By Sunidhi Singh, Army Institute of Law, Mohali.

“The success of the young entrepreneur will be the key to India’s transformation in the new millennium”. 

-Dhirubhai Ambani

India without any doubt is emerging as a major market in the world economy. While the older and larger businesses have already made a firm grip on the global market, the smaller upcoming startups are doing their bit in bringing the World to India. In order to stay put and form robust associations, it becomes essential for all the young entrepreneurs to be fully thorough in terms of the kind of business model they wish to set up, and analyzing the different methods to take their firm through to the top most positions.

“You cannot get into business for the fashion of it.” -Azim Premji

Before discussing anything else, it is very important for all of us to first know what a business is. In general, a business, also known as an enterprise, agency or a firm in general, is an entity associated with the provision of goods and/or services to the consumer.

The concept of business entities:

While starting up a business, one has to think about what type of business model would best suit the purpose of the business one is planning to set up, for the payment of relevant taxes, checking owner liability, investment, funding and compliance burden. Around the world, there are three types of business entities, which are: sole proprietorship, partnership and corporation.

Since India is a land of diversity constituting a mixed economy, several types of business entities can be found throughout the country such as private and public limited companies, sole proprietorships, limited liability partnership companies, wholly owned subsidiaries of foreign companies, joint venture companies, etc. For the sake of clarity for the novice businessmen, and to reduce the complexities of the varied types of business entities, in India, we essentially have the following five kinds of legal business entities, which both the Indian and the foreign companies can form:

  1. Sole Proprietorship
  2. Partnership
  3. Limited Liability Partnership
  4. Private Limited Company
  5. Public Limited company

SOLE PROPRIETORSHIP

This is the easiest and oldest type of business entity that can be established in India. Under this set-up, a single person is the owner and the solo worker of the whole enterprise, which is generally small in size. He is the sole bearer of all the profits and losses occurring during the course of business. Such a firm has no separate legal existence from that of its owner. The identity of the owner is synonymous with that of the business and personal assets of the owner are not separate from the business assets. In fact, no separate PAN (Permanent Account Number) has to be created for such a business entity as the PAN of the owner is sufficient. Hence, the ownership in this case is not transferable.

These business entities are formality free and do not require any complex rules for functioning. Thus, special registrations under the government provisions can be done on the basis of need and not necessity. There are a great number of examples of sole proprietors in India, ranging from a modest fruit vendor to an average shop owner.

Hence, sole proprietorship has various advantages such as ease of formation of entity, secrecy of business, quick decision making and flexibility of operations. But the problem with this kind of business is that it cannot grow beyond a certain limit due to limited skills and capital, attached with the setup.

PARTNERSHIP

Partnership is a type of business entity wherein 2 or more people join hands and come together to carry on a lawful business. But the number of members should not exceed 10 in case of a ‘banking business’ and 20 in case of ‘other businesses’. Partnership firms have no separate legal existence from its owner. Each partner has an equal say in business decisions and the all the profits and losses occurring in the normal course of business are equally divided among all the partners. But no partner can sell his share to anyone without the other partner’s consent.

The biggest advantage of partnership is that you can access a greater pool of capital, goods and services, ideas, skills and opportunities which further expands the ambit of the business.

In accordance with the Indian Contract Act, 1872, the liability of each partner in a partnership is ‘joint and several’, which means that each partner becomes liable to compensate in case of any default or debts on the part of any one partner. While this clause is of substantial advantage to the consumers, it becomes a cause of great annoyance for the business partners, as their liability under such model is unlimited.

Such a firm ceases to exist, with the death or insolvency of any of its partners.

LIMITED LIABILITY PARTNERSHIP

Governed by the provisions of the Limited Liability Act, 2008, an LLP is the most preferred type of business entity. A Limited Liability Company is a separate legal entity from its members and requires a separate Permanent Account Number (PAN). Every LLP must have at least 2 partners and shall also have minimum 2 individuals as designated partners of whom at least one shall be resident in India. There is an obligation to maintain annual accounts which shall be regularly audited.

Personal assets of the members are not affected in such a situation, especially in cases related to bankruptcy, as the maximum liability of the members is decided by his share of capital or investment in the business. The LLP setup allows its members to retain flexible ownership, however, the liability of each partner is limited, which means that no partner is responsible for the default of the other partners.

Owing to its structural and operational flexibility, it is useful for small and medium enterprises in general, and for the enterprises in service sector in particular.

PRIVATE LIMITED COMPANY

A Private Limited Company is the most preferred and popular model among foreign investors in India, as it is also one of the most sophisticated business entities. These companies need to maintain a record of all the transactions and accounts. Business assets are different from personal assets. There must be a minimum of 2 and maximum of 50 members in such a company, whereby shareholders have the privilege of sharing and transferring their shares to others, thereby making them the new shareholders. The liability of the shareholders is only to the extent of their share in the assets.

Private Limited Companies can be of three types:

  1. Company limited by shares: liability of the members is limited by the amount of shares held by them.
  2. Company limited by guarantee: liability of the members is limited to such an amount as promised by them to be contributed to the assets of the company.
  3. Unlimited Company: No limit on the liability of members.

It is an expensive form of incorporation and requires a lot of time for setting up, through a long legal procedure.

Examples of such companies are Marriott Hotels India Pvt. Ltd., Forbes Marshall Pvt. Ltd., and Microsoft Corporation (India) Pvt. Ltd., etc.

PUBLIC LIMITED COMPANIES

The Indian Companies Act, 1956, lays down provisions for setting up a Public Limited Company which is a voluntary association of members having limited liability and is a separate legal entity. Its existence is not affected by the death or insolvency of any of its shareholders. Such companies must have a minimum of 7 members, but there is no upper limit to the number of members.

This business entity has many advantages, such as continuity of existence of the business, no restriction on the transfer of shares, larger amount of capital, unity, management efficiency and limited liability.

However, the public limited companies have some drawbacks, including, scope for frauds, undemocratic control of Board of Directors possessing the power of decision making as the shareholders don’t have the right to interfere in the day to day activities of the firm, thus creating scope for directors to gain personal profits.

Some examples of such companies are State Bank of India, Steel Authority of India Ltd. and Coal India Ltd. Etc.

Hence, if you are a budding Entrepreneur who desires to set up a new business in India, you can move forward keeping in mind the above mentioned points and information provided therein, according to your needs and the purpose to be achieved.

“Think big, think fast, think ahead. Ideas are no one’s monopoly.”

   -Dirubhai Ambani