EXERCISES
Short Answer Questions
1. Compare the status of a minor in a Joint Hindu family business with that in a partnership firm.
Answer:
Joint Hindu Family Business: A minor becomes a member (co-parcener) by birth. Their liability is limited to their share in the ancestral property. They do not need to agree to be a member and can inspect firm accounts. Upon reaching majority, they continue to be a co-parcener with the same limited liability unless the family decides to partition.
Partnership Firm: A minor cannot enter into a valid contract, thus cannot be a full partner. They can only be admitted to the benefits of a partnership with the mutual consent of all existing partners. Their liability is limited to their capital contribution. They cannot take an active part in management and only share profits, not losses. They can inspect firm accounts. Upon attaining majority, they must decide within six months whether to become a full partner by giving public notice. Failure to do so makes them a full-fledged partner with unlimited liability.
2. If registration is optional, why do partnership firms willingly go through this legal formality and get themselves registered? Explain.
Answer:
Although registration is optional for a partnership firm, firms willingly get themselves registered to avoid certain significant consequences of non-registration. These consequences include:
A partner cannot file a suit against the firm or other partners.
The firm cannot file a suit against third parties (e.g., to recover debts).
The firm cannot file a case against its own partners.
Registration provides conclusive proof of the firm’s existence and allows the firm and its partners to enforce their legal rights, which is crucial for dispute resolution and conducting business effectively.
3. State the important privileges available to a private company.
Answer:
The provided text primarily focuses on the general features, merits, and limitations of a Joint Stock Company. While it mentions that shares in a public company can be freely transferred (implying restrictions for private companies), it does not explicitly detail specific “privileges” available to a private company.
4. How does a cooperative society exemplify democracy and secularism? Explain.
Answer:
Democracy: A cooperative society exemplifies democracy through its “one man one vote” principle. Regardless of the amount of capital contributed, each member has an equal voting right, ensuring democratic control where decisions are made by an elected managing committee based on the majority will, not on financial power.
Secularism: Cooperative societies are open to all individuals irrespective of their religion, caste, or gender. This open membership policy, without discrimination, demonstrates the principle of secularism.
5. What is meant by ‘partner by estoppel’? Explain.
Answer:
A person is considered a partner by estoppel if, through their own initiative, conduct, or behavior, they give an impression to others that they are a partner of a firm. Such individuals are held liable for the debts of the firm because, in the eyes of the third party, they are considered partners, even if they do not contribute capital or take part in its management. For example, if someone allows themselves to be introduced as a partner and credit is extended to the firm based on this impression, they become liable for the debt.
6. Briefly explain the following terms in brief.
Answer:
(a) Perpetual succession: This refers to the continuous existence of a company or cooperative society, unaffected by the death, insolvency, retirement, or change of its members. The business continues to operate legally until it is formally terminated by law.
(b) Common seal: This is the official signature of a Joint Stock Company. Since a company is an artificial person and cannot sign documents, a common seal is used for all its official documents and contracts to signify its approval and authenticity.
(c) Karta: In a Joint Hindu Family Business, the Karta is the eldest male member of the family who controls and manages the business. They have unlimited liability and their decisions are binding on all other co-parceners. (Note: The Hindu Succession (Amendment) Act, 2005, allows the eldest member, male or female, to become Karta.)
(d) Artificial person: This term describes a Joint Stock Company. It is a legal entity created by law, separate from its owners (shareholders). Like a natural person, it can own property, incur debts, enter into contracts, and sue or be sued, but it exists only in the eyes of the law, not physically.
Long Answer Questions
1. What do you understand by a sole proprietorship firm? Explain its merits and limitation?
Answer:
Sole Proprietorship Firm: A sole proprietorship refers to a business organization that is owned, managed, and controlled by a single individual. This individual is solely responsible for providing the capital, bearing all the risks, and receiving all the profits of the business. It is a popular form for small businesses and personalized services.
Merits of Sole Proprietorship:
Quick Decision Making: The proprietor has complete freedom in decision-making and can take prompt actions without consulting anyone, allowing them to capitalize on market opportunities quickly.
Confidentiality of Information: All business information can be kept confidential as the proprietor is the sole decision-maker and is not legally required to publish accounts.
Direct Incentive: The direct link between effort and reward (all profits go to the proprietor) provides maximum incentive to work hard.
Sense of Accomplishment: Running one’s own business and being solely responsible for its success can provide a deep sense of personal satisfaction and accomplishment.
Ease of Formation and Closure: There are minimal legal formalities required to start or close a sole proprietorship, making it the easiest form to establish and wind up.
Limitations of Sole Proprietorship:
Limited Resources: The financial resources are limited to the proprietor’s personal savings and borrowing capacity, which can restrict the scale of operations and growth potential.
Limited Life of a Business Concern: The business lacks continuity and can cease to exist with the death, insanity, imprisonment, physical ailment, or bankruptcy of the sole proprietor.
Unlimited Liability: The proprietor has unlimited liability, meaning their personal assets can be used to repay business debts if the business assets are insufficient, posing a significant financial risk.
Limited Managerial Ability: The owner must handle all aspects of management, and it is rare for one person to be an expert in all functional areas (e.g., finance, marketing, production, human resources), which can lead to unbalanced decisions. Limited resources also hinder hiring specialized talent.
2. Why is partnership considered by some to be a relatively unpopular form of business ownership? Explain the merits and limitations of partnership.
Answer:
Partnership is sometimes considered a relatively unpopular form of business ownership primarily due to its limitations, particularly the concept of unlimited liability and the possibility of conflicts among partners. The fact that partners are individually and jointly liable for firm debts, potentially risking personal assets due to the actions or debts of another partner, is a major deterrent. Moreover, shared decision-making can lead to disputes and delays, and the lack of continuity upon the exit of a partner can disrupt the business. The inability to raise very large amounts of capital also limits its scope for significant expansion compared to a company.
Merits of Partnership:
Ease of Formation and Closure: Partnerships can be easily formed through a simple agreement, and their closure is also relatively straightforward, with no compulsory legal formalities for registration.
Balanced Decision Making: With multiple partners, the workload can be divided based on expertise, leading to more balanced and well-thought-out decisions compared to a sole proprietorship.
More Funds: The capital contributed by multiple partners provides a larger pool of funds than a sole proprietorship, allowing for a greater scale of operations.
Sharing of Risks: The risks associated with the business are shared among all partners, which reduces the individual burden and anxiety.
Secrecy: Partnership firms are not legally required to publish their accounts or reports, allowing them to maintain a higher degree of confidentiality compared to public companies.
Limitations of Partnership:
Unlimited Liability: All partners (except limited partners in a limited partnership) have unlimited liability, meaning their personal assets can be used to pay off business debts. This “joint and several” liability can be particularly burdensome for wealthier partners.
Limited Resources: While better than sole proprietorship, the number of partners is typically limited, which restricts the total capital that can be invested, potentially hindering large-scale operations or significant expansion.
Possibility of Conflicts: Shared decision-making can often lead to disagreements and disputes due to differing opinions, potentially harming the business. An unwise decision by one partner can financially affect all others.
Lack of Continuity: The partnership firm can be dissolved due to the death, retirement, insolvency, or insanity of any partner, although the remaining partners can form a new agreement to continue the business.
Lack of Public Confidence: As there is no legal requirement to publish financial reports, it can be difficult for the public to ascertain the financial health of the firm, leading to lower public confidence compared to companies.
3. Why is it important to choose an appropriate form of organisation? Discuss the factors that determine the choice of form of organisation.
Answer:
It is important to choose an appropriate form of organization because the chosen structure significantly impacts the business’s ability to raise capital, manage risks, make decisions, ensure continuity, and comply with legal requirements. The success or failure, as well as the growth potential, of an enterprise, are heavily influenced by its organizational form. The introduction states that the “most suitable form is determined by weighing the advantages and disadvantages of each type against specific requirements.”
While the document does not explicitly list “factors that determine the choice of form of organization” as a separate bulleted list, the discussion of the merits and limitations of each form implicitly highlights these factors:
Capital Requirements: How much capital is needed? (e.g., Sole proprietorship is limited, partnership offers more, company offers the most).
Liability Exposure: How much risk are the owners willing to take regarding their personal assets? (e.g., Unlimited in sole proprietorship/partnership, limited in company/cooperative).
Control and Decision-Making: How much control does the owner want to retain? How are decisions made? (e.g., Absolute control in sole proprietorship, shared in partnership, democratic in cooperative, separated in company).
Continuity of Business: How important is it for the business to continue beyond the life of the owner(s)? (e.g., Limited in sole proprietorship/partnership, perpetual in company/cooperative).
Managerial Ability: Does the owner have all the necessary skills, or will specialized management be required? (e.g., Limited in sole proprietorship, professional in company).
Ease of Formation and Legal Compliance: How complex and expensive is the formation process and ongoing regulatory compliance? (e.g., Easiest for sole proprietorship, most complex for company).
Scale of Operations and Expansion Plans: What is the current and planned size of the business? (e.g., Small for sole proprietorship, large for company).
Sharing of Profits and Risks: How will profits and risks be distributed among owners? (e.g., All to sole proprietor, shared in partnership/company).
Confidentiality: How important is it to keep business information private? (e.g., High in sole proprietorship/partnership, low in public company).
Motive: Is the primary motive profit maximization or service/welfare? (e.g., Profit for most, welfare for cooperative).
4. Discuss the characteristics, merits and limitation of cooperative form of organisation. Also describe briefly different types of cooperative societies.
Answer:
Cooperative Form of Organisation: A cooperative society is a voluntary association of persons working together for a common purpose, primarily driven by the motive of members’ welfare and protecting their economic interests from exploitation by middlemen. Registration is compulsory under the Cooperative Societies Act 1912.
Characteristics (Features):
Voluntary Membership: Membership is open to all, without compulsion, irrespective of religion, caste, or gender. Members are free to join and leave after giving due notice.
Legal Status: Upon registration, a cooperative society acquires a separate legal identity distinct from its members. It can enter into contracts, hold property, and sue or be sued. Its existence is stable and unaffected by the entry or exit of members.
Limited Liability: The liability of the members is limited to the extent of the capital they have contributed, protecting their personal assets.
Control: Management is democratic, based on the principle of “one man one vote,” irrespective of capital contribution. Decision-making is handled by an elected managing committee.
Service Motive: The primary objective is mutual help and the welfare of its members, rather than maximizing profits. Any surplus generated is distributed as dividends according to the bye-laws.
Merits:
Equality in Voting Status: The “one man one vote” principle ensures democratic management and equal say for all members, promoting fairness.
Limited Liability: Members’ personal assets are protected as their liability is limited to their capital contribution.
Stable Existence: The separate legal entity status ensures continuous existence, unaffected by changes in membership.
Economy in Operations: Voluntary services from members and the elimination of middlemen reduce operational costs.
Support from Government: Cooperative societies often receive financial support from the government in the form of low taxes, subsidies, and low-interest loans due to their welfare-oriented nature.
Ease of Formation: The registration procedure is relatively simple with few legal formalities.
Limitations:
Limited Resources: Capital contributions are typically limited as members generally have limited means, and the low dividend rates may not attract significant outside capital.
Inefficiency in Management: The inability to offer high salaries makes it difficult to attract professional, expert managers. Management by voluntary members may lack professional skills.
Lack of Secrecy: Open discussions in meetings and mandatory disclosure requirements make it difficult to maintain business secrecy.
Government Control: Being subject to government rules and regulations (like auditing and reporting) and potential interference from state cooperative departments can reduce operational freedom.
Differences of Opinion: Internal conflicts due to differing viewpoints among members can lead to delays in decision-making and may sometimes result in personal interests overriding the welfare motive.
Different Types of Cooperative Societies:
Consumer’s Cooperative Societies: Formed to protect consumer interests by supplying quality products at reasonable prices, bypassing middlemen.
Producer’s Cooperative Societies: Aim to protect the interests of small producers by assisting in procuring inputs (raw materials, equipment) and marketing their output, increasing their bargaining power.
Marketing Cooperative Societies: Help small producers in selling their products at reasonable prices, performing functions like transportation, warehousing, and packaging, eliminating middlemen.
Farmer’s Cooperative Societies: Help farmers by providing better quality inputs (seeds, fertilizers) at reasonable costs and improving productivity, often pooling resources for large-scale farming benefits.
Credit Cooperative Societies: Provide easy credit and financial assistance to members on reasonable terms, protecting them from exploitative moneylenders.
Cooperative Housing Societies: Formed to help people with limited incomes to construct houses at reasonable costs, providing plots or constructing flats on an installment basis.
5. Distinguish between a Joint Hindu family business and partnership.
Answer:
| Feature | Joint Hindu Family Business (HUF) | Partnership Firm |
|---|---|---|
| Formation | By status (birth in a Hindu Undivided Family) and existence of ancestral property. No agreement needed. Governed by Hindu Law. | By an agreement (oral or written) among partners. Governed by Indian Partnership Act, 1932. |
| Membership | By birth in the family. Minimum two family members and ancestral property needed. Includes minor members by birth. | By agreement. Minimum 2, maximum 50 members. Minors cannot be full partners (can be admitted to benefits). |
| Liability | Karta has unlimited liability. Co-parceners (other members) have limited liability to their share in ancestral property. | All partners generally have unlimited liability (joint and several). In a limited partnership, at least one partner has unlimited liability. |
| Control | Controlled by the Karta, the eldest member, who has absolute decision-making power. | Managed jointly by all partners, or by any one of them acting for all (mutual agency). Decisions are usually by mutual consent. |
| Continuity | Perpetual succession. Continues even after the Karta’s death; the next eldest member takes over. Terminates only by partition. | Lacks continuity. Ends with the death, retirement, insolvency, or lunacy of any partner, unless a new agreement is formed. |
| Registration | Not required. | Optional, but advisable due to consequences of non-registration. |
| Management | Only the Karta manages the business. | All partners can participate in management. |
| Minor Status | Minor is a member by birth. | Minor cannot be a partner, only admitted to benefits. |
| Governing Law | Hindu Succession Act, 1956. | Indian Partnership Act, 1932. |
6. Despite limitations of size and resources, many people continue to prefer sole proprietorship over other forms of organisation? Why?
Answer:
Despite limitations of size, limited resources, and unlimited liability, many people continue to prefer sole proprietorship due to several inherent merits that align with the aspirations of individual entrepreneurs:
Ease of Formation and Closure: It is the simplest business form to start and close, requiring minimal legal formalities and offering maximum flexibility.
Quick Decision Making: The sole proprietor has complete control and can make decisions promptly without needing to consult anyone, allowing for quick adaptation to market changes.
Direct Incentive: The direct link between effort and reward (the proprietor keeps all profits) provides a strong motivation to work hard and efficiently.
Confidentiality: The owner can maintain complete secrecy over business operations and financial information, as there is no requirement to publish accounts.
Sense of Accomplishment: There is a strong sense of personal satisfaction and accomplishment that comes from being one’s own boss and being solely responsible for the success of the venture.
Personalized Service: It is ideal for businesses that thrive on personalized services and direct interaction with customers.
These advantages, especially the ease of starting, full control, and direct reward, make it an attractive option for individuals venturing into small-scale businesses or personalized services, even with its inherent limitations.
Application Questions
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 firm, a trade agreement made by one owner (partner) is binding on the others. This is due to the principle of mutual agency. In a partnership, every partner is both an agent and a principal. As an agent, a partner can represent the firm and bind other partners by their acts, provided the acts are within the scope of the business. As a principal, they can be bound by the acts of other partners. This mutual agency means that each partner is an implied agent of the other partners and the firm for the business of the partnership.
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.
Answer:
If the organization is a sole proprietorship firm, the creditors can approach the proprietor to recover the unpaid debt of Rs. 30,000 (Rs. 80,000 debt – Rs. 50,000 business assets). This is because a sole proprietor has unlimited liability. If the business assets are insufficient to cover the debts, the proprietor’s personal assets (e.g., personal savings, property, car) can be used by the creditors to recover their dues.
(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 debt? Explain giving reasons.
Answer:
If the organization is a partnership firm, the creditors can approach either Anthony or Akbar, or both of them jointly, to recover the unpaid debt of Rs. 30,000. This is because partners in a general partnership have unlimited and joint and several liability.
Unlimited Liability: Similar to sole proprietorship, the partners’ personal assets can be used to repay business debts if the firm’s assets are insufficient.
Joint and Several Liability: This means that each partner is individually liable for the full amount of the firm’s debt, and they are also jointly liable along with other partners. Therefore, a creditor can choose to recover the entire debt from any one partner, or from all of them collectively. The partner who pays the full amount can then claim contributions from the other partners as per their partnership agreement.
3. Kiran is a sole proprietor…
(a) Explain two benefits of remaining a sole proprietor.
Answer:
Quick Decision Making: Kiran retains complete control and can make swift decisions regarding her business expansion or operational changes without needing to consult anyone. This flexibility would allow her to quickly adapt to market trends or customer demands across her branches.
Confidentiality of Information: As a sole proprietor, Kiran is not legally required to disclose her business’s financial information or operational details publicly, maintaining high confidentiality.
(b) Explain two benefits of converting to a joint stock company.
Answer:
Scope for Expansion and More Funds: Converting to a joint stock company, especially a public one, would allow Kiran to raise substantial capital by issuing shares to the public. This larger pool of funds is crucial for her plans to open branches countrywide, which would require significant investment.
Limited Liability: As a shareholder in a company, Kiran’s liability would be limited to the amount of capital she has invested in the company (i.e., the value of her shares). This protects her personal assets from business debts, which is a major advantage given her plans for significant expansion and increased risk exposure.
Perpetual Existence: A company has a separate legal entity and perpetual succession, meaning its existence is independent of its owners. This ensures that the business would continue even in Kiran’s absence, providing stability for a nationwide chain.
(c) What role will her decision to go nationwide play in her choice of form of the organisation?
Answer:
Her decision to go nationwide will play a critical role in pushing her towards converting to a joint stock company. Expanding nationwide necessitates significantly more capital, more structured management, and a mechanism to limit personal risk.
Capital: A sole proprietorship’s limited access to capital (personal savings, limited borrowings) would be insufficient for nationwide expansion. A company can raise vast amounts of capital from the public through shares.
Management: Managing three branches is already stretching Kiran. A nationwide chain would require professional and specialized management (e.g., HR, marketing, logistics across different regions), which a company structure is better equipped to hire and integrate.
Liability and Risk: Nationwide expansion significantly increases business risks and potential liabilities. The unlimited liability of a sole proprietorship would expose all her personal assets to these increased risks, making a company’s limited liability highly desirable.
Continuity: A nationwide chain requires long-term stability and continuity beyond a single individual’s lifespan or health, which a company’s perpetual succession offers.
Therefore, going nationwide strongly indicates that a joint stock company would be the most appropriate and beneficial form of organization for Kiran.
(d) What legal formalities will she have to undergo to operate business as a company?
Answer:
To operate as a company, Kiran will have to undergo extensive and complex legal formalities as company formation is time-consuming, expensive, and involves significant documentation. These formalities are governed by The Companies Act, 2013.
Key legal formalities typically include:
Promotion: Identifying business opportunities, conducting feasibility studies, and bringing together the necessary resources.
Incorporation (Registration): This is the most crucial step. It involves:
- Applying for approval of the company name.
- Filing essential documents with the Registrar of Companies (ROC), such as the Memorandum of Association (MOA) and Articles of Association (AOA). The MOA defines the company’s objectives, and the AOA specifies internal rules.
- Submitting a declaration of compliance with legal requirements.
- Paying prescribed fees.
- Obtaining the Certificate of Incorporation from the ROC.
Capital Subscription (for Public Companies): If she plans to convert to a public company, she will need to raise capital from the public, which involves:
- Obtaining SEBI approval for capital issue.
- Filing a prospectus.
- Appointing bankers, brokers, and underwriters.
- Receiving minimum subscription.
- Allotment of shares.
Commencement of Business (for Public Companies): After obtaining the Certificate of Incorporation, a public company needs to obtain a “Certificate of Commencement of Business” before it can start operations. Private companies can commence business immediately after incorporation.
