Chapter-5

Legal Forms of Business Ownership

Introduction:
 One of the first decisions a business owner must make is to
determine the legal form of ownership of the enterprise.
 The vast majority of all legal business enterprises are organized in
one of the following four legal forms: sole proprietorships,
partnerships, limited companies or cooperatives.
 Students should have a basic knowledge of all the legal forms of
ownership available and be aware of the relative advantages and
disadvantages of each form of ownership.
 Competent legal advice should be sought when deciding which legal
form to adopt.
11/26/23 1
Compiled by : Jalata S.
 Legal Forms of Business Ownership

1. Sole proprietorship/Sole trader

 It is a business concern owned and operated by one
person. The sole proprietor is a person who carries on
business exclusively by and for him/herself.
 It is the most common and the easiest business to start
and the initial costs are usually lower than those for
other legal forms.
 A business organized as a sole proprietorship is not
separate from its owner, the owner is the business and
the business is the owner. They're inseparable.

11/26/23 2
Compiled by : Jalata S.
 Legal Forms of Business Ownership

1. Sole proprietorship/Sole trader (Cont’d)

Characteristics of sole proprietorship
 Single ownership
 One man control/owner manager
 Undivided risk
 Unlimited liability: A sole proprietor is personally
liable for all the debts of the business. If necessary,
this liability includes all of the proprietor’s personal
property and assets.
 No separate entity of the business
 Minimum government regulations (Since they have
few legal requirements, sole proprietorships are
easy to form and operate)
11/26/23 3
Compiled by : Jalata S.
 Legal Forms of Business Ownership

1. Sole proprietorship/Sole trader (Cont’d)

Advantages of sole proprietorship
1. Simplicity: it is very easy to establish and dissolve the
business.
2. Quick decision
3. High secrecy
4. Low costs to start
5. Minimum regulations
6. Direct control of business/ personal touch: the owner
can maintain personal contact with his employees &
clients.
7. Low working capital requirements
8. Tax advantages
9. Owner receives all profits/ direct motivation
10. Flexibility
11/26/23 4
Compiled by : Jalata S.
 Legal Forms of Business Ownership

1. Sole proprietorship/Sole trader (Cont’d)

Disadvantages of sole proprietorship
1. Unlimited liability
2. Limited skills
3. Lack of continuity/uncertain life: The business is
terminated upon the death or incapacity of the owner.
4. Difficulty in raising capital/limited financial sources
5. The sole proprietor is responsible for all decisions

11/26/23 5
Compiled by : Jalata S.
 Legal Forms of Business Ownership
2. Partnership
 It is formed through an agreement among two or more
persons to carry on jointly a legalized business as co-
owners.
 Like the sole proprietorship, it is not a separate legal
entity from its owners.
 It is recommended that a partnership agreement, called
the Articles of Co-partnership or Memorandum of
Association, be prepared in writing by a competent
attorney.

11/26/23 6
Compiled by : Jalata S.
 Legal Forms of Business Ownership
2. Partnership
 The Memorandum of Association should contain at
least the following provisions:
• division of profit or loss
• compensation to each partner
• distribution of assets in the event of dissolution
• duration of the partnership
• duties of each partner
 Persons who enter into such agreement are partners.

11/26/23 7
Compiled by : Jalata S.
 Legal Forms of Business Ownership
2. Partnership (Cont’d)
Characteristics of Partnership
1. Association of two or more persons
2. Contractual relationship/ mutual agreement
3. Existence of lawful business
4. Sharing of profit and loss
5. Mutual agency among partners: Each partner is
responsible and liable for the faults and wrongful acts
of a co-partners with regard to business obligations.
6. No separate legal entity of the business
7. Unlimited liability
8. Great good faith

11/26/23 8
Compiled by : Jalata S.
 Legal Forms of Business Ownership
2. Partnership (Cont’d)
Advantages of Partnership
1. Easy to form
2. Low costs to start
3. Larger/added capital sources
4. Shared management/specialization
5. Protection of minority interest: each partner has an
equal role in management of firm’s affair.
6. Capacity for survival: the partnership is terminated
upon the death, incapacity or withdrawal of any one of
the partners, unless the remaining business partners
buy the deceased, incapacitated or withdrawn partner’s
interest.
7. Tax advantages
8. Business secrecy
11/26/23 9
Compiled by : Jalata S.
 Legal Forms of Business Ownership
2. Partnership (Cont’d)
Disadvantages of Partnership
1. Unlimited liability
2. Lack of continuity
3. Lack of harmony( agreement)
4. Shared authority
5. Difficulty in raising additional capital/limited financial
sources
6. Difficulty in finding suitable partners

11/26/23 Compiled by : Jalata S. 10

 Legal Forms of Business Ownership
3. Cooperative
 It is a group of ten or more people operating a
business through a jointly owned and democratically
run organization.
 The cost of registering a cooperative is usually lower
than the cost for registering a share company. A written
cooperative agreement is required and must be filed
with the appropriate government authorities.
 The management of a cooperative is elected by the
members of the cooperative.
 The cooperative has a life of its own.
 Each member of the cooperative is liable for the debts
of the cooperative, but only in accordance with
cooperative laws & regulations.
11/26/23 11
Compiled by: Jalata S.
 Legal Forms of Business Ownership
3. Cooperative (Cont’d)
Advantages of cooperative
1. Means to empower poor women, disabled
persons and other groups who often lack a
voice
2. Joint self-help
3. Organizational structure helps all members
4. Shared risk-taking
5. Easier to raise capital
6. Combines individual skills

11/26/23 Compiled by: Jalata S. 12

 Legal Forms of Business Ownership
3. Cooperative (Cont’d)
Disadvantages of cooperative
1. Hard to keep qualified members

2. Members contributing to cooperative unequally

3. Shared authority

4. Gender issues

5. Governance challenges

11/26/23 Compiled by: Jalata S. 13

 Legal Forms of Business Ownership
4. Share Company (Corporation)
 It is an association of stockholders that has been
established to allow a group of entrepreneurs to act as
one.
 The officials of the share company must file a special
document, called the Articles of Incorporation/Charter.
 It is essentially an "artificial person" created and
operated with the permission of the state where it is
incorporated.
 It's a person like you, but only "on paper.’’
 It has a separate legal entity, this allows the
corporation to actually owns and operates the business
on behalf of the shareholder, under the shareholder's
total control. Compiled by : Jalata S.
11/26/23 14
 Legal Forms of Business Ownership
4. Share Company (Cont’d…)
 The separation between the owners and the business
provides a legal distinction between them and provides
three important benefits:
1. It allows you, the owner, to hire yourself as an
employee (typically as president) and then participate
in company-funded employee benefit plans like
medical insurance and retirement plans.
2. Since you and your company are now two separate
legal entities, lawsuits can be brought against your
company instead of you personally.
3. When debt is incurred in the company name, a
separate legal entity, you are not personally liable and
your assets cannot be taken to settle company
11/26/23 obligations. 15
Compiled by : Jalata S.
 Legal Forms of Business Ownership

4. Share Company (Cont’d…)

 It is more difficult to form a share company than the
other two types of business given above, and it is
usually more costly.
 It is usually in the best position to obtain additional
capital. In addition to pledging corporate assets as
collateral, a limited company may sell additional stock
in the company to raise funds.

11/26/23 Compiled by : Jalata S. 16

 Legal Forms of Business Ownership
4. Share Company (Cont’d)
Characteristics of share company
1. Artificial personality: separate legal personality
distinct from owners.
2. Limited liability
3. Continuity: it has a separate and continuous life of its
own, and does not dissolve if a stockholder dies or the
stock is sold to another person.
4. Double taxation/taxed twice: first there is tax on the
amount of the business profits. Then the owners are
also taxed on any dividends they may receive.
5. Managed by professional managers

11/26/23 Compiled by : Jalata S. 17

 Legal Forms of Business Ownership
4. Share Company (Cont’d)
Advantages of share company
1. Limited liability
2. Management can specialize
3. Transferable of ownership
4. Continuous existence/perpetuity
5. Separate legal entity
6. Potential tax advantages
7. Easier to raise capital
8. Separation of ownership and management

11/26/23 Compiled by : Jalata S. 18

 Legal Forms of Business Ownership
4. Share Company (Cont’d)
Disadvantages of share company
1. Closely regulated by state
2. Most expensive form to organize (cost, time and
paperwork)
3. Charter restrictions
4. Extensive record keeping required
5. Double taxation (company and stockholders)

The End!

Compiled by: Jalata S.

11/26/23 Thank You For Your Attention! 19