RISE School of Accountancy (Islamabad & Rawalpindi) Business (PRC-03) Notes

Chapter 2: Ownership of Business

Organization
An Organization is a tool to arrange individual or combined resources for a particular purpose in an efficient
and effective manner.

Business organization
 A business organization is an entity formed for the purpose of carrying on required activities to achieve
its goals and objectives.
 The process of dividing up activities in an efficient and effective manner to enable a system of co-
operative activities of two or more persons

Factors affecting Organization

 Organizations are strongly influenced by the people that form them.
 Their personalities, attitudes, perceptions, behaviors, and expectations significantly affect the
functioning of an organization

Distinguish Feature of an organization

a) Purpose
 Business organizations exist to make a profit.
 Public sector organizations exist to provide a benefit to the public
b) Ownership
 Companies are owned by their shareholders
 Public sector organizations are owned by the government
 Co-operatives are owned by the members
c) Funding
 Business organizations obtain the funds from a mixture of reinvesting profits in the business, issuing
new shares and borrowing from the lenders.
 Charities rely on a mixture of government grants and private donations for the funds they need.
 Public sector organizations obtain their funds from the government, which in turn raises through the
taxation.
d) Accountability
 The management of an organization is accountable to its owners
 The directors of a company are accountable to the shareholders performance of the company. This is the
main reason why companies produce their annual report and accounts.

1. Business Organizations: This type of organization engages in commercial activities, with the purpose of
making a profit.
a. Sole Proprietorships
 A sole proprietor is an individual who owns and operates his or her own business, but might employ a
small number of people.

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RISE School of Accountancy (Islamabad & Rawalpindi) Business (PRC-03) Notes

 There are no legal formalities needed to set up as a sole proprietor.

 Any profit made after tax belongs to the owner
 The owner is in complete control and is free to make decisions.
 The independence is one of the key attractions of running a business as a sole proprietor.
Typical examples of sole proprietorships include a local restaurant, a local construction firm, a barber shop, a
laundry service, and a local clothing store.
Sole proprietors must be willing to accept full responsibility for the business’s performance. The pressure of
this responsibility can be much greater than any employee’s responsibility. Sole proprietors must also be willing
to work flexible hours. They are on call at all times and may even have to substitute for a sick employee. Their
responsibility for the success of the business encourages them to continually monitor business operations. They
must exhibit strong leadership skills, be well organized, and communicate well with employees.
Many successful sole proprietors had previous work experience in the market in which they are competing,
perhaps as an employee in a competitor’s firm. Prior experience is critical to understanding the competition and
the behavior of customers in a particular market.

b. Partnership
 A partnership exists when the ownership of a business is shared by at least two people.
 In most cases, the maximum number of partners is 20, although there are some exceptions, e.g.
accountants and solicitors.
 A business that is co-owned by two or more people is referred to as a partnership. The co-owners of the
business are called partners and they collectively form the ‘firm’.
 The parties agree, either orally or ideally in writing, to share in the profits and losses of a joint
enterprise.
 A written partnership agreement, spelling out the terms and conditions of the partnership, is
recommended to prevent later conflicts between the partners.
 Such agreements typically include the name of the partnership, its purpose, and the contributions of each
partner (financial, asset, skill/talent, etc.). It also outlines the responsibilities and duties of each partner
and their compensation structure (salary, profit and loss sharing, etc.).
 It should contain provisions for the addition of new partners, the sale of partnership interests, and
procedures for resolving conflicts, dissolving the business, and distributing the assets.
Types of partnership
a) General partnership
 A general partnership involves a complete sharing in the management of a business.
 In a general partnership, each partner has unlimited liability for the debts of the business.
b) Limited partnership.
 A limited partnership has at least one general partner, who assumes unlimited liability
 And at least one limited partner, whose liability is limited to his or her investment in the business.
 Limited partnerships exist for risky investment projects where the chance of loss is great.
 Limited partners do not participate in the management of the business but share in the profits usually the
general partner receives a larger share of the profits after the limited partners have received their initial
investment back.
 Popular examples are oil-drilling partnerships and real estate partnerships.
c) Limited liability partnerships (LLP) Partners are not held responsible for the business debt and liabilities.

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RISE School of Accountancy (Islamabad & Rawalpindi) Business (PRC-03) Notes

c. Limited Companies or Corporations

 The main feature of a limited company is that it has a separate legal identity
 All owners of a company have limited liability.
 If the company collapses, they cannot be forced to use personal funds to pay off debts.
 They only lose the amount that they originally invested in the company.
 A company, also known as a corporation, is a legal entity, created under the government regulations,
whose assets and liabilities are separate from its owners.
 As a legal entity, a corporation has many of the rights, duties, and powers of a person, such as the right
to receive, own, and transfer property. Corporations can enter into contracts with individuals or with
other legal entities, and they can sue and be sued in court of law.
 People become owners of a company by purchasing shares of stock.
 As a limited company has a separate legal identity, all owners have limited liability. If the company
collapses, they cannot be forced to use personal funds to pay off business debts. They only lose the
amount that they originally invested in the company.

Types of Companies
 Many small companies are privately held, meaning that ownership is restricted to a small group of
investors, and are called private limited companies.
 Most large corporations are publicly held, meaning that shares can be easily purchased or sold by
investors. These companies are called public limited companies. Stockholders of publicly held
companies can sell their shares of stock when they need money

Initial public offering

A private limited company that needs more money to expand or to take advantage of opportunities may have to
obtain financing by “going public” through an initial public offering (IPO), that is, becoming a public limited
company by selling stock so that it can be traded in public markets.
Publicly held companies can obtain additional funds by issuing new common stock. This means that either their
existing stockholders can purchase more stock, or other investors can become stockholders by purchasing the
company’s stock. By issuing new stock, companies may obtain whatever funds are needed to support any
business expansion.

Structure of a company / corporation

 A company is created or incorporated through a charter or article of incorporation.
 The organizational structure has three key components: stockholders, directors, and management.

Stockholders (or shareholders)

 Are the owners of a corporation,
 They may receive a portion of the corporation’s profits in the form of dividends,
 They can sell or transfer their ownership in the corporation.
 Stockholders can attend annual meetings, elect the board of directors, and vote on matters that affect the
corporation in accordance with its charter and bylaws.
 Each share of stock generally carries one vote.

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RISE School of Accountancy (Islamabad & Rawalpindi) Business (PRC-03) Notes

Board of directors
 The stockholders elect a board of directors to govern and handle the overall management of the
corporation.
 The directors set major corporate goals and policies, hire corporate officers, and oversee the firm’s
operations and finances.
 Small firms may have as few as 3 directors, whereas large corporations usually have 10 to 15 directors.
 The boards of large corporations typically include both corporate executives and outside directors (not
employed by the organization) chosen for their professional and personal expertise. Outside directors
often bring a fresh view to the corporation’s activities because they are independent of the company.
Management
 Hired by the board, the executives/officers of a corporation are its top management and include the
president and chief executive officer (CEO), chief financial officer (CFO), vice presidents, treasurer, and
secretary, who are responsible for achieving corporate goals and policies.
 Officers may also be board members and stockholders.

Advantages and Disadvantages of Major Types of Business Organization

Sole Proprietorship Partnership Corporation
Advantages:
Ease and low cost of formation Ease of formation with relatively Limited liability of owners
low organizational cost
Secrecy Higher ability to raise funds due to Ease of transferring ownership
more owners
Distribution and use of profits solely by Combined knowledge and Unlimited life - continuity due
owner managerial skills to lack of owner dependency
Greater flexibility and direct control Flexibility of decision making Tax benefits and deuctions
Ease of government regulations Ease of regulatory control Ability to attract funds allows
growth
Lower taxation Business income taxed as personal Ability to attract employees
income of each partner with specialized skills
Ease of dissolution
Disadvantages:
Unlimited liability of owner for all Unlimited liability of owners for Higher cost and complexity of
business losses and liabilities sharing of business losses and formation
liabilities
Difficulty in raising funds inhibit Complexity of profit and loss Double taxation of corporate
growth sharing profits and dividend
Limited skills and management Difficulty in exiting or dissolution Higher regulatory control
expertise
Lack of continuity Potential for conflicts among
partners
Difficulty in finding qualified Limitation of growth
employees due to limited long-term
opportunities

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RISE School of Accountancy (Islamabad & Rawalpindi) Business (PRC-03) Notes

2. Not-for-profit organizations
These type of organizations do not seek to make a profit, although they must operate within the limits of the
funding and financial resources that is available to them.
Types of NPOs
a) Public sector organizations: These are government organizations that are funded by the government to
achieve social indicators of the country.
b) Non-government organizations: These are not-for-profit organizations that are partly or wholly funded
from non-government source
c) Clubs and societies:
 These non-profit making organizations, e.g. sports and social clubs, exist because their members are
drawn together by a common interest.
 The assets of clubs and societies are the property of the members and most income comes from
member’s subscriptions.
 Clubs and societies produce income and expenditure accounts, rather than profit and loss accounts
which show either a surplus or deficit of income over expenditure, as they do not aim to make a profit.
a) Cooperatives:
 These are association of persons, usually of limited means, who voluntarily come together to achieve a
common economic end through the formation of a controlled business organization making equitable
contributions to raise capital and accepting a fair share of risks and benefits.
 A cooperative is not formed with profit as the guiding objective but to render services to society and its
members

Laws Governing Business Organisations

Companies law
In Pakistan, if a business set-up intends to form a public or private company, it is required to complete the
requirements for incorporation, management, operations and winding up of companies, provided in the
Companies Act, 2017 (the Act), issued by the Securities and Exchange Commission of Pakistan (SECP). In
addition to this principal law, there are other corporate laws and regulation that are applicable on companies.
The Act regulates companies for protecting interests of shareholders, creditors, other stakeholders and general
public and inculcate principles of good governance.
Companies are required to comply with the requirements of the Act, for which they will be required to incur
certain cost, with respect to incorporation, human resources, audit of financial statements, holding of annual
general meetings, record keeping etc. The companies which do non-compliance with the requirements of the
Act will be subject to penalties imposed for the relevant offence. For a business manager, the cost of having a
company and risk of non-compliance must be in sight.
Partnership law
The law relating to partnership businesses in Pakistan is the Partnership Act, 1932. The Partnership Act includes
the procedure of registration and dissolution of a firms, rights and duties of partners etc.
In comparison to companies, partnership firms have ease of doing business as the requirements applicable on
companies for annual filing of returns, audit of financial statements, holding of annual general meeting etc are
not applicable on partnership firms. However, doing business as partnership requires understanding of partner’s
rights and duties of partners.

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