8 STARTING A SMALL BUSINESS

What is a business?

A business entity is variously referred to as a venture, an enterprise, a firm, an organization or a

business enterprise.

Small business has constituted the backbone of some economies and has remained the vital link

between various levels of economic activity in some. Many of the flourishing and growing

businesses started in a small way.

Small businesses defy definition as a concrete concept. Typically one would refer to a small

business when talking about one man business managed by the owners utilizing mainly family

labour and one or two employees. In many countries of the developing world, these fall under the

category of informal sector where most of the businesses are registered. In some countries, this

category although consisting of registered businesses, comprises mainly small corner shops and

services, facilities employing one to or ten employees.

Procedure of Starting a Small Enterprise

Having an idea, even an innovative one, does not mean a business has created, nor does it mean

that an entrepreneurial event is about to happen. It is the recognition of potential customer, their

needs and ability to take up the idea and translate it into business. This brief discussion of a

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business plan will give the indication of the process or procedure of going into business although

it is by means exhaustive; it introduces the concept of preparation process. More importantly it

stresses the fact that it is not a simple process of having an innovative idea. The business process

or procedure therefore involves;

a) History and position of the business (what is the business idea). This is an attempt by the

entrepreneur to state the business idea and the context within which it will be developed. It
will involve describing the intended business objective and its environment.

b) Market research: - This is an attempt to find out whether the idea has a potential clientele. It

allows the proposer to modify the business idea according to the potential market .Many

busies people ignore this procedure assuming that having a good innovative idea is enough

for the business success. Many times they find out that the potential market is not as large as

first though, or their interpretation of customer’s needs is a little family.

c) Competitive business strategy: - In this stage business plan of action is developed to reach

the larger clients for optimum satisfaction. The entrepreneur therefore has to understand the

nature of the environment he/she is dealing with, including competition in order to device

more effective ways of reaching the customer.

The competitive business strategy includes a statement of the business mission and objectives; a

description of the marketing mix to be used; the nature of the market place (demands, trends and

pattern); competition; the political, social, economic, legal and technical environment; specific

business objectives.

d) The operation plan: - Operation refers to all activities required to implement a strategy.

This usually involves the day to day process of administration of the different components of

the plan. This will include sourcing, production, selling, contacting, recruitment and

monitoring and evaluation of various activities.

e) Forecasting results: - Projected results are both a guide and incentive in business

management. It has been said that, if we do not know where we are going, we will never

know how to get there and indeed when to get there. Many small businesses do not forecasts

most commonly required are sales, revenue forecast, and also a statement of expected cash

flows.

f) Business control: - This involves the periodic internal monitoring and evaluation of the

business performance. Based on the objectives and forecast as targets, the strategy is
evaluated according to its ability to deliver results. Again the various components of the

strategy should also be evaluated separately although the overall performance measures like

revenue increase in market share cost saving, customers satisfaction, increase in assets or

increase in employment are most useful to the entrepreneur.

Factors to Consider When Starting a Business

1. Capital: - Entrepreneurs have to invest in certain amount of personal money for the start of

their business. He should know the sources of his capital.

2. Business opportunity: - an entrepreneur should not start a business similar to existing ones

without determining whether the market can accommodate all of them.

3. Entrepreneurial skills and knowledge: - An entrepreneur should know his competencies,

attitudes and skills that will benefit his business. Managerial skills are important since they

will enable him to:-

a. Implement the business policies

b. Identify and deal with problems that can interfere with business

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c. Conduct business appraisal and compile the necessary report

d. Ensure and control quality and quantity in performance for productivity in business

4. The competitors: - a person wishing to start a small business should know his/her

competitors and the quality of products, so that he can make his products even better.

5. Economic environment: / when the economy is declining progressively then the demand for

goods and services also tends to decline. The entrepreneur needs to study the economic

environment before venturing into business.

6. Legal requirements: - an entrepreneur should know the legal requirements of starting his
enterprise. The legal requirement may prohibit or restrict the consumption of a certain

commodity. The entrepreneur has therefore to choose wisely the business to engage in.

7. Political environment: - the political environment scene changes. An entrepreneur should

consider whether his business will be able to operate within the changing political

environment. E.g. increased corruption and official harassment may force his business

enterprise to close down once established.

8. Machinery and equipment: - this will be determined with the nature of the business

activity. If the entrepreneur engage in a production business the knowledge on how to use the

equipment is necessary.

9. Business premises: - The location of the business is a key factor to consider. The following

are the factors one should bear in mind when selecting a business site.

a) Transport facilities

b) Availability of energy or power

c) Nearness to raw materials

d) Expansion ability in future

e) Availability of auxiliary services i.e. banking

Challenges Faced When Starting a Small Enterprise

a. Too many competitors out prices in the market and the new entrepreneur finds it difficult to

establish.

b. Raw materials and other inputs are expensive

c. In a male dominated society, women entrepreneurs finds it difficult to cope up with pressure

and tensions of managing an enterprise

d. Financial challenges:- entrepreneurs suffer from finance shortage may be because their

access to external sources of funds are limited

e. Deficiency in managerial and technical skills needed for the operation of the enterprise
f. Poor infrastructure facilities including power is also a challenge

g. Lack of planning:- an entrepreneur should have a well- developed plan with clear objectives

prior to starting any venture

h. Government limitations:- the government tend to back the larger business enterprises making

the small enterprise entrepreneurs less attractive especially when it comes to bank lending’s

i. Environmental changes:- the economic, political, social and technical environmental are a

challenge to the entrepreneur

The Role of Small Business in Development

The small business has been associated with entrepreneurship for several reasons.

1. Most businesses start small. Small firms provide an opportunity for larger businesses to rise

up.

2. Small firm is a stepping stone in organic business growth in that, small firms act as a

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training ground for entrepreneurs as they experiment with ideas and techniques.

3. The small business offers the entrepreneur the opportunity to take moderate risk while

getting to know the product and factor market.

4. Small firms contribute to entrepreneurial activity due to the fact that they are associated

with increased competition first by their numbers in a given market and also by the intensity

of their activity.

5. Small firms contribute to national output through linkages with high volume large 3 firms

in subcontracting activities.

6. Small businesses contribute to employment creation.

7. In developing countries, the shortage of capital and labour surplus have meant that small
businesses are more feasible since they require lower levels of capital input.

8. Small businesses act as incubators for innovative ideas and the widespread diffusion of

technology within a society.

9. Small businesses reduces the dependency of developing countries on aid from the

developed countries

9 LEGAL FORMS OF BUSINESS ENTERPRISES

An entrepreneur needs to give serious thinking about what legal forms to choose for his / her

new enterprise. The form of ownership to be chosen depends upon the factors like one’s personal

capacity to take decisions, bear risks, economic soundness, education attainment etc. there are

various forms of business ownership. They include:-

Sole Proprietor/ Sole Trader

In a proprietorship, the enterprise is owned and controlled by one person. He is the master of his

show. He sows, reaps and harvests the output of this effort. He manages the business on his own.

If necessary, he may take the help of family members, relatives and employ some employees.

It is the simplest and easier to form. It does not require legal recognition and attendant

formalities.

Main features of a sole trader.

a) One man ownership:- only the man is the owner of the enterprise.

b) No separate business entity:- the business and the proprietor are one and the same

c) No separation between ownership and management:- the proprietor is the owner and the

manager.

d) Unlimited liabilities:- This means that the proprietor incurs all the liabilities on his own and

in case the business suffers a loss that it cannot pay its debts, then the proprietor will have

to pay from his private sources.

e) Less formalities:- A sole proprietor can be started without completing all the legal
formalities.

f) All the profits or losses to the proprietor:- being the sole owner, the proprietor enjoys all the

profits and suffers all the losses.

Advantages of a Sole Proprietor

1. They are easier and simpler to start and to dissolve

2. Decision making is fast because the sole trader makes the decision alone.

3. The sole trader enjoys all the profits own its his own.

4. The sole trader is in a better position to keep and secrets related to his business than any

other form of business.

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5. The sole trader is in a direct contact with customers and employees leading to better

relationship.

Disadvantages

1. I n case the business is in a loss and the assets of the business cannot pay the business debts

the sole trader pay from his own private means. This is called unlimited liability.

2. He bears all the losses on his own.

3. Sole traders are always unable to raise sufficient capital funds:- they have to rely on their

own ability to raise money for their business.

4. Limited ability:- A sole trader may be an expert in one area or two areas but not in all areas

like production, finance, marketing etc.

5. Limited life of enterprise:- the life of the sole proprietor enterprise depends on the sole

trader and in case the sole trader dies, then the enterprise also collapses.

Partnership
A partnership is a relationship between two or more people jointly carrying out a business with

the objective of making profit. Each of the persons is called a partner and the business is referred

to as a firm. A partnership is a relationship and does not therefore mean the firm. In a partnership

a number of people work together and there is no separate identity of the partnership from the

individual partners.

Main features

a) More persons:- there should be at least two person subject to a maximum of ten persons for

banking business and twenty for non – banking business to form a partnership firm.

b) Profit and loss sharing:- the partners share all the profits earned and losses incurred in

partnership business.

c) Contractual relationship:- partnership is formed by a partnership agreement oral or written

among the partners.

d) Existence of lawful business:- partnership is formed to carry on some lawful business and

share its profits or losses. If the purpose is to carry some charitable work, for example, it is

not regarded as partnership.

e) Utmost good faith and honesty:- a partnership business solely rests on utmost good faith and

trust among the partners.

f) Unlimited liability:- this means that if the assets of the partnership firm fall short to meet the

firm’s obligations then, the partner’s private assets will also be used for the purpose.

g) Restriction on transfer of share:- no partner can transfer his share to any outside person

without seeking the consent of all other partners.

Types of Partners

a) General partner:- the general partner has unlimited liability for the firms debts.

b) Limited partner:- a limited partner has limited liability in the partnership.

c) Active partner:- this is a partner in normal partnership practice, sharing in every way the
capital contribution, management and profit and liabilities of the business. The may be given

a fixed area of responsibility e.g. sales. He is disclosed to the public as being a partner.

d) Silent partner:- this refers to a limited partner who does not participate actively in the

management of the organization. He is disclosed to the public as being a partner.

e) Nominal partner:- he is not one of the owners or actual partner of the firm but allows his

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name to be identified with the business. He does not contribute any capital nor take any part

in the management of the firm. He however, becomes liable for the firm’s obligations in an

unlimited basis. The nominal partner lends his name to be used by the business for a fee. The

business benefits because it uses the partner’s name for the promotional purpose. Such a

partner must, therefore be a well-known person who can enhance the firm’s prestige and

reputation.

f) Quasi partner:- this is one who is presented to the public as a partner although he contributes

no capital and does not participate in the management of the firm. He may share the profit

and liabilities of the firm.

g) Minor partner:-this is a person serving as a partner while he is under the statutory majority

age of eighteen years. Since he is a minor, his liability is limited to his capital but the

moment he reaches the statutory majority age, he will rank as an active partner with

unlimited liabilities.

The Partnership Deed

The partnership deed is a written agreement between partners which indicates their agreement to

form a partnership. The partnership agreement/deed must be duly signed by all the partners,

stamped and registered. Any alteration in the partnership deed can be made with the initial
consent of all the partners. The partnership deed generally contains the following;

1. Name and address of the business

2. Nature of the business

3. Names of partner; their addresses ad occupation

4. Location of the business, and commencing date.

5. Amount of capital to be contributed by each partner.

6. Profit sharing ratio between the partners.

7. Drawing allowable each year.

8. Loans and advances from the partners and the rate of interest there on.

9. Amount of salary and commission if any, payable to the partners.

10. Duties, powers and obligations of partners.

11. Maintenance of accounts and arrangement for audit

12. Admission, withdrawal and expulsion of partners.

13. Settlement of accounts in the ease of dissolution of the firm.

14. Arbitration in case of disputes among the partners.

15. Arrangements in case a partner becomes insolvent.

Advantages of Partnership

1. Easy formation:- a partnership is free from complicated legal requirements essentially what is

needed is the partnership agreement between the partners.

2. More capital available: partner can sometimes raise more capital than a sole trader, since

ownership rests in a group of two or more people who can contribute capital.

3. Broader management base:- each partner may have expertise in different functions of the

firm such as finance and sales. The partners can therefore, be called upon to be responsible

for those functions in which they are specialized. They may lead to increased performance

and profitability.
4. Ease of expansion:- expansion can be done very easily by increasing the size of the

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partnership, including addition of specialist’s skills.

5. Sharing of losses and liabilities:- are better spread to a number of persons thus reducing the

burden on any one person.

6. Duration: partnerships have longer duration than sole partnerships because death or

retirement of one partner cannot interrupt the operation of the firm.

Disadvantages

1. Unlimited liability:- the liability of general partners is unlimited. This means that if the asset

of the partnership are not sufficient to pay its debts the partners are obliged to pay the debts

from their own personal resources.

2. Difficulty in making decisions:- delays may occur when reaching decisions because all the

partners have to be consulted.

3. Lack of continuity:- a partnership has a limited and uncertain life. A partnership can be

terminated very easily especially if the partners disagree or if one partner dies of is

incapacitated.

4. Frozen investments: it is often difficult for a partner to withdraw his investment. The buying

out of a partner may be difficult unless specifically arranged for in the written agreement.

5. Limited access to capital:- partner’s have3 difficulties in obtaining large sums of capital

especially long term financing. This is serious problem especially if the firm intends to

finance major development projects.

Dissolutions of a Firm and Dissolution of the Partnership

There is a difference between the dissolution of partnership and dissolution of a firm. Dissolution
of partnerships occurs when a partner ceases to be associated with the business. Whereas

dissolution of firm in the winding up of the business in other words, in case of dissolution of

partnership, the business of the firm does not come to an end, but there is a new agreement

between the remaining partners. But in case of dissolution of firm, the business of the firm is

closed up. This means, dissolution of partnership does not imply the dissolution of the firm. But ,

dissolution of the firm implies dissolution of partnership also.

The following are ways in which a firm may be dissolved:

a) Dissolution by Agreement: the partnership firm may be dissolved in accordance with a

contract already made between partners.

b) Compulsory dissolution:- a company stand compulsory dissolved under the following

circumstances.

a. By the adjudication of all the partners of all the partners but one as insolvent.

b. By the happening of any such event that makes the business unlawful

c) Dissolution due to contingencies:- a firm stands dissolved on the happening of the any of

the following contingencies:-

a. On expiry of partnership period, if constituted for a fixed period.

b. On completion of the firms venture for which the firm was formed.

c. On the death of a partner.

d. On the adjudication of a partner as an insolvent

Dissolution by court:- under any of the following a court may order the dissolution of a firm:-

a. Any partner has become of unsound mind

b. Any partner has become permanently incapable of performing his duties as a partner.

c. A partner’s misconduct is likely to affect prejudicially the business of the firm.

d. A partner willfully braches the partnership agreement.

e. A partner transfers his interest in the firm, but unauthorized, to a third party.
f. The business of the firm can be carried on at a loss only.

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g. It is just and equitable, on the basis of any other reasonable ground, that the firm should be

dissolved.

Companies

A joint stock company is defined as a corporate associated of a number of people in some

common objective (s). the member of a joint stock company contribute capital is form a common

stock to carry on a business usually for profit.

A joint stock company, usually is a corporate body that is created under the law and has an entity

of its own, quite separate from its owners.

Main Features

1. Artificial legal person:- A company is an artificial person created by law through it has no

body, no conscience, still it exists as a person. It can enter in contracts in its own name and

likewise may sue or be sued in its own name.

2. Separate legal entity: - A company has a distinct entity separate from its members or

shareholders. Therefore a shareholder of the company can enter into contract with the

company. He / she can sue by the company.

3. Common seal: - Being an artificial person, a company cannot sign the documents. Hence is

uses a common seal on which its name is engraved.

4. Perpetual existence:- unlike partnership, the existence of a company is not affected by the

death, lunacy, insolvency or retirement of its members or directors. This is because the

company, enjoys a separate legal existence from that of its members.

5. Limited liability:- the liability of the members of a company is normally limited to the

amount of shares held of guarantee given by them.

6. Transferability of shares:- The member of a public limited company can sell his shares to

others without the consent of other shareholders, although he has to follow laid down

procedures in the companies Act for transferring shares.

7. Separation of ownership from management:- The shareholders i.e. owner being scattered

all over country give right to the directors to manage the affairs of the company. The

directors are the representatives of the shareholders. Thus ownership is separate from

management.

8. Number of members:- in case of a public limited company the minimum number is seven

and there is no maximum limit. But for a private company, the minimum of members is two

and the maximum is fifty.

Types of Companies

Companies can be grouped into two categories;

1. Statutory companies: - They are created by an Act of parliament. The powers and functions

of these companies are defined by the Act that create them. In Kenya most companies owned

by the Kenya government (commonly referred to as parastatal organizations) fall in this

category. For example (Agricultural Finance Corporation – AFC), Kenya National Trading

Corporation Ltd (KNTC).

2. Registered companies:- These are those that are formed, registered and operate under the

companies Act in Kenya, they operate under the companies Act, 1962, CAP 486; Laws of

Kenya.

Registered companies may further be classified into public, private, limited or unlimited

companies.

1. Limited and Unlimited Companies

In a limited company, the liability of the members is limited to a stated amount, usually to the

face value of shares a member holds in the company. The liability of unlimited company is
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unlimited like those of sole traders and general partners. There are however no unlimited

companies in Kenya.

2. Public Companies.

These companies must have a minimum membership of seven but there is no maximum number.

Their shares are freely transferable usually through the Nairobi stock Exchange shares and

debentures are open for public subscription. Certificate of trading and annual audit of accounts

are compulsory. The minimum number of directors is two. They may have limited or unlimited

liability.

3. Private Companies

The minimum membership is two and the maximum is fifty excluding past and present

employees. Their shares are not freely transferable. They cannot offer shares and debentures to

the public for subscription. They must at least have one director. They commence business on

receipt of certificate of incorporation from the registrar of companies. Presentation of prospectus

and audited accounts is not compulsory for private companies.

Advantages of a Company

1. Limited liability:- This means that even if the company is unable to pay its debt, the

shareholders cannot in accordance with the law lose more than the value of their investment

in the company.

2. Transferability of shares:- Ownership in a company can be transferred very easily.

3. Continuous existence:- The legal existence of any company is not affected by the death of

any shareholder unlike the sole proprietorship and partnership.

4. Greater ease of raising capital:- companies can raise more capital by inviting the public to

buy shares or by borrowing large sums of money at low interest rates

5. Specialized management:- Because of its size and scope of operation, a company can afford

to hire well qualified employees who can manage the company efficiently.

6. Board of director’s management:- The board of directors consists of persons of different

expertise. Decisions of these experts are normally better than one person’s decision.

7. Economies of scale:- large sums of capital enable large scale operations which result in

reduced costs per unit produced and consequently higher profit.

Disadvantages of Companies

1. Legal restrictions :- a company can only operate in accordance with its memorandum and

articles of association. This claims considerable time and effort.

2. Complications of formation :- forming a company is more costly, complicated and time

consuming.

3. Impersonality and lack of security:- Unlike the sole proprietor and partnership, the dispersed

ownership of the company leads to impersonality and consequent avoidance of personal

interest and responsibility.

4. Slow and expensive decision making:- in companies all decision making are normally taken

by the directors and the more important decisions by the shareholders. This process is slow

and expensive.

5. Direct control by owners is not possible:- The owners (shareholders) do not control the

company directly. Their control is of very indirect character because direct control is vested

in the board of directors.

6. Taxation:- The company is a taxable entity for income tax purpose. It pays taxes separately

from their owners.

7. Legal requirements:- legal requirement such as having licenses to operate certain business is

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also a challenge

8. Lack of the necessary entrepreneurial skills, knowledge and traits

REVIEW QUESTIONS

1. Briefly discuss the different ownership forms available to entrepreneurs

2. Briefly discuss the advantages and the disadvantages of these different forms of business

organizations

3. Define a small business and discuss the role of small business in development

4. “A partnership may have different forms partners, “Discuss

5. Outline the contents of a partnership deed

6. What is the difference between dissolution of a partnership and dissolution of a firm?

7. Discuss ways in which a firm may be dissolved?

8. What are the important distinctions between a private and a public limited company?

9. How does a cooperative form of organization differ from a company?

10. You plan to start a business, what factors would you consider before establishing the

business?

11. Outline the business procedure?

12. Describe the business life cycle explaining each stage in details

13. What are the challenges you are likely to face when starting a small business enterprise?

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TOPIC 10

BUSINESS ENTREPRISE MANAGEMENT