COMMERCE A LEVEL(FORM SIX) NOTES – BUSINESS UNIT (1)

BUSINESS UNIT

This refers to a firm or organization set up to carry out production activities such as provision of goods or services in order to achieve higher turnover, consumer satisfaction, low cost, and maximize profit.

OR:

It is an institutional arrangement to conduct one or other type of business activity.

A business unit is sometimes called an enterprise, a firm, or a business organization. It is formed and owned by groups of people or by individuals, with the aim of making profit.

FORMS OR TYPES OF BUSINESS UNITS (UNDERTAKINGS)

There are two types of business ownership:

1. Private owned (private sector)
2. Publicly owned (public sector)

Private sector

This consists of businesses owned by private individuals, either as sole traders or as a group.

Businesses in this sector include:

• Sole trade or sole proprietorship
• Partnership
• Joint stock companies
• Cooperatives

Public sector

This consists of businesses owned wholly by the government or they are semi-government.

Businesses in this sector include:

• Parastatals
• Public corporations
• Local government authorities, e.g. city council
• Municipal council and town councils and nationalized industries

Various forms of business organization may be classified as under.

Factors influencing the size of business units

The size of business units can be large, medium, and small business units.

Factors:

1. Nature of industry: Businesses which require heavy capital in terms of machines and other technical equipment are termed large scale businesses.
2. Nature of demand: If the nature of demand is steady and the product is more or less standardized, the business undertaking is likely to be large.
3. The size of capital: If the capital invested is heavy, the business unit is likely to be big rather than if the capital is small or little amount.

Factors influencing the form of business ownership

• Ease of formation
• Amount of capital required and the method of raising capital to be adopted
• Managerial ability of the owner
• Rights of the members to manage the day-to-day business
• The extent of risk involved in running business
• Continuity of the organization (prospects)
• Maintenance of business secrets
• The extent of government control

SOLE TRADE / SOLE PROPRIETORSHIP

This is a business organization owned and operated by one person who raises capital either from his own resources or may borrow from friends or banks, but cannot appeal to the public to subscribe. The owner is responsible for the success or failure of the business.

OR

Sole proprietorship can be defined as a type of business organization in which one person owns, controls, and operates a business to earn profit.

Distinguished features/characteristics of a sole trade/sole proprietorship

The main characteristics of sole proprietorship are as under.

1. Ownership: The ownership of the business unit is by one person.
2. Management: In sole tradership, the owner is the active manager of the business unit. If the business is large, he may delegate some of the powers to his trusted employees. However, the final authority and overall control of policy is retained with the proprietor.
3. Finance: The capital necessary for operating the business is normally provided by the owner himself. However, if additional funds are required, the capital can be increased by borrowing.
4. Size of the business unit: The size of business unit is usually small.
5. Risk: The sole proprietor operates the business for his own personal interest. Therefore, he is responsible for all risks of business.
6. Unlimited liability: The liability of the sole proprietor is unlimited. In the event of insolvency of the business, he will be responsible for making good the deficiency from his personal wealth even to the extent of selling his personal assets.
7. Entity: The business is not a separate legal entity from the sole trader. It means that by law the business and its owner are treated as one.
8. Freedom of action: Sole trade can take prompt and immediate action within a legal framework.
9. Continuity: The continuity of the firm is based on the health of the owner.
10. No legal formalities: There are no legal formalities to set up the business. However, there may be legal restrictions on the setting up of a particular type of business.
11. Profit: As the owner bears full risk of the business, he therefore retains all profit with him.

Formation of a sole proprietorship business

When an individual plans to start a business, his/her main objective is to earn profit. But there are a number of factors to be taken into consideration. For example, for any business to be successful:

Planning and research

Proper planning and research is very essential before the business is formed.

Kind of goods or services to be traded

A sole proprietor should be clear about the kind of goods or services he/she wants to deal in.

Capital or investment

The kind of capital or investment available to start the business must be taken into consideration.

Size and nature of the business

The sole proprietor should know the size and nature of the business so that the required amount of capital can be raised.

Location of business

Many businesses have failed or succeeded depending on the location. This again depends on the nature of the business.

Legal formalities

These include registration of the name of business, licenses, and some other requirements depending on the kind of business.

Risk

Also the sole proprietor should know the risks involved in the particular type of business.

Kind of customers

The sole proprietor has to know the kind of customers the business is targeting, for example, students, low income earners, or high income groups.

Time factor

This is also important because every business has a low or high season. For example, a shop dealing in school books or uniforms will do good business during the back-to-school season. Those dealing in clothes and shoes will do good business around festive seasons like Christmas.

Competition

During festive seasons like Christmas almost every business has competition from other people dealing in the same kind of goods or services. Therefore, before starting a business it is very important to know the competition and how it will affect the business.

Management of sole proprietorship

In sole proprietorship the owner is usually in charge of day-to-day running of the business. If the business is large he may give some duties to his trusted employees or family members but the overall control and decision-making powers rest with the owner. The sole proprietor decides on how to manage the business in the most effective way. If his decisions are good the business will prosper and if they are bad then it will adversely affect the business.

Some of the policies which are decided by the proprietor:

• The time of operating the business
• Promoting through advertising or special offers
• Dealing with suppliers and customers
• Bank transactions
• Whether to open other branches or remain in one premise
• Future planning

Sources of finance for the sole proprietor

For any business to start, availability of capital is the most important factor; without capital it can be very difficult for a new business.

Some of the sources of capital for a sole proprietorship business are:

• Savings: Some people plan in advance to start a business and for that they start saving in order to accumulate the required amount.
• Assistance from friends and relatives: Some people ask their near and dear ones for some assistance in the form of money to start a business. They either agree to return the money or sometimes they are given as a donation.
• Proceeds from a sale of asset(s): This is a common way of raising capital to start a business. For example, if a person intending to start a business has a house or a car then he or she can sell that asset and use the money to start a business or expand the already existing business.
• Bank loan: A sole proprietor may apply to financial institutions. But this can be difficult at times because a bank requires security against the loan and sometimes an individual who plans to start a new business may not be able to fulfill the requirement. A security can be in the form of property or shares.
• Credit: Some people know big companies dealing in certain kinds of products and they can approach them to give them goods on credit. This normally happens person to person. For example, an individual has some friends or relatives who are either working in or owning a manufacturing or a wholesale business. Such people can help the trader to get goods on credit but this is usually based on trust. It is very important for the sole trader to have strict control and discipline so that he can sell and pay back for those goods at an agreed time. In this way his credit ratings will improve and he can expand business.
• By ploughing back the profits: The business itself by ploughing back the profit.
• Funding by NGOs: There are some Non-Government organizations which help some people to start a business by providing capital assistance.

Closure/dissolution of sole trade business

This is the termination of the legal life of the business or end of the business.

A sole trade may come to an end due to the following reasons:

• By voluntary decision to do so
• Death of the sole proprietor
• Bankruptcy of the sole trader
• Involvement in illegal business, e.g. illegal drugs, or when the sole trade becomes unlawful due to changes in the law
• Transfer of the business by the owner to another party
• Persistent losses incurred by the business
• Government policy that renders the activities of business illegal

Merits/advantages of sole trade

• Simplicity of formation: A person can undertake any lawful business activity for profit motive. The person has to develop an idea, set the goals, and then develop it into a profitable operation.
• Personal incentive: A sole proprietor takes personal interest for the success of a business. In this way, he can maximize his profits.
• Close supervision: A sole proprietor can supervise his business closely and he has direct contact with employees.
• Need for small capital: It is easier to set up since it does not require a lot of capital.
• Business secrets can be preserved: Unique clues of business developed by his fact, foresight can be preserved and these secrets may remain unknown to competition and others.
• Quick decision and prompt action: The sole proprietorship need not consult others or seek their approval. Quick decisions and prompt actions help to improve efficiency of business operation.
• Flexible: A sole trade can make major policy decisions, change the nature of the business or its premises easily.
• Economy in size and operation: Management of sole proprietorship is not expensive. The proprietor controls all the activities with much ease and may sometimes operate without the need of assistants or if any, are few in number.
• Close contact with customers and employees: A sole proprietorship due to its size is in a position to maintain close contacts with his customers and employees.
• Economic and social utility: It provides opportunity for gainful employment to persons with limited capital. Also it enables individuals to earn a living independently using their skill and professional drive.
• Sole authority: The proprietor being the sole authority, takes decisions of planning, organizing, staffing, coordinating, controlling, and directing of business unit.
• A sole trader takes all the profits and bears all the losses: This provides to a sole trader a high degree of incentive. Hard work can benefit a sole trader and mistakes can ruin him/her.
• Ease of dissolution: A sole proprietorship can easily be dissolved as no legal procedures are involved in it. Satisfaction of the creditors is the only claim in winding up the business.
• Location: This type of business is not limited to urban centers. It can be set up even in remote areas where a large business would not be quite as profitable or easy to establish.
• Minimum legal restrictions: An individual enterprise is easy to form and simple to run as minimum legal restrictions are imposed on it.

Demerits/Disadvantages or limitations of sole proprietorship

There are certain serious disadvantages which a sole trader has to face in operating the business. These limitations are as follows:

• Unlimited liability: The proprietor is personally liable for all the debts of the firm. Fear of loss of personal property due to failure of business makes the proprietor very cautious and conservative. As a result, a business may fail to grow and keep pace with new developments in its particular field.
• Limited capital: Financial resources of a sole proprietorship/sole proprietor are limited to what one person has. Funds of an individual person are basically not enough to operate large scale business.
• Limited managerial ability: A sole trader relies upon his or her own skills and judgment for operating the business. Most of the proprietors do not possess all the management skills required for financing, marketing, purchasing, producing, and supervising the business.
• Doubtful continuity: Business may come to an end or a standstill due to illness, insolvency, and death of proprietor. His successor may not be capable enough to carry the business successfully.
• Limited scope of expansion: Due to limitation of capital and management, sole proprietorship business cannot grow and expand to a large size. Its goodwill and bargaining position are also weak.
• Overworked: The proprietor is overburdened with many tasks i.e. financing, managing advertising, correspondence, account records, etc.
• Unable to carry out research: The small capital and the fear of risks of loss may stop the owner from carrying out market research which would prove more paying.
• Poor decisions may be made: One person is responsible for making decisions and may not have anyone to consult.
• Dependency: The life of the business depends on the ability and life of the owner i.e. his/her death brings about the end of the business.
• Lack of collateral security: A sole trader cannot easily acquire loans from the bank and other financial institutions because he/she has no collateral security e.g. land title. Therefore, he/she always operates on a small scale thus does not enjoy the benefits of large-scale operations.
• Losses falling on owner alone: A sole trader bears all the risks and suffers all losses of business alone because he/she has no partner to share the business burden with.
• Inefficiency: The sole trader may sometimes be inefficient as he/she may not be always available for his customers.
• Low discount given to sole trader: Small sole traders will not receive useful discounts when purchasing materials or goods for resale, because unlike large organizations, they cannot buy in large quantities.

Conclusion

By examining the merits and demerits of sole proprietorship, one can easily conclude that this form of business organization is most suitable in the cases:

1. Where the business is carried out on small scale, and the capital to operate is small.
2. Where there is ease of organization, and the owner can make independent decisions.
3. Where the customers have individual tastes and require personal attention.

PARTNERSHIP

Partnership is a relationship between two or more persons carrying on a business in common and sharing the profit or loss in agreed proportion. The liability of partners is unlimited unless the partnership agreement provides for any limitations.

Features or characteristics of partnership

1. Agreement: There must be an agreement which forms the basis of the partnership business. The agreement may be express or implied.
2. Lawful business: The agreement must be to do business with a view to get profit and such a business must be within the limits of law.
3. Sharing profit: Profit should be shared equally or according to agreement. In case of loss, partners have to share it too.
4. More than one person: There must be at least two persons to form a partnership and should not exceed ten (10) in case of banking business; there is no maximum limit for professional partnership like lawyers, etc.
5. Mutual agency: Every partner is an implied agent of the other partners and of the firm, i.e. each partner is bound by the acts performed by other partners on behalf of the business.
6. Restriction on transfer of capital: No partner can transfer his partnership rights to another person without the consent of all other partners.
7. Unlimited liability: Each partner has an unlimited liability to the extent of the firm’s debts, i.e. if the assets of the firm are inadequate to meet its debts in full, even personal assets of partners can be used to satisfy claims.
8. Utmost good faith: Partners are required to act in utmost good faith in business and render true accounts to the firm.
9. Capital contribution: The capital is contributed by partners.
10. Partnership has a limited life: It may be ended any time by the death, withdrawal, bankruptcy, or incapacity of any partner.

Types of partnership

There are four types of partnership.

1. Temporary partnership: This is a partnership formed for either a specific period or a specific purpose. At the end of the agreed period or after accomplishment of the stated purpose, the temporary partnership is dissolved. Example: A partnership formed for five years or for construction of a certain road. A temporary partnership is also called a joint venture or particular partnership. Partners of a temporary partnership have unlimited liability.
2. Limited partnership: This is a type of partnership formed when partners have limited liability. All contribute capital during the formation but one partner actively manages the business and has unlimited liability and he is given greater powers and responsibilities in the business.
3. Ordinary/general/unlimited partnership: This is a partnership where partners contribute capital and they all have unlimited liability i.e. if business funds cannot meet the debts, the personal property of the partners is sold off to settle the debt.
4. Permanent partnership: This is the type of partnership formed to last forever. If a partner dies, a new partnership deed is drafted and the business continues. Permanent partnership is also called partnership at will.

Distinction between Limited partnership and General partnership

Sources of capital

The major source of capital for a partnership is the partners’ contribution. Other sources are:

• Commercial banks and other financial institutions
• Trade credit from suppliers
• Re-investing profits obtained from the business
• Hire purchase
• Leasing the business properties
• Loan from non-governmental organizations (NGOs)

Formation of Partnership

A partnership is usually set up using a Partnership deed/Agreement.

A Partnership deed or Agreement is a written agreement prepared by members who wish to start a partnership business. It contains terms and conditions made between partners to govern both the partners and the firm. It is an important tool in handling disputes, misunderstandings, and disagreements in the course of running the business. It must be signed and made available to all partners and Notary public. The terms and conditions in such agreement are called “Articles of partnership deed”.

Contents of partnership deed

1. Name, address, and occupation of each partner.
2. Name, address of the business and its location.
3. Rights and duties of each partner.
4. Salaries to be paid to partners if any.
5. The rate of interest to be paid on capital, drawings, and loans allowed to the member.
6. Procedures when a partner decides to retire.
7. When and how books of accounts are to be kept.
8. Procedure of electing the management committee e.g. through voting.
9. Procedures to be followed when solving disputes or misunderstandings among partners.
10. Procedure for admission of a new partner.
11. Status of each partner in the firm e.g. Dormant, minor or quasi partner.
12. Duration of partnership, if it is temporary partnership.
13. Capital to be contributed by each partner.
14. Procedures to be followed when dissolving the partnership.
15. Purpose for which the partnership business was established.
16. Ratio in which profits and losses would be shared by the partners.

Note:

If a partnership deed does not exist, the provisions of the Partnership Act of 1890 are applied.

Contents or clauses of the partnership act of 1890

1. States that no salary is paid to any partner.
2. Profits and losses are shared equally.
3. No interest is allowed on capital contributed by partners and on drawings.
4. Partners have equal participation in matters of the business e.g. decision making.
5. Decisions to be made are based on majority vote.
6. The nature of the business should not be changed without the consent of partners and the registrar of business.
7. Books of accounts should be kept at the main office and every partner has the right to inspect them.
8. No partner should carry out any competing business with the partnership.
9. Every partner has the right to conduct business on behalf of the firm.
10. In case of disagreement, decisions may be taken by majority of the partners.
11. Interest of 5% is to be paid on any loan advanced by a partner to the business.

Registration of partnership

The following documents have to be filed to the registrar before the issue of the certificate of registration:

1. A statement which is made in a form including details on:
   • Name of the firm.
   • Place of business.
   • Names in full and permanent addresses of the partners.
   • Duration of partnership where necessary.
2. The partnership deed duly prepared and signed.
3. A receipt for fees paid for registration.
4. A trading license.

Types of partners

Partners are classified according to activity, capital contribution, age, and liability.

By activity

• Active partner: This is a partner who plays an active part in the day-to-day running of the business.
• Dormant partner (or silent partner or sleeping partner): This is a partner who does not take an active part in the running of the business.

By age

• Minor partner: This is a partner who has not attained the age of majority e.g. 18 years in East Africa. A minor partner shares profit but not losses and has limited liability. She/he cannot be elected on the management committee of the business.
• Major partner: This is a partner who has attained the age of majority. She/he is actively involved in the management of the firm and liable for the debts incurred by the business.

By liability

• General partner/ordinary partner/unlimited partner: A partner whose liability is unlimited.
• Limited partner/special partner: A partner whose liability is limited.

By capital contribution

• Real partner: This is a partner who contributes capital and whose name may be used in business transactions undertaken by the firm.
• Nominal partner: This is a partner who does not contribute capital into the business but allows the business to use his or her name for prestige.
• Quasi partner: This is a partner who has retired from active participation in the business but whose capital is retained as a loan on which she receives interest.
• Partner by estoppel: This is a partner who does not contribute capital to the business but has interest in the business. His behavior makes him appear to be closely related to all partners, which makes people believe he is a partner. He is not entitled to profit or loss, also has nothing to do with the liability and management of the business.

By existence

• Retired/outgoing partner: This is a partner who has withdrawn from the partnership. He withdraws his capital from the partnership.
• Incoming partner: This is a partner who is admitted as a partner in the existing partnership business.

Rights and duties of partners

Duties of partners

1. Every partner is bound to carry on the partnership business.
2. Every partner must act faithfully with respect to other partners.
3. Every partner is bound to indemnify the firm for any loss caused by his neglect or fraud.
4. If a partner has a private business that competes with the partnership, all profits made by him should be surrendered to the partnership.
5. No partner can transfer or assign his partnership interest to another person without the consent of the other partners.
6. Every partner is expected to carry on business of the firm whenever called upon.

Rights of partners

1. Each partner has a right to take part in the management of the business.
2. Each partner has a right to be consulted on all matters affecting the business.
3. Each partner has a right to access all the records of the business e.g. financial statements of the business.
4. Every partner has a right to be consulted before a new partner is admitted.
5. Every partner is a joint owner of the partnership property.
6. Every partner has a right to retire in accordance with the partnership deed.
7. No partner may be expelled without dissolving the partnership.

Advantages of partnership

1. Promotes specialization: Duties are allocated according to the expertise or skills of the partners. This allows for effective running of the business.
2. More capital: Partners come together and contribute capital to start and operate a business. This enables a business to expand.
3. Losses and liabilities are shared among the partners: This reduces the burden to every person contributing to the payment of the debts.
4. Relatively few legal requirements: Are to be fulfilled to form a partnership.
5. Borrowing: Partnership is regarded as good credit by banks because it operates on a large scale and has valuable assets.
6. Flexibility: Partners can easily change the line of business to another if they hope to get high profits.
7. Better decisions are arrived at: Due to consultations among the partners.

Disadvantages of partnership

1. Partners have unlimited liability except for limited partners.
2. Decision making may be delayed due to consultation.
3. A partnership has limited life as it depends on the continued relationship of the partners.
4. Partners have to share profits thus each gets a fraction of the total profit.
5. Partners may have different needs leading to disagreement.
6. Action taken by one partner is binding to all others even if it is adverse.
7. A hard working partner is not rewarded accordingly as profits are shared equally or according to capital contribution.
8. No transfer of capital to another person without the consent of all partners.

Dissolution of a partnership

This refers to the process of bringing the partnership to an end. A partnership may be dissolved due to a number of reasons or circumstances.

1. Dissolution by the partners: This is where dissolution is determined by the actions of the partners.
   • When the duration stated in the partnership deed has expired.
   • Mutual agreement when the objectives for which the business was formed have been achieved.
   • Withdrawal of general partner from the partnership and notifies other partners in writing on his intention to dissolve the partnership.
2. Dissolution by court order (Judicial decree): A court may dissolve a partnership for the following reasons:
   • Permanent insanity of a general partner.
   • Permanent inability of a general partner to fulfill his or her part of partnership agreement.
   • Unfavorable conduct of a partner e.g. fraud.
   • Internal disagreement among partners.
   • Partnership operating at a loss.
3. Dissolution by the law: Some events are recognized by the law as grounds for the dissolution of a partnership:
   • Death of a general partner
   • Bankruptcy of a general partner
   • If an event occurs that makes the partnership unlawful e.g. If a law banning the activities carried out by the partnership is passed.

Differences between sole proprietorship and partnership

LIMITED COMPANIES / JOINT STOCK COMPANIES

Definition

A joint stock company is a corporate association or group of people who combine capital to form a business with the aim of earning profits.

A company is a corporate body that is created under law and has an entity of its own, quite separate from the members that comprise it.

A company is a fictitious/artificial person that can enter into contracts, incur liabilities, sue others, be sued by others, and do anything for which it has been formed.

Definition of A Limited Company

A company is an association of persons bound together for some particular object, usually to carry on business with a view of making profit, but in the name of company which itself has a separate legal existence apart from shareholders.

A company must have members called shareholders or stockholders.

OR

A company is an artificial person created by law with capital divided into transferable shares or stocks and with limited or unlimited liabilities possessing a common seal and perpetual succession (continuous existence).

MAIN FEATURES / CHARACTERISTICS OF A JOINT STOCK COMPANY

The definition of the company brings out clearly the distinctive features of this form of commercial organizations as follows:

(a) Legal personality

Being an association of persons created by law, a company has an entity separate from shareholders and therefore:

• It can hold property.
• Contract debts in its own name.
• Enter into contracts with other organizations and individuals as well.
• Can be sued and can also sue in its own name.

However, a company is only an artificial person and hence does not have all the personal rights of a natural person i.e. cannot marry, enter into partnership, or be committed for imprisonment.

(b) Capital divided into transferable shares

The capital of a company is divided into a number of shares and each share is transferable without the consent of other shareholders with the exception of private company where there is certain restriction in the transfer of shares.

– Shares of a company can be sold and purchased in a share market.

(c) Common seal (Signature embodied in the company)

Since a company is a separate entity, it will be necessary for it to sign papers and documents. Such signature is embodied in the common seal of the company. The seal is kept under the safe custody of some responsible official so as to avoid its misuse.

(d) Perpetual succession / continuous existence

A company exists indefinitely till it is liquidated or wound up. Its existence is not affected by the death, lunacy, insolvency, retirement, or any calamity to its shareholders.

(e) Separate identity

Members of the company are quite distinct and separate from the company:

• They cannot be sued for the debts or obligations of the company.
• No member can bind his company by his act or dealing with the third party.
• Only a company or the liquidator can take legal actions against the company.

(f) Limited liability

Liability of the members of a limited company is limited to the face value of the shares subscribed by each of them. Their private properties are not liable for the debts incurred by the company. This is because the company is a separate legal entity from the shareholders.

(g) Centralized management / separation of ownership and control

The owners of the business have no right to take part in day-to-day management of the business of the company. Instead, the responsibility is vested in the board of directors elected by members in the general body meeting of the company.

(h) The business conduct

A company can conduct only such business as stated in its memorandum of association.

TYPES OF COMPANIES

There are two major types of companies:

1. Statutory companies
2. Registered companies
3. Chartered companies (extra)

1. Statutory companies

There are companies created by the Act of parliament, owned and controlled by the government.

2. Registered companies

These are companies that are formed and registered under the Companies Act of 1962 and they are the most common type in Africa.

3. Chartered Companies

These are companies which are established under the royal charter.

TYPES OF REGISTERED COMPANIES

Registered companies may be classified based on the following categories:

(a) According to the number of members

• Private limited companies
• Public limited companies

(b) According to the liability of members

• Limited companies
• Unlimited companies

(c) According to the number of shares

• Companies limited by shares
• Companies limited by guarantee

A diagram showing different types of companies:

PRIVATE LIMITED COMPANIES

This is a company with membership ranging from 2 – 50 according to the Companies Act of 1890.

Characteristics of private companies

• Membership: This ranges from 2 shareholders to 50.
• Liability: Member’s liability is limited to their capital contribution.
• Registration: It is registered under the Companies Act with the word “Limited” at the end of its name.
• Transfer of shares: Ownership of shares cannot be transferred from one person to another nor can the shares be sold to the public.
• Management: It is controlled by a board of directors elected by shareholders. However, the ultimate control rests with the shareholders as they have the power to replace the directors.
• Taxation: It is subject to corporation tax on the profits made.
• Time to begin operating: A private company can begin operating as soon as it receives a certificate of incorporation.
• The business is a separate legal entity: That is, it owns property quite different from the shareholders.
• Shares: The capital is divided into equal units called shares.
• The shareholders have no direct contact with the customers or employees: This is because of the large size of the company and the number of employees in the business.
• There is assured continuity: It is not affected by the death or bankruptcy of one of the members.

Advantages of private limited companies

• A limited company has independent legal status and hence the limited liability enjoyed by its shareholders.
• With limited liability, the company is able to attract capital from people who would not otherwise be prepared to invest.
• In private company, the founders of the business can usually keep control of it by holding majority of shares.
• Larger capital: Because of being larger in membership, companies are in a better position to raise much more money or capital than sole traders and partnerships.
• Assured continuity of business: Since the death, bankruptcy, or withdrawal of any one member does not affect the company, companies have assured continuity.
• Limited liability: All members can enjoy limited liability unlike in partnership.
• Specialization is possible: Companies are financially strong enough to employ specialist so specialization of activities becomes possible.
• More sources of funds: The sale of company shares on the stock exchange stimulates investment even from small savers.
• Sharing of loss: Large members and the fact that the capital is divided into different classes of shares means that the risk of loss is also shared and spread among members.
• Shareholders are safeguarded: Publicity of company accounts safeguards shareholders against fraud.

Disadvantages of private limited company

• Any transfer of shares is restricted. It must be approved by board of directors.
• A private company is not allowed to call upon the public for funds in the form of shares or debentures. So it is difficult to raise money for expansion.
• Costly and difficult to establish. They require formal procedures like registration, payment of fees and duties not often required in small business.
• Observation of state law and regulations. Companies are more subject to state laws and regulations. E.g. No company is allowed to undertake any form of business outside that agreed upon with registrar.
• Delay in decision making. Decisions may be delayed since business is conducted by a few elected members. The Board of Directors must meet before important decisions are reached.
• Shareholders non-participation in management. Apart from the largest shareholders who sometimes become managing directors, the management of the company is separated from its governorship. Shareholders may be mainly concerned with dividends and overlook long term policies being handled by salaried officers.
• Difficult to control the company. Control of the company is not easy as a partnership because of its large size and as a firm increases in size, management becomes more complex and there are few trained managers to run such a business successfully.
• Poor workers relationship. Where there are no personnel officers to keep in touch with the employees, personal relations between the workers may be poor.
• Higher taxes: Companies pay a higher tax on their incomes. This affects the company’s earnings.

PUBLIC LIMITED COMPANY

This is a company with a minimum of seven members and no specific maximum membership. The maximum membership is normally determined by the number of authorized shares of the company. The public limited company may have its name ending with “PLC” i.e Public Limited Company (in Britain) or “Inc” i.e incorporated (in US). Its name must however end with the word “Limited”.

Features / characteristics of public limited company

• It has a minimum membership of seven persons and no specified maximum membership.
• It invites members of the public to subscribe to its shares.
• Its shares are easily/freely transferable from one person to another.
• It must have a minimum of three directors. A director is a person who manages the affairs of the company.
• It must have an authorized minimum share capital figure. Authorized share capital is the total value of all the shares that has been authorized by the government.
• A person wishing to leave the company must sell off his shares to another person.
• It can only start normal operations after receiving a certificate of commencement (Certificate of trading).
• The name of the company must end with the words Public Limited Company.
• The liability of the company is limited.
• The entity is separated from the members who form it.

Advantages of Public limited Companies

• It has independent legal existence, limited liability for shareholders and continuity of the business.
• It is allowed to appeal to the public for funds, whereas the promoters of a private company have to rely on friends and relations for capital.
• There is no restriction on the transfer of shares.
• Public companies are normally larger than most other businesses. As a result, companies often benefit from economies of scale. These result in the cost per unit of output falling as the level of output rises.

Disadvantages of Public limited company

• The formalities of forming a public limited company are quite complex.
• Raising capital can be very expensive.
• A public company may grow so large that it becomes difficult to manage.
• Public companies are subject to many government regulations. Regulations are imposed to protect either shareholders or the general public.
• Members have little control over the activities of the company.
• The accounts of the company must be published. So, there can be little secrecy or privacy about its affairs.
• Risk of take-over bids by other companies: shares can easily be bought on the stock exchange.

ADVANTAGES OF JOINT STOCK COMPANIES (LIMITED COMPANIES)

• More capital/large capital: More capital can be raised since it has many shareholders who subscribe it and a company can also offer better collateral as security for loans.
• Limited liability: Liability of members is limited. Their personal properties cannot be sold to repay company debts. Their stake to the company is limited to their capital contribution.
• Continuity is assured: It has perpetual life or succession. The death or withdrawal of a shareholder cannot affect the existence and operation of a business. This is because a company has a separate legal entity.
• Expert staff: Employment of specialist staff is possible due to large capital. This means that the probability of their succeeding is high.
• Shares are transferable: In case of public companies, shares are freely transferable. A shareholder can easily convert his shares into cash by selling them to another person.
• Legal entity: It has a separate legal existence from its owners which ensures there is no conflict between the company and its members.
• Governance by legality: Shareholders are safeguarded by the legal regulations underlying these companies. By law, joint stock companies cannot start operating without required legal guidelines.
• Large profits: Large profits are realized than in case of sole trade. This is because large capital is employed in the business.
• Democracy: Management is elected democratically. This is done during the annual general meeting, when all shareholders converge to listen to the company reports.
• Open membership: People who have small capital which cannot enable them to set up their own business, can subscribe capital in joint stock companies. Every person is free to become a shareholder of a public limited company by subscribing towards its capital.
• Acquiring loans: Being large, companies have enough assets which can be presented as collateral security to the financial institutions to get loans.

Disadvantages of joint stock companies (Limited companies)

• Management is difficult: Being large, management is difficult. Some joint stock companies possess many branches and departments making supervision difficult.
• Slow decision making: Decision making is normally slow, because a lot of consultations must be made and consent from major shareholders must be received or all proposals have to be approved by the shareholders in a general meeting.
• Confidentiality: It is difficult to keep the company’s financial affairs confidential because shareholders and the public have a right to see the company’s financial information.
• Formation takes long: Its formation is a long and expensive procedure, requiring many legal documents. It involves memorandum, articles of association, prospectus, and many others.
• Double taxation: The shareholders suffer double taxation since the income of the company is taxed as well as the dividends paid to shareholders.
• Profits are shared: The sharing of profit reduces the amount of dividends received by each shareholder, unlike a sole trade, who enjoys all the profits alone.
• Initiative is limited: There is lack of personal initiation compared to sole trade. This is because the business is collectively owned and personal interest cannot influence its operations.
• Shareholders don’t have direct control over the business: The directors of the company are responsible for the day-to-day running of the business and report to the shareholders at the annual meeting.
• Conflict of interest: The directors may have their own interests which may be different from those of the shareholders, and thus may end up conflicting with the interests of the company.
• Restricted operations: Its operations are restricted to the activities specified in its objects clause in the memorandum of association.

LIMITED LIABILITY CONCEPT

This is the fact that the liability of the company’s members is restricted to certain amounts of investment in the company plus any other amounts that may be undertaken to contribute towards the payment of company debts. The word ‘Limited’ indicates that the liability of members is restricted to these stated amounts and that members cannot be made to contribute any more money or property beyond the stated amounts to settle the company’s debt.

A company may be limited by shares or by guarantee. These lead to the classification of company according to the number of shares.

• Company limited by shares: This is a company whose members’ liability is limited to the value of shares held by them. Thus, the liability of the members is limited to the value of shares held.
• Company limited by guarantee: This is a company whose members’ liability is limited to the amounts that the members have undertaken to contribute to the business towards the payment of its debts. These contributions may cover costs, charges, and any expenses of winding up.

OWNERSHIP AND MANAGEMENT OF COMPANY

A company is owned by the persons who have subscribed to and purchased its shares. These people are known as shareholders, and their names are entered in the company’s share register. Each shareholder has a claim on the properties of the company which is proportional to the number of shares held. The shareholders, however, have an unlimited right to transfer or sell their shares in the company.

Management

Management of a company is in the hands of a board of directors. The initial directors stay in office until the first Annual General Meeting (AGM) is held, at which new directors are elected by the members. The size of the board of directors is usually determined by the size of the company. A small private company could have one director, who would be the managing director of the firm. A public company must have a minimum of three directors, one of whom is the managing director. A large company, however, has a team of directors who make up the board of directors. The board of directors is in charge of formulating the company’s policies and overseeing their implementation. This board is normally supported by a team of professional staff who are responsible for the day-to-day management of the various departments of the company. The team of professional staff is headed by the Chief Executive Officer (CEO). It is this team that is responsible for implementing the company’s policies and overseeing the day-to-day management of the various departments.

In the case of public limited companies, the directors are required by law to present a copy of the audited financial statement at the AGM, which is then filed with the Registrar of companies. However, private companies are not obliged to do so.

So, there are two power bases in a company which are responsible for management of the company i.e. The members (shareholders) general meeting and The board of Directors (BOD).

The management of the company follows the company structure depicted below:

SHAREHOLDERS

Shareholders are the owners of the company, they buy ordinary shares and are given share certificates which prove their ownership in the company. They do not own assets of the company because the assets of the company are legally owned by the company; however, they have direct rights on the assets only when the company is liquidated after paying creditors, debenture holders, and preference shareholders.

The power and voting rights of the shareholders are exercised at the annual general meeting. The voting rights are determined by the number of shares each one holds on the basis of one share – one vote.

At the annual general meeting they elect members of board of directors, and vote for changes in the Memorandum and Articles of Association thus effecting the structural changes in the company.

The general meeting is the highest power base in the company in which all the members or shareholders are entitled to attend.

Shareholders and their rights

(i) Proprietary (ii) Managerial (iii) Statutory (iv) Documentary and (v) Remedial.

(i) Proprietary rights

• The right to dividend on their shares at the rate decided at their general annual meeting.
• The right to transfer their shares as per articles of association.
• Other rights to receive bonus shares, participation in surplus assets income on liquidation of the company, getting share certificates, etc.

(ii) Managerial rights

• Voting rights on all matters planned before the general meeting. A right to vote on the principle of one vote one share.
• Approval of alteration in memorandum of association and Articles of association and other changes in the company setup.
• Election of directors, appointment of Auditors, appointment of managing director and other personnel.
• Approval of accounts and declaration of dividends.

(iii) Statutory rights

• To receive share certificates.
• To receive notice, agenda, circular reports, accounts and audit reports, etc.
• To transfer shares.
• To inspect statutory books of the company.
• To demand postal votes on any resolution passed in writing.
• To requisition extra-ordinary general meetings for urgent matters.

BOARD OF DIRECTORS

Board of directors is the main governing body of a company. It consists of directors who are also referred to as TRUSTEES; they have to look after the company’s property and use the same to promote the interest of the company.

Why company directors

A company is a separate legal entity from its members. As a separate legal entity, a company cannot manage itself; it needs people to manage it, that are directors.

The term director is applied to anyone entrusted with management of a company who attends board meetings and takes part in their decision-making activities.

(a) Appointment

The first directors of a company are appointed by the promoters and may also be named in the Articles of Association. Subsequent directors are elected by the shareholders at annual general meetings of the company.

(b) Qualifications

• Only persons holding the qualification shares can be elected as director.
• Number and value of shares are specified in the Articles of Association.
• A person of bank cannot be appointed as a director.
• A person who is adjudged insolvent is not qualified to be a director.
• A person who is convicted of offence and sentenced to imprisonment for more than six months cannot be elected a director.
• A person who has not paid the calls on his shares due six months or more cannot be elected a director.
• A person guilty of offence in promotion and management of the company cannot be a director.

(c) Remuneration

Remuneration payable is determined either by the Articles or by resolution passed at the general meeting of the company. A director may be paid specified amount of fees for attending the meetings of the Board of Directors or of any committees of the Board.

(d) Powers, duties and liabilities of directors

• They are charged with the responsibility of recruiting the general managers of the company.
• The board of directors is also responsible for declaring dividends and determining what part of the profits will be retained in the business for expansion.
• They also take major decisions affecting the day-to-day operations of the company and expansion of business.
• The Board of directors is liable for their actions and fully accountable to the shareholders in the general meetings.

MANAGING DIRECTOR

The management of the company is composed also of the general manager (GM) or the Executive Officer (CEO) or managing director (MD). The managing director is the director who has been entrusted with “substantial powers” of management by a resolution passed by the company at its general meeting or by the Board of Directors. He is the top executive functioning in a twofold capacity as an elected director and also as a manager who is vested with additional powers in respect to important matters of the management of the company. The board may pick one among them to become the Chief Executive Officer (CEO); in this case he is called a Managing Director (MD). He is given remuneration as a whole-time director.

Departmental Managers

The general manager may be assisted by Deputy General Manager who in turn is assisted by personnel manager, production manager, finance manager, marketing manager, and the company secretary.

Other employees

Under the departmental managers there may be middle management cadres as well as clerks and other workers in their efforts to achieve the objectives of the company.

Company meetings

A meeting is defined as the assembly of two or more persons for exchange of their views and suggestions on matters of business significance to the company. It is a corporate gathering of members or owners of the company or Board to discuss and decide the specific issues.

Essentials of valid meeting

The conditions essential for a regular and legally valid meeting are as follows:

• Notice: Members would be given proper notice of meeting.
• Agenda: Items to be considered must be listed and available to members.
• Quorum: Minimum number of members to constitute a meeting should attend.
• Chairman: A chairman to preside the meeting must be present.
• Motions: Proposal placed for preview of the meeting.
• Resolution: Motions passed at the meeting with requisite majority.
• Method of voting: Should be prescribed to assist the service of the meeting.
• Minutes: Recording of the meeting should be adequate.

The general Meetings

The general meeting is the highest power base in the company in which all the members or shareholders are entitled to attend. The most important decisions are made in the General Meeting. Under the Companies Act, there are three types of General meetings namely: The Annual General Meeting (AGM), the Extra-ordinary Meeting (EGM), and Statutory meeting.

1. Annual General Meeting: It is a shareholders meeting held every year to review the progress and prospects of the company. It enables the directors to place before the members an account of their activities and achievements for the year and seek their approval for their plans and programmes for the coming year.
2. Extra-ordinary Meeting (EGM): This is the meeting other than annual general meetings which can be called by the directors or by requisition of members or by the registrar of the companies. The purpose of such meetings is to permit the discussion and transactions of business which cannot properly be postponed until the next general annual meeting. All business transacted at an Extra-ordinary meeting are treated as special business and must be specified in the notice when calling the meeting.
3. Statutory meeting: This is the first meeting of shareholders at which they are given details of various regulations and rules.

Resolutions of the general meeting

Decisions in general meetings are made by voting and such decisions are called resolutions. The resolutions are the decisions taken on the proposals placed at the meeting:

There are two types of resolution grouped on the basis of the extent of majority which they have been passed at the general meeting.

1. Ordinary resolution

It is a resolution that has been passed by members entitled to do so by voting in person or by proxy. A proxy is a person representing a shareholder after obtaining the letter from the lawyer permitting him or her to attend the meeting, when the shareholder is unable to attend the general meeting. These resolutions require 51% and above votes of the members present. Matters which can be decided or voted upon by ordinary resolutions include: election of directors, appointment of Auditor, declaration of dividend, adoption of accounts and directors report, and increase in the authorized capital.

2. Special resolution

Special resolution is one which is passed with at least ¾ (75%) majority. Items requiring special resolution under the company law include; Alteration of name clause, alteration of objectives, alteration reduction of capital, commencement of new business, appointment of share selling agents and voluntary winding up of a company.

FORMATION OF A JOINT STOCK COMPANY

Formation of a company is a complex process involving several legal formalities and procedural decisions.

Four main stages are involved in the formation of a company:

1. Promotion
2. Incorporation
3. Flotation or capital subscription
4. Commencement of business

A private company has to complete only the first two stages while a public company must undergo all four stages in order to start the business.

PROMOTION

The term refers to the sum of all activities by which a business is brought into existence.

In order to form a company, there must be people who will come with an idea of forming a company and setting it in operation. These are founder members of the company and are known as PROMOTERS.

To form a private limited company requires a minimum of two (2) promoters and a public limited company requires a minimum of seven (7) promoters.

Role of Promoters

The promoters perform the following functions:

• Conceive a business opportunity or idea of starting a new business.
• Conduct a preliminary analysis of the idea to determine its profitability and feasibility.
• Carry out a detailed investigation in order to determine the nature, scope, and requirements of the proposition.
• Consult various people and persuade them to join in the proposed business as directors.
• Make provisional contracts for the purchase of assets.
• Make negotiation for purchase of existing business where necessary.
• Make an issue and allotment of securities.
• Appoint brokers, underwriters, solicitors, and bankers for the company.
• Get the necessary documents prepared and filed with the registrar.

Stages in promotion of a company

Promotion of a company involves the following stages:

1. Discovery of business opportunity
2. Conduct a detailed investigation
3. Verification
4. Assembling the proposition

(a) Discovery of business opportunity

Several ideas are collected in respect to prospects of a business.

(b) Conduct of detailed investigation

A thorough investigation is required or made with reference to the:

• Extent of demand
• Degree of competition
• Estimated cost involved
• Source of supply of materials
• Amount of finance required
• Location of the business

The services of experts such as accountants, engineers, marketers, etc. may be needed to prepare a project report.

(c) Verification

The project report submitted by investigators must be verified by a separate team of impartial experts (experts who are independent having no interest in the company to be established).

The purpose of this verification is to eliminate errors in the report which may have been caused by biases which are characteristic of all personal research work.

(d) Assembling the resources

Once the investigation and verification are confirmed on the feasibility and profitability of the project proposal, the promoter assembles the resources necessary for the establishment of a company.

The promoters should thereafter ensure the following:

• Secure co-operation of the people who would be associated as directors or founders.
• Make contracts with underwriters, bankers, brokers, etc. for raising the necessary finance.
• Make contracts for purchase of land and buildings, plant and machinery, furniture and fixtures, etc.
• Arrange for supply of materials and recruitment of staff, etc.
• Make arrangement for installation of machinery.
• Finalize the preparation of necessary documents required for incorporation of a company.

INCORPORATION OF A COMPANY

Incorporation of a company implies its registration as a corporate body under the Companies Act, 2002.

It is a legal process involving the following steps:

• Search for the name of company
• Filing legal documents
• Registration of the company
• Issue of certificate of incorporation

(i) Search for and approval of name of the company

Before registration, it is necessary to search and obtain approval of the name of the company. A special application form is usually provided at a fee to this effect.

The exercise aims at finding out whether another company has already been registered with the same name or not.

(ii) Filing the legal documents

Once the name is approved, a file containing the following documents should be submitted to the registrar of companies:

1. Memorandum of Association
2. Articles of Association
3. Registered office
4. Statement of nominal capital
5. List of directors
6. Declaration of compliance with the requirements of the Companies Act
7. Certificate of incorporation
8. Prospectus
9. Certificate of trading

Companies are required by the registrar of companies to prepare and present the first five (5) documents listed above.

These documents are discussed in detail below:

(a) MEMORANDUM OF ASSOCIATION

This is the principal document filed with the registrar of companies upon incorporation of a company under the Companies Act. It is a charter or constitution of the company. It defines the powers and limitations of the company. Also it lays out the relationship of the company with the outsiders (general public).

The Memorandum of Association has the following contents or clauses each defining a particular aspect of the company.

(1) Name clause

The clause states the name of the company.

A company may choose any name subject to the following conditions:

• It must not be “undesirable” e.g. too similar to that of an existing well-known company.
• It must be displayed outside of every company office and on company stationery, etc. The name should end with the word Limited (Ltd) to serve as the reminder to the people dealing with the company that the liability of members is limited.
• It must not use the name of the country e.g. (TZ) Ltd.

(ii) Domicile / Address / Situation / Location clause

This shows details of the company’s registered office. The registered office is the place where all the statutory books and other documents of the company will be kept. All notices, circulars, and other correspondences are sent by the registrar to the registered office. Also registered office shows the location e.g. Mwanza, Arusha, Dodoma etc., telephone and fax numbers, website address, and e-mail contact details. This enables the public to know where to find it in case of contact.

(iii) The objective clause

This outlines the aims and objectives for which the company is being formed, and the company cannot act beyond the registered objectives. This helps the public to know exactly what they are subscribing their money for. The promoters therefore word this clause carefully to include the main and secondary activities to be undertaken by the company. Any contract entered into by the company which is not within this clause is regarded as void by law.

(iv) Capital clause

This states the amount of authorized / registered capital the company wishes to have. It includes the following:

• Total amount of share capital, the units into which share capital is divided, types of shares available to the public e.g. cumulative, preference, ordinary, and the value of each share.

(v) Liability clause

This states that the liability of members is limited to their capital contribution.

In case of the company limited by guarantee, the liability of members is limited to the amount they have undertaken to pay at the time of liquidation of the company.

The debts of the company are paid off using the assets of the business.

(vi) Declaration clause / Association clause

This is a declaration made by the promoters showing that they desire to form themselves into a limited company and they have agreed to take the stated number of initial shares in the capital of the company.

The memorandum of association should be submitted duly signed by at least two (2) persons in case of private company and at least seven (7) persons in case of a public company who agreed to take at least one share each showing also their names and addresses. The promoters also indicate that the requirements of the Companies Act have been followed.

The significance of Memorandum of Association

• It is the basis of incorporation such that no company can be registered without it.
• It determines the limits of company’s activities. Any activities done outside the scope of the Memorandum will be ultra vires and void (not binding).
• It informs the investors of the purposes for which their money will be utilized.
• It makes known to the shareholders the extent of their liability.
• It defines the objectives of the company.
• It enables the outsiders to know whether the company is authorized to enter into a particular transaction.
• It indicates the names and addresses of the people who have promoted the company and the first shareholders.

Alteration of the Memorandum of Association

The memorandum of association must be prepared by all companies. Alterations are possible. A meeting of all shareholders is called and a resolution seeking alterations is passed by the majority. The registrar is then informed of the changes.

The memorandum of association can be altered in accordance with the procedures laid down in the Companies Act, 2002 on alteration of name clause.

If the name is similar to another company, one should pass an ordinary resolution to the registrar so as to approve the changes.

He should tell the registrar why the name of the company is being changed and give the new name.

Alteration of situation clause

When you want to change the registered office to another region, one has to send an ordinary resolution to registrar who will take it to high court of where you currently are situated and the new place you want to go. Either one can go himself to both courts.

• To move from one district to another in the same region, one has to take ordinary resolution to registrar of company but not to court.
• To move from one street to another, submit ordinary resolution to registrar.

Altering object clause

This clause shows what the company focuses on. Ordinary resolution has to be submitted to registrar on altering the clause. The registrar will not easily accept this alteration unless all the creditors or guarantors or holders of the company agree to change this clause. If one of the holders is not informed of alteration, then he can sue the company in court and get compensated.

Most of the times, object clause is altered for the reasons to attain large number of customers if company wants to carry some profitable activity, to enlarge areas of operation, to amalgamate with any other company, to sell whole or part of the company’s property, to attain its main purposes by new or improved means.

Altering liability clause

It can be changed by calling a meeting that takes place between all members, and if they agree to change, the registrar will have no problem. A 21 days in advance notice is sent to them so as to inform that the meeting has to take place. If majority come and others do not then the decision will be taken with consent of majority and the rest decisions will not be considered as they were not present during meeting.

Altering capital clause

Every holder who has contributed capital has to be notified of changes in this clause. Company has to pay off all debts, cancel all paid up capital by paying shareholders. One has to submit ordinary resolution to registrar and court will approve. There are reasons such as wanting to raise more capital, consolidate and divide its capital into shares of higher denominations, cancel the unissued capital, convert fully paid up shares into stock and vice versa, reduce amount of share capital, subdivide shares into smaller denominations.

(b) ARTICLES OF ASSOCIATION

This is a document clearly stating the rules and regulations that guide the internal operation of the company.

The Articles of Association contain the following information:

• Organization structure
• It states the rights and powers of each type of shareholders and the founders / promoters of the company and powers of directors.
• How to elect management committee
• How and when to hold meetings
• Ways of raising finance for expansion.
• How records of the company are to be kept.
• It shows the salary to be paid to the management committee.
• Borrowing, dividend and reserves policies.
• It states whether shares are transferable from one company or person to another and how, e.g. by sales exchange, etc.
• Book-keeping and auditing requirements.
• Methods of dealing with any alteration of the capital.
• Qualifications, duties, and powers of directors.

These articles of association thus serve as a guideline to the internal management of the company. The articles of association should be duly signed by the subscribers of the Memorandum of Association.

The memorandum and Articles of association serve as the constitution of the company.

The alteration of articles of association may be made fairly simply by calling a meeting of all shareholders and the alteration resolution being passed by the majority. The resolution is then forwarded to the registrar of the companies for effecting alteration.

Differences between the Memorandum and Articles of association

(c) List of directors

This documentation contains details of names, address, occupations, shares subscribed, and a statement of agreement to serve as directors.

(d) Registered office notice

This is the notice of where registered office of the company is situated.

(e) Statutory declaration

This form states that all the necessary requirements have been fully complied with and directors agree to act as such. This may be signed by the secretary or one of the directors or promoters of the company.

(iii) Registration of the company

This is affected after the Registrar of companies is satisfied with correctness of the documents tendered, who then asks the promoters to pay registration fees. Registration is affected by entering the name of the company in the register and giving a registration number.

(iv) Issue of certificate of Incorporation

The registrar will give a certificate of incorporation after registering a company.

A certificate of incorporation is conclusive proof of the fact that the company has been duly incorporated and it gives a company legal existence. The company comes into existence from the date of issue of the certificate of incorporation.

A private limited company can commence business operations immediately after receiving a certificate of incorporation but a public limited company should first obtain a certificate of trading before commencing business activities.

A certificate of incorporation shows:

1. Name of the company
2. Date when it is registered
3. Address and location of the company
4. Signature of the registrar

Before commencing the business, a public company must proceed to issue a PROSPECTUS inviting members of the public to buy its shares.

A prospectus

This is a notice, circular, advertisement or other invitation offering the public the opportunity to purchase the shares in the formed company. It is prepared by the directors of the company and must be signed by all. It gives detailed information about the promoters and the directors of the company. The purpose of this document is to provide the public with sufficient information about the company to encourage them to buy shares of the company.

The prospectus will contain the following details:

1. Name and address of the company.
2. Nature of the business (company).
3. Type of shares available.

After reading the prospectus, members of the public who are interested apply for shares, and send the application letter together with the application fee.

After this, the directors allot shares to the applicants, and then successful applicants are called upon to pay for the allotted shares. On payment, they become shareholders and are issued with share certificates. When the directors receive the necessary capital from the sale of shares, they inform the Registrar of the companies and a Certificate of Trading is issued.

A public limited company can only be allowed to start business when the Registrar is satisfied that:

• The company has raised the minimum amount of capital as required by the Memorandum of association.
• Every director has paid to the company the minimum amount of money for the shares to be taken by him or her.
• There is a declaration by one of the directors that the company has complied with all the regulations stipulated by the law that governs companies. Once the registrar is satisfied with this, the certificate is issued to enable the public limited company to start its operation.

Certificate of Trading/Trading license

This is a document which empowers the public limited company to start operating. It is issued by the registrar of the Company after the Company has raised the minimum share capital.

NOTE:

If the Company has been in existence for some time but wants to raise more capital, it contains the company auditors’ reports concerning the profits or losses and dividends for the past year. The latest balance sheet showing the assets and liabilities is also included.

FLOATATION OF CAPITAL/CAPITAL SUBSCRIPTION

This includes the following activities:

• Invitation and offer shares for subscription
• Appointment of a company banker and underwriter
• Issue of shares to the public

(i) Invitation and offer of shares for subscription

The promoters should state the minimum amount which they need to commence the business after receiving the certificate of incorporation.

The company should invite the public through press advertisement to subscribe for the share capital of the Company. The promoters must prepare the prospectus and make it available for issue to the prospective shareholders.

A prospectus is a document prepared by promoters containing all the necessary information about the Company together with an outline of the memorandum of association aiming at inviting the people to apply for the shares and to become shareholders in the formed company.

A prospectus duly prepared and printed is filed with the registrar of companies and ready for issue to the public.

A private Company

It can commence immediately after receiving certificate of incorporation since it raises its capital privately and not from the public. A private Company may have to raise its capital even before incorporation. It however requires a certificate of incorporation to inaugurate its business.

A public Company

It must first raise the necessary capital and obtain a certificate of commencement (trading certificate) before it starts operating. The process and procedure requirements for raising capital is referred to as capital flotation/subscription.

Permission for capital issue

Permission or approval of the controller of capital issue must be sought.

The following conditions should be satisfied for such approval:

• Debt – equity ratio (Ratio between capital and borrowings) should exceed 2:1
• Shares should be issued at par
• The rate of interest should not exceed the prescribed limit as in the Acts

(b) Appointment of banks and underwriter

The promoters appoint the bank which will distribute the prospectus, application forms and receive the applications for the shares and money on behalf of the Company.

Underwriting

If the Company feels that it will not be able to sell all the shares it is offering, it may get a commercial bank, or insurance company, or share broker to underwrite the issue. This means that the underwriter will take to buy any shares that may not be taken up by the public for a small commission.

Advantages of underwriting

• It relieves the company promoters of the risk and uncertainty of selling the shares.
• It enables the promoters to have large amount of capital at agreed terms and thus the company is saved from the worries about sufficient funds.
• The Company gets the benefits of expert advice of underwriters because they fully know well as to where, when and how the shares are to be sold.
• Underwriters are usually men or institutions of considerable financial status and highly established reputation. Association of such persons or institutions with the issue enhances the chance of its successful sale.

(iii) Issue of shares to the public

An application is made to recognized stock exchange for the permission for dealings with shares and debentures of a company. The following conditions should be satisfied for such approval:

• Debt equity ratio (ratio between capital and borrowing) should not exceed 2:1
• Shares should be issued at par (Nominal value/face value)
• The rate of interest should not exceed the prescribed form along with application money are received by the company bankers. The Company can issue shares to be paid fully at application or to be paid on installment.

SELLING SHARES ON INSTALLMENT

A company may decide to sell some of the shares in installments called “CALLS”. This is done to encourage a large number of people to apply for the shares.

Procedures for issue of shares in Installment (rarely practiced in Tanzania):

An advertisement may contain an application form or specify from where the application forms are available. Applicants fill in the form stating the numbers of shares they wish to buy or subscribe for and are asked to pay application money, which gives the company an assurance that the applicant is serious.

(ii) Allotment of shares

After the application period and the list is closed, all applications are forwarded by the bankers to the Company.

On the receipt of applications, the directors go through them and decide which ones are to be allotted shares either on prorate basis or the other way through by them to be just and fair. Oversubscription and undersubscription may happen.

Oversubscription occurs if more shares have been applied for than the shares issued and vice versa is true for undersubscription. Some of the applications may be rejected, the letters of regret are sent to them with refund money they have paid. For those accepted, allotment letters are sent and they are asked to pay the allotment money. In other words, allotment is the acceptance by the company of the subscriber’s application.

Should a shareholder fail to pay the rest of installments (calls) within a specified period, his membership is cancelled and the already paid installment is not refunded.

(iii) Issue of share certificate

On receipt of allotment monies, the successful applicants are issued with share certificates which become evidence of membership to the company and all the names are written in the register of shareholders. This entitles them to receive dividends at the end of trading period.

(v) Making Calls

The shareholders will be asked to pay the balance of the par value in two or three installments referred to as call money.

(vi) Forfeiture of shares

Shareholders who after having been allotted shares fail to pay are forfeited and lose the money they may already have paid. Forfeited shares are later re-issued by the company.

4. ISSUE THE CERTIFICATE OF INCORPORATION AND COMMENCEMENT OF BUSINESS UPON

The certificate of Trading is a document that empowers a company to begin trading and automatically makes provisional contracts already entered into effective and binding on the company.

To obtain the certificate of commencement, a public limited company must file the following documents with the Registrar of companies:

• A return of allotment containing the names and addresses of shareholders and the number of shares.
• A declaration that the director has applied for and obtained permission for its shares to be dealt on the stock exchange.
• A statutory declaration signed by a director stating that the necessary formalities have been duly complied with respect to the issue of shares.

SHARE CAPITAL OF THE COMPANY

THE CAPITAL STRUCTURE OF COMPANY

The capital structure of a Company refers to the different categories under which the authorized capital of a company is divided. This is because the company does not normally invite subscriptions for all of its nominal or authorized capital at one time. Payments are usually by periodic amounts known as installments or calls.

The capital of the company is called share capital because it consists of and is raised by selling shares. The following are types of share capital or company capital.

1. Authorized Capital/Nominal Capital/Registered Capital

This is the maximum amount the Company expects to raise and operate with by selling shares and it is stated in the capital clause of its memorandum of Association. Assume that the Company share capital is made up of 100,000 ordinary shares of shs. 10/= each.

The nominal or authorized capital of the company is 100,000 x shs 10 = sh 1,000,000/=. Once registrar of companies expects such a firm to operate with this amount.

2. Issued and Unissued Capital

This is the part of the authorized capital which the company may actually have offered to the public for subscription in the form of shares. The company issues shares according to its requirements.

For example, out of the company authorized capital the directors may decide to put some of it to the public so as to start subscribing for. Suppose they issue only 50,000 x sh. 10 = 500,000. The remainder is 50,000 shares x sh. 10 = 500,000. Therefore, issued capital is sh. 500,000.

3. Called up share capital

Once the shares have been put to the public so as to start applying for, then the shareholders are called upon to subscribe or to pay. They may be called upon to pay for all the shares issued or only a fraction of what was issued.

Assume that each shareholder is asked to pay shs 5 first for every share he has taken up. Since 50,000 shares were issued, the amount of called up capital is 50,000 x sh. 5 = 250,000. The remainder is known as uncalled up capital i.e. what shareholders are asked to reserve for sometime.

4. Paid-up share capital

This is the actual amount received from the subscribers by the company out of the called up capital. The amount unpaid is known as calls in arrears.

5. Reserve capital

A public company may create a special category of capital known as Reserve capital in respect of called up capital of the company.

Reserve capital is the amount which is not callable by the company except in the case of the Company being wound up. Reserve capital is created by means of a special resolution passed by the company in the general meeting.

6. Loan Capital

This is money provided by the issue of debentures or borrowing from the bank. Such capital is a liability to the Company.

7. Minimum share capital

This is the amount stated by the promoters when making application for the registration of the Company as the minimum amount required for commencing business effectively.