Application Based Questions
Question 1. In which form of organisation is a trade agreement made by one owner binding on the others? Give reasons to support your answer.
Answer: In a partnership form of organisation, a trade agreement entered into by one owner is binding on the other owners. In India, “The Indian Partnership Act 1932” regulates all aspects and activities of partnerships. This particular law indicates that a partnership is an association of two or more people or parties who have agreed to share the profits generated from the firm while managing it jointly or on behalf of other members. It is an alliance of two or more people created by an agreement or contract. The agreement (accord) is the basis for the partnership between the parties. This type of agreement is in writing. An oral agreement is legally binding. To minimise misunderstandings, it is always preferable if the partners have a copy of the written agreement. The agreement should be to conduct some business. The mere co-ownership of a property does not establish a partnership.
The definition of the Indian Partnership Act of 1932 states that a partnership business is carried on by all or one of the partners acting for all. In simple terms, every partner of a partnership firm acts as an agent and a principal. As an agent, a partner represents other partners of the partnership firm and thereby binds them through his acts. As a principal, a partner is bound by the acts of other partners of the partnership firm. Therefore, a trade agreement made by one of the partners of a partnership firm is binding on other partners.
Question 2: The business assets of an organisation amount to Rs. 50,000, but the debts that remain unpaid are Rs. 80,000. What course of action can the creditors take if
(a) The organisation is a sole proprietorship firm
(b) The organisation is a partnership firm with Anthony and Akbar as partners. Which of the two partners can the creditors approach for repayment of the debt? Explain, giving reasons.
Answer:
(a) According to James Stephenson, a sole proprietorship is a person who carries on business exclusively by and for himself. He is not only the owner of the capital of the undertaking but is usually the organiser and manager and takes all the profits or responsibility for losses. In a sole proprietorship firm, the sole proprietors have unlimited liability. It means that if the company’s assets are insufficient to pay all its debts, the owner is personally responsible for paying the debts. For this, personal items of the owner, such as his private vehicle and other assets may be sold to pay off the debt.
In the given case, the total outstanding debt is ₹80,000, but the organisation’s assets are only ₹50,000. In such a situation, the creditors can recover their dues from the personal assets of the proprietor; i.e., the remaining ₹30,000 can be recovered from the organisation’s owner’s personal belongings.
(b) According to the Indian Partnership Act 1932, a partnership is an association of two or more people or parties who have agreed to share the profits generated from the firm while managing it jointly or on behalf of other members. In a partnership firm, all partners are personally held accountable for liability. In simple terms, all partners have unlimited liability and if the company’s assets are insufficient to pay all its debts, the partners are personally responsible for paying the debts. For this, their personal items, such as private vehicles and other assets may be sold to pay off the debt.
In the given case, the organisation is a partnership company with Anthony and Akbar as partners, and they have unlimited liability. The total debt left unpaid is ₹80,000, and the assets of the firm amounts to ₹50,000. In such a situation the creditors of the firm can recover their dues from the personal assets of the partners, as they are jointly and individually responsible for paying off the debts of the firm. Therefore, the remaining ₹30,000 can be recovered from the personal belongings of Akbar and/or Anthony.
Question 3: Kiran is a sole proprietor. Over the past decade, her business has grown from operating a neighbourhood corner shop selling accessories such as artificial jewellery, bags, hair clips and nail art to a retail chain with three branches in the city. Although she looks after the varied functions in all the branches, she wonders whether she should form a company to manage the business better. She also has plans to open branches countrywide.
(a) Explain two benefits of remaining a sole proprietor
(b) Explain two benefits of converting to a joint stock company
(c) What role will her decision to go nationwide play in her choice of form of the organisation?
(d) What legal formalities will she have to undergo to operate the business as a company?
Answer:
(a) According to James Stephenson, a sole proprietorship is a person who carries on business exclusively by and for himself. He is not only the owner of the capital of the undertaking but is usually the organiser and manager and takes all the profits or responsibility for losses.
The advantages to Kiran of being a sole proprietor are as follows:
- Quick Decision Making: Total Management and control of the firm lie in the hands of the sole proprietor; i.e., Neha only. She enjoys the freedom of action and has all the authority to make decisions and run the business in the way she desires. It leads to quick decision-making as she does not have to consult with others and can take all minor and major decisions. Besides, timely decisions also help her in taking advantage of different market opportunities.
- Easy to Form and Dissolve: In a sole proprietorship, hardly any legal formalities are required for setting up the business except in some cases where a license is required. Also, she can close the business whenever she desires by paying back its debts. Therefore, it is easy to form and close this type of business organisation.
- Personal Touch: In a sole proprietorship, all the work is done by the owner himself. So, Neha is in direct contact with her employees and customers of the organisation and can make changes in the product according to the demands of the customer. Also, she will be able to solve the problems faced by the employees easily.
(b) According to Justice Lindley, Joint Stock Company is an association of many persons who contribute money or money’s worth to a common stock and employ it for some common purpose.
The benefits to Neha of converting her business to a joint stock company are:
- Limited Liability: The liability of the members of a company is limited to the extent of the share contributed by them in the company. If a company faces a loss, the shareholders of the company do not have to sell off their personal property for repayment. As Neha is a sole proprietor and has to bear all the losses of the firm, by converting the business into a joint stock company she can have limited liability.
- Transfer of Interest: As the shares of a company are transferrable and can be easily bought and sold in the market, it brings liquidity to the investment in the company. The shareholders can anytime convert their share investment into cash and can use that amount to buy the shares of another company.
(c) In order to expand nationwide, it is necessary to change the company form from a sole proprietorship firm to a joint stock company as it is considered the most suitable form of organisation for operating business activities on a large scale.
(d) Following formalities will be needed to form a joint stock company:
- Kiran must obtain a certificate of incorporation.
- If she wants to operate as a public company, a certificate of commencement is required.
- She must hire professionals and brokers.
- Various documents, such as a prospectus, Articles of Association (AoA), and Memorandum of Association (MoA) must be prepared.