2. The term ‘redeemable’ is used for

(a) Preference shares (b) Commercial paper(c) Equity shares (d) Public deposits

3. Funds required for purchasing current assets is an example of

(a) Fixed capital requirement (b) Ploughing back of profits(c) Working capital requirement (d) Lease financing

4. ADRs are issued in

(a) Canada (b) China(c) India (d) USA

5. Public deposits are the deposits that are raised directly from

(a) The public (b) The directors(c) The auditors (d) The owners

6. Under the lease agreement, the lessee gets the right to

(a) Share profits earned (b) Participate in theby the lessor management of the

organisation(c) Use the asset for a (d) Sell the assets

specified period

7. Debentures represent

(a) Fixed capital of the company (b) Permanent capital of thecompany

(c) Fluctuating capital of (d) Loan capital of thethe company company

8. Under the factoring arrangement, the factor

(a) Produces and distributes (b) Makes the payment onthe goods or services behalf of the client

(c) Collects the client’s debt (d) Transfer the goods fromor account receivables one place to another

9. The maturity period of a commercial paper usually ranges from

(a) 20 to 40 days (b) 60 to 90 days(c) 120 to 365 days (d) 90 to 364 days

10. Internal sources of capital are those that are

(a) generated through outsiders (b) generated through loanssuch as suppliers from commercial banks

(c) generated through issue (d) generated withinof shares the business

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1. What is business finance? Why do businesses need funds? Explain.

2. List sources of raising long-term and short-term finance.

3. What is the difference between internal and external sources of raisingfunds? Explain.

4. What preferential rights are enjoyed by preference shareholders.Explain.

5. Name any three special financial institutions and state their objectives.

6. What is the difference between GDR and ADR? Explain.


1. Explain trade credit and bank credit as sources of short-term financefor business enterprises.

2. Discuss the sources from which a large industrial enterprise can raisecapital for financing modernisation and expansion.

3. What advantages does issue of debentures provide over the issue ofequity shares?

4. State the merits and demerits of public deposits and retained earningsas methods of business finance.

5. Discuss the financial instruments used in international financing.

6. What is a commercial paper? What are its advantages and limitations.

Projects/Assignment

1. Collect information about the companies that have issued debenturesin recent years. Give suggestions to make debentures more popular.

2. Institutional financing has gained importance in recent years. In ascrapbook paste detailed information about various financialinstitutions that provide financial assistance to Indian companies.

3. On the basis of the sources discussed in the chapter, suggest suitableoptions to solve the financial problem of the restaurant owner.

4. Prepare a comparative chart of all the sources of finance.

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CHAPTER 9

SMALL BUSINESS

LEARNING OBJECTIVES


• explain the meaning and nature of small business;

• appreciate the role of small business in India;

• analyse the problems of small business; and

• classify the different forms of assistance provided by the

government to small business, particularly in rural and hilly areas.

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9.1 INTRODUCTION

In the pervious chapters, the conceptsof business, trade, commerce andindustry were discussed. The presentchapter discusses the issue of size ofbusiness, with reference to smallindustries and small businessestablishments. It also describes therole of small business and the majorproblems faced by the small sectorunits. Further, the assistance providedby the government to small business,particularly in the rural and hilly areashas been discussed.

9.2 MEANING AND NATURE OF SMALL

BUSINESS

In India, the ‘village and smallindustries sector’ consists of both‘traditional’ and ‘modern’ smallindustries. This sector has eightsubgroups. They are handlooms,handicrafts, coir, sericulture, khadi andvillage industries, small scale

industries and powerlooms. The lasttwo come under the modern smallindustries, while the others come undertraditional industries. Village and smallindustries together provide the largestemployment opportunities in India.

Before understanding the natureand meaning of small business, it isimportant to know how size is definedin our country, with reference to smallindustries and small businessestablishments. Several parameters canbe used to measure the size of businessunits. These include the number ofpersons employed in business, capitalinvested in business, volume of outputor value of output of business andpower consumed for business activities.However, there is no parameter whichis without limitations. Depending on theneed the measures can vary.

The definition used by theGovernment of India to describe smallindustries is based on the investment

Amar, Akbar and Anthony are three good friends who have completed a vocational

course in entrepreneurship, after their school education. Finding the job market

tough, they were contemplating the idea of setting up a small business, using the

skills they had learnt in their course. However, they knew very little about business.

They were wondering what business to start, where to locate it, how to procure

machinery and materials needed for the business, how to raise money and how

to market. They came across a notification given by the District Industries Centre

located near the Industrial Estate in Balanagar, Ranga Reddy district of Andhra

Pradesh regarding a seminar on government’s assistance for a small business,

aimed at young entrepreneurs. Excited with the news, the three friends decided

to attend the seminar. They were told about the financial and other assistance

offered by the Central and State Governments under the Rural Employment

Generation Programme to the educated youth. They found that toys were in

demand and decided to manufacture toys. They started a small scale industry in

their village by taking financial assistance with the help of Khadi and Village

Industries Commission. Today, they are successful makers of toys and in the

near future, they plan to get into export market as well.

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215SMALL BUSINESS

in plant and machinery. This measureseeks to keep in view the socio-economicenvironment in India where capital isscarce and labour is abundant.

The emergence of a large servicessector has necessitated the governmentto include other enterprises coveringboth Small Scale Industries (SSI) sectorand related service entities under thesame umbrella. Expansion of the smallscale enterprises was taking placegrowing into medium scale enterprisesand they were required to adopt higherlevels of technologies in order to remaincompetitive in a fast globalising world.Thus, it was necessary to address theconcerns of such enterprises micro, smalland medium and provide them with asingle legal framework. The Micro, Smalland Medium Enterprises Development(MSMED) Act, 2006 addresses theseissues relating to definition, credit,marketing and technology upgradation.Medium scale enterprises and servicerelated enterprises also come under thepurview of this Act. The MSMEDAct, 2006 came into force w.e.f.,October, 2006. Accordingly, enterprisesare classified into two major categoriesviz., manufacturing and services.

ManufacturingIn the case of enterprises engaged inthe manufacture or production ofgoods pertaining to any industriesspecified in the first schedule to theIndustries (Development andRegulation) Act, 1951, there are threetypes of enterprises:

(i) Micro enterprise, where theinvestment in plant and machinery doesnot exceed twenty-five lakh rupees.

(ii) Small enterprise, where theinvestment in plant and machinery ismore than twenty five lakh rupees butdoes not exceed five crore rupees.

(iii) Medium enterprise, where theinvestment in plant and machinery ismore then five crore rupees but doesnot exceed ten crores rupees.

ServicesIn the case of enterprises engaged inproviding or rendering of services thereare three types of enterprises:

(i) Micro enterprise, where theinvestment in equipment does notexceed ten lakh rupees.

(ii) Small enterprise, where theinvestment in equipment is more thanten lakh rupees but does not exceedtwo crore rupees.

(iii) Medium enterprise, where theinvestment in equipment is more thantwo crore rupees but does not exceedfive crore rupees.

Village industries: Village industryhas been defined as any industrylocated in a rural area which producesany goods, renders any service with orwithout the use of power and in whichthe fixed capital investment per heador artisan or worker is specified by thecentral government, from time to time.

Cottage industries: These are alsoknown as Rural Industries orTraditional Industries. They are notdefined by capital investment criteriaas in the case of other small scaleindustries. However, cottage industriesare characterised by certain features

like the following:

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• these are organised by individuals,with private resources;

• normally use family labour andlocally available talent;

• the equipment used is simple;

• capital investment is small;

• produce simple products, normallyin their own premises;

• production of goods usingindigenous technology.

9.3 ADMINISTRATIVE SETUP FOR THE

SMALL SCALE, AGRO AND RURAL

INDUSTRIES

The Government of India created theMinistry of Micro, Small and MediumEnterprises as the nodal ministry forformulation of policy and coordinationof central assistance for the promotionand development of small scaleindustries in India. The SmallIndustries Development Organisation(SIDO), also known as the Office of theDevelopment Commissioner (SSI)which is attached to this ministry isresponsible for implementing andmonitoring of various policies andprogrammes formulated. The Ministryof Micro, Small and MediumEnterprises designs policies,programmes and schemes for

promotion and growth of SSIs. TheNational Small Industries Corporation(NSIC), a public sector enterprise of theMinistry, has been providing marketingsupport to the medium and smallenterprises under the MarketingAssistance Scheme.

Ministry of Agro and RuralIndustries is the nodal agency forcoordination and development ofVillage and Khadi industries, tiny andmicro enterprises in both urban andrural areas. It also implements PrimeMinister’s Rojgar Yojana. The variouspolicies, programmes and schemesrelated to agro and rural industries areimplemented by the ministry throughthe Khadi and Village IndustriesCommission (KVIC), Handicrafts Board,Coir Board, Silk Board, etc. The KVICmay include the micro or tinyenterprises or the village enterprises aspart of small enterprises dependingupon the criteria or standards inrespect of employment or turnover ofthe enterprise.

State Governments also executedifferent promotional and develop-mental projects and schemes to providenumber of supporting incentives fordevelopment and promotion of SSIs in

Category Manufacturing* Providing of ServicesInvestment Limit Investment Limit

Micro enterprise 25 lakh 10 lakh

Small enterprise Between 25 lakh Between 10 lakh andand 5 crore 2 crore

Medium enterprise Between 5 crore Between 2 crore andand 10 crore 5 crore

* While calculating the investment in plant and machinery, the cost of pollution control,

research and development, industrial safety devices and such other items shall be excluded.

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their respective states. These areexecuted through the State Directorateof Industries, who has DistrictIndustries Centres (DICs) under it toimplement central/state level schemes.

9.4 ROLE OF SMALL BUSINESS IN INDIA

Small Scale Industries in India enjoy adistinct position in view of theircontribution to the socio-economicdevelopment of the country. Thefollowing points highlight theircontribution.

(i) Small industries in India accountfor 95 per cent of the industrial units inthe country. They contribute almost 40per cent of the gross industrial valueadded and 45 per cent of the total exports(direct and indirect exports) from India.

(ii) Small industries are the secondlargest employers of human resources,after agriculture. They generate morenumber of employment opportunitiesper unit of capital invested comparedto large industries. They are, therefore,considered to be more labour intensive

and less capital intensive. This is a boonfor a labour surplus country like India.

(iii) Small industries in our countrysupply an enormous variety of productswhich include mass consumptiongoods, readymade garments, hosierygoods, stationery items, soaps anddetergents, domestic utensils, leather,plastic and rubber goods, processedfoods and vegetables, wood and steelfurniture, paints, varnishes, safetymatches, etc. Among the sophisticateditems manufactured are electric andelectronic goods like televisions,calculators, electro-medical equipment,electronic teaching aids like overheadprojectors, air conditioning equipment,drugs and pharmaceuticals,agricultural tools and equipment andseveral other engineering products. Aspecial mention should be made ofhandlooms, handicrafts and otherproducts from traditional villageindustries in view of their export value.(see Box A which highlights the majorindustry groups that come under the

Box AMajor Industry Groups in the Small Scale Sector

• Food Products• Chemical and Chemical

Products• Basic Metal Industries• Metal Products• Electrical Machinery and Parts• Rubber and Plastic Products• Machinery and Parts except

Electrical Goods• Hosiery and Garments — Wool

Products• Non-metallic Mineral Products• Paper Products and Printing

• Transport Equipment andParts

• Leather and Leather Products• Miscellaneous Manufacturing

Industries• Beverages, Tobacco and

Tobacco Products• Repair Services• Cotton Textiles• Wool, Silk, Synthetic Fibre and

Textiles• Jute, Hemp and Mesta Textiles• Other Services

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purview of small industries as per theclassification laid down by thegovernment.)

(iv) The contribution of smallindustries to the balanced regionaldevelopment of our country isnoteworthy. Small industries whichproduce simple products using simpletechnologies and depend on locallyavailable resources both material andlabour can be set up anywhere in thecountry. Since they can be widely spreadwithout any locational constraints, thebenefits of industrialisation can bereaped by every region. They, thus,contribute significantly to the balanceddevelopment of the country.

(v) Small industries provide ampleopportunity for entrepreneurship. Thelatent skills and talents of people canbe channelled into business ideaswhich can be converted into realitywith little capital investment and almostnil formalities to start a small business.Amar, Akbar and Anthony in our storyproved that a small business can bestarted, if one has the determination toachieve.

(vi) Small industries also enjoythe advantage of low cost of production.Locally available resources are lessexpensive. Establishment and runningcosts of small industries are on thelower side because of low overheadexpenses. Infact, the low cost ofproduction which small industriesenjoy is their competitive strength.

(vii) Due to the small size of theorganisations, quick and timelydecisions can be taken withoutconsulting many people as it happensin large sized organisations. New

business opportunities can becaptured at the right time.

(viii) Small industries are bestsuited for customised production. i.e.designing the product as per the tastes/preferences/needs of individualcustomers, say for an example tailor-made shirt or trouser. The recent trendin the market is to go in for customisedproduction of even non-traditionalproducts such as computers and othersuch products. They can produceaccording to the needs of the customersas they use simple and flexibleproduction techniques.

(ix) Last but not the least, smallindustries have inherent strength ofadaptability and a personal touch andtherefore maintain good personalrelations with both customers andemployees. The government does nothave to interfere in the functioning of asmall scale unit. Due to the small sizeof the organisation quick and timelydecision can be taken withoutconsulting many people as in largesized organisations. New businessopportunities can be captured at theright time, thus providing healthycompetition to big business which isgood for the economy.

9.5 ROLE OF SMALL BUSINESS IN

RURAL INDIA

Traditionally, rural households indeveloping countries have been viewedas exclusively engaged in agriculture.There is an increasing evidence thatrural households can have highly variedand multiple sources of income and that,rural households can and do participatein a wide range of non-agricultural

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activities such as wage employment andself-employment in commerce,manufacturing and services, along withthe traditional rural activities of farmingand agricultural labour. This can belargely attributed to the policy initiativestaken by the Government of India, toencourage and promote the setting upof agro-based rural industries.

The emphasis on village and smallscale industries has always been anintegral part of India’s industrialstrategy, more so, after the second FiveYear Plan. Cottage and rural industriesplay an important role in providingemployment opportunities in the ruralareas, especially for the traditionalartisans and the weaker sections ofsociety. Development of rural andvillage industries can also preventmigration of rural population to urbanareas in search of employment.

Village and small industries aresignificant as producers of consumergoods and absorbers of surplus labour,thereby addressing the problems ofpoverty and unemployment. Theseindustries contribute amply to othersocio-economic aspects, such asreduction in income inequalities,dispersed development of industries andlinkage with other sectors of the economy.

In fact promotion of small scaleindustries and rural industrialisationhas been considered by theGovernment of India as a powerfulinstrument for realising the twinobjectives of ‘accelerated industrialgrowth and creating additionalproductive employment potential inrural and backward areas.’

However, the potential of smallindustries is often not realised fully,because of several problems related tosize. We shall now examine some of themajor problems that small businesseswhether in urban or in rural areas areencountering in their day-to-dayfunctioning.

9.6 PROBLEMS OF SMALL BUSINESS

Small scale industries are at a distinctdisadvantage as compared to large scaleindustries. The scale of operations,availability of finance, ability to usemodern technology, procurement ofraw materials are some of these areas.This gives rise to several problems.

Most of these problems can beattributed to the small size of theirbusiness, which prevents them fromtaking advantages, which accrue tolarge business organisations. However,the problems faced are not similar toall the categories of small businesses.For instance, in the case of smallancillary units, the major problemsinclude delayed payments, uncertaintyof getting orders from the parent unitsand frequent changes in productionprocesses. The problems of traditionalsmall scale units include remotelocation with less developedinfrastructural facilities, lack ofmanagerial talent, poor quality,traditional technology and inadequateavailability of finance.

The problems of exporting smallscale units include lack of adequatedata on foreign markets, lack ofmarket intelligence, exchange ratefluctuations, quality standards, and

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pre-shipment finance. In general thesmall businesses are faced with thefollowing problems:

(i) Finance: One of the severeproblems faced by SSIs is that ofnon-availability of adequate finance tocarry out its operations.

Generally a small business beginswith a small capital base. Many of theunits in the small sector lack the creditworthiness required to raise as capitalfrom the capital markets. As a result,they heavily depend on local financialresources and are frequently thevictims of exploitation by the moneylenders. These units frequently sufferfrom lack of adequate working capital,either due to delayed payment of duesto them or locking up of their capital inunsold stocks. Banks also do not lendmoney without adequate collateralsecurity or guarantees and marginmoney, which many of them are not ina position to provide.

(ii) Raw materials: Another majorproblem of small business is theprocurement of raw materials. If therequired materials are not available,they have to compromise on the qualityor have to pay a high price to get goodquality materials. Their bargainingpower is relatively low due to the smallquantity of purchases made by them.Also, they cannot afford to take the riskof buying in bulk as they have nofacilities to store the materials. Becauseof general scarcity of metals, chemicalsand extractive raw materials in theeconomy, the small scale sector suffersthe most. This also means a waste ofproduction capacity for the economyand loss of further units.

(iii) Managerial skills: Small businessis generally promoted and operated bya single person, who may not possessall the managerial skills required to runthe business. Many of the smallbusiness entrepreneurs possess soundtechnical knowledge but are lesssuccessful in marketing the output.Moreover, they may not find enoughtime to take care of all functionalactivities. At the same time they are notin a position to afford professionalmanagers.(iv) Labour: Small business firmscannot afford to pay higher salaries tothe employees, which affects employeewillingness to work hard and producemore. Thus, productivity per employeeis relatively low and employee turn overis generally high. Because of lowerremuneration offered, attractingtalented people is a major problem insmall business organisations.Unskilled workers join for lowremuneration but training them is atime consuming process. Also, unlikelarge organisations, division of labourcannot be practised, which resultsin lack of specialisation andconcentration.(v) Marketing: Marketing is one of themost important activities as it generatesrevenue. Effective marketing of goodsrequires a thorough understandingof the customer’s needs andrequirements. In most cases, marketingis a weaker area of small organisations.These organisations have, therefore, todepend excessively on middlemen, whoat times exploit them by paying lowprice and delayed payments. Further,direct marketing may not be feasible

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for small business firms as they lackthe necessary infrastructure.(vi) Quality: Many small businessorganisations do not adhere to desiredstandards of quality. Instead theyconcentrate on cutting the cost andkeeping the prices low. They do nothave adequate resources to invest inquality research and maintain thestandards of the industry, nor do theyhave the expertise to upgradetechnology. In fact maintaining qualityis their weakest point, when competingin global markets.(vii) Capacity utilisation: Due to lackof marketing skills or lack of demand,many small business firms have tooperate below full capacity due towhich their operating costs tend toincrease. Gradually this leads tosickness and closure of the business.(viii) Technology: Use of outdatedtechnology is often stated as seriouslacunae in the case of small industries,resulting in low productivity anduneconomical production.(ix) Sickness: Prevalence of sicknessin small industries has become a pointof worry to both the policy makers andthe entrepreneurs. The causes ofsickness are both internal and external.Internal problems include lack ofskilled and trained labour andmanagerial and marketing skills. Someof the external problems includedelayed payment, shortage of workingcapital, inadequate loans and lack ofdemand for their products.

(x) Global competition: Apart from theproblems stated above small businessesare not without fears, especially in thepresent context of liberalisation,

privatisation and globalisation (LPG)policies being followed by severalcountries across the world. Remember,India too has taken the LPG path since1991. Let us look into the areas wheresmall businesses feel threatened withthe onslaught of global competition.

(a) Competition is not only frommedium and large industries, but alsofrom multinational companies whichare giants in terms of their size andbusiness volumes. Opening up of traderesults in cut throat competition forsmall scale units.

(b) It is difficult to withstand thequality standards, technological skills,financial creditworthiness, managerialand marketing capabilities of the largeindustries and multinationals.

(c) There is limited access tomarkets of developed countries due tothe stringent requirements of qualitycertification like ISO 9000.

9.7 GOVERNMENT ASSISTANCE TO

SMALL INDUSTRIES AND SMALL

BUSINESS UNITS

Keeping in view the contribution ofsmall business to employmentgeneration, balanced regionaldevelopment of the country, andpromotion of exports, the Governmentof India’s policy thrust has been onestablishing, promoting and developingthe small business sector, particularlythe rural industries and the cottage andvillage industries in backward areas.Governments both at the central andstate level have been activelyparticipating in promoting self-employment opportunities in ruralareas by providing assistance in respect

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of infrastructure, finance, technology,training, raw-materials, and marketing.The various policies and schemes ofGovernment assistance for thedevelopment of rural industries insiston the utilisation of local resources andraw materials and locally availablemanpower. These are translated intoaction through various agencies,departments, corporations, etc., allcoming under the purview of theindustries department. All these areprimarily concerned with the promotionof small and rural industries.

Some of the support measures andprogrammes meant for the promotionof small and rural industries arediscussed below:

A. INSTITUTIONAL SUPPORT

1. National Bank for Agricultureand Rural Development(NABARD)

NABARD was setup in 1982 to promoteintegrated rural development. Sincethen, it has been adopting amulti-pronged, multi-purpose strategyfor the promotion of rural businessenterprises in the country. Apart fromagriculture, it supports small industries,cottage and village industries, and ruralartisans using credit and non-creditapproaches. It offers counselling andconsultancy services and organisestraining and development programmesfor rural entrepreneurs.

2. The Rural Small BusinessDevelopment Centre (RSBDC)

It is the first of its kind set up by theworld association for small andmedium enterprises and is sponsored

by NABARD. It works for the benefitof socially and economicallydisadvantaged individuals and groups.It aims at providing management andtechnical support to current andprospective micro and smallentrepreneurs in rural areas. Since itsinception, RSBDC has organisedseveral programmes on ruralentrepreneurship, skill upgradationworkshops, mobile clinics and trainerstraining programmes, awarenessand counselling camps in variousvillages of Noida, Greater Noidaand Ghaziabad. Through theseprogrammes it covers a largenumber of rural unemployed youthand women in several trades, whichincludes food processing, soft toysmaking, ready-made garments,candle making, incense stickmaking, two-wheeler repairing andservicing, vermicomposting, and nonconventional building materials.

3. National Small IndustriesCorporation (NSIC)

This was set up in1955 with a view topromote, aid and foster the growth ofsmall business units in the country.This focuses on the commercial aspectsof these functions.• Supply indigenous and imported

machines on easy hire-purchaseterms.

• Procure, supply and distributeindigenous and imported rawmaterials.

• Export the products of smallbusiness units and develop export-worthiness.

• Mentoring and advisory services.

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• Serve as technology businessincubators.

• Creating awareness on techno-logicalupgradation.

• Developing software technologyparks and technology transfercentres.A new scheme of ‘performance

and credit rating’ of small businessesis implemented through National SmallIndustries Corporation (NSIC) with thetwin objectives of (i) sensitising the smallindustries about the need for creditrating and (ii) encouraging the smallbusiness units to maintain goodfinancial track record. This is to ensurethat they score higher rating for theircredit requirements as and when theyapproach the financial institutions fortheir working capital and investmentrequirements.

MARKETING ASSISTANCE SCHEME

Marketing, a strategic tool for businessdevelopment, is critical for the growthand survival of micro, small andmedium enterprises.

Ministry of Micro, Small andMedium Enterprises, through NationalSmall Industries Corporation (NSIC), aPublic Sector Enterprise of theMinistry, has been providing marketingsupport to Micro and Small Enterprises(MSEs) under the MarketingAssistance Scheme.

Objectives

The broad objectives of the scheme are:(i) To enhance marketing capabilities

and competitiveness of the MSMEs.(ii) To showcase the competencies of

MSMEs.

(iii) To update MSMEs about theprevalent market scenario and itsimpact on their activities.

(iv) To facilitate the formation ofconsortia of MSMEs for marketingof their products and services.

(v) To provide platform to MSMEs forinteraction with large institutionalbuyers.

(vi) To disseminate/propagate variousprogrammes of the Government.

(vii) To enrich the marketing skills ofthe micro, small and mediumentrepreneurs.

MARKETING SUPPORT TO MSMES

Under the Scheme, it is proposed toenhance competitiveness andmarketability of their products,through following activities:

(i) Organising InternationalTechnology Exhibitions in ForeignCountries by NSIC and Participation inInternational Exhibitions/Trade Fairs:International Technology Expositions/exhibitions may be organised by NSICwith a view to providing broaderexposure to Indian micro, small andmedium enterprises to facilitate them inexploring new business opportunitiesin emerging and developing markets.

This helps in promoting trade,establishing joint ventures, technologytransfers, marketing arrangements andimage building of Indian MSMEs inforeign countries. In addition to theorganisation of the internationalexhibitions, NSIC would also facilitateparticipation of Indian MSMEs in theselect international exhibitions and tradefairs. Participation in such events exposesMSMEs to international practices.

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(ii) Organising DomesticExhibitions and Participation inExhibitions/Trade Fairs in India:Certain theme based exhibitions/technology fairs etc. , may beorganised by NSIC, focused onproducts and services offered byMSMEs, including technologiessuitable for employment generation,products from specific regions orclusters (like North Eastern Region,food processing, Machine-tools,Electronics, Leather etc.).

Participation in such events isexpected to help the MSMEs inenhancing their marketing avenues byway of capturing new markets andexpanding existing markets.

(iii) Support for Co-sponsoring ofExhibitions Organised by otherO r g a n i s a t i o n s / I n d u s t r yAssociations/Agencies: This supportwould be in the form of co-sponsoringof the event by NSIC. In order to applyfor co-sponsoring of an event by NSIC,the applicant organisation/agencymust fulfill the centre criteria/conditions.

(iv) Buyer-Seller Meets: Bulk anddepartmental buyers such as theRailways, Defense, communicationdepartments and large companies areinvited to participate in buyer-sellermeets to bring them closer to theMSMEs for enhancing their marketingcompetitiveness. Participation in theseprogrammes enables MSMEs to knowthe requirements of bulk buyers on theone hand and help the bulk buyers toknow the capabilities of MSMEs fortheir purchases.

(v) Intensive Campaigns andMarketing Promotion Events: Todisseminate information about thevarious schemes for the benefit of themicro, small and medium enterprises.They are also facilitated to enrich theirknowledge regarding latestdevelopments, quality standards etc.and improve the marketing potential oftheir products and services.

(vi) Other Support Activities• Development of Display Centres,

show windows and hoarding etc., forpromoting products and services ofMSMEs.

• Printing of Literature, Brochures andProduct-specific catalogues and CDsetc., and preparation of short filmsfor disseminating information.

• Development of website/portal forfacilitating the marketing of MSMEproducts and services.

• Development and dissemination ofAdvertising and Publicity materialabout various programes/schemesfor MSME sectors and events.

• Preparation and Upgradation ofMSME Manufacturers/ Suppliers/Exporters Directory.

• Documentation of the success storiesof MSMEs.

• Conducting studies to explore andassess new markets/ businesses andproduct ranges for both domesticand international markets.

• Hosting international delegationsand networking events.

4. Small Industries DevelopmentBank of India (SIDBI)

• Set up as an apex bank to providedirect/indirect financial assistance

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under different schemes, to meetcredit needs of small businessorganisations.

• To coordinate the functions of otherinstitutions in similar activities.Thus, so far, we have learnt about

the various institutions operating at thecentral level and state level in supportof the small industries.

5. The National Commission forEnterprises in the UnorganisedSector (NCEUS)

The NCEUS was constituted inSeptember 2004, with the followingobjectives:• To recommend measures

considered necessary for improvingthe productivity of small enterprisesin the informal sector.

• To generate more employmentopportunities on a sustainable basis,particularly in the rural areas.

• To enhance the competitiveness ofthe sector in the emerging globalenvironment.

• To develop linkages of the sectorwith other institutions in theareas of credit, raw materials,infrastructure, technology upgradation,marketing and formulation ofsuitable arrangements for skilldevelopment.The commission has identified

the following issues for detailedconsideration:

• Growth poles for the informal sectorin the form of clusters/hubs, in orderto get external economic aid.

• Potential for public-privatepartnerships in imparting the skills

required by the informal sector.• Provision of micro-finance and related

services to the informal sector.• Providing social security for the

workers in the informal sector.

6. Rural and WomenEntrepreneurshipDevelopment (RWED)

The Rural and Women EntrepreneurshipDevelopment programme aims atpromoting a conducive businessenvironment and at buildinginstitutional and human capacitiesthat will encourage and support theentrepreneurial initiatives of ruralpeople and women. RWE provides thefollowing services:• Creating a business environment

that encourages initiatives of ruraland women entrepreneurs.

• Enhancing the human andinstitutional capacities required tofoster entrepreneurial dynamismand enhance productivity.

• Providing training manuals forwomen entrepreneurs and trainingthem.

• Rendering any other advisoryservices.

7. World Association for Small andMedium Enterprises (WASME)

It is the only International Non-Governmental Organisation of micro,small and medium enterprises basedin India, which set up an InternationalCommittee for Rural Industrialisation.Its aim is to develop an action planmodel for sustained growth of ruralenterprises.

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Apart from these, there are severalschemes to promote the non-farmsector, mostly initiated by theGovernment of India. For instance,there are schemes for entrepreneurshipthrough subsidised loans likeIntegrated Rural DevelopmentProgramme (IRDP), Prime MinisterRojgar Yojana (PMRY), schemes toprovide skills like Training of RuralYouth for Self Employment (TRYSEM),and schemes to strengthen the gendercomponent like Development of Womenand Children in Rural Areas (DWCRA).There are schemes to provide wageemployment, like Jawahar RojgarYojana (JRY), food for work, etc., onrural works programmes to achieve thetwin objectives of creation of ruralinfrastructure and generationof additional income for the ruralpoor, particularly during the leanagricultural season. Last, but not theleast, there are schemes for specificgroups of industries such as khadi,handlooms and handicrafts.

8. Scheme of Fund forRegeneration of TraditionalIndustries (SFURTI)

To make the traditional industriesmore productive and competitive andto facilitate their sustainabledevelopment, the Central Governmentset up this fund with Rs. 100 croreallocation to begin within the year2005. This has to be implemented bythe Ministry of Agro and RuralIndustries in collaboration with Stategovernments. The main objectives ofthe scheme are as follows:• To develop clusters of traditional

industries in various parts of thecountry;

• To build innovative and traditionalskills, improve technologiesand encourage public-privatepartnerships, develop marketintelligence etc., to make themcompetitive, profitable andsustainable; and

• To create sustained employmentopportunities in traditionalindustries.

9. The District Industries Centers(DICs)

The District Industries CentersProgramme was launched on 1 May1978, with a view to providing anintegrated administrative framework atthe district level, which would look atthe problems of industrialisation in thedistrict, in a composite manner. In otherwords, District Industries Centers is theinstitution at the district level whichprovides all the services and supportfacilities to the entrepreneurs for settingup small and village industries.Identification of suitable schemes,preparation of feasibility reports,arranging for credit, machinery andequipment, provision of raw materialsand other extension services are themain activities undertaken by thesecenters. Broadly DICs are trying to bringchange in the attitude of the ruralentrepreneurs and all other connectedwith economic development in the ruralareas. Even within the narrow spectrum,an attempt is being made to look atsome of the neglected factors such asthe rural artisan, the skilled craftsmanand the handloom operator and to tuneup these activities with the generalprocess of rural development being

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taken up through other nationalprogrammes. The DIC is thus emergingas the focal point for economic andindustrial growth at the district level.

B. INCENTIVES

Special emphasis on the industrialdevelopment of backward, tribal andhilly areas has been the concern of theGovernment of India expressed in allthe Five Year Plans and industrial policystatements. Realising that backwardareas development is a long-termprocess, several committees wereappointed to identify the criteria foridentifying backward areas and also tosuggest schemes to take up theHerculean task of balanced regionaldevelopment. The implementation ofintegrated rural developmentprogramme is one such attempt madeby the government to developbackward areas. The rural industriesproject programme initiated by theGovernment of India was meant todevelop small business units in selectrural areas. Though the backward areadevelopment programmes varied fromstate to state, they cumulativelyrepresented a significant package ofincentives to attract industries inbackward areas.

Some of the common incentivesoffered are discussed as below:

Land: Every state offers developed plotsfor setting up of industries. The termsand conditions may vary. Some statesdon’t charge rent in the initial years,while some allow payment ininstalments.

Power: Power is supplied at aconcessional rate of 50 per cent, whilesome states exempt such units frompayment in the initial years.

Water: Water is supplied on a no-profit,no-loss basis or with 50 per centconcession or exemption from watercharges for a period of 5 years.

Sales Tax: In all union territories,industries are exempted from sales tax,while some states extend exemption for5 years period.Octroi: Most states have abolishedoctroi.Raw materials: Units located inbackward areas get preferentialtreatment in the matter of allotment ofscarce raw materials like cement, ironand steel etc.Finance: Subsidy of 10-15 per centis given for building capital assets.Loans are also offered at concessionalrates.

Forms of Support Offered to Small Industries by the Government

• Institutional support in respect of credit facilities• Provision of developed sites for construction of sheds• Provision of training facilities• Supply of machinery on hire purchase terms• Assistance for domestic and export marketing• Technical and financial assistance for technological up-gradation• Special incentives for setting up of enterprises in backward areas

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Industrial estates: Some statesencourage setting up of industrialestates in backward areas.Tax holiday: Exemption from payingtaxes for 5 or 10 years is given toindustries established in backward,hilly and tribal areas.

To sum up, it may be stated that thesmall business sector in India is gettingthe support of government throughvarious institutions in different formsfor different purposes. Despite specialattention being given to backwardareas, it is observed that imbalances indevelopment are still there. There is aneed to develop infrastructural facilitiesin these areas, as no amount ofsubsidies or concessions can overcomethe natural handicaps caused by a lackof such facilities.

9.8 THE FUTURE

The present era is the regime of theWorld Trade Organisation (WTO), inwhich the rules of trade are subject tofrequent changes as per globalexpectations. As a founder member ofWTO, India too has committed itself tothe policy framework of WTO. As aresult, small business is also movingaway from the pre-liberalisation era ofprotection. With the Indian economygetting integrated with the globaleconomy, it is inevitable for the smallbusinesses to gear up their capabilitiesto explore, penetrate and develop new

markets. They have to steadily reorientthemselves to face the challenges posedby increased competition, domesticallyand internationally too. With theirdynamism, flexibility and innovativeentrepreneurial spirit, small businesseshave to adapt themselves to the fastchanging needs of the market driveneconomy. Government should reorientits assistance to the small businesssector by acting as a facilitator andpromoter and not as a regulator. Newstrategies have to be evolved to fosterpartnership between large and smallindustries, adopt cluster approach,develop creative marketing, improvetechnological skills by upgradation,building export competitiveness byidentifying the core competencies ofthe small businesses.

In fact small business sectorshould view globalisation as anopportunity for its active participationas suppliers of specialised componentand parts. If small businesses are tomaintain their market share andhealthy growth, they have to createa level-playing field for themselves.The long-term competitive positionfor the small businesses will dependon how well they learn to manage,adopt and improve their competitivestrength.

In short the mantra of success forsmall businesses in this modern erahas to be ‘think global, act local.’

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Key Terms

Small scale industries Cottage industries Micro business enterprisesExpert oriented units Rural industries Women enterprises

Ancillary Khadi industries Tiny industries

SUMMARY

On the basis of the capital invested, small business units can be categorised

into various categories, which include Small Scale Industry, Ancilliary Small

Industrial Units, Export Oriented Units, Small Scale Industries owned and

managed by Women Entrepreneurs, Tiny Industrial Units, Small Scale

Services and Business (Industry related) Enterprises, Micro Business

Enterprises, Village Industries and Cottage Industries.

Administrative setup: The administrative setup for small scale industry

consists of two ministries viz., the Ministry of Small Scale Industries and

Ministry of Agricultural and Rural Industry, Government of India, the

Ministry of SSIs is the nodal ministry for formulation of policy and

coordination of central assistance, for the promotion and development of

SSIs in India.

Similarly, the ministry of Agro and Rural Industries is the nodal agency for

coordination and development of village and Khadi Industries, Tiny and

Micro Enterprises in both urban and rural area. State Governments also

execute different promotional development projected schemes to provide a

number of supporting incentives for development and promotion of SSIs in

their respective states.Role of small business in India: Small Scale Industries play a veryimportant role in the socio economic development of the country. Theseindustries account for 95 per cent of industrial units, contributing up to 40per cent of the gross industrial value added and 45 per cent of the totalexports. SSIs are the second largest employers of human resources, afteragriculture and produce a variety of products for the economy. These unitscontribute to the balanced regional development of the country by usinglocally available material and indigenous technology. These provide amplescope for entrepreneurship; enjoy the advantage of low cost of production;quick decision making, and have quick adaptability and are best suited tocustomised production.Role of small business in rural India: Small business units provide multiplesource of income, in wide range of non-agricultural activities and provideemployment opportunities in rural areas, especially for the traditionalartisan and weaker sections of the society.Problems of small industries: Small Industries suffer from various problemsincluding that of (i) Finance, (ii) Non-availability of raw material,

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(iii) Managerial skills, (iv) Skilled labour, (v) Marketing of their goods,(vi) Maintaining Quality standards, (vii) Low capacity utilisation, (viii) Useof traditional technology, (ix) Prevalence of sickness, and (x) Facing globalcompetition.Governmental assistance to small industries: In view of the contributionof small business in various areas including employment generation,balanced regional development, and promotion of export the central andstate government have been providing assistance in respect ofinfrastructure, finance, technology, training etc., to SSI units.

Some of the major institutions providing support include National Bankfor Agriculture and Rural Development, Rural Small Business DevelopmentCentre, National Small Industries Corporation, Small IndustriesDevelopment Bank of India (SIDBI)), The National Commission forEnterprises in Unorganised Sector (NCEUS), Rural and WomenEntrepreneurship Development (RWE), World Association for Small andMedium Enterprises (WASME), Scheme of Fund for Regeneration ofTraditional Industries (SFURM) and the District Industries centre (DIC).

EXERCISES


1. What are the different parameters used to measure the size of business?

2. What is the definition used by Government of India for SmallScale Industries?

3. How would you differentiate between an ancillary unit and a tiny unit?

4. State the features of cottage industries.


1. How do small scale industries contribute to the socio-economicdevelopment of india?

2. Describe the role of small business in rural India.

3. Discuss the problems faced by small scale industries.

4. What measures has the government taken to solve the problem offinance and marketing in the small scale sector?

5. What are the incentives provided by the Government for industries inbackward and hilly areas?


1. Prepare a questionnaire to find out the actual problems faced by anowner of a small scale unit. Prepare a project report on it.

2. Survey about five small scale units in your vicinity and find out if theyhave received any assistance by the institutions setup bythe Government.

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CHAPTER 10

INTERNAL TRADE

LEARNING OBJECTIVES


• describe the meaning and types of internal trade;

• specify the services of wholesalers to manufactures and retailers;

• explain the services of retailers;

• classify the types of retailers;

• explain the forms of small scale and large scale retailers; and

• state the role of Chambers of Commerce and industry in the

promotion of internal trade.

• officiate the implementation of GST

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10.1 INTRODUCTION

Trade refers to buying and selling ofgoods and services with the objectiveof earning profit. Mankind has beenengaged in trading, in some form orthe other, since early days ofcivilisation. The importance of tradein modern times has increased as newproducts are being developed everyday and are being made available forconsumption throughout the world.No individual or country can claim tobe self-sufficient in producing all thegoods and services required by it.Thus, each one is engaged inproducing what it is best suited toproduce and exchanging the excessproduce with others.

On the basis of geographicallocation of buyers and sellers, trade canbroadly be classified into two categories(i) Internal trade; and (ii) External trade.Trade which takes place within a

country is called internal trade. Tradebetween two or more countries, on theother hand, is called external trade. Thepresent chapter discusses in detail themeaning and nature of internal tradeand explains its different types and therole of chambers of commerce inpromoting internal trade.

10.2 INTERNAL TRADE

Buying and selling of goods andservices within the boundaries of anation are referred to as internal trade.Whether the products are purchasedfrom a neighbourhood shop in a localityor a central market or a departmentalstore or a mall or even from any door-to-door salesperson or from anexhibition, all these are examples ofinternal trade as the goods arepurchased from an individual orestablishment within a country. Nocustom duty or import duty is levied

Have you ever thought if there were no markets, how products of different

manufacturers would reach us? We are all aware of our general provisions store

round the corner which is selling items of our daily need. But is that enough?

When we need to buy items of a specialised nature, we like to look at bigger

markets or shops with variety. Our observation tells us that there are different

types of shops selling different items or specialised goods and depending on our

requirements we purchase from certain shops or markets. In rural areas, we

may have noticed people selling their goods on the streets, these goods may

range from vegetables to clothes. This is a completely different scene from what

we see in the urban areas. In our country, all kinds of markets co-exist in

harmony. With the advent of imported goods and multinational corporations, we

have shops selling these products too. In big towns and cities, there are many

retail shops selling particular branded products only. Another aspect of all this

is, how these products reach the shops from the manufacturers? There must be

some middlemen doing this job. Are they really useful or do prices increase

because of them?

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233INTERNAL TRADE

on such trade as goods are part of

domestic production and are meant for

domestic consumption. Generally,payment has to be made in the legal

tender of the country or any other

acceptable currency.

Internal trade can be classified intotwo broad categories viz., (i) wholesale

trade and (ii) retail trade. Generally, for

products, which are to be distributed to

a large number of buyers who arelocated over a wide geographical area, it

becomes very difficult for the producers

to reach all the consumers or users

directly. For example, if vegetable oil orbathing soap or salt produced in a

factory in any part of the country are to

reach millions of consumers throughout

the country, the help of wholesalers andretailers becomes very important.

Purchase and sale of goods and services

in large quantities for the purpose of

resale or intermediate use is referred toas wholesale trade.

On the other hand, purchase and

sale of goods in relatively small

quantities, generally to the ultimateconsumers, is referred to as retail trade.

Traders dealing in wholesale trade are

called wholesale traders and those

dealing in retail trade are calledretailers. Both retailers and wholesalers

are important marketing intermediaries

who perform very useful functions in

the process of exchange of goods andservices between producers and users

or ultimate consumers. Internal trade

aims at equitable distribution of goods

within a nation speedily and atreasonable cost.

10.3 WHOLESALE TRADE

As discussed in the previous section,wholesale trade refers to buying andselling of goods and services in largequantities for the purpose of resale orintermediate use.

Wholesaling is concerned with theactivities of those persons orestablishments which sell to retailersand other merchants, and/or toindustrial, institutional and commercialusers but who do not sell in significantamount to ultimate consumers.Wholesalers serve as an important linkbetween manufacturers and retailers.They enable the producers not only toreach large number of buyers spreadover a wide geographical area (throughretailers), but also to perform a varietyof functions in the process ofdistribution of goods and services. Theygenerally take the title of the goods andbear the business risks by purchasingand selling the goods in their own name.They purchase in bulk and sell in smalllots to retailers or industrial users. Theyundertake various activities such asgrading of products, packing intosmaller lots, storage, transportation,promotion of goods, collection of marketinformation, collection of small andscattered orders of retailers anddistribution of supplies to them. Theyalso relieve the retailers of maintaininglarge stock of articles and extend creditfacilities to them. Most of the functionsperformed by wholesalers are suchwhich cannot be eliminated. If there areno wholesalers, these functions shallhave to be performed either by themanufacturers or the retailers.

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Services of Wholesalers

Wholesalers provide various services tomanufacturers as well as retailers andprovide immense help in thedistribution of goods and services. Bymaking the products available at a placewhere these are needed and at a timewhen these are needed for consumptionor use, they provide both the time andplace utility. The various services ofwholesalers to different sections arediscussed below:

10.3.1 Services to Manufacturers

Major services offered by wholesalers tothe producers of goods and services aregiven as below:(i) Facilitating large scale production:Wholesalers collect small orders from anumber of retailers and pass on the pool

of such orders to the manufacturers andmake purchases in bulk quantities. Thisenables the producers to undertake

production on a large scale and takeadvantage of the economies of scale.(ii) Bearing risk: The wholesale

merchants deal in goods in their own

name, take delivery of the goods and

keep the goods purchased in large lotsin their warehouses. In the process, they

bear variety of risks such as the risk of

fall in prices, theft, pilferage, spoilage,

fire, etc. To that extent, they relieve themanufacturers from bearing these risks.

(iii) Financial assistance: Thewholesalers provide financial assistanceto the manufacturers in the sense thatthey generally make cash payment forthe goods purchased by them. To thatextent, the manufacturers need not

block their capital in the stocks.Sometimes they also advance money tothe producers for bulk orders placedby them.

(iv) Expert advice: As the wholesalersare in direct contact with the retailers,they are in a position to advice themanufacturers about various aspectsincluding customer’s tastes andpreferences, market conditions,competitive activities and the featurespreferred by the buyers. They serve asan important source of marketinformation on these and relatedaspects.

(v) Help in marketing function: Thewholesalers take care of thedistribution of goods to a number ofretailers who, in turn, sell these goodsto a large number of customers spreadover a large geographical area. Thisrelieves the manufacturers from manyof the marketing activities and enablethem to concentrate on the productionactivity.

(vi) Facilitate production continuity:The wholesalers facilitate continuity ofproduction activity throughout theyear by purchasing the goods as andwhen these are produced and storingthem till the time these are demandedby retailers or consumers in themarket.

(vii) Storage: Wholesalers take

delivery of goods when these areproduced in factory and keep them intheir godowns/warehouses. This

reduces the burden of manufacturersof providing for storage facilities for thefinished products. They thus provide

time utility.

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10.3.2 Services to Retailers

The important services offered bymanufacturers to the retailers aredescribed as below:

(i) Availability of goods: Retailershave to maintain adequate stock ofvaried commodities so that they canoffer variety to their customers. Thewholesalers make the products ofvarious manufacturers readilyavailable to the retailers. This relievesthe retailers of the work of collectinggoods from several producers andkeeping big inventory of the same.

(ii) Marketing support: The whole-salers perform various marketingfunctions and provide support to theretailers. They undertake advertisingand other sales promotional activitiesto induce customers to purchase thegoods. The retailers are benefitted as ithelps them in increasing the demandfor various new products.

(iii) Grant of credit: The wholesalersgenerally extend credit facilities to theirregular customers. This enables theretailers to manage their business withrelatively small amount of workingcapital.

(iv) Specialised knowledge: Thewholesalers specialise in one line ofproducts and know the pulse of themarket. They pass on the benefit oftheir specialised knowledge to theretailers. They inform the retailersabout the new products, their uses,quality, prices, etc. They may alsoadvise them on the decor of the retailoutlet, allocation of shelf space anddemonstration of certain products.

(v) Risk sharing: The wholesalerspurchase in bulk and sell in relatively

small quantities to the retailers. Being

able to purchase merchandise in smallerquantities, retailers are in a position to

avoid the risk of storage, pilferage,

obsolescence, reduction in prices anddemand fluctuations in respect of larger

quantites of goods that they would have

to purchase in case the services ofwholesalers are not available.

10.4 RETAIL TRADE

A retailer is a business enterprise thatis engaged in the sale of goods andservices directly to the ultimateconsumers. The retailer normally buysgoods in large quantities from thewholesalers and sells them in smallquantities to the ultimate consumers.The retails represents the final stagein the distribution where goods aretransferred from the hands of themanufacturers or wholesalers to thefinal consumers or users. Retailing is,thus, that branch of business which isdevoted to the sale of goods andservices to the ultimate consumers fortheir personal and non-business use.

There may be different ways ofselling the goods viz., personally, ontelephone, or through vendingmachines. Also, the products may besold at different places, viz., in a store,at the customer’s house or any otherplace. Some of the common situationsthat we encounter in our daily life, forexample, are the sale of ball pens orsome magic medicine or book of jokesin the roadways buses; the sale of

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cosmetics/detergent powder, on door-to-door sales basis; and the sale ofvegetables by the road side by a smallfarmer. But as long as the goods are soldto ultimate consumers, these will betreated as cases of retail selling. Thus,irrespective of ‘how’ the products are soldor ‘where’ the sale is made, if the salesare made directly to the consumers, itwill be considered as retailing.

A retailer performs different functionsin the distribution of goods and services.He/she purchases a variety of productsfrom the wholesale distributors andothers, arranges for proper storage ofgoods, sells the goods in small quantities,bears business risks, grades theproducts, collects market information,extends credit to the buyers andpromotes the sale of products throughdisplays, participation in variousschemes, etc.

Services of Retailers

Retailers serve as an important linkbetween the producers and finalconsumers in the distribution ofproducts and services. They provideuseful services to the consumers,wholesalers and manufacturers. Someof the important services of retailers aredescribed as below:

10.4.1 Services to Manufacturersand Wholesalers

The invaluable services that theretailers render to the wholesalers andproducers are given as here under:

(i) Help in distribution of goods: Aretailer’s most important service to thewholesalers and manufacturers is to

provide help in the distribution of theirproducts by making these available tothe final consumers, who may bescattered over a large geographic area.They thus provide place utility.

(ii) Personal selling: In the process ofsale of most consumer goods, someamount of personal selling effort isnecessary. By undertaking personalselling efforts, the retailers relieve theproducers of this activity and greatlyhelp them in the process of actualisingthe sale of the products.

(iii) Enabling large-scale operations:On account of retailer’s services, themanufacturers and wholesalers arefreed from the trouble of makingindividual sales to consumers in smallquantities. This enables them tooperate on, at relatively large scale, andthereby fully concentrate on their otheractivities.

(iv) Collecting market information:As retailers remain in direct and constanttouch with the buyers, they serve as animportant source of collecting marketinformation about the tastes, preferencesand attitudes of customers. Suchinformation is considered very useful intaking important marketing decisions inan organisation.

(v) Help in promotion: Fromtime-to-time, manufacturers anddistributors have to carry on variouspromotional activities in order toincrease the sale of their products. Forexample, they have to advertise theirproducts and offer short-term incentivesin the form of coupons, free gifts, salescontests, and so on. Retailers participatein these activities in various ways and,

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thereby, help in promoting the sale ofthe products.

10.4.2 Services to Consumers

Some of the important services ofretailers from the point of view ofconsumers are as follows :

(i) Regular availability of products:The most important service of a retailerto consumers is to maintain regularavailability of various productsproduced by different manufacturers.This enables the buyers to buyproducts as and when needed.

(ii) New products information: Byarranging for effective display ofproducts and through their personalselling efforts, retailers provideimportant information about thearrival, special features, etc., of newproducts to the customers. This servesas an important factor in the buyingdecision making process of thepurchase of such goods.

(iii) Convenience in buying: Retailersgenerally buy goods in large quantities

and sell these in small quantities,according to the requirements of theircustomers. Also, they are normallysituated very near to the residential areasand remain open for long hours. Thisoffers great convenience to thecustomers in buying products of theirrequirements.

(iv) Wide selection: Retailers generallykeep stock of a variety of products ofdifferent manufacturers. This enables theconsumers to make their choice out of awide selection of goods.

(v) After-sales services: Retailersprovide important after-sales servicesin the form of home delivery, supply of

spare parts and attending to

customers. This becomes an important

factor in the buyers’ decision for repeat

purchase of the products.

(vi) Provide credit facilities: Theretailers sometimes provide creditfacilities to their regular buyers. Thisenables the latter to increase their levelof consumption and, thereby, theirstandard of living.

Terms of Trade

The following are the main terms used in the trade1. Cash on delivery (COD):- It refers to a type of transaction in which payment for goods

or services is made at the time of delivery. If the buyer is unable to make paymentwhen the goods or services are delivered then it will be returned to the seller.

2. Free on Board or Free on Rail (FoB or FOR):- It rerers to a contract betweenthe seller and the buyer in which all the expenses up to the point of delivery toa carrier (it may be a ship, rail, lorry, etc.) are to be borne by seller.

3. Cost, Insurance and Freight (CFF):- It is the price of goods which includesnot only the cost of goods but also the insurance and frieght charges payableon goods upto destination port.

4. Errors and Omissions Excepted(E&OE):- It refers to that term which is usedin trade documents to say that mistakes and things that have been forgotten

should be taken into account.

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10.5 TYPES OF RETAILING TRADE

There are many types of retailers in

India. For proper understanding, it

would be useful, to classify them into

certain common categories. Different

classifications have been used by

experts to categorise retailers into

different types. For example, on the

basis of ‘size of business’, they may be

categorised into large, medium and

small retailers. On the basis of ‘type of

ownership’, they may be categorised

into ‘sole trader’, ‘partnership firm’,

‘cooperative store’ and ‘company’.

Similarly, on the basis of ‘merchandise

handled’, the different classifications

may be ‘speciality store’, ‘supermarket’

and ‘departmental store’. Another

common basis of classification is

whether or not they have a fixed place

of business. On this basis, there are

two categories of retailers:

(a) Itinerant retailers, and

(b) Fixed shop retailers

Both these types of retailers have

been described in detail in the sections

that follow here after.

10.5.1 Itinerant Retailers

Itinerant retailers are traders who do

not have a fixed place of business to

operate from. They keep on moving with

their wares from street to street or place

to place, in search of customers.

Characteristics

(a) They are small traders operatingwith limited resources.

(b) They normally deal in consumerproducts of daily use such astoiletry products, fruits andvegetables, and so on.

(c) The emphasis of such traders ison providing greater customerservice by making the productsavailable at the very doorstep ofthe customers.

(d) As they do not have any fixedbusiness establishment to operatefrom, these retailers have to keeptheir limited inventory ofmerchandise either at home or atsome other place.

Some of the most common types ofitinerant retailers operating in India areas below:(i) Peddlers and hawkers: Peddlersand hawkers are probably amongstthe oldest form of retailers in themarket place who have not lost theirutility even during the modern times.They are small producers or pettytraders who carry the products on abicycle, a hand cart, a cycle-rickshawor on their heads, and move from placeto place to sell their merchandise atthe doorstep of the customers. Theygenerally deal in non-standardisedand low-value products such as toys,vegetables and fruits, fabrics, carpets,snacks and ice creams, etc. They arealso found in streets of residentialareas, places of exhibitions or meals,and outside schools, during a lunchbreak.

The main advantage of this form ofretailing is the provision of convenientservice to the consumers. However,one should be careful in dealing with them,

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as the products they deal in are not alwaysreliable in terms of quality and price.

(ii) Market traders: Market traders are

the small retailers who open their shops

at different places on fixed days or

dates, such as every Saturday or

alternate Saturdays, and so on. These

traders may be dealing in one

particular line of merchandise, say

fabrics or ready-made garments, toys,

or crockery, or alternatively, they may

be general merchants. They are mainly

catering to lower-income group of

customers and deal in low-priced

consumer items of daily use.

(iii) Street traders (pavementvendors): Street traders are the small

retailers who are commonly found at

places where huge floating population

gathers, for example, near railway

stations and bus stands, and sell

consumer items of common use, such

as stationery items, eatables, ready-

made garments, newspapers and

magazines. They are different from

market traders in the sense that they

do not change their place of business

so frequently.

(iv) Cheap jacks: Cheap jacks are

petty retailers who have independent

shops of a temporary nature in a

business locality. They keep on

changing their business from one

locality to another, depending upon the

potentiality of the area. However, the

change of place is not as frequent as in

the case of hawkers or market traders.

They deal in consumer items as well as

services such as repair of watches,

shoes, buckets etc.

10.5.2 Fixed Shop Retailers

This is the most common type ofretailing in the market place. As isevident from the name, these are retailshops who maintain permanentestablishment to sell their merchandise.They, therefore, do not move fromplace to place to serve their customers.Some of the other characteristics ofsuch traders are:

Characteristics

(a) Compared with the itinerant traders,normally they have greater resourcesand operate on a relatively largescale. However, there are different sizegroups of fixed shop retailers,varying from very small to very large.

(b) These retailers may be dealing indifferent products, includingconsumer durables as well as non-durables.

(c) This category of retailers has greatercredibility in the minds ofcustomers, and they are in a positionto provide greater services to thecustomers such as home delivery,guarantees, repairs, credit facilities,availability of spares, etc.

Types

The fixed-shop retailers can beclassified into two distinct types on thebasis of the size of their operations.These are:

(a) small shop-keepers, and(b) large retailers.The different types of retailers falling

under the above two broad heads aredescribed as follows:

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Fixed Shop Small Retailers

(i) General stores: General stores aremost commonly found in a local market

and residential areas. As the name

indicates, these shops carry stock of avariety of products required to satisfy the

day-to-day needs of the consumers

residing in nearby localities. Such storesremain open for long hours at convenient

timings and often provide credit facilities

to some of their regular customers.The biggest advantage of such

stores is in terms of convenience to the

customers in buying products of dailyuse such as grocery items, soft drinks,

toiletry products, stationery and

confectionery. As most of theircustomers are residents of the

same locality, an important factor

contributing to their success is theimage of the owner and the rapport he

has established with them.

(ii) Speciality shops: This type of retailstore is, of late, becoming very popular,

particularly in urban areas. Instead of

selling a variety of products of differenttypes, these retail stores specialise in

the sale of a specific line of products.

For example, shops selling children’sgarments, men’s wear, ladies shoes,

toys and gifts, school uniforms,

college books or consumer electronicgoods, etc. These are some of the

commonly found stores of this type in

the marketplace.

The speciality shops are generally

located in a central place where a large

number of customers can be attracted,and they provide a wide choice to the

customers in the selection of goods.

(iii) Street stall holders: These smallvendors are commonly found at streetcrossings or other places where flow oftraffic is heavy. They attract floatingcustomers and deal mainly in goods ofcheap variety like hosiery products,toys, cigarettes, soft drinks, etc. Theyget their supplies from local suppliersas well as wholesalers. The total areacovered by a stall is very limited and,therefore, they handle goods on a verysmall scale. Their main advantage is inproviding convenient service to thecustomers in buying some of the itemsof their needs.

(iv) Second-hand goods shop: Theseshops deal in second-hand or usedgoods, like books, clothes,automobiles, furniture and otherhousehold goods. Generally personswith modest means purchase goodsfrom such shops. The goods are soldat lower prices. Such shops may alsostock rare objects of historical valueand antique items which are sold atrather heavy prices to people who havespecial interest in such antique goods.

The shops, selling second-handgoods may be located at streetcrossings or in busy streets in the formof a stall having very little structure —a table or a temporary platform todisplay the books or may havereasonably good infrastructure, as inthe case of those selling furniture orused cars or scooters or motorcycles.

Fixed shop — Large stores

1. Departmental storesA departmental store is a largeestablishment offering a wide variety

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of products, classified into well-defined departments, aimedat satisfying practically everycustomer’s need under one roof. Ithas a number of departments, eachone confining its activities to one kindof product. For example, there maybe separate departments fortoiletries, medicines, furniture,groceries, electronics, clothing anddress material within a store. Thus,they satisfy diverse market segmentswith a wide variety of goods andservices. It is not uncommon for adepartment store in the United Statesof America to carry ‘needle to anaeroplane’ or ‘all shopping under oneroof.’ Everything from ‘a pinto an elephant’ is the spirit behinda typical department store.In India real departmental storeshave not yet come in a big wayin the retailing business. However,some stores on this line inIndia include ‘Akberally’ in Mumbaiand ‘Spencers’ in Chennai.Some of the important featuresof a departmental store areas follows:

(a) A modern departmental store mayprovide all facilities such asrestaurant, travel and informationbureau, telephone booth, rest-rooms, etc. As such they try toprovide maximum service to higherclass of customers for whom priceis of secondary importance.

(b) These stores are generally locatedat a central place in the heart of acity, which caters to a large numberof customers.

(c) As the size of these stores is verylarge, they are generally formed asa joint stock company managed bya board of directors. There is amanaging director assisted by ageneral manager and severaldepartment managers.

(d) A departmental store combinesboth the functions of retailingas well as warehousing.They purchase directly frommanufacturers and operateseparate warehouses. That way theyhelp in eliminating undesirablemiddlemen between the producersand the customers.

(e) They have centralised purchasingarrangements. All the purchases ina department store are madecentrally by the purchasedepartment of the store, whereassales are decentralised in differentdepartments.

Advantages

The major advantages of retailingthrough departmental stores may belisted as follows:

(i) Attract large number ofcustomers: As these stores are usuallylocated at central places, they attract alarge number of customers during thebest part of the day.

(ii) Convenience in buying: Byoffering large variety of goods underone roof, the departmental storesprovide great convenience to customersin buying almost all goods of theirrequirements at one place. As a result,customers do not have to run from one

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place to another to complete theirshopping.

(iii) Attractive services: Adepartmental store aims at providingmaximum services to the customers.Some of the services offered by itinclude home delivery of goods,execution of telephone orders, grant ofcredit facilities and provision forrestrooms, telephone booths,restaurants, saloons, etc.

( iv) Economy of large-scaleoperations: As these stores areorganised at a very large scale, thebenefits of large scale operations,particularly, in respect of purchase ofgoods are available to them.

(v) Promotion of sales: Thedepartmental stores are in a positionto spend considerable amount ofmoney on advertising and otherpromotional activities, which help inboosting their sales.

Limitations

However, there are certain limitationsof this type of retailing. These aredescribed as follows:

(i) Lack of personal attention:Because of the large-scale operations,it is very difficult to provide adequatepersonal attention to the customers inthese stores.

(ii) High operating cost: As thesestores give more emphasis on providingservices, their operating costs tend tobe on the higher side. These costs, inturn, make the prices of the goods high.They are, therefore, not attractive to thelower income group of people.

(iii) High possibility of loss: As aresult of high operating costs and large-scale operations, the chances ofincurring losses in a departmental storeare high. For example, if there is anychange in the tastes of customers orlatest fashions, it necessitates selling ofsuch out-of-fashion articles inclearance sale, to reduce the hugeinventory of goods built up.

(iv) Inconvenient location: As adepartmental store is generally situatedat a central location, it is not convenientfor the purchase of goods that areneeded at short notice.

In spite of some of these limitationsthe departmental stores have beenpopular in some of the westerncountries of the world because of theirbenefits to a certain class of customers.2. Chain Stores or Multiple Shops:

Chain stores or multiple shops

are networks of retail shops that

are owned and operated by

manufacturers or intermediaries.

Under this type of arrangement, a

number of shops with similar

appearance are established in

localities, spread over different parts of

the country. These different shops

normally deal in standardised and

branded consumer products, which

have rapid sales turnover. These shops

are run by the same organisation and

have identical merchandising

strategies, with identical products and

displays. Some of the important

features of such shops may be

described as follows:(a) These shops are located in fairly

populous localities, where

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sufficient number of customerscan be approached. The idea is toserve the customers at a pointwhich is nearest to their residenceor work place, rather thanattracting them to a central place.

(b) The manufacturing/procurementof merchandise for all the retailunits is centralised at the headoffice, from where the goods aredespatched to each of these shopsaccording to their requirements.This results in savings in the costof operation of these stores.

(c) Each retail shop is under the directsupervision of a Branch Manager,who is held responsible for its day-to-day management. The BranchManager sends daily reports to thehead office in respect of the sales,cash deposits, and the require-ments of the stock.

(d) All the branches are controlled bythe head office, which is concernedwith formulating the policies andgetting them implemented.

(e) The prices of goods in such shopsare fixed and all sales are made oncash basis. The cash realised fromthe sales of merchandise isdeposited daily into a local bankaccount on behalf of the headoffice, and a report is sent to thehead office in this regard.

(f) The head office normally appointsinspectors, who are concerned withday-to-day supervision of theshops, in respect of quality ofcustomer service provided,adherence to the policies of thehead office, and so on.

The chain operation is mosteffective in handling high-volumemerchandise, whose sales are relativelyconstant throughout the year. In India,Bata Shoe stores are typical examplesof such shops. Similar type of retailoutlets are coming up in other productsalso. For example, the exclusiveshowrooms of D.C.M., Raymonds andthe fast food chains of Nirula’s andMcDonalds.

Advantages

Multiple shops are offering variousadvantages to the consumers, whichare described as follows:(i) Economies of scale: As there iscentral procurement, the multiple-shop organisation enjoys theeconomies of scale.(ii) Elimination of middlemen: Byselling directly to the consumers, themultiple-shop organisation is able toeliminate unnecessary middlemen inthe sale of goods and services.(iii) No bad debts: Since all the salesin these shops are made on cash basis,there are no losses on account of baddebts.(iv) Transfer of goods: The goods notin demand in a particular locality maybe transferred to another locality whereit is in demand. This reduces thechances of dead stock in these shops.

(v) Diffusion of risk: The lossesincurred by one shop may be coveredby profits in other shops, reducing thetotal risk of an organisation.

(vi) Low cost: Because of centralisedpurchasing, elimination of middlemen,

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centralised promotion of sales andincreased sales, the multiple shopshave lower cost of business.

(vii) Flexibility: Under this system, ifa shop is not operating at a profit, themanagement may decide to close it orshift it to some other place withoutreally affecting the profitability of theorganisation as a whole.

Limitations

(i) Limited selection of goods: Someof the multiple shops deal only inlimited range of products. This isespecially the problem with the chainstores which are owned and operatedby manufacterers, and as such mostlysell the products produced by thethemselves. They do not sell productsof other manufacturers. In that way theconsumers get only a limited choiceof goods. This, however is not the casewith retailer owned chain stores suchas Big Apple or Reliance Retail whichsell products of a large number ofmanufacturers.

(ii) Lack of initiative: The personnelmanaging the multiple shops have toobey the instructions received from thehead office. This makes them habitualof looking up to the head office forguidance on all matters, and takes awaythe initiative from them to use theircreative skills to satisfy the customers.

(iii) Lack of personal touch: Lack ofinitiative in the employees sometimesleads to indifference and lack ofpersonal touch in them.

(iv) Difficult to change demand: Ifthe demand for the merchandise

handled by multiple shops changerapidly, the management may haveto sustain huge losses because oflarge stocks lying unsold at thecentral depot.

Difference between Departmentalstores and Multiple shops

Although both these types of retailorganisations are large establishments,there are certain differencesbetween the two. Such differences aregiven here below:(i) Location: A departmental store islocated at a central place, where a largenumber of customers can be attractedto it. However, the multiple stores arelocated at a number of places forapproaching a large number ofcustomers. Thus, central location isnot necessary for a multiple shop.(ii) Range of products: Departmentalstores aim at satisfying all the needsof customers under one roof. As such,they have to carry a variety of productsof dif ferent types. However, themultiple stores generally aim to satisfythe requirements of customers relatingto a specified range of their productsonly.

(iii) Services offered: The departmentalstores lay great emphasis on providing

maximum service to their customers.

Some of the services, provided by theminclude alteration of garments,

restaurant and so on. As against this,

the multiple shops provide very limitedservice confined to guarantees and

repairs if the sold out goods turn out

to be defective.

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245INTERNAL TRADE

(iv) Pricing: The multiple shop chainssell goods at fixed prices and maintainuniform pricing policies for all theshops. The departmental stores,however, do not have uniform pricingpolicy for all the departments; ratherthey have to occasionally offerdiscounts on certain products andvarieties to clear their stock.(v) Class of customers: The depart-mental stores cater to the needs ofrelatively high income group ofcustomers who care more for theservices provided rather than the pricesof the product. The multiple shops, onthe other hand, cater to differenttypes of customers, including thosebelonging to the lower income groups,who are interested in buying qualitygoods at reasonable prices.(vi) Credit facilities: All sales in themultiple shops are made strictly on cashbasis. In contrast, the departmentalstores may provide credit facilities tosome of their regular customers.(vii) Flexibility: As the departmentalstores deal in a wide variety ofproducts, they have certain flexibilityin respect of the line of goods marketed.However, there is not much scope forflexibility in the chain stores, which dealonly in limited line of products.

Mail Order Houses

Mail order houses are the retail outletsthat sell their merchandise throughmail. There is generally no directpersonal contact between the buyersand the sellers in this type of trading.For obtaining orders, potential customersare approached through advertisements

in newspapers or magazines, circulars,catalogues, samples and bills, and pricelists sent to them by post. All the relevantinformation about the products such asthe price, features, delivery terms, termsof payment, etc., are described in theadvertisement. On receiving the orders,the items are carefully scrutinised withrespect to the specifications asked forby the buyers and are complied withthrough the post office.

There can be different alternatives forreceiving payments. First, the customersmay be asked to make full payment inadvance. Second, the goods may be sentby Value Payable Post (VPP). Under thisarrangement, the goods are sent throughpost and are delivered to the customersonly on making full payment for thesame. Third, the goods may be sentthrough a bank, which is instructed todeliver the articles to the customers. Inthis arrangement there is no risk of baddebt, as the goods are handed over tothe buyers only after he makes fullpayment. However, there is a need toensure the buyers that the goodsdespatched are in accordance with theirspecifications.

This type of business is not suitablefor all types of products. For example,goods that are perishable in nature orare bulky and cannot be easily handled,are not recommended for mail-housetrading. Only the goods that can be(i) graded and standardised, (ii) easilytransported at low cost, (iii) have readydemand in the market, (iv) are availablein large quantity throughout the year,(v) involve least possible competition inthe market and (vi) can be describedthrough pictures etc., are suitable for

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this type of trading. Another importantpoint in this regard is that mail housebusiness cannot be successfully carriedout unless education is wide spread.It is so because only the literatepeople can be reached throughadvertisements and other forms ofwritten communication.

Advantages

(i) Limited capital requirement: Mailorder business does not require heavyexpenditure on building and otherinfrastructural facilities. Therefore, itcan be started with relatively lowamount of capital.(ii) Elimination of middle men: Thebiggest advantage of mail-orderbusiness from the point of view ofconsumers is that unnecessarymiddlemen between the buyers andsellers are eliminated. This may resultin lot of savings both to the buyers aswell as to the sellers.(iii) Absence of bad debt: Since themail order houses do not extend creditfacilities to the customers, there areno chances of any bad debt on accountof non payment of cash by thecustomers.(iv) Wide reach: Under this system thegoods can be sent to all the placeshaving postal services. This opens widescope for business as a large numberof people throughout the country canbe served through mail.(v) Convenience: Under this systemgoods are delivered at the doorstep ofthe customers. This results in greatconvenience to the customers in buyingthese products.

Limitations

(i) Lack of personal contact: As thereis no personal contact between thebuyers and the sellers under thesystem of mail order selling, thereare greater possibilities of mis-understanding and mistrust betweenthe two. The buyers are not in a positionto examine the products before buyingand the sellers cannot pay personalattention to the likes and dislikes of thebuyers and cannot clear all their doubtsthrough catalogues and advertisements.(ii) High promotion cost: The mailorder business has to rely heavily onadvertisements and other methods ofpromotion in order to inform andpersuade the potential buyers to buytheir products. As a result, there isheavy expenditure on promotion of theproducts.(iii) No after sales service: In mailorder selling, the buyers and sellersmay be located very far away from eachother and there is no personal contactbetween the two. As a result, there isabsence of after sales services which isso important for the satisfaction of thecustomers.(iv) No credit facilities: The mail orderhouses do not provide credit facilitiesto the buyers. Thus, customers withlimited means may not be interested inthis type of trading.(v) Delayed delivery: There is noimmediate delivery of goods to thecustomers, as receipt and execution oforder through mail takes its own time.(vi) Possibility of abuse: This type ofbusiness provides greater possibility ofabuse to dishonest traders to cheat the

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customers by making false claimsabout the products or not honouringthe commitments made through handbills or advertisements.(vii) High dependence on postalservices: The success of mail orderbusiness depends heavily on theavailability of efficient postal services ata place. But in a vast country like ours,where many places are still withoutpostal facilities, this type of businesshas limited prospects.

Consumer Cooperative Store

A consumer cooperative store is anorganisation owned, managed andcontrolled by consumers themselves.The objective of such stores is to reducethe number of middlemen who increasethe cost of produce, and therebyprovide service to the members.The cooperative stores generallybuy in large quantity, directly frommanufacturers or wholesalers and sellthem to the consumers at reasonableprices. Since the middleman areeliminated or reduced, the members getproducts of good quality at cheaperrates. The profits earned by consumercooperative stores during a year areutilised for declaring bonus tomembers and for strengthening thegeneral reserves and general welfarefunds or similar funds for social andeducational benefits of the members.

To start a consumer cooperativestore, at least 10 people have to cometogether and form a voluntaryassociation and get it registeredunder the Cooperative Societies Act.The capital of a cooperative store is

raised by issue of shares to members.The management of the store isdemocratic and entrusted to anelected managing committee whereone man one vote is the rule. Theliabil ity of the members of acooperative store is generally limitedto the extent of the capital contributedby them. To ensure fair managementof funds, the accounts of the storesare audited by the Registrar ofCooperative Societies or a personauthorised by him/her.

Advantages

The major advantages of a consumercooperative store are as follows:

(i) Ease information: It is easy to forma consumer cooperative society. Anyten people can come together to form avoluntary association and getthemselves registered with the Registrarof Cooperative Societies by completingcertain formalities.(ii) Limited liability: The liability ofthe members in a cooperative store islimited to the extent of the capitalcontributed by them. Over and abovethat amount, they are not liablepersonally to pay for the debts ofsociety, in case the liabilities aregreater than its assets.(iii) Democratic management:Cooperative societies are democraticallymanaged through managementcommittees which are elected by themembers. Each member has one vote,irrespective of the number of sharesheld by him/her.(iv) Lower prices: A cooperative storepurchases goods directly from the

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manufacturers or wholesalers andsells them to members and others.Elimination of middlemen results inlower prices for the consumer goods tothe members.(v) Cash sales: The consumercooperative stores normally sell goods oncash basis. As a result, the requirementfor working capital is reduced.(vi) Convenient location: Theconsumer cooperative stores aregenerally opened at convenient publicplaces where the members and otherscan easily buy the products as per theirrequirements.

Limitations

The limitations of consumer cooperativestores are given as below:(i) Lack of initiative: As the cooperativestores are managed by people who workon honorary basis, there is a lack ofsufficient initiative and motivationamongst them to work more effectively.(ii) Shortage of funds: The primarysource of funds for a cooperative storeis the money raised from members byissue of shares. The stores generally faceshortage of funds as membership islimited. This comes in the way of growthand expansion of the cooperative stores.(iii) Lack of patronage: The membersof the cooperative stores generally donot patronise them regularly. As aresult of this, the stores are not able tooperate successfully.(iv) Lack of business training: Thepeople entrusted with the managementof cooperative stores lack expertise asthey are not trained in running thestores efficiently.

Super Markets

A super market is a large retailingbusiness unit selling wide variety ofconsumer goods on the basis of low priceappeal, wide variety and assortment,self-service and heavy emphasis onmerchandising appeal. The goods tradedare generally food products and other lowpriced, branded and widely usedconsumer products such as grocery,utensils, clothes, electronic appliances,household goods, and medicines. Supermarkets are generally situated at themain shopping centres. Goods are kepton racks with clearly labelled price andquality tags in such stores. Thecustomers move into the store to pick upgoods of their requirements, bring themto the cash counter, make payment andtake home the delivery.

Super markets are organised ondepartmental basis where customerscan buy various types of goods underone roof. However, as compared todepartmental stores, these markets donot offer certain services such as freehome delivery, credit facilities, etc., andalso do not appoint sales persons toconvince customers about the qualityof products. Some of the importantcharacteristics of a super market areas follows:

(i) A super market generally carriesa complete line of food items andgroceries, in addition to non-foodconvenience goods.

(ii) The buyers can purchase differentproducts as per their requirementsunder one roof in such markets.

(iii) A super market operates on theprinciple of self-service. The

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249INTERNAL TRADE

distribution cost is, therefore,lower.

(iv) The prices of the products aregenerally lower than other typesof retail stores because of bulkpurchasing, lower operationalcost, and low profit margins.

(v) The goods are sold on cash basisonly.

(vi) The super markets are generallylocated at central locations tosecure high turnover.

Advantages

The following are the merits of super

markets:

(i) One roof, low cost: Super markets

offer a wide variety of products at low

cost under one roof. These outlets are,

therefore, not only convenient but also

economical to the buyers for making

their purchases.

(ii) Central location: The super

markets are generally located in the

heart of the city. As a result, these are

easily accessible to large number of

people staying in the surrounding

localities.

(iii) Wide selection: Super markets

keep a wide variety of goods of different

designs, colour, etc., which enables the

buyers to make better selection.

(iv) No bad debts: As generally the

sales are made on cash basis, there are

no bad debts in super markets.(v) Benefits of being large scale:A super market is a large scaleretailing store. It enjoys all thebenefits of large scale buying andselling because of which its operatingcosts are lower.

Limitations

The major limitations of super marketsare as follows:(i) No credit: Super markets selltheir products on cash basis only. Nocredit facilities are made available tothe buyers. This restr icts thepurchasing power of buyers fromsuch markets.(ii) No personal attention: Supermarkets work on the principle of self-service. The customers, therefore, donot get any personal attention. As aresult, such commodities that requirepersonal attention by sales peoplecannot be handled effectively in supermarkets.(iii) Mishandling of goods: Somecustomers handle the goods kept in theshelf carelessly. This may raise costsin super markets.(iv) High overhead expenses: Supermarket incur high overhead expenses.As a result these have not been able tocreate low price appeal among thecustomers.(v) Huge capital requirement:Establishing and running a supermarket requires huge investment. Theturnover of a store should be high sothat the overheads are kept underreasonable level. This can be possiblein bigger towns but not in small towns.

Vending Machines

Vending machines are the newest

revolution in marketing methods.

Coin operated vending machines are

proving useful in selling several

products such as hot beverages,

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platform tickets, milk, soft drinks,

chocolates, newspaper, etc., in many

countries. Apart from some of the

products mentioned here, the latest

area in which this concept is getting

popular in many parts of our country

(particularly in the urban areas) is

the case of Automated Teller Machines

(ATM) in the banking service. As the

name suggests, these machines have

altogether changed the concept of

banking and made it possible to

withdraw money at any time without

visiting any branch of a bank.

Vending machines can be useful for

selling pre-packed brands of low priced

products which have high turnover

and which are uniform in size and

weight. However, the initial cost of

installing a vending machine and the

expenditure on regular maintenance

and repair are quite high. Also

consumers cannot feel or see the

product before buying and do not

have the opportunity of returning

unwanted goods. Apart from that,

special packs have to be developed for

the machines. The machines have to

be made reliable in their operations.

In spite of these limitations, with the

growth in the economy, vending

machines have a promising future in

retail sales of high turnover and low

priced consumer products.

Goods and Services Tax

The Government of India, following thecredo of ‘One Nation and One Tax’, andwanting a unified market in order to

ensure the smooth flow of goods acrossthe country implemented the Goodsand Services Tax (GST) from July 1,2017. The move also aims to make lifeeasier for manufacturers, producers,investors and consumers. This systemis regared as the most revolutionisingtax reform in the Indian taxationhistory. Tax apart from being a sourceof revenue for growth also plays a keyrole in making the State accountableto its taxpayers. Effective taxationensures that public funds areeffectively employed in fulfilling socialobjectives for sustainable development.

GST is a destination-based singletax on the supply of goods and servicesfrom the manufacturer to the consumer,and has replaced multiple indirecttaxes levied by the Central and theState governments, thereby, convertingthe country into a unified market.Among other benefits, GST is expectedto improve the ease of doing businessin tax compliance, reduce the taxburden by eliminating tax-on-tax,improve tax administration, mitigatetax evasion, broaden the organisedsegment of the economy and boost taxrevenues. The GST has replaced 17indirect taxes(8 Central + 9 State levels) and 23cesses of the Centre and the States,eliminating the need for filing multiplereturns and assessments andrationalising the tax treatment of goodsand services along the supply chainfrom producers to consumers. GSTcomprises Central GST (CGST) and theState GST (SGST), subsuming leviespreviously charged by the Central and

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251INTERNAL TRADE

the State governments respectively.GST (CGST + SGST) is charged at eachstage of value addition and the supplieroff-sets the levy on inputs in theprevious stages of value chain throughthe tax credit mechanism. The lastdealer in the supply chain passes onthe added GST to the consumer,

making GST a destination-basedconsumption tax. The provision ofavailing input credit at each stage ofvalue chain helps in avoiding thecascading effect (tax on tax) under GST,which is expected to reduce prices ofcommodities and benefit theconsumers. (refer page 253)

Some Facts about GST

1. GST aims to subsume a plethora of taxes into one single tax acrossthe country and make goods uniformly priced across India, albeitsome goods become costly and some become cheaper.

2. With the implementation of GST, luxury goods have become costlier,while items of mass consumption have become cheaper.

3. GST is not taxation at source. It is a destination tax or rather it’s aconsumption tax. A product is manufactured in Tamil Nadu andtravels through the country before it reaches Delhi, where the buyeror consumer pays tax for it. Both the Centre and the State havetheir share in this tax.

4. The Indian GST will have a mechanism of matching of invoices.Input tax credit of purchased goods and services will only beavailable if the taxable supplies received by the supplies receivedby the supplier. The Goods and Services Tax network is aself-regulating mechanism, which not only checks tax frauds andtax evasion, but also brings in more and more businesses into theformal economy.

5. Anti-profiteering measure is one of the key features of the recentlyimplemented Goods and Services Tax law. These measures prevententities from making excessive profits. Since the GST, along withthe input tax credit, is eventually expected to bring down prices, aNational Anti-profiteering Authority (NAA) is to be set up to ensurethat the benefits accrued to entities due to reduction in costs ispassed on to the consumers. Also, entities that hike ratesinordinately, citing GST as the reason, will be checked by this body.

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How will GST Benefit and Empower Citizens

n Reduction in overall tax burden

n No hidden taxes

n Development of a harmonised national market for goods and services

n Higher disposable income in hand, education and essential needs

n Customers to have wider choice

n Increased economic activity

n More employment opportunities

Key Features of GST:

1. The territorial spread of GST is the whole country, including Jammuand Kashmir.

2. GST is applicable on the ‘supply’ of goods or services as against thepresent concept of tax on the manufacture or sale of goods or on theprovision of services.

3. It is based on the principle of destination-based consumption tax againstthe present principle of origin-based taxation.

4. Import of goods and services is treated as inter-State supplies and wouldbe subject to IGST in addition to the applicable customs duties.

5. CGST, SGST and IGST are levied at rates mutually agreed upon by theCentre and the States under the aegis of the GST Council.

6. There are four tax slabs namely 5 per cent, 12 per cent, 18 per cent and28 per cent for all goods or services.

7. Exports and supplies to SEZ are zero-rated.8. There are various modes of payment of tax available to the taxpayer,

including Internet banking, debit/credit card and National ElectronicFunds Transfer (NEFT)/Real Time Gross Settlement (RTGS).

GST Council – Constitution

n Chairperson: Finance Minister

n Vice Chairperson is to be chosen amongst the Ministers of StateGovernment

n Members: MoS (Finance) and all Ministers of Finance/Taxation of each State

n Quorum is 50% of total members

n States have two-third weightage and Centre has one-third weightage

n Decision is taken by 75% majority

n The Council shall make recommendations on everything related toGST including, rules and rates, etc.

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253INTERNAL TRADE

10.6 ROLE OF COMMERCE AND

INDUSTRY ASSOCIATIONS IS IN

PROMOTION OF INTERNAL

TRADE

Associations of business andindustrial houses are formed topromote and protect their commoninterest and goals. Many suchassociations have been formed and arepresent in the country such asAssociated Chamber of Commerce andIndustry (ASSOCHAM), Confederationof Indian Industry (CII) and Federationof Indian Chambers of Commerce andIndustry (FICCI). These associations or

chambers act as the national guardiansof trade, commerce and industry.

These associations have beenplaying a catalytic role in strengtheninginternal trade to make it an importantpart of overall economic activity.TheChambers of Commerce and Industryinteract with the government at differentlevels to reorient or put in place policieswhich reduce hindrances, increaseinterstate movement of goods,introduce transparency and removemultiple layers of inspection andbureaucratic hurdles. Besides, thechambers also aim at erecting soundinfrastructure and simplifying and

The CGST/SGSTis payable on all

intra-statesupply of goodsor services or

both

IGST is payableon all inter-statesupply of goods

and services

GST

Tax liabilityarises when thetaxable person

crossesexemption limiti.e., Rs 20 lakh

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harmonising the tax structures. Theinterventions are mainly in thefollowing areas:(i) Interstate movement of goods:The Chambers of Commerce andIndustry help in many activitiesconcerning inter state movement ofgoods which include registration ofvehicles, surface transport policies,construction of highways and roads.For example, the construction ofgolden quadri lateral corr idorannounced by the Prime Minister ofIndia in one of the Annual GeneralMeetings of the Federation of IndianChambers of Commerce andIndustry (FICCI) wi l l faci l i tateinternal trade.(ii) Octroi and other local levies:Octroi and local taxes are the importantsources of revenue of the localgovernment. These are collected on thegoods and from people entering thestate or the municipal limits. TheChambers of Commerce try to ensurethat their imposition is not at the costof smooth transportation and localtrade.

(iii) Harmonisation of sales taxstructure and Value Added Tax:The Chambers of Commerce andIndustry play an important role ininteracting with the government toharmonise the sales tax structure indifferent states. The sales tax is animportant part of the state revenue. Arational structure of the sales tax andits uniform rates across states, areimportant for promoting a balance intrade. As per the new policy of thegovernment, the Value Added Tax is

being levied in place of the sales taxto remove the cascading effect of thesales tax.(iv) Marketing of agro products andrelated issues: The associations ofagriculturists and other federationsplay an important role in themarketing of agro products.Streamlining of local subsidies andmarketing policies of organisationsselling agro products are some of theareas where the Chambers ofCommerce and Industry can reallyintervene and interact with concernedagencies like farming cooperatives.(v) Weights and Measures andprevention of duplication brands:Laws relating to weights andmeasures and protection of brandsare necessary to protect the interest ofthe consumers as well as the traders.These need to be enforced strictly. TheChambers of Commerce and Industryinteract with the government toformulate such laws and take actionagainst those who violate rules andregulations.(vi) Excise duty: Central excise is thechief source of the governmentrevenue levied across states by thecentral government. The excise policyplays an important role in pricingmechanism. The trade associationsneed to interact with the governmentto ensure streamlining of exciseduties.(vii) Promoting sound infrastructure:A sound infrastructure like road, port,electricity, railways etc., play a catalyticrole in promoting trade. The Chambersof Commerce and Industry hold

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Key Terms

Internal trade Wholesalers Market traders

Wholesale trade Retailers Cheap jacks

Retail trade Internal retailers Speciality stores

Departmental stores Chain stores Vending machines

Super markets Chambers of Commerce

SUMMARY

Trade refers to buying and selling of goods and services with the objective ofearning profit on the basis of geographical location of buyers and sellers. Itcan be classified into two categories (i) internal trade; and (ii) external trade.

Internal trade: Buying and selling of goods and services within theboundaries of a nation are referred to as internal trade. No custom duties orimport duties are levied on such trade as goods are part of domestic production

and are meant for domestic consumption. Internal trade can be categorised

into two broad categories (i) wholesale trade; and (ii) retailing trade.

Wholesale trade: Purchase and sale of goods and services in large quantities

for the purposes of resale or intermediate use is referred to as wholesale

trade. Wholesalers perform a number of functions in the process of

distribution of goods and services and provide valuable services to

manufacturers and retailers.

Services of wholesalers: Wholesalers are an important link between

manufacturers and retailers. They add value by creating time and place utility.

Services of manufacturers: The services provided by wholesalers to

manufacturers include (i) facilitating large scale production; (ii) bearing

risk; (iii) providing financial assistance; (iv) expert advice; (v) help in

marketing function; (vi) facilitating continuity; and (vii) storage.

Services to retailers: The services provided by wholesalers to retailers

include (i) availability of goods (ii) marketing support (iii) grant of credit (iv)

specialised knowledge (v) risk sharing

discussions with government agencies

for investments into these projects.

(viii) Labour legislation: A simple

and flexible labour legislation is

helpful in running industries,

maximising production and generatingemployment. The Chambers ofCommerce and Industry and thegovernment are constantly interactingon issues like labour laws,retrenchment etc. with the government.

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Retail trade: A retailer is a business enterprise that is engaged in the saleof goods and services directly to the ultimate consumers.

Services of retailers: Retailers are an important link between the producers

and final consumers. They provide useful service to consumers wholesalers

and manufacturers in the distribution of products and services.

Services to manufacturers/wholesalers: Different services provided by

retailers to wholesalers and manufacturers include (i) helping distribution

of goods; (ii) personal selling; (iii) enabling large scale operations; (iv) collecting

market information; and (v) help in promotion of goods and services.

Services to consumers: The different services provided by retailers to

consumers include (i) regular availability of products (ii) new product

information (iii) convenience of buying (iv) trade selection (v) after sales

services and (vi) providing credit facilities.

Types of retail trade: Retail trade can be classified into different types

according to their size, type of ownership, on the basis of merchandise

handled and whether they have fixed place of business or not. Retailers

can be categorised as (i) itinerant retailers; and (ii) fixed shop retailers.

Itinerant retailers: Itinerant retailers are traders who don’t have a fixed place

of business to operate from. They are small traders operating with limited

resources who keep on moving with their wares from street to street or place to

place in search of customers. The major types of such retailers are:

(i) Peddlers and hawkers: They are small producers or petty traders who

carry the products on a bicycle or handcart or on their heads and movefrom place to place, to sell their goods at the doorstep of the customers.

(ii) Market traders: Market traders are small retailers who open their shopsat different places on fixed days/dates, catering mainly to lower income groupof customers and dealing in low priced consumer items of daily use.

(iii) Street trades: Street traders are the small retailers who are commonlyfound at places where huge floating population gathers.

(iv) Cheap jacks: Cheap jacks are those petty retailers who have independentshops of a temporary nature in a business location. They deal in consumeritems and provide services to consumers in terms of making the productsavailable where needed.

Fixed shop retailers: On the basis of size of operations, (fixed shop retailerscan be classified as a) small shopkeepers and (b) large retailers.

Fixed shop small retailers

(i) General stores: General stores carry stock of a variety of products such asgrocery items, soft drinks, toiletry products, confectionery, and stationery,needed to satisfy day-to-day needs of consumers, residing in nearby localities.

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(ii) Speciality shops: Speciality shops specialise in the sale of specific lineof products such as children’s garments, men’s wear, ladies shoes, schooluniform, college books or consumer electronic goods, etc.,

(iii) Street stall holders: These small vendors are commonly found atstreet crossing or other places where flow of traffic is heavy and dealmainly in goods of cheap variety like hosiery products, toys, cigarettes,soft drinks, etc.

(iv) Second hand goods shop: These shops deals in second hand or usedgoods of different kinds like furniture, books, clothes and other householdarticles which are sold at lower prices.

(v) Single line stores: Single line stores deal in a single product line such asready made garments, watches, shoes etc., and keep variety of items of thesame line and are situated at central location.

Fixed shop large stores: In fixed shop large stores, the volume and varietyof goods stocked is large.

Departmental stores: A departmental store is a large establishment offeringa wide variety of products, classified into well-designed departments, aimedat satisfying practically every customer’s need under one roof.

Advantages: (a) attracts large number of customers (b) convenience inbuying (c) attractive services (d) economy of large scale operation(e) promotion of sales.

Limitations: (a) lacks personal attention (b) high operating cost (c) highpossibility of loss (d) inconvenient location.

Chain stores or multiple shops: These shops are networks of retail shopsthat are owned and operated by manufacturers or intermediaries dealingin standardised and branded consumer products having rapid salesturnover.

Advantages: (a) economies of scale (b) elimination of middlemen(c) no bad debts (d) transfer of goods (e) diffusion of risk (e) low cost(f) flexibility.

Limitations: (a) limited selection of goods (b) lack of initiative (c) lack ofpersonal touch (d) difficult to change demand.

Difference between Departmental Stores and Multiple Shops: (a) location(b) range of products (c) services offered (d) pricing (e) class of customers(f) credit facilities (g) flexibility.

Mail order houses: Mail order houses are retail outlets that sell theirmerchandise through mail, without any direct personal contact with thebuyers.

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Advantages: (a) limited capital requirements (b) elimination of middlemen,(c) absence of bad debts (d) wide reach (e) convenience.

Limitations: (a) lack of personal contact, (b) high promotion cost (c) no aftersales services (d) no credit facilities (e) delayed delivery (f) possibility ofabuse (g) high dependence on postal services.

Consumer cooperative stores: A consumer cooperative store is anorganisation owned managed and controlled by consumers themselvesformed with the objective of reducing the number of middlemen and therebyproviding services to members.

Advantages: (i) ease in formation (ii) limited liability (iii) democraticmanagement (iv) lower prices (v) cash sales (vi) convenient location.

Limitations: (i) lack of initiative (ii)shortage of funds (iii) lack of patronage(iv) lack of business training.

Super markets: A super market is a large retailing business unit sellingwide variety of consumer goods on the basis of low margin appeal, widevariety and assortment and heavy emphasis on merchandising appeal.

Advantages: (i) one roof, low cost (ii) central location (iii) wide selection (iv)no bad debts (v) benefits of large scale.

Limitations: (a) no credit (b) no personal attention (c) mishandling of goods(d) high over head expenses (e) huge capital requirements.

Vending Machines: Vending machines are proving useful in sellingpre-packed brands of low priced products which have high turnover andwhich are uniform in size and weight.

EXERCISES


1. What is meant by internal trade?

2. Specify the characteristics of fixed shop retailers.

3. What purpose is served by wholesalers providing warehousing facilities?

4. How does market information provided by the wholesalers benefit themanufacturers?

5. How does the wholesaler help the manufacturer in availing the economiesof scale?

6. Distinguish between single line stores and speciality stores. Can youidentify such stores in your locality?

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259INTERNAL TRADE

7. How would you differentiate between street traders and street shops?

8. Explain the services offered by wholesalers to manufacturers.

9. What are the services offered by retailers to wholesalers and consumers?


1. Itinerant traders have been an integral part of internal trade in India.Analyse the reasons for their survival in spite of competition from largescale retailers.

2. Discuss the features of a departmental store. How are they different frommultiple shops or chain stores.

3. Why are consumer cooperative stores considered to be less expensive?What are its relative advantages over other large scale retailers?

4. Imagine life without your local market. What difficulties would a consumerface if there is no retail shop?

5. Explain the usefulness of mail orders houses. What type of products aregenerally handled by them? Specify.


1. Identify various fixed shop retailers in your locality and classify them

according to the different types you have studied.

2. Do you know any retailers selling second-hand goods in your area? Find

out the category of the product that they deal in? Which products are

suitable for resale? List some of your findings. What conclusions do you

draw?

3. Do you observe any difference in the retail business of yesterday and the

times to come. Prepare a brief write-up and discuss it in class.

4. From you own experience, compare the features of two retail stores

selling the same product. For example, the same products being sold at

a small scale retailer like a general store and in a big store like a

departmental store. What similarities and differences can you identify

in terms of price, service, variety, convenience, etc.

5. The GST has been rolled out by the Government of India on July, 01,

2017. Different goods and services are classified under GST rates viz.,

0%, 5%, 12%, 18% and 28%. Collect the information on GST from

newspapers, media news, Internet and business magazines and classify

the given goods and services five GST rates :

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Activity: Classification of GST Rates of different Goods and Services

Items No tax (0%) 5% 12% 18% 28%

Jute

Newspaper

Coffee/Tea

Shampoo

Washing Machine

Motorcycles

Vegetables

Milk

Curd

Salt

Spices

Kerosene

Kites

Apparel

above Rs 1000

Cheese

Ghee

Fruit Juices

Bhujia

Ayurvedic Medicines

Sewing Machine

Cell Phones

Ketchup & Sauces

Exercise Books

Notebooks

Spectacles

Non-AC

Fertilisers

Biscuits

Pasta

Pastries and cakes

Jams

Mineral Water

Steel

Products

Camera

Speakers and

monitors

Aluminum Foil

CCTV

Telecom Services

Branded Garments

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CHAPTER 11

INTERNATIONAL BUSINESS

LEARNING OBJECTIVES


• State the meaning of International Business

• Distinguish between Internal and International Business

• Discuss the scope of International Business

• Enumerate the benefits of International Business

• Discuss the documents required for import and export transactions

• Identify the incentives and schemes available for international firms

• Discuss the role of different organisations for the promotion of

International Business

• List the major international institutions and agreements at the global

level for the promotion of international trade and development.

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11.1 INTRODUCTION

Countries all over the world are

undergoing a fundamental shift in the

way they produce and market various

products and services. The national

economies which so far were pursuing

the goal of self-reliance are now

becoming increasingly dependent upon

others for procuring as well as

supplying various kinds of goods and

services. Due to increased cross border

trade and investments, countries are

no more isolated.

The prime reason behind thisradical change is the developmentof communication, technology,infrastructure etc. Emergence of newermodes of communication anddevelopment of faster and more efficientmeans of transportation have broughtnations closer to one another.Countries that were cut-off from oneanother due to geographical distancesand socio-economic differences havenow started increasingly interacting

with others. World Trade Organisation

(WTO) and reforms carried out by the

Mr. Sudhir Manchanda is a small manufacturer of automobile components. His

factory is located in Gurgaon and employs about 55 workers with an investment

of Rs. 9.2 million in plant and machinery. Due to recession in the domestic

market, he foresees prospects of his sales going up in the next few years in the

domestic market. He is exploring the possibility of going international. Some of

his competitors are already in export business. A casual talk with one of his

close friends in the tyre business reveals that there is a substantial market for

automobile components and accessories in South-East Asia and Middle East.

But his friend also tells him, “Doing business internationally is not the same as

carrying out business within the home country. International business is more

complex as one has to operate under market conditions that are different from

those that one faces in domestic business”. Mr. Manchanda is, moreover, not

sure as to how he should go about setting up international business. Should he

himself identify and contact some overseas customers and start exporting directly

to them or else route his products through export houses which specialise in

exporting products made by others?

Mr. Manchanda’s son who has just returned after an MBA in USA suggests that

they should set up a fully owned factory in Bangkok for supplying to customers

in South-East Asia and Middle East. Setting up a manufacturing plant there

will help them save costs of transporting goods from India. This would also help

them coming closer to the overseas customers. Mr. Manchanda is in a fix as to

what to do. In the face of difficulties involved in overseas ventures as pointed out

by his friend, he is wondering about the desirability of entering into global

business. He is also not sure as to what the different ways of entering into

international market are and which one will best suit his purpose.

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263INTERNATIONAL BUSINESS

governments of different countries

have also been a major contributory

factor to the increased interactions and

business relations amongst the

nations.

We are today living in a world

where the obstacles to cross-border

movement of goods and persons have

substantially come down. The national

economies are increasingly becoming

borderless and getting integrated into

the world economy. Little wonder that

the world has today come to be known

as a ‘global village’. Business in the

present day is no longer restricted to

the boundaries of the domestic

country. More and more firms are

making forays into international

business which presents them with

numerous opportunities for growth

and increased profits.

India has been trading with othercountries for a long time. But it has oflate considerably speeded up itsprocess of integrating with the worldeconomy and increasing its foreigntrade and investments (see Box A:India Embarks on the Path to

Globalisation).

11.1.1 Meaning of InternationalBusiness

Business transaction taking placewithin the geographical boundaries ofa nation is known as domestic ornational business. It is also referred toas internal business or home trade.Manufacturing and trade beyond theboundaries of one’s own country isknown as international business.International or external business can,therefore, be defined as those businessactivities that take place across the

Box AIndia Embarks on the Path to Globalisation

International business has entered into a new era of reforms. India too did notremain cut-off from these developments. India was under a severe debt trap andwas facing crippling balance of payment crisis. In 1991, it approached theInternational Monetary Fund (IMF) for raising funds to tide over its balance ofpayment deficits. IMF agreed to lend money to India subject to the condition thatIndia would undergo structural changes to be able to ensure repayment ofborrowed funds.India had no alternative but to agree to the proposal. It was the very conditionsimposed by IMF which more or less forced India to liberalise its economic policies.Since then a fairly large amount of liberalisation at the economic front hastaken place.Though the process of reforms has somewhat slowed down, India is very muchon the path to globalisation and integrating with the world economy. While, onthe one hand, many multinational corporations (MNCs) have ventured into Indianmarket for selling their products and services; many Indian companies too havestepped out of the country to market their products and services to consumersin foreign countries.

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national frontiers. It involves not onlythe international movements of goodsand services, but also of capital,personnel, technology and intellectualproperty like patents, trademarks,know-how and copyrights.

It may be mentioned here thatmostly people think of internationalbusiness as international trade. Butthis is not true. No doubt internationaltrade, comprising exports and importsof goods, has historically been animportant component of internationalbusiness. But of late, the scopeof international business hassubstantially expanded. Internationaltrade in services such as internationaltravel and tourism, transportation,communication, banking, ware-housing, distribution and advertisinghas considerably grown. The otherequally important developments areincreased foreign investments andoverseas production of goods andservices. Companies have startedincreasingly making investments intoforeign countries and undertakingproduction of goods and services inforeign countries to come closer toforeign customers and serve themmore effectively at lower costs. All theseactivities form part of internationalbusiness. To conclude, we can say thatinternational business is a muchbroader term and is comprised of boththe trade and production of goods andservices across frontiers.

11.1.2 Reason for InternationalBusiness

The fundamental reason behindinternational business is that the

countries cannot produce equally wellor cheaply all that they need. This isbecause of the unequal distribution ofnatural resources among them ordifferences in their productivity levels.Availability of various factors ofproduction such as labour, capital andraw materials that are required forproducing different goods and servicesdiffer among nations. Moreover, labourproductivity and production costsdiffer among nations due to varioussocio-economic, geographical andpolitical reasons.

Due to these differences, it is notuncommon to find one particularcountry being in a better position toproduce better quality products and/or at lower costs than what othernations can do. In other words, we cansay that some countries are in anadvantageous position in producingselect goods and services which othercountries cannot produce thateffectively and efficiently, and vice-versa. As a result, each country finds itadvantageous to produce those selectgoods and services that it can producemore effectively and efficiently at home,and procuring the rest through tradewith other countries which the othercountries can produce at lower costs.This is precisely the reason as to whycountries trade with others and engagein what is known as internationalbusiness.

The international business as it

exists today is to a great extent theresult of geographical specialisation as

pointed out above. Fundamentally, it

is for the same reason that domestictrade between two states or regions

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within a country takes place. Moststates or regions within a country tend

to specialise in the production of goods

and services for which they are bestsuited. In India, for example, while

West Bengal specialises in jute

products; Mumbai and neighbouringareas in Maharashtra are more involved

with the production of cotton textiles.

The same principle of territorial divisionof labour is applicable at the

international level too. Most developing

countries which are labour abundant,for instance, specialise in producing andexporting garments. Since they lackcapital and technology, they importtextile machinery from the developednations which the latter are in a positionto produce more efficiently.

What is true for the nation is moreor less true for firms. Firms too engagein international business to import whatis available at lower prices in othercountries, and export goods to othercountries where they can fetch betterprices for their products. Besides priceconsiderations, there are several otherbenefits which nations and firms derivefrom international business. In a way,these other benefits too provide animpetus to nations and firms to engagein international business. We shall turnour attention to some of these benefitsaccruing to nations and firms fromengaging in international business in alater section.

11.1.3 International Business vs.Domestic Business

Conducting and managing internationalbusiness operations is more complex

than undertaking domestic business.Because of variations in political, social,cultural and economic environmentsacross countries, business firms find itdifficult to extend their domesticbusiness strategy to foreign markets. Tobe successful in the overseas markets,they need to adapt their product,pricing, promotion and distributionstrategies and overall business plans tosuit the specific requirements of thetarget foreign markets (see Box B onFirms need to be Cognisant of

Environmental Differences). Key aspects

in respect of which domestic and

international businesses differ from each

other are discussed below.

(i) Nationality of buyers and sellers:Nationality of the key participants (i.e.,

buyers and sellers) to the business deals

differs between domestic and

international businesses. In the case of

domestic business, both the buyers and

sellers are from the same country. This

makes it easier for both the parties to

understand each other and enter into

business deals. But this is not the case

with international business where

buyers and sellers come from different

countries. Because of differences in their

languages, attitudes, social customs

and business goals and practices, it

becomes relatively more difficult for

them to interact with one another and

finalise business transactions.

(ii) Nationality of other stakeholders:Domestic and international businesses

also differ in respect of the nationalities

of the other stakeholders such as

employees, suppliers, shareholders/

partners and general public who

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interact with business firms. While inthe case of domestic business all suchfactors belong to one country, andtherefore relatively speaking depictmore consistency in their value systemsand behaviours; decision making ininternational business becomes muchmore complex as the concernedbusiness firms have to take intoaccount a wider set of values andaspirations of the stakeholdersbelonging to different nations.(iii) Mobility of factors ofproduction: The degree of mobility offactors like labour and capital isgenerally less between countries thanwithin a country. While these factors ofmovement can move freely within thecountry, there exist various restrictionsto their movement across nations.Apart from legal restrictions, even thevariations in socio-cultural

environments, geographic influencesand economic conditions come in a bigway in their movement acrosscountries. This is especially true of thelabour which finds it difficult to adjustto the climatic, economic and socio-cultural conditions that differ fromcountry to country.(iv) Customer heterogeneity acrossmarkets: Since buyers in internationalmarkets hail from different countries,they differ in their socio-culturalbackground. Differences in their tastes,fashions, languages, beliefs andcustoms, attitudes and productpreferences cause variations in not onlytheir demand for different products andservices, but also in variations in theircommunication patterns and purchasebehaviours. It is precisely because ofthe socio-cultural differences that while

Box BFirms need to be Cognisant of Environmental Differences

It is to be kept in mind that conducting and managing international business isnot an easy venture. It is more difficult to manage international business operationsdue to variations in the political, social, cultural and economic environmentsthat differ from country to country.

Simply being aware of these differences is not sufficient. One also needs to besensitive and responsive to these changes by way of introducing adaptations intheir marketing programmes and business strategies. It is, for instance, a wellknown fact that because of poor lower per capita income, consumers in most ofthe developing African and Asian countries are price sensitive and prefer to buyless expensive products. But consumers in the developed countries like Japan,United States, Canada, France, Germany and Switzerland have a markedpreference for high quality and high priced products due to their better ability topay. Business prudence, therefore, demands that the firms interested in marketingto these countries are aware of such differences among the countries, and designtheir strategies accordingly. It will be in the fitness of things if the firms interestedin exporting to these countries produce less expensive products for the consumersin the African and Asian regions, and design and develop high quality productsfor consumers in Japan and most of the European and North American countries.

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people in China prefer bicycles, theJapanese in contrast like to ride bikes.Similarly, while people in India useright-hand driven cars, Americans drivecars fitted with steering, brakes, etc.,on the left side. Moreover, while peoplein the United States change their TV,bike and other consumer durables veryfrequently — within two to three yearsof their purchase, Indians mostly do notgo in for such replacements until theproducts currently with them havetotally worn out.

Such variations greatly complicatethe task of designing products andevolving strategies appropriate forcustomers in different countries.Though to some extent customerswithin a country too differ in their tastesand preferences. These differencesbecome more striking when wecompare customers across nations.(v) Differences in business systemsand practices: The differences inbusiness systems and practices areconsiderably much more amongcountries than within a country.Countries differ from one another interms of their socio-economicdevelopment, availability, cost andefficiency of economic infrastructureand market support services, andbusiness customs and practices due totheir socio-economic milieu andhistorical coincidences. All suchdifferences make it necessary for firmsinterested in entering into internationalmarkets to adapt their production,finance, human resource andmarketing plans as per the conditionsprevailing in the international markets.

(vi) Political system and risks:Political factors such as the type ofgovernment, political party system,political ideology, political risks, etc.,have a profound impact on businessoperations. Since a business person isfamiliar with the political environmentof his/her country, he/she can wellunderstand it and predict its impact onbusiness operations. But this is not thecase with international business.Political environment differs from onecountry to another. One needs to makespecial efforts to understand the differingpolitical environments and theirbusiness implications. Since politicalenvironment keeps on changing, oneneeds to monitor political changes onan ongoing basis in the concernedcountries and devise strategies to dealwith diverse political risks.

A major problem with a foreigncountry’s political environment is atendency among nations to favourproducts and services originating intheir own countries to those comingfrom other countries. While this is nota problem for business firms operatingdomestically, it quite often becomes asevere problem for the firms interestedin exporting their goods and services toother nations or setting up their plantsin the overseas markets.(vii) Business regulations andpolicies: Coupled with its socio-economic environment and politicalphilosophy, each country evolves itsown set of business laws andregulations. Though these laws,regulations and economic policies aremore or less uniformly applicable within

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a country, they differ widely amongnations. Tariff and taxation policies,import quota system, subsidies andother controls adopted by a nation arenot the same as in other countries andoften discriminate against foreignproducts, services and capital.

(viii) Currency used in businesstransactions: Another importantdifference between domestic andinternational business is that the latterinvolves the use of different currencies.Since the exchange rate, i.e., the price ofone currency expressed in relation tothat of another country’s currency,keeps on fluctuating, it adds to theproblems of international business firmsin fixing prices of their products andhedging against foreign exchange risks.

11.1.4 Scope of InternationalBusiness

As pointed out earlier, internationalbusiness is much broader thaninternational trade. It includes not onlyinternational trade (i.e., export andimport of goods and services), but alsoa wide variety of other ways in whichthe firms operate internationally. Majorforms of business operations thatconstitute international business are asfollows.(i) Merchandise exports and imports:Merchandise means goods that aretangible, i.e., those that can be seen andtouched. When viewed from thisperceptive, it is clear that whilemerchandise exports means sendingtangible goods abroad, merchandiseimports means bringing tangible goodsfrom a foreign country to one’s own

country. Merchandise exports andimports, also known as trade in goods,include only tangible goods andexclude trade in services.(ii) Service exports and imports:Service exports and imports involvetrade in intangibles. It is because of the

intangible aspect of services that trade

in services is also known as invisible

trade. A wide variety of services aretraded internationally and theseinclude: tourism and travel, boardingand lodging (hotel and restaurants),entertainment and recreation,transportation, professional services(such as training, recruitment,consultancy and research),communication (postal, telephone, fax,courier and other audio-visualservices), construction and engineering,marketing (e.g., wholesaling, retailing,advertising, marketing researchand warehousing), educational andfinancial services (such as bankingand insurance). Of these, tourism,transportation and business servicesare major constituents of world tradein services (see Box C).(iii) Licensing and franchising:Permitting another party in a foreigncountry to produce and sell goodsunder your trademarks, patents orcopy rights in lieu of some fee isanother way of entering intointernational business. It is under thelicensing system that Pepsi and CocaCola are produced and sold all over theworld by local bottlers in foreigncountries. Franchising is similar tolicensing, but it is a term used inconnection with the provision of

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Basis

1. Nationality ofbuyers andsellers

2. Nationality ofotherstakeholders

3. Mobility offactors ofproduction

4. Customerheterogeneityacross markets

5. Differencesin businesssystems andpractices

6. Politicalsystem andrisks

7. Businessregulationsand policies

8. Currencyused inbusinesstransactions

Domestic business

People or organisations

from one nation parti-cipate in domesticbusiness transactions.

Various other stake-holders such as suppliers,employees, middlemen,shareholders and partnersare usually citizens of thesame country.

The degree of mobility offactors of production likelabour and capital isrelatively more within acountry.

Domestic markets arerelatively more homo-geneous in nature.

Business systems andpractices are relativelymore homogeneous withina country.

Domestic business issubject to political systemand risks of one singlecountry.

Domestic business issubject to rules, laws andpolicies, taxation system,etc., of a single country.

Currency of domesticcountry is used.

International business

People or organisations ofdifferent countries participatein international businesstransactions.

Various other stakeholderssuch as suppliers, employees,middlemen, shareholders andpartners are from differentnations.

The degree of mobility of factorsof production like labour andcapital across nations isrelatively less.

International markets lackhomogeneity due to differencesin language, preferences,customs, etc., across markets.

Business systems andpractices vary considerablyacross countries.

Different countries have differentforms of political systems anddifferent degrees of risks whichoften become a barrier tointernational business.

International business trans-actions are subject to rules, lawsand policies, tariffs and quotas,etc. of multiple countries.

International business trans-actions involve use ofcurrencies of more than onecountry.

Table 11.1 Major Difference between Domesticand International Business

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services. McDonalds, for instance,operates fast food restaurants the worldover through its franchising system.

(iv) Foreign investments: Foreigninvestment is another important formof international business. Foreigninvestment involves investments offunds abroad in exchange for financialreturn. Foreign investment can be oftwo types: direct and portfolioinvestments.

Direct investment takes place whena company directly invests in propertiessuch as plant and machinery in foreigncountries with a view to undertakingproduction and marketing of goodsand services in those countries. Directinvestment provides the investor acontrolling interest in a foreigncompany, known as Direct Investment,i.e., FDI. It can be in the form of joint

venture on PPP. A company, if it sodesires, can also set up a wholly

owned subsidiary abroad by making100 per cent investment in foreignventures, and thus acquiring fullcontrol over subsidiary’s operations inthe foreign market.

A portfolio investment, on the otherhand, is an investment that a companymakes into another company by theway of acquiring shares or providingloans to the latter, and earns incomeby way of dividends or interest onloans. Unlike foreign direct investments,the investor under portfolio investmentdoes not get directly involved intoproduction and marketing operations.It simply earns an income by investingin shares, bonds, bills, or notes in aforeign country or providing loans toforeign business firms.

Box CTourism, Transportation and Business Services dominate

International Trade in Services

Tourism and transportation have emerged as major components ofinternational trade in services. Most of the airlines, shipping companies, travelagencies and hotels get their major share of revenues from their overseascustomers and operations abroad. Several countries have come to heavily dependon services as an important source of foreign exchange earnings andemployment. India, for example, earns a sizeable amount of foreign exchangefrom exports of services related to travel and tourism.Business services: When one country provides services to other country and inthe process earns foreign exchange, this is also treated as a form of internationalbusiness activity. Fee received for services like banking, insurance, rentals,engineering and management services form part of country’s foreign exchangeearnings. Undertaking of construction projects in foreign countries is also anexample of export of business services. The other examples of such servicesinclude overseas management contracts where arrangements are made by onecompany of a country which provides personnel to perform general or specialisedmanagement functions for another company in a foreign country in lieu of theother country.

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11.1.5 Benefits of InternationalBusiness

Notwithstanding greater complexitiesand risks, international business isimportant to both nations and businessfirms. It offers them several benefits.Growing realisation of these benefitsover time has in fact been a contributoryfactor to the expansion of trade andinvestment amongst nations, resultingin the phenomenon of globalisation.Some of the benefits of internationalbusiness to the nations and businessfirms are discussed below.

Benefits to Countries

(i) Earning of foreign exchange:International business helps a countryto earn foreign exchange which it canlater use for meeting its imports ofcapital goods, technology, petroleumproducts and fertilisers, pharma-ceutical products and a host of otherconsumer products which otherwisemight not be available domestically.

(ii) More efficient use of resources:As stated earlier, international businessoperates on a simple principle —produce what your country canproduce more efficiently, and trade thesurplus production so generated withother countries to procure what theycan produce more efficiently. Whencountries trade on this principle, theyend up producing much more thanwhat they can when each of themattempts to produce all the goods andservices on its own. If such an enhancedpool of goods and services isdistributed equitably amongst nations,it benefits all the trading nations.

(iii) Improving growth prospects andemployment potentials: Producing

solely for the purposes of domestic

consumption severely restricts a

country’s prospects for growth and

employment. Many countries,

especially the developing ones, could

not execute their plans to produce on a

larger scale, and thus create

employment for people because their

domestic market was not large enough

to absorb all that extra production. Later

on a few countries such as Singapore,

South Korea and China which saw

markets for their products in the foreign

countries embarked upon the strategy

‘export and flourish’, and soon became

the star performers on the world map.

This helped them not only in improving

their growth prospects, but also created

opportunities for employment of people

living in these countries.

(iv) Increased standard of living: Inthe absence of international trade of goods

and services, it would not have been

possible for the world community to

consume goods and services produced

in other countries that the people in these

countries are able to consume and enjoy

a higher standard of living.

Benefits to Firms

(i) Prospects for higher profits:International business can be moreprofitable than the domestic business.

When the domestic prices are lower,

business firms can earn more profitsby selling their products in countries

where prices are high.

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(ii) Increased capacity utilisation:Many firms setup productioncapacities for their products whichare in excess of demand in thedomestic market. By planningoverseas expansion and procuringorders from foreign customers, theycan think of making use of theirsurplus production capacities andalso improving the profitability oftheir operations. Production on alarger scale often leads to economiesof scale, which in turn lowersproduction cost and improves perunit profit margin.(iii) Prospects for growth: Businessfirms find it quite frustrating whendemand for their products startsgetting saturated in the domesticmarket. Such firms can considerablyimprove prospects of their growth byplunging into overseas markets. Thisis precisely what has prompted manyof the multinationals from thedeveloped countries to enter intomarkets of developing countries. Whiledemand in their home countries has gotalmost saturated, they realised theirproducts were in demand in thedeveloping countries and demand waspicking up quite fast.(iv) Way out to intensecompetition in domestic market:When competition in the domesticmarket is very intense, internationalisationseems to be the only way to achievesignificant growth. Highly competitivedomestic market drives manycompanies to go international in searchof markets for their products.International business thus acts as a

catalyst of growth for firms facing toughmarket conditions on the domestic turf.(v) Improved business vision: Thegrowth of international business ofmany companies is essentially a partof their business policies or strategicmanagement. The vision to becomeinternational comes from the urge togrow, the need to become morecompetitive, the need to diversify andto gain strategic advantages ofinternationalisation.

11.2 MODES OF ENTRY INTO

INTERNATIONAL BUSINESS

Simply speaking, the term mode meansthe manner or way. The phrase ‘modesof entry into international business’,therefore, means various ways in whicha company can enter into internationalbusiness. While discussing themeaning and scope of internationalbusiness, we have already familiarisedyou with some of the modes of entryinto international business. In thefollowing sections, we shall discuss indetail important ways of entering intointernational business along with theiradvantages and limitations. Such adiscussion will enable you to know asto which mode is more suitable underwhat conditions.

11.2.1 Exporting and Importing

Exporting refers to sending of goodsand services from the home country toa foreign country. In a similar vein,importing is purchase of foreignproducts and bringing them into one’shome country. There are two important

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ways in which a firm can export orimport products: direct and indirectexporting/importing. In the case ofdirect exporting/importing, a firmitself approaches the overseas buyers/suppliers and looks after all theformalities related to exporting/importing activities including thoserelated to shipment and financing ofgoods and services. Indirect exporting/importing, on the other hand, is onewhere the firm’s participation inthe export/import operations isminimum, and most of the tasksrelating to export/import of the goodsare carried out by some middle mensuch as export houses or buyingoffices of overseas customers locatedin the home country or wholesaleimporters in the case of importoperations. Such firms do not directlydeal with overseas customers in thecase of exports and suppliers in thecase of imports.

Advantages

Major advantages of exporting include:• As compared to other modes of

entry, exporting/importing is theeasiest way of gaining entry intointernational markets. It is lesscomplex an activity than settingup and managing joint-venturesor wholly owned subsidiariesabroad.

• Exporting/importing is lessinvolving in the sense thatbusiness firms are not required toinvest that much time and moneyas is needed when they desire to

enter into joint ventures or set upmanufacturing plants andfacilities in host countries.

• Since exporting/importing doesnot require much of investment inforeign countries, exposure toforeign investment risks is nil ormuch lower than that is presentwhen firms opt for other modes ofentry into international business.

Limitations

Major limitations of exporting/importing as an entry mode ofinternational business are as follows:

• Since the goods physically movefrom one country to another,exporting/importing involvesadditional packaging, trans-portation and insurance costs.Especially in the case of heavyitems, transportation costs alonebecome an inhibiting factor totheir exports and imports. Onreaching the shores of foreigncountries, such products aresubject to custom duty and avariety of other levies and charges.Taken together, all these expensesand payments substantiallyincrease product costs and makethem less competitive.

• Exporting is not a feasible optionwhen import restrictions exist ina foreign country. In such asituation, firms have no alternativebut to opt for other entry modessuch as licensing/franchising orjoint venture which makes itfeasible to make the productavailable by way of producing and

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marketing it locally in foreigncountries.

• Export firms basically operatefrom their home country. Theyproduce in the home country andthen ship the goods to foreigncountries. Except a few visits madeby the executives of export firmsto foreign countries to promotetheir products, the export firms ingeneral do not have much contactwith the foreign markets. This putsthe export firms in a disadvan-tageous position vis-à-vis the localfirms which are very near thecustomers and are able to betterunderstand and serve them.

Despite the above mentionedlimitations, exporting/importing is themost preferred way for business firmswhen they are getting initially involvedwith international business. As usuallyis the case, firms start their overseasoperations with exports and imports,and later having gained familiarity withthe foreign market operations switchover to other forms of internationalbusiness operations.

11.2.2 Contract Manufacturing

Contract manufacturing refers to a typeof international business where a firmenters into a contract with one or a fewlocal manufacturers in foreign countriesto get certain components or goodsproduced as per its specifications.Contract manufacturing, also known asoutsourcing, can take three major forms:

• Production of certain componentssuch as automobile componentsor shoe uppers to be used later for

producing final products such ascars and shoes;

• Assembly of components into finalproducts such as assembly of harddisk, mother board, floppy diskdrive and modem chip intocomputers; and

• Complete manufacture of theproducts such as garments.

The goods are produced or assembledby the local manufacturers as per thetechnology and management guidanceprovided to them by the foreigncompany. The goods so manufacturedor assembled by the local producersare delivered to the international firmfor use in its final products or outrightly sold as finished products by theinternational firm under its brandnames in various countries includingthe home, host and other countries. Allthe major international companies suchas Nike, Reebok, Levis and Wranglertoday get their products or componentsproduced in the developing countriesunder contract manufacturing.

Advantages

Contract manufacturing offers severaladvantages to both the internationalcompany and local producers in theforeign countries.

• Contract manufacturing permitsthe international firms to get thegoods produced on a large scalewithout requiring investment insetting up production facilities.These firms make use of theproduction facilities alreadyexisting in the foreign countries.

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• Since there is no or littleinvestment in the foreigncountries, there is hardly anyinvestment risk involved in theforeign countries.

• Contract manufacturing also givesan advantage to the internationalcompany of getting productsmanufactured or assembled atlower costs especially if the localproducers happen to be situatedin countries which have lowermaterial and labour costs.

• Local producers in foreign

countries also gain from contract

manufacturing. If they have anyidle production capacities,

manufacturing jobs obtained on

contract basis in a way provide aready market for their products

and ensure greater utilisation oftheir production capacities. This is

how the Godrej group is benefitting

from contract manufacturing inIndia. It is manufacturing soaps

under contract for many

multinationals including Dettolsoap for Reckitt and Colman. This

has considerably helped it in

making use of its excess soapmanufacturing capacity.

• The local manufacturer also gets

the opportunity to get involved withinternational business and avail

incentives, if any, available to the

export firms in case theinternational firm desires goods so

produced be delivered to its home

country or to some other foreigncountries.

Limitations

The major disadvantages of contractmanufacturing to international firmand local producer in foreign countriesare as follows:

• Local firms might not adhere toproduction design and qualitystandards, thus causing seriousproduct quality problems to theinternational firm.

• Local manufacturer in the foreigncountry loses his control over themanufacturing process becausegoods are produced strictly as perthe terms and specifications of thecontract.

• The local firm producing undercontract manufacturing is not freeto sell the contracted output asper its will. It has to sell the goodsto the international company atpredetermined prices. This resultsin lower profits for the local firm ifthe open market prices for suchgoods happen to be higher thanthe prices agreed upon under thecontract.

11.2.3 Licensing and Franchising

Licensing is a contractual arrangementin which one firm grants access to itspatents, trade secrets or technology toanother firm in a foreign country for afee called royalty. The firm that grantssuch permission to the other firm isknown as licensor and the other firmin the foreign country that acquiressuch rights to use technology orpatents is called the licensee. It maybe mentioned here that it is not only

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technology that is licensed. In thefashion industry, a number ofdesigners license the use of theirnames. In some cases, there isexchange of technology between thetwo firms. Sometimes there is mutualexchange of knowledge, technologyand/or patents between the firmswhich is known as cross-licensing.

Franchising is a term very similarto licensing. One major distinctionbetween the two is that while the formeris used in connection with productionand marketing of goods, the termfranchising applies to service business.The other point of difference betweenthe two is that franchising is relativelymore stringent than licensing.Franchisers usually set strict rules andregulations as to how the franchiseesshould operate while running theirbusiness. Barring these two differences,franchising is pretty much the same aslicensing. Like in the case of licensing,a franchising agreement too involvesgrant of rights by one party to anotherfor use of technology, trademark andpatents in return of the agreedpayment for a certain period of time.The parent company is called thefranchiser and the other party to theagreement is called franchisee. Thefranchiser can be any service providerbe it a restaurant, hotel, travel agency,bank wholesaler or even a retailer - whohas developed a unique technique forcreating and marketing of servicesunder its own name and trade mark. Itis the uniqueness of the technique thatgives the franchiser an edge over itscompetitors in the field, and makes thewould-be-service providers interested

in joining the franchising system.McDonald, Pizza Hut and Wal-Mart areexamples of some of the leadingfranchisers operating worldwide.

Advantages

As compared to joint ventures andwholly owned subsidiaries, licensing/franchising is relatively a much easiermode of entering into foreign marketswith proven product/technologywithout much business risks andinvestments. Some of the specificadvantages of licensing are as follows:

• Under the licensing/franchisingsystem, it is the licensor/franchiser who sets up thebusiness unit and invests his/herown money in the business. Assuch, the licensor/franchiser hasto virtually make no investmentsabroad. Licensing/franchising is,therefore, considered a lessexpensive mode of entering intointernational business.

• Since no or very little foreigninvestment is involved, licensor/franchiser is not a party to the losses,if any, that occur to foreign business.Licensor/franchiser is paid by thelicensee/franchisee by way of feesfixed in advance as a percentage ofproduction or sales turnover. Thisroyalty or fee keeps accruing to thelicensor/franchiser so long as theproduction and sales keep on takingplace in the licensee’s/franchisee’sbusiness unit.

• Since the business in the foreigncountry is managed by thelicensee/franchisee who is a local

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person, there are lower risks ofbusiness takeovers or governmentinterventions.

• Licensee/franchisee being a localperson has greater marketknowledge and contacts whichcan prove quite helpful to thelicensor/franchiser in successfullyconducting its marketingoperations.

• As per the terms of the licensing/franchising agreement, only theparties to the licensing/franchisingagreement are legally entitled tomake use of the licensor’s/franchiser’s copyrights, patents andbrand names in foreign countries.As a result, other firms in the foreignmarket cannot make use of suchtrademarks and patents.

Limitations

Licensing/franchising as a mode ofinternational business suffers from thefollowing weaknesses.

• When a licensee/franchiseebecomes skilled in the manu-facture and marketing of thelicensed/franchised products,there is a danger that the licenseecan start marketing an identicalproduct under a slightly differentbrand name. This can causesevere competition to the licenser/franchiser.

• If not maintained properly, tradesecrets can get divulged to othersin the foreign markets. Suchlapses on the part of the licensee/franchisee can cause severe lossesto the licensor/franchiser.

• Over time, conflicts often developbetween the licensor/franchiserand licensee/franchisee overissues such as maintenance ofaccounts, payment of royalty andnon-adherence to norms relatingto production of quality products.These differences often result incostly litigations, causing harm toboth the parties.

11.2.4 Joint Ventures

Joint venture is a very commonstrategy for entering into foreignmarkets. A joint venture meansestablishing a firm that is jointlyowned by two or more otherwiseindependent firms. In the widest senseof the term, it can also be describedas any form of association whichimplies collaboration for more than atransitory period. A joint ownershipventure may be brought about inthree major ways:

(i) Foreign investor buying aninterest in a local company

(ii) Local firm acquiring an interest inan existing foreign firm

(iii) Both the foreign and localentrepreneurs jointly forming anew enterprise.

Advantages

Major advantages of joint ventureinclude:

• Since the local partner alsocontributes to the equity capital ofsuch a venture, the internationalfirm finds it financially lessburdensome to expand globally.

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• Joint ventures make it possibleto execute large projectsrequiring huge capital outlaysand manpower.

• The foreign business f irmbenefits from a local partner’sknowledge of the host countriesregarding the competit iveconditions, culture, language,political systems and businesssystems.

• In many cases entering into aforeign market is very costly andrisky. This can be avoided bysharing costs and/or risks witha local partner under jointventure agreements.

Limitations

Major limitations of a joint venture arediscussed below:

• Foreign firms entering into jointventures share the technology andtrade secrets with local firms in

foreign countries, thus alwaysrunning the risks of such atechnology and secrets beingdisclosed to others.

• The dual ownership arrangementmay lead to conflicts, resulting inbattle for control between theinvesting firms.

11.2.5 Wholly Owned Subsidiaries

This entry mode of internationalbusiness is preferred by companieswhich want to exercise full control overtheir overseas operations. The parentcompany acquires full control over theforeign company by making 100 percent investment in its equity capital. Awholly owned subsidiary in a foreignmarket can be established in either ofthe two ways:

(i) Setting up a new firm altogetherto start operations in a foreigncountry — also referred to as agreen field venture, or

Foreign Trade Policy (FTP) 2015-20

The Foreign Trade Policy (FTP) 2015-20 provides a stable and sustainable policyenvironment for foreign trade in merchandise and services, link rules andincentives for exports and imports along with other initiatives, such as ‘Make inIndia’, ‘Digital India’ and ‘Skill India’ to create ‘Export Promotion Mission’, promotethe diversification of India’s exports basket by helping various sectors of theIndian economy to gain global competitiveness, create an architecture for India’sglobal trade as an effort to reduce trade imbalance.

FTP has introduced two major schemes:1. Merchandise Exports from India Scheme (MEIS) covers agricultural products,

like fruits, flowers, vegetables, tea, coffee, spices, handicrafts, handlooms, juteproducts, textile and garments; tharmaceuticals; surgical; herbal; autocomponents; telecom; transport; railways; leather; wood; paper, etc.

2. Services exports from India Scheme (SEIS) which covers legal, accounting,architectural, engineering, educational and hospital services at 5%; hotels andrestaurants, travel agencies and tour operators and other business services at 3%.Source : Annual report, 2016-17, Ministry of Commerce

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(ii) Acquiring an established firm inthe foreign country and using thatfirm to manufacture and/orpromote its products in the hostnation.

Advantages

Major advantages of a wholly owned

subsidiary in a foreign country are as

follows:

• The parent firm is able to exercisefull control over its operations inforeign countries.

• Since the parent company on itsown looks after the entire operationsof foreign subsidiary, it is notrequired to disclose its technologyor trade secrets to others.

Limitations

The limitations of setting up a wholly

owned subsidiary abroad include:

• The parent company has to make100 per cent equity investmentsin the foreign subsidiaries. Thisform of international business is,therefore, not suitable for smalland medium size firms which donot have enough funds with themto invest abroad.

• Since the parent company owns100 per cent equity in the foreigncompany, it alone has to bear theentire losses resulting from failureof its foreign operations.

• Some countries are averse tosetting up of 100 per cent whollyowned subsidiaries by foreignersin their countries. This form of

international business operations,therefore, becomes subject tohigher political risks.

11.3 EXPORT-IMPORT PROCEDURES

AND DOCUMENTATION

A major distinction between domesticand international operations is thecomplexity of the latter. Export andimport of goods is not that straightforward as buying and selling in thedomestic market. Since foreign tradetransactions involves movement ofgoods across frontiers and use offoreign exchange, a number offormalities are needed to be performedbefore the goods leave the boundariesof a country and enter into that ofanother. Following sections are devotedto a discussion of major steps that needto be undertaken for completing exportand import transactions.

11.3.1 Export Procedure

The number of steps and the sequencein which these are taken vary from oneexport transaction to another. Stepsinvolved in a typical export transactionare as follows.(i) Receipt of enquiry and sendingquotations: The prospective buyer of aproduct sends an enquiry to differentexporters requesting them to sendinformation regarding price, quality andterms and conditions for export ofgoods. Exporters can be informed ofsuch an enquiry even by way ofadvertisement in the press put in by theimporter. The exporter sends a reply tothe enquiry in the form of a quotation —

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referred to as proforma invoice. Theproforma invoice contains information

about the price at which the exporter is

ready to sell the goods and also providesinformation about the quality, grade,

size, weight, mode of delivery, type of

packing and payment terms.(ii) Receipt of order or indent: In

case the prospective buyer (i.e.,

importing firm) finds the export priceand other terms and conditions

acceptable, it places an order for the

goods to be despatched. This order, alsoknown as indent, contains a description

of the goods ordered, prices to be paid,

delivery terms, packing and marking

details and delivery instructions.

(iii) Assessing the importer’screditworthiness and securing aguarantee for payments: After receipt

of the indent, the exporter makes

necessary enquiry about the

creditworthiness of the importer. The

purpose underlying the enquiry is to

assess the risks of non payment by the

importer once the goods reach the

import destination. To minimise such

risks, most exporters demand a letter

of credit from the importer. A letter of

credit is a guarantee issued by the

importer’s bank that it will honour

payment up to a certain amount of

export bills to the bank of the exporter.

Letter of credit is the most appropriate

and secure method of payment adopted

to settle international transactions

(iv) Obtaining export licence: Having

become assured about payments, the

exporting firm initiates the steps

relating to compliance of export

regulations. Export of goods in India

is subject to custom laws which

demand that the export firm must have

an export licence before it proceeds

with exports. Important pre-requisites

for getting an export licence are as

follows:

• Opening a bank account in any

bank authorised by the Reserve

Bank of India (RBI) and getting an

account number.

• Obtaining Import Export Code

(IEC) number from the Directorate

General Foreign Trade (DGFT) or

Regional Import Export Licensing

Authority.

• Registering with appropriate

export promotion council.

• Registering with Export Credit and

Guarantee Corporation (ECGC) in

order to safeguard against risks

of non payments.

An export firm needs to have the

Import Export Code (IEC) number as

it needs to be filled in various export/

import documents. For obtaining the

IEC number, a firm has to apply to the

Director General for Foreign Trade

(DGFT) with documents such as

exporter/importer profile, bank receipt

for requisite fee, certificate from the

banker on the prescribed form, two

copies of photographs attested by the

banker, details of the non-resident

interest and declaration about the

applicant’s non association with

caution listed firms.

It is obligatory for every exporter to

get registered with the appropriate

export promotion council. Various

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export promotion councils such as

Engineering Export Promotion Council

(EEPC) and Apparel Export Promotion

Council (AEPC) have been set up by the

Government of India to promote and

develop exports of different categories

of products. We shall discuss about

export promotion councils in a later

section. But it may be mentioned here

that it is necessary for the exporter to

become a member of the appropriate

export promotion council and obtain

a Registration cum Membership

Certificate (RCMC) for availing benefits

available to export firms from the

Government.

Registration with the ECGC is

necessary in order to protect overseas

payments from political and

commercial risks. Such a registration

also helps the export firm in getting

financial assistance from commercial

banks and other financial institutions.

(v) Obtaining pre-shipment finance:Once a confirmed order and also a letter

of credit have been received, the

exporter approaches his banker for

obtaining pre-shipment finance to

undertake export production. Pre-

shipment finance is the finance that the

exporter needs for procuring raw

materials and other components,

processing and packing of goods and

transportation of goods to the port of

shipment.

(vi) Production or procurement ofgoods: Having obtained the pre-

shipment finance from the bank, the

exporter proceeds to get the goods

ready as per the specifications of the

importer. Either the firm itself goes in

for producing the goods or else it buys

from the market.

(vii) Pre-shipment inspection: The

Government of India has initiated many

steps to ensure that only good quality

products are exported from the

country. One such step is compulsory

inspection of certain products by a

competent agency as designated by the

government. The government has

passed Export Quality Control and

Inspection Act, 1963 for this purpose.

and has authorised some agencies to

act as inspection agencies. If the

product to be exported comes under

such a category, the exporter needs to

contact the Export Inspection Agency

(EIA) or the other designated agency for

obtaining inspection certificate. The

pre-shipment inspection report is

required to be submitted along with

other export documents at the time of

exports. Such an inspection is not

compulsory in case the goods are being

exported by star trading houses,

trading houses, export houses,

industrial units setup in export

processing zones/special economic

zones (EPZs/SEZs) and 100 per cent

export oriented units (EOUs). We shall

discuss about these special types of

export firms in a later section.

(viii) Excise clearance: As per the

Central Excise Tariff Act, excise duty is

payable on the materials used in

manufacturing goods. The exporter,

therefore, has to apply to the concerned

Excise Commissioner in the region with

an invoice. If the Excise Commissioner

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is satisfied, he may issue the excise

clearance. But in many cases the

government exempts payment of excise

duty or later on refunds it if the goods

so manufactured are meant for exports.

The idea underlying such exemption

or refund is to provide an incentive to

the exporters to export more and also

to make the export products more

competitive in the world markets. The

refund of excise duty is known as duty

drawback. This scheme of duty

drawback is presently administered by

the Directorate of Drawback under theMinistry of Finance which is responsiblefor fixing the rates of drawback fordifferent products. The work relatingto sanction and payment of drawbackis, however, looked after by theCommissioner of Customs or CentralExcise Incharge of the concerned port/airport/land custom station fromwhere the export of goods is consideredto have taken place.(ix) Obtaining certificate of origin:Some importing countries provide tariffconcessions or other exemptions to thegoods coming from a particularcountry. For availing such benefits, theimporter may ask the exporter to senda certificate of origin. The certificate oforigin acts as a proof that the goodshave actually been manufactured in thecountry from where the export istaking place. This certificate can beobtained from the trade consulatelocated in the exporter’s country.(x) Reservation of shipping space:The exporting firm applies to theshipping company for provision ofshipping space. It has to specify the

types of goods to be exported, probabledate of shipment and the port ofdestination. On acceptance ofapplication for shipping, the shippingcompany issues a shipping order. Ashipping order is an instruction to thecaptain of the ship that the specifiedgoods after their customs clearance ata designated port be received on board.(xi) Packing and forwarding: Thegoods are then properly packed andmarked with necessary details such asname and address of the importer, grossand net weight, port of shipment anddestination, country of origin, etc. Theexporter then makes necessaryarrangement for transportation of goodsto the port. On loading goods into therailway wagon, the railway authoritiesissue a ‘railway receipt’ which serves asa title to the goods. The exporterendorses the railway receipt in favourof his agent to enable him to takedelivery of goods at the port of shipment.(xii) Insurance of goods: The exporterthen gets the goods insured with aninsurance company to protect againstthe risks of loss or damage of the goodsdue to the perils of the sea during thetransit.(xiii) Customs clearance: The goodsmust be cleared from the customsbefore these can be loaded on the ship.For obtaining customs clearance, theexporter prepares the shipping bill.

Shipping bill is the main document onthe basis of which the customs officegives the permission for export.Shipping bill contains particulars of thegoods being exported, the name of thevessel, the port at which goods are to

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be discharged, country of finaldestination, exporter’s name andaddress, etc.

Five copies of the shipping bill alongwith the following documents are thensubmitted to the Customs Appraiser atthe Customs House:

• Export Contract or Export Order• Letter of Credit• Commercial Invoice• Certificate of Origin• Certificate of Inspection, where

necessary• Marine Insurance Policy

After submission of thesedocuments, the Superintendent of theconcerned port trust is approached forobtaining the carting order. Cartingorder is the instruction to the staff atthe gate of the port to permit the entryof the cargo inside the dock. Afterobtaining the carting order, the cargois physically moved into the port areaand stored in the appropriate shed.Since the exporter cannot make himselfor herself available all the time forperforming all these formalities, thesetasks are entrusted to an agent —referred to as Clearing and Forwarding

(C&F) agent.

(xiv) Obtaining mates receipt: The

goods are then loaded on board the

ship for which the mate or the captainof the ship issues mate’s receipt to the

port superintendent. A mate receipt is

a receipt issued by the commandingofficer of the ship when the cargo is

loaded on board, and contains the

information about the name of thevessel, berth, date of shipment,

descripton of packages, marks and

numbers, condition of the cargo at thetime of receipt on board the ship, etc.

The port superintendent, on receipt of

port dues, hands over the mate’sreceipt to the C&F agent.

(xv) Payment of freight and issuanceof bill of lading: The C&F agentsurrenders the mates receipt to the

shipping company for computation of

freight. After receipt of the freight, theshipping company issues a bill of

lading which serves as an evidence that

the shipping company has accepted thegoods for carrying to the designated

destination. In the case the goods are

being sent by air, this document isreferred to as airway bill.

(xvi) Preparation of invoice: After

sending the goods, an invoice of thedespatched goods is prepared. The

invoice states the quantity of goods sent

and the amount to be paid by theimporter. The C&F agent gets it duly

attested by the customs.

(xvii) Securing payment: After

the shipment of goods, the exporter

informs the importer about the

shipment of goods. The importer needs

various documents to claim the title of

goods on their arrival at his/her

country and getting them customs

cleared. The documents that are

needed in this connection include

certified copy of invoice, bill of lading,

packing list, insurance policy,

certificate of origin and letter of credit.

The exporter sends these documents

through his/her banker with the

instruction that these may be delivered

to the importer after acceptance of the

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bill of exchange — a document whichis sent along with the above mentioned

documents. Submission of the relevant

documents to the bank for the purposeof getting the payment from the bank

is called ‘negotiation of the documents’.

Bill of exchange is an order to theimporter to pay a certain amount of

money to, or to the order of, a certain

person or to the bearer of theinstrument. It can be of two types:

document against sight (sight draft) or

document against acceptance (usancedraft). In case of sight draft, thedocuments are handed over to theimporter only against payment. Themoment the importer agrees to sign thesight draft, the relevant documents aredelivered. In the case of usance draft,on the other hand, the documents aredelivered to the importer against his orher acceptance of the bill of exchangefor making payment at the end of aspecified period, say three months.

On receiving the bill of exchange,the importer releases the payment incase of sight draft or accepts the usancedraft for making payment on maturityof the bill of exchange. The exporter’sbank receives the payment through theimporter’s bank and is credited to theexporter’s account.

The exporter, however, need notwait for the payment till the release ofmoney by the importer. The exportercan get immediate payment from his/her bank on the submission ofdocuments by signing a letter of

indemnity. By signing the letter, theexporter undertakes to indemnify thebank in the event of non-receipt of

payment from the importer along withaccrued interest.

Having received the payment forexports, the exporter needs to get a bankcertificate of payment. Bank certificate ofpayment is a certificate which says thatthe necessary documents (including billof exchange) relating to the particularexport consignment has been negotiated(i.e., presented to the importer forpayment) and the payment has beenreceived in accordance with the exchangecontrol regulations.

11.3.2 Import Procedure

Import trade refers to purchase of

goods from a foreign country. Import

procedure differs from country to

country depending upon the country’s

import and custom policies and other

statutory requirements. The following

paragraphs discuss various steps

involved in a typical import transaction

for bringing goods into Indian territory.

(i) Trade enquiry: The first thing that

the importing firm has to do is to gather

information about the countries and

firms which export the given product.

The importer can gather such

information from the trade directories

and/or trade associations and

organisations. Having identified the

countries and firms that export

the product, the importing firm

approaches the export firms with the

help of a trade enquiry for collecting

information about their export prices

and terms of exports. A trade enquiry

is a written request by an importing

firm to the exporter for supply of

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information regarding the price and

various terms and conditions on which

the latter is ready to exports goods.

After receiving a trade enquiry, the

exporter prepares a quotation and

sends it to the importer. The quotation

is known as proforma invoice. A

proforma invoice is a document that

contains details as to the quality, grade,

design, size, weight and price of the

export product, and the terms and

conditions on which their export will

take place.

(ii) Procurement of import licence:There are certain goods that can be

imported freely, while others need

licensing. The importer needs to

consult the Export Import (EXIM)

policy in force to know whether the

goods that he or she wants to import

are subject to import licensing. In case

goods can be imported only against the

licence, the importer needs to procure

an import licence. In India, it is

obligatory for every importer (and also

for exporter) to get registered with the

Major Documents needed in Connection with Export Transaction

A. Documents related to goodsExport invoice: Export invoice is a sellers’ bill for merchandise and containsinformation about goods such as quantity, total value, number of packages, markson packing, port of destination, name of ship, bill of lading number, terms of deliveryand payments, etc.Packing list: A packing list is a statement of the number of cases or packs and thedetails of the goods contained in these packs. It gives details of the nature ofgoods which are being exported and the form in which these are being sent.Certificate of origin: This is a certificate which specifies the country in which thegoods are being produced. This certificate entitles the importer to claim tariffconcessions or other exemptions such as non-applicability of quota restrictionson goods originating from certain pre-specified countries. This certificate is alsorequired when there is a ban on imports of certain goods from select countries.The goods are allowed to be brought into the importing country if these are notoriginating from the banned countries.Certificate of inspection: For ensuring quality, the government has made itcompulsory for certain products that these be inspected by some authorisedagency. Export Inspection Council of India (EICI) is one such agency which carriesout such inspections and issues the certificate that the consignment has beeninspected as required under the Export (Quality Control and Inspection) Act, 1963,and satisfies the conditions relating to quality control and inspection as applicableto it, and is export worthy. Some countries have made this certificate mandatoryfor the goods being imported to their countries.

B. Documents related to shipmentMate’s receipt: This receipt is given by the commanding officer of the ship to theexporter after the cargo is loaded on the ship. The mate’s receipt indicates thename of the vessel, berth, date of shipment, description of packages, marks and

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numbers, condition of the cargo at the time of receipt on board the ship, etc. Theshipping company does not issue the bill of lading unless it receives the mate’sreceipt.Shipping Bill: The shipping bill is the main document on the basis of whichcustoms office grants permission for the export. The shipping bill containsparticulars of the goods being exported, the name of the vessel, the port at whichgoods are to be discharged, country of final destination, exporter’s name andaddress, etc.Bill of lading: Bill of lading is a document wherein a shipping company gives itsofficial receipt of the goods put on board its vessel and at the same time gives anundertaking to carry them to the port of destination. It is also a document of titleto the goods and as such is freely transferable by the endorsement and delivery.Airway Bill: Like a bill of lading, an airway bill is a document wherein an airlinecompany gives its official receipt of the goods on board its aircraft and at the sametime gives an undertaking to carry them to the port of destination. It is also adocument of title to the goods and as such is freely transferable by the endorsementand delivery.Marine insurance policy: It is a certificate of insurance contract whereby theinsurance company agrees in consideration of a payment called premium toindemnify the insured against loss incurred by the latter in respect of goodsexposed to perils of the sea.Cart ticket: A cart ticket is also known as a cart chit, vehicle or gate pass. It isprepared by the exporter and includes details of the export cargo in terms of theshipper’s name, number of packages, shipping bill number, port of destinationand the number of the vehicle carrying the cargo.

C. Documents related to paymentLetter of credit: A letter of credit is a guarantee issued by the importer’s bankthat it will honour up to a certain amount the payment of export bills to thebank of the exporter. Letter of credit is the most appropriate and secure methodof payment adopted to settle international transactionsBill of exchange: It is a written instrument whereby the person issuing theinstrument directs the other party to pay a specified amount to a certain personor the bearer of the instrument. In the context of an export-import transaction,bill of exchange is drawn by exporter on the importer asking the latter to pay acertain amount to a certain person or the bearer of the bill of exchange. Thedocuments giving title to the export consignment are passed on to the importeronly when the importer accepts the order contained in the bill of exchange.Bank certificate of payment: Bank certificate of payment is a certificate that thenecessary documents (including bill of exchange) relating to the particular exportconsignment has been negotiated (i.e., presented to the importer for payment)and the payment has been received in accordance with the exchange controlregulations.

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Directorate General Foreign Trade

(DGFT) or Regional Import Export

Licensing Authority, and obtain an

Import Export Code (IEC) number. This

number is required to be mentioned on

most of the import documents.

(iii) Obtaining foreign exchange:Since the supplier in the context of an

import transaction resides in a foreign

country, he/she demands payment in

a foreign currency. Payment in foreign

currency involves exchange of Indian

currency into foreign currency. In India,

all foreign exchange transactions are

regulated by the Exchange Control

Department of the Reserve Bank of

India (RBI). As per the rules in force,

every importer is required to secure the

sanction of foreign exchange. For

obtaining such a sanction, the importer

has to make an application to a bank

authorised by RBI to issue foreign

exchange. The application is made in a

prescribed form along with the import

licence as per the provisions of

Exchange Control Act. After proper

scrutiny of the application, the bank

sanctions the necessary foreign

exchange for the import transaction.

(iv) Placing order or indent: After

obtaining the import licence, the

importer places an import order or

indent with the exporter for supply of

the specified products. The import

order contains information about the

price, quantity size, grade and quality

of goods ordered and the instructions

relating to packing, shipping, ports of

shipment and destination, delivery

schedule, insurance and mode of

payment. The import order should be

carefully drafted so as to avoid any

ambiguity and consequent conflict

between the importer and exporter.

(v) Obtaining letter of credit: If the

payment terms agreed between the

importer and the overseas supplier is

a letter of credit, then the importer

should obtain the letter of credit from

its bank and forward it to the overseas

supplier. As stated previously, a letter

of credit is a guarantee issued by the

importer’s bank that it will honour

payment up to a certain amount of

export bills to the bank of the exporter.

Letter of credit is the most appropriate

and secured method of payment

adopted to settle international

transactions. The exporter wants this

document to be sure that there is no

risk of non-payment.

(vi) Arranging for finance: The

importer should make arrangements in

advance to pay to the exporter on

arrival of goods at the port. Advanced

planning for financing imports is

necessary so as to avoid huge

demurrages (i.e., penalties) on the

imported goods lying uncleared at the

port for want of payments.

(vii) Receipt of shipment advice:After loading the goods on the vessel,

the overseas supplier dispatches the

shipment advice to the importer. A

shipment advice contains information

about the shipment of goods. The

information provided in the shipment

advice includes details such as invoice

number, bill of lading/airways bill

number and date, name of the vessel

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with date, the port of export,

description of goods and quantity, and

the date of sailing of vessel.

(viii) Retirement of importdocuments: Having shipped the

goods, the overseas supplier prepares

a set of necessary documents as per the

terms of contract and letter of credit and

hands it over to his or her banker for

their onward transmission and

negotiation to the importer in the

manner as specified in the letter of

credit. The set of documents normally

contains bill of exchange, commercial

invoice, bill of lading/airway bill,

packing list, certificate of origin, marine

insurance policy, etc.The bill of exchange accompanying

the above documents is known as thedocumentary bill of exchange. Asmentioned earlier in connection withthe export procedure, documentary billof exchange can be of two types:documents against payment (sightdraft) and documents againstacceptance (usance draft). In the caseof sight draft, the drawer instructs thebank to hand over the relevantdocuments to the importer only againstpayment. But in the case of usancedraft, the drawer instructs the bank tohand over the relevant documents tothe importer against acceptance of thebill of exchange. The acceptance of billof exchange for the purpose of gettingdelivery of the documents is known asretirement of import documents. Oncethe retirement is over, the bank handsover the import documents to theimporter.

(ix) Arrival of goods: Goods areshipped by the overseas supplier as perthe contract. The person in charge ofthe carrier (ship or airway) informs theofficer in charge at the dock or theairport about the arrival of goods in theimporting country. He provides thedocument called import general

manifest. Import general manifest is adocument that contains the details ofthe imported goods. It is a documenton the basis of which unloading ofcargo takes place.(x) Customs clearance and releaseof goods: All the goods imported intoIndia have to pass through customsclearance after they cross the Indianborders. Customs clearance is asomewhat tedious process and calls forcompleting a number of formalities. Itis, therefore, advised that importersappoint C&F agents who arewell- versed with such formalities andplay an important role in getting thegoods customs cleared.

Firstly, the importer has to obtaina delivery order which is otherwiseknown as endorsement for delivery.Generally when the ship arrives at theport, the importer obtains theendorsement on the back of the bill oflading. This endorsement is done bythe concerned shipping company. Insome cases instead of endorsing the bill,the shipping company issues a deliveryorder. This order entitles the importerto take the delivery of goods. Of course,the importer has to first pay the freightcharges (if these have not been paid bythe exporter) before he or she can takepossession of the goods.

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The importer has to also pay dockdues and obtain port trust dues

receipt. For this, the importer has tosubmit to the ‘Landing and ShippingDues Office’ two copies of a duly filledin form — known as ‘application toimport’. The ‘Landing and ShippingDues Office’ levies a charge for servicesof dock authorities which has to beborne by the importer. After paymentof dock charges, the importer is givenback one copy of the application as areceipt. This receipt is known as ‘porttrust dues receipt’.

The importer then fills in a form ‘bill

of entry’ for assessment of customsimport duty. One appraiser examines

the document carefully and gives theexamination order. The importerprocures the said document prepared

by the appraiser and pays the duty,

if any.

After payment of the import duty,

the bill of entry has to be presented to

the dock superintendent. The same has

to be marked by the superintendent

and an examiner will be asked to

physically examine the goods imported.

The examiner gives his report on the

bill of entry. The importer or his agent

presents the bill of entry to the port

authority. After receiving necessary

charges, the port authority issues the

release order.

Major Documents used in an Import Transaction

Trade enquiry: A trade enquiry is a written request by an importing firm to theexporter for supply of information regarding the price and various terms andconditions on which the latter exports goods.

Proforma invoice: A proforma invoice is a document that contains details as to thequality, grade, design, size, weight and price of the export product, and the termsand conditions on which their export will take place.

Import order or indent: It is a document in which the buyer (importer) orders forsupply of requisite goods to the supplier (exporter). The order or indent contains theinformation such as quantity and quality of goods to be imported, price to be charged,method of forwarding the goods, nature of packing, mode of payment, etc.

Letter of credit: It is document that contains a guarantee from the importer bankto the exporter’s bank that it is undertaking to honour the payment up to a certainamount of the bills issued by the exporter for exports of the goods to the importer.

Shipment advice: The shipment advice is a document that the exporter sends tothe importer informing him that the shipment of goods has been made. Shipmentof advice contains invoice number, bill of lading/airways bill number and date,name of the vessel with date, the port of export, description of goods and quantity,and the date of sailing of the vessel.

Bill of lading: It is a document prepared and signed by the master of the shipacknowledging the receipt of goods on board. It contains terms and conditions onwhich the goods are to be taken to the port of destination.

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11.4 FOREIGN TRADE PROMOTION:INCENTIVES AND ORGANISATIONAL

SUPPORT

Various incentives and schemes are

operational in the country to help

business firms improve competitiveness

of their exports. From time-to-time, the

government has also setup a number

of organisations to provide infra-

structural support and marketing

assistance to firms engaged in

international business. Major foreign

trade promotion schemes and

organisations are discussed in the

following sections.

11.4.1 Foreign Trade PromotionMeasures and Schemes

Details of various trade promotion

measures and schemes available to

business firms to facilitate their export

and import operations are announced

Airway Bill: Like a bill of lading, an airway bill is a document wherein an airline/shipping company gives its official receipt of the goods on board its aircraft and atthe same time gives an undertaking to carry them to the port of destination. It isalso a document of title to the goods and as such is freely transferable by theendorsement and delivery.

Bill of entry: Bill of entry is a form supplied by the customs office to the importer. It isto be filled in by the importer at the time of receiving the goods. It has to be in triplicateand is to be submitted to the customs office. The bill of entry contains informationsuch as name and address of the importer, name of the ship, number of packages,marks on the package, description of goods, quantity and value of goods, name andaddress of the exporter, port of destination, and customs duty payable.

Bill of exchange: It is a written instrument whereby the person issuing theinstrument directs the other party to pay a specified amount to a certain personor the bearer of the instrument. In the context of an export-import transaction,bill of exchange is drawn by the exporter on the importer asking the latter to paya certain amount to a certain person or the bearer of the bill of exchange. Thedocuments giving title to the export consignment are passed on to the importeronly when the importer accepts the order contained in the bill of exchange.

Sight draft: It is a type of bill of exchange wherein the drawer of the bill of exchangeinstructs the bank to hand over the relevant documents to the importer onlyagainst payment.

Usance draft: It is a type of bill of exchange wherein the drawer of the bill of exchangeinstructs the bank to hand over the relevant documents to the importer onlyagainst acceptance of the bill of exchange.

Import general manifest. Import general manifest is a document that contains thedetails of the imported good. It is the document on the basis of which unloading ofcargo takes place.Dock challan: Dock charges are to be paid when all the formalities of the customsare completed. While paying the dock dues, the importer or his clearing agentspecifies the amount of dock dues in a challan or form which is known as dockchallan.

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by the government in its export-import

(EXIM) policy. Major trade promotion

measures (especially those related to

exports) are as follows:

(i) Duty drawback scheme: Since

goods meant for exports are not

consumed domestically, these are not

subjected to payment of various excise

and customs duties. Any such duties

paid on export goods are, therefore,

refunded to exporters on production of

proof of exports of these goods to the

concerned authorities. Such refunds

are called duty draw backs. Some

major duty draw backs include refund

of excise duties paid on goods meant

for exports, refund of customs duties

paid on raw materials and machines

imported for export production. The

latter is also called customs drawback.

(ii) Export manufacturing underbond scheme: This facility entitles

firms to produce goods without

payment of excise and other duties.

The firms desirous of availing such

facility have to give an undertaking

(i.e., bond) that they are manufacturing

goods for export purposes and

will export such products on their

production.

(iii) Exemption from payment ofsales taxes: Goods meant for export

purposes are not subject to sales tax.

Even for a long time, income derived

from export operations had been

exempt from payment of income tax.

Now this benefit of exemption from

income tax is available only to 100 per

cent Export Oriented Units (100 per

cent EOUs) and units set up in Export

Processing Zones (EPZs)/Special

Economic Zones (SEZs) for select years.

We shall shortly discuss about the 100

per cent Export Oriented Units (100 per

cent EOUs) and units set up in Export

Processing Zones (EPZs)/Special

Economic Zones (SEZs) in the

succeeding paragraphs.

(iv) Advance licence scheme: It is a

scheme under which an exporter is

allowed duty free supply of domestic as

well as imported inputs required for the

manufacture of export goods. As such

the exporter is not required to pay

customs duty on goods imported for

use in the manufacture of export goods.

The advance licences are available to

both the types of exporters — those who

export on a regular basis and also to

those who export on an adhoc basis. The

regular exporters can avail such

licences against their production

programmes. The firms exporting

intermittently can also obtain these

licences against specific export orders.

(v) Export Promotion Capital GoodsScheme (EPCG): The main objective of

this scheme is to encourage the import

of capital goods for export production.

This scheme allows export firms to

import capital goods at negligible or

lower rates of customs duties subject

to actual user condition and fulfilment

of specified export obligations. If the

said conditions are fulfilled by the

manufacturers, then they can import the

capital goods either at zero or

concessional rate of import duty.

Supporting manufacturers and service

providers are also eligible to import

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capital goods under this scheme. This

scheme is especially beneficial to the

industrial units interested in

modernisation and upgradation of their

existing plant and machinery. Now

service export firms can also avail of this

facility for importing items such as

computer software systems required for

developing softwares for purposes

of exports.

(vi) Scheme of recognising exportfirms as export house, trading houseand superstar trading house: Withan objective to promote establishedexporters and assist them in marketingtheir products in internationalmarkets, the government grants thestatus of Export House, TradingHouse, Star Trading House to selectexport firms. This status is granted toa firm on its achieving a prescribedaverage export of performance in pastselect years. Besides attaining aminimum of past average exportperformance, such export firms have toalso fulfill other conditions as laiddown in the import-export policy.Various categories of export houseshave been recognised with a view tobuilding marketing infrastructureand expertise required for exportpromotion. These houses are givennational recognition for exportpromotion. They are required to operateas highly professional and dynamicinstitutions and act as an importantinstrument of export growth.(vii) Export of Services: In order toboost the export of services, variouscategories of service houses have beenrecognised. These houses are recognised

on the basis of the export performanceof the service providers. They arereferred to as Service Export House,International Service Export House,International Star Service Export Housebased on their export performance.(viii) Export finance: Exportersrequire finance for the manufacture ofgoods. Finance is also needed after theshipment of the goods because it maytake sometime to receive payment fromthe importers. Therefore, two types ofexport finances are made available tothe exporters by authorised banks.They are termed as pre-shipmentfinance or packaging credit and post-shipment finance. Under the pre-shipment finance, finance is providedto an exporter for financing thepurchase, processing, manufacturingor packaging of goods for exportpurpose. Under the post-shipmentfinance scheme, finance is provided tothe exporter from the date of extendingthe credit after the shipment of goodsto the export country. The finance isavailable at concessional rates ofinterest to the exporters.

(ix) Export Processing Zones (EPZs):Export Processing Zones are industrialestates, which form enclaves from theDomestic Tariff Areas (DTA). These areusually situated near seaports orairports. They are intended to providean internationally competitive duty freeenvironment for export production atlow cost. This enables the products ofEPZs to be competitive, both quality-wise and price-wise, in the internationalmarkets. These zones have been setup at various places in India which

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include: Kandla (Gujarat), Santa Cruz(Mumbai), Falta (West Bengal), Noida(Uttar Pradesh), Cochin (Kerala),Chennai (Tamil Nadu), andVishakapatnam (Andhra Pradesh).

Santa Cruz zone is exclusivelymeant for electronic goods and gem andjewellery items. All other EPZs deal withmultifarious items. Recently the EPZshave been converted to SpecialEconomic Zones (SEZs) which are moreadvanced form of export processingzones. These SEZs are free from allrules and regulations governingimports and exports units exceptrelating to labour and banking

The government has also permitteddevelopment of EPZs by private, stateor joint sector. The inter-ministerialcommittee on private EPZs has alreadycleared proposals for setting up ofprivate EPZs in Mumbai, Surat andKanchipuram.(x) 100 per cent Export OrientedUnits (100 per cent EOUs): The100 per cent Export Oriented Unitsscheme, introduced in early 1981, iscomplementary to the EPZ scheme. Itadopts the same production regime,but offers a wider option in locationwith reference to factors like source ofraw materials, ports, hinterlandfacilities, availability of technologicalskills, existence of an industrial baseand the need for a larger area of landfor the project. EOUs have beenestablished with a view to generatingadditional production capacity forexports by providing an appropriatepolicy framework, flexibility ofoperations and incentives.

11.4.2 Organisational Support

The Government of India has also setup from time-to-time variousinstitutions in order to facilitate theprocess of foreign trade in our country.Some of the important institutions areas follows:Department of Commerce: TheDepartment of Commerce in theMinistry of Commerce, Government ofIndia, is the apex body responsible forthe country’s external trade and allmatters connected with it. This may bein the form of increasing commercialrelations with other countries, statetrading, export promotional measuresand the development, and regulationof certain export oriented industriesand commodities. The Department ofCommerce formulates policies in thesphere of foreign trade. It also framesthe import and export policy of thecountry in general.Export Promotion Councils (EPCs):Export Promotion Councils arenon-profit organisations registeredunder the Companies Act or theSocieties Registration Act, as the casemay be. The basic objective of theexport promotion councils is topromote and develop the country’sexports of particular products fallingunder their jurisdiction. At present,there are 21 EPC’s dealing withdifferent commodities.

Commodity Boards: CommodityBoards are the boards which havebeen specially established by theGovernment of India for thedevelopment of production oftraditional commodities and

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their exports. These boards aresupplementary to the EPCs. Thefunctions of commodity boards aresimilar to those of EPCs. At presentthere are seven commodity boardsin India: Coffee Board, Rubber Board,Tobacco Board, Spice Board, CentralSilk Board, Tea Board, and Coir Board.

Export Inspection Council (EIC): TheExport Inspection Council of India wassetup by the Government of Indiaunder Section 3 of the Export QualityControl and Inspection Act 1963. Thecouncil aims at sound development ofexport trade through quality controland pre-shipment inspection. Thecouncil is an apex body for controllingthe activities related to quality controland pre-shipment inspection ofcommodities meant for export. Barringa few exceptions, all the commoditiesdestined for exports must be passedby EIC.

Indian Trade PromotionOrganisation (ITPO): The Indian TradePromotion Organisation was setupon 1 January 1992 under theCompanies Act 1956 by the Ministryof Commerce, Government of India. Itsheadquarters is in New Delhi. The ITPOwas formed by merging the twoerstwhile agencies viz., TradeDevelopment Authority and Trade FairAuthority of India. ITPO is a serviceorganisation and maintains regularand close interaction with trade,industry and Government. It serves theindustry by organising trade fairs andexhibitions—both within the countryand outside, It helps export firmsparticipate in international trade fairs

and exhibitions, developing exports ofnew items, providing support andupdated commercial businessinformation. ITPO has five regionaloffices at Mumbai, Bengaluru, Kolkata,Kanpur and Chennai and fourinternational offices at Germany, Japan,

UAE and USA.

Indian Institute of Foreign Trade(IIFT): The Indian Institute of ForeignTrade is an institution that was setupin 1963 by the Government of India asan autonomous body registered underthe Societies Registration Act with theprime objective of professionalising thecountry’s foreign trade management. Ithas recently been recognised asDeemed University. It provides trainingin international trade, conductresearches in areas of internationalbusiness, and analysing anddisseminating data relating to

international trade and investments.

Indian Institute of Packaging (IIP):The Indian Institute of Packaging wasset up as a national institute jointly bythe Ministry of Commerce, Governmentof India, and the Indian PackagingIndustry and allied interests in 1966.Its headquarters and principallaboratory is situated at Mumbai andthree regional laboratories are locatedat Kolkata, Delhi and Chennai. It is atraining-cum-research institutepertaining to packaging and testing. Ithas excellent infrastructural facilitiesthat cater to the various needs of thepackage manufacturing and packageuser industries. It caters to thepackaging needs with regard to boththe domestic and export markets. It

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also undertakes technical consultancy,testing services on packagingdevelopments, training andeducational programmes, promotionalaward contests, information services

and other allied activities.

State Trading Organisations: A large

number of domestic firms in India found

it very difficult to compete in the world

market. At the same time, the

existing trade channels were

unsuitable for promotion of exports and

bringing about diversification of trade

with countries other than European

countries. It was under these

circumstances that the State Trading

Organisation (STC) was setup in May

1956. The main objective of the STC is

to stimulate trade, primarily export

trade among different trading partners

of the world. Later, the government set

up many more organisations such as

Metals and Minerals Trading

Corporation (MMTC), Handloom and

Handicrafts Export Corporation (HHEC).

11.5 INTERNATIONAL TRADE

INSTITUTIONS AND TRADE

AGREEMENTS

The First World War (1914-1919) andthe Second World War (1939-45) wereaccompanied by massive destructionof life and property the world over.Almost all the economies of the worldwere adversely affected. Due to scarcityof resources, countries were not in aposition to take up any reconstructionor developmental works. Even theinternational trade amongst nations gotadversely affected because of the

disruption of the world’s currencysystem. There was no system ofgenerally accepted exchange rate. Itwas at that juncture that representativeof forty-four nations under theleadership of J.M. Keynes — a notedeconomist joined together at BrettonWoods, New Hampshire to identifymeasures to restore peace andnormalcy in the world.

The meeting was concluded withthe setting up of three internationalinstitutions, namely the InternationalMonetary Fund (IMF), InternationalBank for Reconstruction andDevelopment (IBRD) and theInternational Trade Organisation (ITO).They considered these threeorganisations as three pillars ofeconomic development of the world.While the World Bank was assignedwith the task of reconstructing war-torneconomies — especially the ones inEurope, the IMF was entrusted with theresponsibility of ensuring stabilisationof exchange rates to pave way for theexpansion of world trade. The mainobjective of the ITO as they couldforesee at that time was to promote andfacilitate international trade among themember countries by overcomingvarious restrictions and discrimi-nations that were being practiced at

that time.The first two institutions, viz., IBRD

and IMF, came into existenceimmediately. The idea of setting up ofITO, however, could not materialise dueto stiff opposition from the UnitedStates. Instead of an organisation,what eventually emerged was an

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arrangement to liberalise international

trade from high customs tariffs and

various other types of restrictions. This

arrangement came to be known as the

General Agreement for Tariffs and

Trade (GATT). India was one of the

founding members of these three

international bodies. The major

objectives and functions of these three

international institutions are discussed

in more detail in the following sections.

11.5.1 World Bank

The International Bank for

Reconstruction and Development

(IBRD), commonly known as World

Bank, was result of the Bretton Woods

Conference. The main objectives behind

setting up this international

organisation were to aid the task of

reconstruction of the war-affectedeconomies of Europe and assist in thedevelopment of the underdevelopednations of the world. For the first fewyears, the World Bank remainedpreoccupied with the task of restoringwar-torn nations in Europe. Havingachieved success in accomplishing thistask by late 1950s, the World Bankturned its attention to the developmentof underdeveloped nations. It realisedthat by investing more and more inthese countries, especially in socialsectors likehealth and education; it could bringabout the needed social andeconomic transformation of thedeveloping countries. To give shapeto this investment aspect inthe underdeveloped nations, the

International Development Association(IDA) was formed in the year 1960. Themain objective underlying setting upIDA has been to provide loans onconcessional terms and conditions tothose countries whose per capitaincomes are below a critical level.Concessional terms and conditionsmean that (i) repayment period is muchlonger than the repayment period ofIBRD, and (ii) the borrowing nationneed not pay any interest on theborrowed amount. IDA, thus, providesinterest-free long-term loans to the poornations. IBRD also provides loans butthese carry interest charged oncommercial basis.

Over the time, additionalorganisations have been set up underthe umbrella of the World Bank. As oftoday, the World Bank is a group of fiveinternational organisations responsiblefor providing finance to differentcountries. The group and its affiliatesheadquartered in Washington DCcatering to various financial needs arelisted in the Box A on World Bank andits affiliates.

11.5.2 International MonetaryFund

The International Monetary Fund (IMF)is the second international organisationnext to the World Bank. IMF whichcame into existence in 1945 has itsheadquarters located in WashingtonDC. In 2005, it had 191 countries asits members.The major idea underlyingthe setting up of the IMF is to evolve anorderly international monetary system,i.e., facilitating system of international

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payments and adjustments in exchangerates among national currencies.

Major objectives of IMF include

• To promote internationalmonetary cooperation through apermanent institution,

• To facilitate expansion of balancedgrowth of international trade andto contribute thereby to thepromotion and maintenance ofhigh levels of employment and realincome,

• To promote exchange stabilitywith a view to maintain orderlyexchange arrangements amongmember countries, and

• To assist in the establishment of amultilateral system of paymentsin respect of current transactionsbetween members.

Functions of IMF

Various functions are performed by theIMF to achieve the aforesaid objectives.Some of the important functions of IMFinclude:

• Acting as a short-term creditinstitution;

• Providing machinery for the orderlyadjustment of exchange rates;

• Acting as a reservoir of the currenciesof all the member countries, fromwhich a borrower nation can borrowthe currency of other nations;

• Acting as a lending institution offoreign currency and currenttransaction;

• Determining the value of acountry’s currency and altering it,

if needed, so as to bringabout an orderly adjustment ofexchange rates of membercountries; and

• Providing machinery for inter-national consultations.

11.5.3 World Trade Organization(WTO) and MajorAgreements

On the lines of IMF and the WorldBank, it was initially decided at theBretton Woods conference to set up theInternational Trade Organisation (ITO)to promote and facilitate internationaltrade among the member countriesand to overcome various restrictionsand discriminations as were beingpracticed at that time. But the ideacould not materialise due to stiffopposition from the United States.Instead of altogether abandoning theidea, the countries that wereparticipants to the Bretton Woodsconference agreed upon having somearrangement among themselves so asto liberalise the world from highcustoms tariffs and various othertypes of restrictions that were in vogueat that time. This arrangement cameto be known as the General Agreementfor Tariffs and Trade (GATT).

GATT came into existence witheffect on 1 January 1948 and remainedin force till December 1994. Variousrounds of negotiations have takenplace under the auspices of GATT toreduce tariff and non-tariff barriers. Thelast one, known as the UruguayRound, was the most comprehensive

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one in terms of coverage of issues, andalso the lengthiest one from the pointof view of duration of negotiationswhich lasted over a period of sevenyears from 1986 to 1994.

One of the key achievements of theUruguay Round of GATT negotiationswas the decision to set up a permanentinstitution for looking after thepromotion of free and fair tradeamongst nations. Consequent to thisdecision, the GATT was transformedinto World Trade Organization (WTO)with effect from 1 January 1995. Theheadquarters of the WTO are situatedat Geneva, Switzerland. Theestablishment of WTO, thus, representsthe implementation of the originalproposal of setting up of the ITO asevolved almost five decades back.

Though, WTO is a successor toGATT, it is a much more powerful bodythan GATT. It governs trade not onlyin goods, but also in services andintellectual property rights. UnlikeGATT, the WTO is a permanentorganisation created by aninternational treaty ratified by thegovernments and legislatures ofmember states. It is, moreover, amember -driven rule-basedorganisation in the sense that allthe decisions are taken by themember governments on the basis of ageneral consensus. As the principalinternational body concerned withsolving trade problems betweencountries and providing a forum formultilateral trade negotiations, it hasa global status similar to that of the IMF

and the World Bank. India is a foundingmember of WTO. As on 11 December2005, there were 149 members in WTO.

Objectives of WTO

The basic objectives of WTO are similar

to those of GATT, i.e., raising standards

of living and incomes, ensuring full

employment, expanding production

and trade, and optimal use of the

world’s resources. The major difference

between the objectives of GATT and

WTO is that the objectives of WTO are

more specific and also extend the scope

of WTO to cover trade in services. WTO

objectives, moreover, talk of the idea of

‘sustainable development’ in relation to

the optimal use of the world’s resources

so as to ensure protection and

preservation of the environment.

Keeping in view the above discussion,

we can state more explicitly the

following as the major objectives of

WTO:

• To ensure reduction of tariffs and

other trade barriers imposed by

different countries;

• To engage in such activities which

improve the standards of living,

create employment, increase

income and effective demand and

facilitate higher production and

trade;

• To facilitate the optimal use of the

world’s resources for sustainable

development; and

• To promote an integrated, more

viable and durable trading system.

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Functions of WTO

The major functions of WTO include:

• Promoting an environment that is

encouraging to its member

countries to come forward to WTO

in mitigating their grievances;

• Laying down a commonly

accepted code of conduct with a

view to reducing trade barriers,

including tariffs and eliminating

discriminations in international

trade relations;

• Acting as a dispute settlement

body;

• Ensuring that all rules

regulations prescribed in the Act

are duly followed by the member

countries for the settlement of

their disputes;

• Holding consultations with the

IMF and the IBRD and its affiliated

agencies so as to bring better

understanding and cooperation

in global economic policy making;

and

• Supervising on a regular basis the

operations of the revised

Agreements and Ministerial

declarations relating to goods,

services and Trade Related

Intellectual Property Rights

(TRIPS).

Benefits of WTO

Since its inception in 1995, the WTOhas come a long way in constituting thelegal and institutional foundation of thepresent day multilateral tradingsystem. It has been instrumental notonly in facilitating trade, but also inimproving living standards andcooperation among membercountries. Some of the major benefitsof WTO are as follows:

• WTO helps promote internationalpeace and facilitates internationalbusiness.

• All disputes between membernations are settled with mutualconsultations.

• Rules make international tradeand relations very smooth andpredictable.

• Free trade improves the livingstandard of the people byincreasing the income level.

• Free trade provides ample scopeof getting varieties of qualitativeproducts.

• Economic growth has beenfastened because of free trade.

• The system encourages goodgovernment.

• WTO helps fostering growth of

developing countries by providing

them with special and preferential

treatment in trade related matters.

Key Terms

InternationalbusinessInternational tradeMerchandise trade

Invisible tradeForeign investmentFDIPortfolio investment

ExprotingImportingContractmanufacturing

LicensingFranchisingOutsourcingJoint ventures

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SUMMARY

International Business: International business refers to business activitiesthat take place across national frontiers. Though many people use the termsinternational business and international trade synonymously, the former is amuch broader term. International business involves not only trade in goods andservices, but also other operations, such as production and marketing of goodsand services in foreign countries.

International Vs Domestic Business: Conducting and managing internationalbusiness operations is more complex than undertaking domestic business.Differences in the nationality of parties involved, relatively less mobility of factorsof production, customer heterogeneity across markets, variations in businesspractices and political systems, varied business regulations and policies, anduse of different currencies are the key aspects that differentiate internationalbusinesses from domestic business. These, moreover, are the factors that makeinternational business much more complex and a difficult activity.

Export Procedures: The starting point in an export transaction is the receipt ofan enquiry from the overseas buyer. In response, the exporter prepares an exportquotation — called proforma invoice, giving out details about the export goodsand the terms and conditions of export. In case, the importer finds the quotationacceptable, he/she places an order or indent and gets a letter of credit issuedfrom his/her bank to the exporter. The exporter then proceeds with the formalitiesrelated to obtaining an export licence from the Director General of Foreign Tradeand getting a registration-cum-membership certificate from the export promotioncouncil looking after the export of the concerned product. In case, the exporter

Wholly ownedsubsidiariesProforma invoiceOrder or intentExport licenceIEC numberRegistration-cummembershipcertificatePre-shipmentfinancePre-shipmentinspectionExport inspectionagencyExcise clearanceCertificate of originCustoms clearance

Letter of creditShipping billMate receiptBill of ladingAirway billInvoiceBill ofexchangeSight draftUsance draftNegotiation ofbillsMarineinsurancepolicyCart ticketBank certificateof payment

Certificate of inspectionTrade enquiryShipment adviceImport general manifestDelivery orderBill of entryC&F agentPort trust dues receiptDuty drawback schemeExport manufacturingunder bond schemeAdvance licence schemeExport Promotion CapitalGoods Scheme (EPCG)Export financePost-shipment financeExport processing zone(EPZ)

100% ExportOriented Unit(100% EOU)Department ofCommerceExport promotioncouncilCommodityboardsIIFTIndian Instituteof PackagingITPOExport InspectionCouncilState tradingorganisations

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requires funds, he/she can avail of pre-shipment finance from a bank. Theexporter then proceeds with the production or procurement of the goods andgets them inspected from Export Inspection Council. If required by the importer,the exporter approaches the foreign consulate for obtaining the certificate oforigin to enable the importer to claim tariff of quota concessions at the time ofclearance of cargo at the import destination. The exporter, then, makesarrangement, for reserving space on the ship and insuring goods against transitperils. After obtaining the excise clearance, goods are sent to the concerned portfor customs clearance. Since customs clearance is a tedious process, exportersoften employ C&F agents for availing their services in preparation of variouscustoms documents and getting the goods customs cleared.

After customs clearance and payment of dock charges to the port authoritiesand freight charges to the shipping company, goods are loaded on the ship. Thecaptain of the ship issues a mate’s receipt. This mate’s receipt is submitted tothe shipping company’s office for the payment of freight. After receiving the freightcharges, the shipping company issues a bill of lading, which is a document ofcontract relating to shipment of the goods by the shipping company. Once thegoods are dispatched, the exporter prepares an invoice and sends the necessarydocuments, such as certified copy of invoice, bill of lading, packing list, insurancepolicy, certificate of origin, letter of credit and bill of exchange to the importerthrough his/her bank to release a certificate of payment. Certificate of paymentis a document that certifies that the export transaction is over and the paymenthas been received.

Import Procedure: The procedure to import is also beset with several formalities.The process starts with a search for export firms and making a trade enquiryabout the product, its price and terms and conditions of exports. Having selectedan export firm, the importer asks the exporter to send him/her a formal quotationcalled proforma invoice. The importer, then, proceeds to obtain the import licence,if required, from the office of the Directorate General Foreign Trade (DGFT) orRegional Import Export Licensing Authority. The importer also applies for theImport Export Code (IEC) number. This number is required to be mentioned onmost of the import documents. Since payment for imports requires foreigncurrency, the importer has to send an application to a bank authorised forsanction of the necessary foreign exchange.

After obtaining an import licence, the importer places an import order or indentwith the exporter for supply of the specified products. If required as per theterms of contract, the importer arranges for the issuance of a letter of credit tothe exporter from the bank. Having shipped the goods under shipment advice tothe importer, the exporter sends a set of necessary documents containing bill ofexchange, commercial invoice, bill of lading/airway bill, packing list, certificateof origin, marine insurance policy, etc., to enable the importer claim title to thegoods on their arrival at the port of destination. The exporter sends thesedocuments through his/her bank to the importer. The bank presents thesedocuments to the importer and after obtaining his/her acceptance of the bill ofexchange, delivers the documents to the importer.

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After the arrival of the goods in the importing country, the person in charge ofthe carrier (ship or airway) prepares import general manifest to inform the officerin charge at the dock or the airport that the goods have reached the ports of theimporting country. The importer or his/her C&F agent pays the freight (if notalready paid by exporter) to the shipping company and obtains delivery orderfrom it which entities the importer to take the delivery of the goods at the port.At this time, port dock dues are also paid and a port trust dues receipt is obtained.The importer, then, fills in a form ‘bill of entry’ for assessment of customs importduty. After the payment of the import duty, the bill of entry has to be presentedto the dock superintendent for physical examination of the goods. The examinergives his report on the bill of entry. The importer or his agent presents the bill ofentry to the port authority for issuance of the release order.

EXERCISES


1. In which of the following modes of entry, does the domestic manufacturer

give the right to use intellectual property, such as patent and trademark

to a manufacturer in a foreign country for a fee:

a. Licensing b. Contract manufacturing

c. Joint venture d. Public Private Partnership

2. When two or more firms come together to create a new business entity

that is legally separate and distinct from its parents it is known as:

a. Contract manufacturing b. Franchising

c. Joint venture d. Licensing

3. Which of the following is not an advantage of exporting?

a. Easier way to enter into b. Comparatively lower risks

international markets

c. Limited presence in foreign d. Less investment

markets requirements

4. Which one of the following modes of entry permits the greatest degree

of control over overseas operations?

a. Licensing/franchising b. Wholly owned subsidiary

c. Contract manufacturing d. Joint venture

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5. Which one of the following is not amongst India’s major export items?

a. Textiles and garments b. Gems and jewellery

c. Oil and petroleum products d. Basmati rice

6. Which one of the following is not amongst India’s major import items?

a. Ayurvedic medicines b. Oil and petroleum products

c. Pearls and precious stones d. Machinery

7. Which of the following documents are not required for obtaining an

export licence?

a. IEC number b. Letter of credit

c. Registration-cum-membership d. Bank account number

certificate

8. Which of the following documents is not required in connection with an

import transaction?

a. Bill of lading b. Shipping bill

c. Certificate of origin d. Shipment advice

9. Which of the following do not form part of duty drawback scheme?

a. Refund of excise duties b. Refund of customs duties

c. Refund of export duties d. Refund of income dock

charges at the port of

shipment

10. Which one of the following is not a part of export documents?

a. Commercial invoice b. Certificate of origin

c. Bill of entry d. Mate’s receipt

11. A receipt issued by the commanding officer of the ship when the

cargo is loaded on the ship is known as:

a. Shipping receipt b. Mate receipt

c. Cargo receipt d. Charter receipt

12. Which of the following document is prepared by the exporter and includes

details of the cargo in terms of the shipper’s name, the number of

packages, the shipping bill, port of destination and name of the vehicle

carrying the cargo?

a. Shipping bill b. Packaging list

c. Mate’s receipt d. Bill of exchange

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13. The document containing the guarantee of a bank of honour drafts

drawn on it by an exporter is:

a. Letter of hypothecation b. Letter of credit

c. Bill of lading d. Bill of exchange

14. TRIP is one of the WTO agreements that deal with:

a. Trade in agriculture b. Trade in services

c. Trade related investment d. None of these

measures


1. Differentiate between international trade and international business.

2. Discuss any three advantages of international business.

3. What is the major reason underlying trade between nations?

4. Why is it said that licensing is an easier way to expand globally?

5. Differentiate between contract manufacturing and setting up whollyowned production subsidiary abroad.

6. Discuss the formalities involved in getting an export licence.

7. Why is it necessary to get registered with an export promotion council?

8. Why is it necessary for an export firm to go in for pre-shipment inspection?

9. What is bill of lading? How does it differ from bill of entry?

10. Explain the meaning of mate’s receipt.

11. What is a letter of credit? Why does an exporter need this document?

12. Discuss the process involved in securing payment for exports.


1. “International business is more than international trade”. Comment.

2. What benefits do firms derive by entering into international business?

3. In what ways is exporting a better way of entering international marketsthan setting up wholly owned subsidiaries abroad.

4. Rekha Garments has received an order to export 2000 men’s trousersto Swift Imports Ltd., located in Australia. Discuss the procedure thatRekha Garments would need to go through for executing the export order.

5. Your firm is planning to import textile machinery from Canada. Describethe procedure involved in importing.

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6. Identify various organisations that have been set up in the country bythe government for promoting country’s foreign trade.

7. What is IMF? Discuss its various objectives and functions.

8. Write a detailed note on features, structure, objectives and functioningof WTO.

I Project/Assignment — India In the World Trade

Carefully read the given data. This pertains to India’s performance in worldtrade. The recent initiatives of the Government of India, such as ‘Make in India’,‘Digital India’, ‘Skill India’ and roll out of the Foreign Trade Policy (FTP) 2015-20has impacted the Indian economy in terms of exports and imports and tradebalance.

1. Table 1 shows India’s position in the world’s largest economies.Prepare a trend report on the position of India in the global scenario ofinternational trade from the year 2005-2017.

2. Table presents the data about major trade partners of India in the globaltrade.

Discuss how business and trade activities help in promoting peace andharmony among nations.

3. Graphically represent (Line Graph or Bar Graph) the status of export andimport from the year 2006-2007 to the year 2016-2017 as given in Table 3.

1. United States 24.32. China 14.83. Japan 5.94. Germany 4.55. United Kingdom 3.96. France 3.37. India 2.88. Italy 2.59. Brazil 2.410. Canada 2.1

Source: World Bank, 2017

Table 1

S.No. Country% sharein global

trade

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India’s trading partners with total trade (2014-15) (figures in US $)

S.No. Country Exports Imports Total Trade Trade Balance

1. China 9.01 61.71 70.72 (52.70)

2. United States 40.34 62.12 62.12 (18.55)

3. UAE 30.29 49.74 49.74 (10.84)

4. Saudi Arabia 6.39 20.32 26.72 (13.93)

5. Germany .98 12,09 20.33 (5.25)

6. South Korea 3.52 13.05 18.13 (8.93)

7. Malaysia 3.71 9.08 16.93 (5.30)

8. Singapore 7.72 7.31 16.93 (2.68)

9. Nigeria 2.22 9.95 16.36 (11.00)

10. Belgium 5.03 8.26 16.33 (5.29)

11. Qatar .90 9.02 15.66 (13.55)

12. Japan 4.66 9.85 15.52 (4.75)

13. United Kingdom 8.83 5.19 14.34 (4.30)

Selected countries only.

Year Merchandise

Export Import Trade Balance

2006-2007 571779 840506 (268727)

2007-2008 655864 1012312 (356448)

2008-2009 840755 1374438 (533680)

2009-2010 845534 1363736 (518202)

2010-2011 1136954 1683487 (546503)

2011-2012 1465959 2345463 (879504)

2012-2013 1634318 2669162 (1034844)

2013-2014 1905011 2715434 (810423)

2014-2015 1896348 2737087 (840738)

2015-2016(P) 1716378 2490298 (773920)

2016-2017 (P) till October 1039797 1396352 (356554)

Annual report, 2016-17, Ministry of Commerce

Table 2

Table 3

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5. Table 5 provides the selected principal commodities, in which Indiadeals at the global level. Prepare a pie-chart of any five commodities ofyour choice from the given data. You can also go through annual report2016-2017 of the Ministry of Commerce and choose commodities otherthan those given in the Table.

4. Growth rate in Exports and Imports

S. Commodity Year Export % Share Import % Share

No. (US $) (US $)

Plantation

Agricultureand AlliedProducts

Ores andMinerals

15031563895

301472452213420

241020151412

.58

8.64

.91

1034895524

190042067312189

269182068412941

0.25

5.84

5.08

1.

2.

3.

Table 4

Year

Export Growth % Import Growth %

2006-2007 25.28 27.27

2007-2008 14.71 20.44

2008-2009 28.19 35.77

2009-2010 0.57 (0.78)

2010-2011 34.47 23.45

2011-2012 28.94 39.32

2012-2013 11.48 13.8

2013-2014 16.58 1.73

2014-2015 (0.45) 0.8

2015-2016(P) (6.49) (9.02)

2016-2017 (P) till October 4.17 (6.99)

Annual report, 2016-17, Ministry of Commerce

Table 5

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017 (P)(April-October,2017)

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Leather andLeatherManufactures

Gems andJewellery

Chemicalsand RelatedProducts

Plastic andRubber

ElectronicItems

Textile andAlliedProducts

PetroleumCrude andProducts

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017 (P)(April-October,2017)

2014-20152015-20162016-2017(P)(April-October,2017)

2.03

17.02

12.06

2.32

2.10

12.61

11.32

10931031606

623515650933845

317313216918740

661564163682

600956903270

371413595319594

567943058319597

0.28

12.80

12.06

2.37

2.10

12.61

11.32

619555543158

412663928326458

3173132169

18740.56

661564163683

600956903270

371413595319593

567943058319597

4.

5.

6.

7.

8.

9.

10.

II Recall Section I of Chapter 1. Discuss in the class the position of exportsand imports in ancient times and compare the status of internationaltrade in today’s scenario.

III Discuss the benefits of “Make in India” scheme of Government of Indiain the promotion of internal and external trade of India.

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309

Form language English HindiRefer the instruction kit for filing the form.

1.* Application for :Incorporating a new company (Part A, B, C)Changing the name of an existing company (Part B, C, D)

Part A: Reservation of name for incorporation of a new company

2. Details of applicant (In case the applicant has been allotted DIN, then it is mandatory toenter such DIN)(a) Director identification number (DIN) or Income tax Pre-fill

permanent account number (PAN) or passport number Verify Details

(b) *First Name

Middle Name

*Surname

(c) *Occupation Type Self-employed Professional Homemaker Student Serviceman

(d) Address *LINE I

LINE II

(e) *City

(f) *State/Union Territory

(g) *Pin Code

(h) ISO Country code

(i) Country

(j) e-mail ID

(k) Phone (with STD/ISD code) —

(l) Mobile (with country code) —

(m) Fax —

3. (a) *Type of company Section 8 company Part I company (Chapter XXI) Producer company New company (others)

(d) *State the sub-category of proposed company

Public Private Private (One Person Company)

(b) *State class of the proposed company

(c) *State the category of proposed company

4. *Name of the State/Union territory in which the proposed company is to be registered

FORM NO. INC-1(Pursuant to section 4(4) of the CompaniesAct, 2013 and pursuant to rule 8 & 9 ofthe Companies(Incorporation) Rules, 2014)

Application forreservation of Name

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310

5. *Name of the office of the Registrar of Companies in which the proposed company is to beregistered

6. Details of promoter(s) (In case the promoter(s) has been allotted DIN, then it is mandatory toenter such DIN)

* Enter the number of promoter(s)

*Category

DIN or Income-tax PAN or passport number or corporate

identification number (CIN) or foreign company registration Pre-fill

Number (FCRN) or any other registration number*Name

7. *Objects of the proposed Company to be included in its MoA

8. *Particulars of proposed director(s)(Specify information of one director in case the proposed company is One Person Company orof two directors in case the proposed company is a private company (other than producercompany) or of three directors in case the proposed company is a public company or of fivedirectors in case the proposed company is a producer company)

*Director Identification Number (DIN) Pre-fillName

Father’s Name

Nationality Date of birth (DD/MM/YY)

Income tax permanent account number (PAN)

Passport number Voter identity card number

Aadhaar number Present residential address

9 *Whether the Promoters are carrying on any Partnership firm, sole proprietary or unregisteredentity in the name as applied for

Yes No(If yes, attach NOC from all owners/partners of such entity for use of such name)

Part B. Particulars about the proposed name(s)

10. *Number of proposed names for the company(Please give maximum six names in order of preference)

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311

I. Proposed name

Significance of key or coined word in theproposed name

State the name of the vernacularlanguage(s) if used in the proposed name

11. *Whether the proposed name is in resemblance with any class of Trade MarksRules, 2002

Yes No

If yes, Please specify the Class(s) of trade mark 12. *Whether the proposed name(s) is/are based on a registered trade mark or is

subject matter of an application pending for registration under the Trade Marks Act. Yes No

If yes, furnish particulars of trade mark or application and the approval of the applicant orowner of the trademark

13. In case the name is similar to any existing company or to the foreign holding company,specify name of such company and also attach copy of the No Objection Certificate by way ofboard resolution (Duly attested by a director of that company)(a) Whether the name is similar to holding Company

Existing Company Foreign holding company

(b) In case of existing Company, provide CIN Pre-fill(c) Name of the Company

14. (a) Whether the proposed name includes the words such as Insurance, Bank, Stock exchange,Venture Capital, Asset Management, Nidhi, or Mutual Fund etc. Yes No

If Yes, whether the in-principle approval is received from

specify other Yes No(If yes, attach the approval or if No, attach the approval at the time of filing the incorporation form(b) *Whether the proposed name including the phrase ‘Electoral trust’ Yes No[If Yes, attach the affidavit as per rule 8(2)(b)(vi)]

Part C. Names requiring Central Government approval

15. *State whether the proposed name(s) contain such word or expression for which the previousapproval of Central Government is required Yes No(If Yes, this form shall be treated as an application to the Central Govt., for such approvaland shall be dealt with accordingly)

Part D. Reservation of name for change of Name by an Existing Company

16. (a) *CIN of Company Pre-fill

(b) Global Location Number (GLN) of Company

17. (a) Name of Company (b) Address of the registered office of the Company

(c) Email ID of the Company18. (a) * State whether the change of name is due to direction received from the Central

Government.

Yes No

(If yes, please attach a copy of such directions)

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(b) * Whether the proposed name is in accordance with the rule 8(8) and specific directionof the Tribunal is attached.

Yes No[If ‘Yes’ selected,attach order of tribunal as required in Rule 8(8)]

19. (a) Whether the change in name requires change in object of the company

Yes No

(b) Reasons for change in name (in case of yes above, mention proposed object of the company)

Attachments(12) Optional attachment, if any. Attach List of attachments

Remove attachment

Declaration

*I have gone through the provisions of The Companies Act, 2013, the rules thereunder and

prescribed guidelines framed thereunder in respect of reservation of name, understood themeaning thereof and the proposed name(s) is/are in conformity thereof.

*I have used the search facilities available on the portal of the Ministry of Corporate Affairs

(MCA) for checking the resemblance of the proposed name(s) with the companies and LimitedLiability partnerships (LLPs) respectively already registered or the names already approved. Ihave also used the search facility for checking the resemblances of the proposed name(s) withregistered trademarks and trade mark subject of an application under The Trade Marks Act,1999 and other relevant search for checking the resemblance of the proposed name(s) tosatisfy myself with the compliance of the provisions of the Act for resemblance of name andRules thereof.

*The proposed name(s) is/are not in violation of the provisions of Emblems and Names (Prevention

of Improper Use) Act, 1950 as amended from time to time.

*The proposed name is not offensive to any section of people, e.g., proposed name does not

contain profanity or words or phrases that are generally considered a slur against an ethnicgroup, religion, gender or heredity.

*The proposed name(s) is not such that its use by the company will constitute an offence under

any law for the time being in force.

*To the best of my knowledge and belief, the information given in this application and its attachments

thereto is correct and complete, and nothing relevant to this form has been suppressed.

*I undertake to be fully responsible for the consequences in case the name is subsequently

found to be in contravention of the provisions of section 4(2) and section 4(4) of the CompaniesAct, 2013 and rules thereto and I have also gone through and understood the provisions ofsection 4(5) (ii) (a) and (b) of the Companies Act, 2013 and rules thereunder and fully declaremyself responsible for the consequences thereof.

To be digitally signed by

*Designation

*DIN or Income-tax PAN or passport number of the applicant or Director identification number of the director; or PAN of the manager or CEO or CFO; or Membershipnumber of the Company SecretaryNote: Attention is drawn to the provisions of Section 7(5) and 7(6) which, inter-alia, providesthat furnishing of any false or incorrect particulars of any information or suppression of anymaterial information shall attract punishment for fraud under Section 447. Attention is alsodrawn to provisions of Section 448 and 449 which provide for punishment for false statementand punishment for false evidence respectively.

Modify Check Form Prescrutiny Submit

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NOTES

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NOTES

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