Seminar 3 Business Organization

Different Types of Business Organisations

A. Sole Proprietorship
The business as well as the property of the business are owned by the proprietor. Its powers are unlimited,
subject to the law. It is managed by the proprietor or his employed manager. The liability of the sole
proprietor is unlimited. The source of finance is the proprietor himself. He can obtain secured or
unsecured loans, but no floating charge may be given on its property. Profits tax is at the standard rate
and personal assessment is available under the Internal Revenue Ordinance (Cap 112) ss 40B et seq.

A sole proprietorship business is the kind of business that is conducted by one person. The person runs
the business on his own without sharing his business with anybody. He gets all the profits of the business,
but he also takes up all the risks of the business. Although a sole trader does not have to be responsible to
any business partners, he is wholly liable for all the debts incurred in the business.

1. Advantages of Sole Proprietorship

If this is the first time an investor runs a business, probably he is thinking of some sort of business that
can be easily manageable. He may not want to start business with a lot of complications. Simplicity is the
main advantage of sole proprietorship:

1) Simple to set up - all the in vestor needs to do is to apply for a business licence from the Business Registration
Office. Every person carryin g on a business shall make such an application within 1 month of the
commencement of such business.
2) Easy to make decision - a sole trader does not need to discuss with other people before a business decision is
made. As a sole trader is the only boss of the business, he can simply decide in whatever way he like s. He does
not need to get approval from his business partners before entering into a contract.
3) Efficiency - without the necessity to join with other people in making a decision, a sole trader normally can run
his business in an efficient manner. A business decision can therefore be made quickly.
4) Profits entitlement - a sole trader does not need to share the profits with other people. He gets all the profits of
the business, which provides a good incentive for him to work hard.
5) Close relationship with customers - as a sole tra der is the sole boss of the business, it is quite often that the
sole trader will fully and actively work in the business. In fact a sole trader has to do so because of his unlimited
lia bility in the business. This develops personal and close contacts with his customers.

2. Disadvantages of Sole Proprietorship

1) Sources of fina nce - a sole trader, being the sole boss of his business, will have difficulty in sourcing finance.
Unless a sole trader himself has adequate finance in setting up and running the business, he needs to be
cautious in managing the finance to avoid the occurrence of liq uidity problem in the course of business.
2) Heavy workload - although a sole trader can make speedy and efficient decision, he also has to make all
decisions himself. This makes him very tired because there is no one to share his burden. The situation may
even worse if he becomes sick and is unable to take care of his business in a period. There may be some
solutions to solve this problem. For example, a sole tra der can employ staff to ease his workload and delegate
authority to them to make decision on his behalf, but it is still the sole trader himself to shoulder all lia bility of the
business.
3) Unlim ited personal liability - it is risky to run sole proprietorship business because a sole trader is the only
person to be responsible for all liabilities of the business. His lia bility in the business is unlimited.
For example, even a sole trader plans to allocate part of his assets, e.g. $1 million out of his own assets of $5
million, to set up the business, if it turns out to be a failure, he will be held fully liable for all the debts in curred in
the business. Even the sole trader's in tention is to spend $1 million for this in vestment, his liability will not be
limite d by that amount. If the business in curred $5 million debts, the sole trader will have to use up all of his
assets to pay off the debts. In case the debts incurred exceeds his own assets, the creditors can petition the
court to bankrupt him.

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4) Capital - a sole trader has to contribute all the working capital for setting up the business. There being no other
people to share with him. At best, he may borrow some money from his friends or re latives.

5) Los ses - A sole trader shall bear all the losses re sulting from the business. It can be a great psychological
pressure on him when the business is slipping down.

B. Partnership
A partnership is an unincorporated association based on agreement amongst the partners. There is no
requirement that the partnership agreement be in writing, but it is highly advisable.

A partnership is defined by s 3(1) of the Partnership Ordinance (PO) (Cap 38) as ‘the relation which
subsists between persons carrying on a business in common with a view of profit.’ It may not always be
easy to determine whether a partnership exists in some situations, e.g., might be employer/employee,
principal/agent, landlord/tenant, licensor/licensee, franchisor/franchisee, lender/borrower, contractual
joint venture, trust: see Chan Sau-kut v Gray & Iron Construction and Engineering Co. [1986] HKLR 84.

S 47 of the PO preserves the rules of Equity and of Common Law applicable to partnership, except so far
as they are inconsistent with the provisions of the Companies Ordinance (CO). The PO is facilitative,
rather than mandatory and most of the provisions of the PO can be excluded by contrary expression, e.g.,
s 21 of the PO provides that:

‘The mutual rights and duties of partners, whether ascertained by agreement or defined by this Ordinance,
may be varied by the consent of all the partners, and such consent may be either express or inferred from
a course of dealing.’

Legal status of partnership firm

A partnership has no separate identity from its partners under HK law. This lack of separate identity and
unlimited liability is one of the reasons for the popularity of the limited liability company.

A limited partnership can be formed according to Limited Partnership Ordinance (Cap 37) (LPO). This is
a different kind of partnership, and must be registered with the Companies Registry (CR). A registration
fee of HK$340; and a fee of HK$8 must be paid for every HK$1,000 or part of HK$1,000 of the sum
contributed by each limited partner. In a limited partnership, a limited partner is only liable up to capital
contributed (s 3(2)) and may not participate in the management of the firm or bind the firm (s 5(1)). If he
takes part in management he will lose his status as a limited partner and become fully liable as a general
partner. (s 5(1) & (2)). Limited partnership has not proved popular.

Note that the inclusion of the words ‘and Co.’, or some variation thereof, in titles of business entities,
without the word ‘Limited’ also appearing, will indicate that they are partnerships, not limited liability
companies.

C. Companies
The law governing companies is the Companies Ordinance (CO). In 2012, the new Companies Ordinance
(NCO) was passed by the Legislative Council. It came into operation in March 2014. It consists of 921

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sections and 11 Schedules, compared to the 367 sections and 24 Schedules of the old CO. This is partly
because it is drafted in a more modern, plain English style and what was compressed into one section in
the old CO may be expanded into several sections in the NCO.

1. Private Companies
Private companies are devised for the small business and are intended for situations where the members are
also the managers of the company. A private company is defined by s 11 of the NCO as a company which by
its articles.

“(1) For the purposes of this Ordinance, a company is a private

company if—
(a) its articles—
(i) restrict a member’s right to transfer shares;
(ii) limit the number of members to 50; and
(iii) prohibit any invitation to the public to subscribe
for any shares or debentures of the company; and
(b) it is not a company limited by guarantee.”

Restriction on the right to transfer shares:

A company enjoys perpetual succession. Shareholders will leave the company or die; however, this does not
affect the continued existence of the company as shares can be passed on (e.g., to their successors – spouse,
children, etc. in the case of death). In general, to facilitate the continued existence of a company, its shares
must be transferable. Thus, if a shareholder wants to retire or is no longer interested in the business, he can
transfer his shares in the company to someone else. In the case of a listed or public company, this is not a
problem. However, in the case of a private company, the articles of association will (by law) contain
restrictions on share transfers. It may take the form that any member who wishes to sell his shares must first
offer them for sale to the existing members of the company (known as a pre-emptive clause) or that the
directors have an absolute discretion to refuse to register a transfer of shares. Where the directors disapprove
a transfer, they can refuse to authorise entry of the transferee’s name in the shareholders register.

Re Smith and Fawcett Ltd (1942), the company’s article provided that the directors might, in their absolute
and uncontrolled discretion, refuse to register any transfer of shares. The directors refused to register a
transfer and the court refused to intervene in the exercise of the directors’ discretion without evidence of bad
faith. Lord Greene MR said: ‘… a fiduciary power of this kind must be exercised bona fide (in good faith) in
the interests of the company. Subject to that qualification, an article in this form appears to me to give the
directors what it says, namely, an absolute and uncontrolled discretion …’

Unless and until the transferee’s name is entered on the shareholder’s registered, he cannot become a member
of the company even if he has already paid the price for the shares.

(1) Companies Limited by Shares

A company may be registered as limited by shares. Its memorandum will state the maximum number of
shares which it may issue and each share will have a nominal value. Shares are usually paid for in full when
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they are issued, in which case, even if the company is wound up and is unable to pay its debts, the members
are not liable to pay those debts. In other words, their liability is limited to the value of the shares, and this
has already been contributed. However, where shares have only been partly paid for, the members may be
liable to contribute towards paying the company's debts, but their maximum contribution will be the amount
unpaid on their shares. Remember: It is the members who enjoy limited liability, not their company.

(2) Companies Limited by Guarantee

A company limited by guarantee is appropriate when there is no intention to distribute the company's profits
to its members and does not therefore need to have shares. This is typical of charity or non-profit making
organisations. The liability of the members is limited to the amount which they agree to contribute to its
assets in the event of the company being wound up. The amount guaranteed by each member is specified in
the memorandum of association.

(3) Companies Without Limited Liability

The members of these companies will be personally liable for the debts of the company without limit.

Advantages of private company

Private companies are relatively cheaper to maintain, as their shareholders have power to waive compliance
with certain requirements as to accounts. While all companies are required to lodge with the Registrar an
annual return, which is available for public inspection, exempt private companies need not file accounts with
their annual return. So they can keep their financial information private.

They may redeem or buy back its shares out of capital if so authorised by their articles. They do not need to
issue a statement in lieu of prospectus before allotting shares or debentures. Their members may approve
loans to directors.

2. Public Companies
"Public company" is defined under s. 12 of the NCO.

Listed companies: A listed company is one whose shares or debentures are traded on the Hong Kong Stock
Exchange1, such as HK Exchanges and Clearing Ltd (0388), HSBC Holdings plc (0005) and Hang Seng Bank
Limited (0011). It must therefore also be a public company.

3. Non-Hong Kong (formerly overseas) Companies

ss 774, 776 Companies (Non-Hong Kong Companies) Regulation

1
http://www.hkex.com.hk/eng/index.htm
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A company incorporated outside HK which establishes a place of business in HK must register with the
Companies Registry 2 (CR) within one month of establishing a place of business in HK, by lodging certain
documents and information, including the address of the principal place of business of the company in HK
and the address of its registered office in its place of incorporation, the name and address of at least one
person resident in HK who is authorised to accept service of document on behalf of the company (often a
firm or corporate practice of solicitors or professional accountants), and a list of the directors and secretary of
the company.

Advantages and Disadvantages of Sole Proprietorship, Partnership and Private Limited Company3

Sole proprietorship Advantages Disadvantages

Simple to set up Limited sources of finance

Easy to make business decision No one to share with the workload

Efficient in running the business Unlimited personal liability

Does not have to share the profits Provide all the capital to start the business

Close relationship with customers Personally responsible for all the losses

Partnership Advantages Disadvantages

Partners to contribute to capital Unlimited personal liability

More sources to obtain finance Each partner is fully liable for business debts

Easy to set up Firm is not a separate legal person

Partners to share workload Possible conflict between partners

Partners to share liability Need discussion with partners before making

business decisions
Partners to contribute skills and knowledge Agreement made by one partner is binding on
all other partners

Private limited company Advantages Disadvantages

Limited liability Need to disclose company information to the
public
Greater continuity Involvement of considerable documentation
and expenses in forming and maintaining a
company
Easy to obtain finance Complicated in complying with the
Companies Ordinance
Separate legal entity Company can only be closed by liquidation

Easy to transfer shares

Separate ownership and management

D. Business Registration Certificate

2
http://www.cr.gov.hk/en/home/index.htm
3
Source of the table from HKTDC http://info.hktdc.com/sme/setup/b-ch2.htm
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Under the provisions of the Business Registration Ordinance (Cap 310), every sole proprietorship or
partnership carrying on any business must register the business with the Business Registration Office
within 1 month of the commencement of the business. In the case of companies, application should be
made within one month of the date of incorporation or registration with the CR. The Business
Registration (BR) Certificate must be displayed at the place of business. The purpose is to provide
information for the opening of tax files and is not a licence to trade.

The One-stop Company and Business Registration Service is a new service jointly implemented by the
CR and the Inland Revenue Department. Starting from February 2011, any person who applies for
incorporation of a local company or registration of a non-Hong Kong company under the CO will be
deemed to have made a simultaneous application for business registration. Upon approval of an
application for company incorporation or registration, the CR will issue the Certificate of Incorporation
(CI)/Registration and the BR Certificate in one go.