Theme 8: Competition, Organisations and sectors » Business Types, Scope and Size

Organisations can be described as groups or structures set up with the purpose of achieving certain goals or objectives. The modern business world features different types of organisations, each set up to serve a unique purpose and to meet the various needs of the societies within which they operate. The most common way of distinguishing between organisations is to look at their goals and purpose. Some organisations operate for generating profit, whilst others may operate to promote a social cause or to further the wellbeing of society. Based on this, it is possible to differentiate between for profit organisations, not for organisations and non-governmental organisations (NGOs).

For Profit Organisations

Any business, corporation or organisation that has been set up with the primary purpose of generating profits can be described as a for profit organisation. These organisations usually operate in the private sector, which means that they are owned by individuals or group entities and not by the state or government and are referred to as businesses. However, this does not mean that these organisations are not regulated by the state. They are subject to the legal and financial framework set out by relevant state authorities. The revenue generated by these organisations is usually reinvested into the business to ensure its sustenance and the remaining profits are distributed amongst the business investors and/or shareholders, depending upon the legal structure of the organisation. Their operations can be based in multiple sectors including fashion, technology, food and retail.

Not for Profit Organisations

Not for profit organisations are those organisations which are set up for a purpose other than that of financial gain. These organisations can be differentiated from for profit organisations on the basis that their primary motive is not to generate private profits for business owners but rather to work for public benefit. The organisations that fall under the not for profit category can include charities and social enterprises. Although some of these organisations might undertake business activities, the sums generated from these activities are used to further the cause they advocate, and their profits are never distributed amongst their members. Not for profit organisations are usually always tax exempt and generate their funding through donations, sponsorships and other similar investments. They usually operate in the religious, scientific or educational sectors.

Non-Government Organisations

Non-government organisations, most commonly referred to as NGOs, are non-profit organisations that operate independently from the state or government. Although they may still receive state funding, NGOs operate without representation from the government. The World Bank has identified two different groups of NGOs: operational NGOs and advocacy NGOs. Operational NGOs usually work towards the designing and implementation of development-based projects; whereas advocacy NGOs work towards promoting a specific cause. Different types of NGOs may exist within each group. The most common types of NGOs include: INGOs (international NGOs), BINGOs (business friendly international NGOs), ENGOs (environmental NGOs) and QUANGOs (quasi-autonomous NGOs). Like most non-profit organisations, NGOs are also reliant on external funding that comes through donations, membership dues and grants etc.

Business Enterprises

As outlined earlier, not all organisations operate to make a profit. However, businesses (or enterprises) that are set up with the primary motive of profit generation do not necessarily need to be large multinational corporations with a huge workforce. They can be micro, small, medium or large. The distinguishing factors between these types of businesses are the number of employees, the number of owners and/or shareholders, their market share (i.e. their proportion of the total market sales in the relevant sector) and their legal status.

There is an additional category of businesses referred to as small to medium-sized enterprises (SMEs). Over 95% of the business in the European Union are classified as SMEs. According to the European Commission, ‘the category of micro, small and medium-sized enterprises (SMEs) is made up of enterprises which employ fewer than 250 persons and which have an annual turnover not exceeding EUR 50 million, and/or an annual balance sheet total not exceeding EUR 43 million.’

The main determining factors for SMEs are staff headcount and turnover. For micro-sized enterprises, the staff headcount is less than 10 employees with a turnover of less than EUR 2 million. For small enterprises, the staff headcount is less than 50 employees with a turnover of less than EUR 10 million and for medium-sized enterprises, the staff count is less than 250 employees and a turnover of less than EUR 50 million. Based on eligibility, SMEs can apply for funding and support that might not be otherwise available to larger businesses. These figures are specific to the European Union and other countries may have higher or lower thresholds for distinguishing between enterprises.

Each enterprise must decide on their legal structure as this will have wide ranging implications on how the business operates, how it raises finances and how it distributes profits. There are many different types of legal structures that a business can adopt, but the ones most common to SMEs are sole proprietorship, partnerships and private limited companies.

Sole Proprietorship

A sole proprietorship (also referred to as sole trader) is a legal set up where the business is owned and controlled by a single person. The business owner is not legally separate from the business and therefore, is personally liable for all aspects of the business, including finances. Any profits generated are the business owner’s to keep but similarly, all debts owed by the business are also the business owner’s personal liability. Because there is no legal distinction between the owner and the business entity; the owner has personal and unlimited accountability for any losses and debts incurred by the business and may have to settle these using his/her own personal finances or assets. Sole traders can employ workers, but ultimately, the final responsibility remains with the owner.

Sole proprietorships are easy to set up and generally only require a small influx of initial investment. It is common for SMEs to assume a sole proprietorship status during the initial period of their operations. Business overheads are usually minimal due to the small size of the enterprise, but if the business is unable to make a profit and keeps accruing debt, the owner is exclusively liable for any outstanding debts.

Partnerships

Partnerships are business enterprises owned by two or more parties. The relationship between the parties is governed by a deed of partnership that defines the scope and structure of the partnership. The deed of partnership will also specify the responsibilities of the partners, how the profits are to be distributed, investment obligations of each partner and the sharing of losses. Like sole proprietorships, partnerships also have unlimited liability which means that the partners are personally liable for the debts of the business. The deed of partnership will specify the personal obligations of each partner towards the debts.

Some small enterprises that start as sole proprietorships might decide to take on a partnership structure as they expand. The advantage of this is the sharing of responsibility between partners – something that cannot be done in a sole proprietorship.

It is important to point of that not all partnerships have unlimited liability. Limited liability partnerships (LLPs) are now becoming increasingly common. These are partnerships in which the partners have limited liability in that one partner is not responsible for the others’ negligence. Limited partners may then forego their right to be involved in certain aspects of decision making in return for their limited liability towards the debts of the business. LLPs are commonly adopted by law firms, doctors and similar ventures based on the professions.

Limited Companies

Limited companies are incorporated which means they are separate legal entities and have their own legal status; hence they are distinct from their owners. In the UK, limited companies are incorporated as a ‘legal person’ at Companies House where they are allocated a unique company number. When companies are incorporated, they must have a constitution that will help the shareholders and directors regulate their relationship. Because it is distinct legal entity on its own, a company can own assets in its own name, enter into contracts, sue or be sued. The owners are protected by limited liability i.e. they are only responsible for business debts valuing at the sum of their initial investment into the company. Companies can either be limited by shares or by guarantee. Companies that are limited by shares are owned by shareholders, whose financial responsibility is limited to the amount and value of the shares they hold. Companies that are limited by guarantee are owned by people called ‘guarantors’ whose liability is limited to a fixed sum called ‘guarantee’ which must be paid if the company cannot pay its debts. For profit businesses are usually set up under the limited by shares structure whereas non-profit businesses are usually limited by guarantee. There are two main types of limited companies: private and public.

Private Limited Companies

Private limited companies are often small privately held business entities whose liability is limited by shares. Because the business is small and privately held, the business is limited to having a small number of shareholders (for e.g. 50 shareholders in the UK). Moreover, the shares cannot be publicly traded which means that private limited companies cannot list their shares on the stock exchange. In the UK, there is no minimum capital requirement to set up private limited companies apart from having at least one share issued at the time of incorporation. Many SMEs operate under a private limited company status as it allows them to seek protection from personal liability and reduce personal risk whilst allowing them to raise funds through sale of shares.

Public Limited Companies

Public limited companies (PLC) are limited liability companies that can sell and trade their shares freely on the stock exchange. Unlike private limited companies, PLCs are subject to a minimum capital requirement (for e.g. £50,000.00 in the UK). They must also appoint two directors and a company secretary and must also file their annual returns every 12 months. In the UK, a PLC cannot trade its shares without a trading certificate from Companies House and must include ‘PLC’ to their name. PLCs can have several different types of shares including ordinary shares (which have no special rights or restrictions), preference shares (right to preferential payment on annual dividends) and redeemable shares (allowing the company to buy back the shares after a certain period). The key advantage of setting up a PLC is the ability to raise finance through sale of shares to the public. However, the cost of setting up a PLC is not always affordable to smaller businesses which might struggle to raise finances elsewhere.