If there was a prize for the most boring part of any business course, this would win every time! BUSS1 is no different!

Transcription

1 Choosing a Legal Structure Introduction If there was a prize for the most boring part of any business course, this would win every time! BUSS1 is no different! However, for a start-up, making the right choice of business structure is actually quite important. The choice made has significant implications for what happens if the business fails and also for how much finance the business can raise. So it is worth concentrating reasonably hard on these notes boring though the topic is! The term business structure refers to the legal structure a business takes. The entrepreneur can basically choose from these options: (these are covered in a little more detail in the other study notes in this section) Structure Definition & overview Sole trader The most common type of business structure. A sole trader is just an individual owning the business on their own. Remember that a sole trader can also employ people buy those employees don t share in the ownership of the business. The sole trader owns all the business assets personally and is personally responsible for the business debts. A sole trader has unlimited liability (see below).

2 Ordinary partnership Where a business is started and owner by more than one person. The legal Partnership Agreement sets out how the partnership is run, covering areas such as how profits are to be shared; what the partners have to invest into the business; how decisions are taken; what happens if a partner wants to leave or dies. The partners between them own all the business assets and owe all business liabilities. Partners, therefore, also have unlimited liability. Limited liability partnership ( LLP ) Fairly new form of partnership in which the partnership is treated as a separate legal entity with its own assets and liabilities. Like a company, the LLP is registered at Companies House must file accounts. The partners continue to control and own the business but the crucial different is that they are protected by limited liability. Limited company Limited companies differ from sole traders and ordinary partnerships in that they are separate legal entities to the founders. A legal entity can own things itself (assets), can sue and be sued. Companies are owned by their shareholders and run by directors. The shareholders appoint the directors (who in most cases are one and the same people!) who must then run the company in the interests of the shareholders. Now this is the important bit. Shareholders own a share of the company, but they do not own the assets of the company and they are not liable for the debts of the company. It is the company that is responsible for owning assets and paying debts. If the company becomes insolvent (i.e. it cannot pay its debts), then the company is closed. The shareholders are not liable for any debts owed by the company that cannot be settled. That is the importance of unlimited liability. By far the most common form of limited company is a private limited company. Private, in this case, means that the shares of the company are not traded publicly on a stock exchange. By contrast, a public limited company ( plc after its name) tends to have a larger value of share capital invested and its shares may be traded publicly. Don t worry too much about plc s they are very rare in the case of start-ups and small businesses which is what you concentrate on in BUSS1. Comparing the different structures Given the range of business structures available, which one is best for a start-up? The answer is (as always) it depends. The important thing is that an entrepreneur gets professional advice about the most relevant structure for their needs. Here is a summary of the main advantages and disadvantages of the three main alternative business structures:

3 Advantages Disadvantages Sole trader Quick & easy to set up the business can always be transferred to a limited company once launched Simple to run owner has complete control over decisionmaking Minimal paperwork Full personal liability unlimited liability Harder to raise finance sole traders often have limited funds of their own and security against which to raise loans The business is the owner the business suffers if the owner becomes ill, loses interest etc Pay more tax than a company Ordinary partnership Quite simple certainly the simplest way for two or more people to form a business together Minimal paperwork once Partnership agreement set up Business benefits from the expertise and efforts of more than one owner Partners can provide specialist skills Greater potential to raise finance partners each provide the investment Full personal liability unlimited liability A poor decision by one partner damages the interests of the other partners Harder to raise finance than a company Partners are bound to honour decisions of others Limited company Limited liability protects the personal wealth of the shareholders Easier to raise finance both through the sale of shares and also easier to raise debt Stable form of structure business continues to exist even when shareholders change Can pay less tax Greater admin costs Public disclosure of company information Directors legal duties Social enterprises One kind of business structure that has grown rapidly in the UK in recent years is the social enterprise. Social enterprises are the most common form of not-for-profit enterprises.

4 The clue in the phrase not-for-profit tells you much about the aims and objectives of social enterprises. It is important to appreciate that a social enterprise is not a charity. Social enterprises are defined as: Businesses with primarily social objectives whose surpluses are principally reinvested for that purpose in the business or community, rather than being driven by the need to maximise profit for shareholders and owners. In other words, a social enterprise is a proper business that makes its money in a socially responsible way. These ventures are not necessarily formed to reinvest all profits into the communities. Social entrepreneurs can make a good profit themselves. However, their business model is also designed to benefit others. Social enterprises complete alongside other businesses in the same marketplace, but use business principles to achieve social aims. A few things all social enterprises have in common are: They are directly involved in producing goods or providing services They have social aims and ethical values They are self-sustaining, and do not rely on donations to survive (i.e. they are not charities) Well known examples of social enterprises include Divine Chocolate, the Eden Project and fairtrade coffee company Cafedirect. Recent government data suggests that there are more than 55,000 social enterprises in the UK with a combined turnover of 27bn. Social enterprises account for 5% of all businesses with employees, and contribute 8.4billion per year to the UK economy. Exam tips Getting the protection of limited liability is essential if the entrepreneur is investing significant capital into a start-up or if the business will have large debts. Remember that BUSS1 is about start-ups and small businesses. These businesses almost never become public limited companies in the first 5-10 years of trading, so don't bother spending much time learning about stock market flotations. Make sure you have a strong knowledge of the advantages and disadvantages of the various forms of business organisation.

5 Guided revision questions Revision questions for Choosing a Legal Structure (1) Define the term sole trader (2 marks) (2) Explain why there are so many sole trader businesses in the UK (4 marks) (3) List two advantages and two disadvantages of setting up in business as a partnership (4 marks) (4) Who owns a partnership? (2 marks) (5) Briefly outline the purpose of the partnership agreement (3 marks) (6) What is the difference between unlimited liability and limited liability (4 marks) (7) Do the members of a partnership enjoy limited liability? (2 marks) (8) Identify the main advantages of using a private limited company for a business start-up (6 marks) (9) Define the term shareholder (2 marks) (10) List three examples of not-for-profit businesses (3 marks) (11) Define the term social enterprise (2 marks)