Article by: Entrepreneur
Do you know which type of business will suit your South African business idea best? Here are the five different types you can register your business as.
Are you looking to start a business? There are numerous ways you can structure your new business, which will play a part in how you run it and who you answer to.
If you’re a group starting a business together, or one founder going it alone, you should know the benefits and drawbacks of each structural type. Here are the 5 different types of business structures and how they will impact your business:
1. Sole Proprietorship
A sole proprietorship is when there is a single founder who owns and runs the business. This is the simplest form of business entity because the business is not separate from the owner.
You can give your business a trading name, and only you have the authority to make decisions about your business.
Advantages of a sole proprietorship
There are quite a few advantages of sole proprietorship, such as:
- It’s easier to set up than any of the other business entities.
- The owner maintains 100% control and ownership of the business.
- The owner is entitled to all of the profits.
Disadvantages of a sole proprietorship
There are also disadvantages for sole proprietorship, such as:
- You, as the owner, assume all the risk for the business. Your assets will be seized to pay for business debt, and you are personally liable for any obligations.
- If you wish to include another owner in your business, you’ll have to dissolve the sole proprietorship and form a new business entity.
Sole Proprietorship Example
Sole proprietorships are typically smaller, one-man businesses. Once they grow larger, partners come on board or the business is registered as a Pty Ltd. This means that a large portion of global businesses were at one stage sole proprietorships such as:
Amazon – Jeff Bezos
In 1994, Bezos resigned from his six-figure corporate job to pursue his business idea. He wanted to create an online bookstore called Amazon. It was risky, but he was convinced that the internet was the place to grow a business.
He worked out of the garage of his rented house, where he stored, packaged and shipped books to customers. Bezos focused his time upskilling himself on how to source books and developing an online, user-friendly system for his customers.
A year later, he launched with more than a million books, calling itself ‘Earth’s Biggest Book Store’.
Four years after his first sale, Bezos took the company public and Amazon became a vast online marketplace, making sales of more than USD610 million, with more than 3000 employees and 13 million customers globally.
A partnership is when 2 or more co-owners run a business together. Partners will also pool their money towards a common goal, share specialised skills and resources and share in the ups and downs of business success.
Advantages of having a partner
Just like with a sole proprietor there are benefits to having a partner or partners helping you run your business, such as:
- With more people comes more knowledge and expertise
- You’ll have more capital and cash to work with.
- You can share the financial burden and expenses of running a business with your fellow partners.
- Having partners means there is an even distribution of labour.
- You’ll have a better work-life balance as there are others to assist you with the workload? and ensuring your business is becoming a success.
Disadvantages of having a partner
Having more people isn’t always a benefit, here are the disadvantages of having partners:
- Everyone is liable for debts whether they were caused by other partners or not.
- You have to share control of the business with your partner(s)
- Dealing with others is not always seamless, there could be a falling out or an argument, which can strain the relationship between you and your partner.
- If you ever want to sell your business, this could prove difficult if others don’t want to sell.
Before a business becomes a global hitter, it can start off as a partnership. Once they grow their business they can register as a Pty Ltd or public company. This business started off as a partnership and grew into one of the most well-known and profitable businesses in the world:
Apple – Steve Wozniack and Steve Jobs
Partners, Steve Wozniack and Steve Jobs, found they had a mutual love for electronics and become friends. After working together on a project, they proved their partnership successful, they decided to team up and develop a personal computer.
In 1975, they set up shop in Jobs’ parents’ garage and began developing the prototype named Apple 1. In an effort to raise enough money to launch, Jobs sold his car and Wozniack sold his Hewlett-Packard calculator.
They enlisted the help of a third co-founder Ronald Wayne and began selling the Apple 1. With their profits they improved and refined their design and launched Apple 2 in 1977.
3. Pty Ltd – Proprietary limited company
A private company, Pty Ltd or proprietary limited company is treated as a seperate legal entity. So even if you launch your business single-handedly, this type of business is registered as a separate legal entity.
The owners of a Pty Ltd are also known as the shareholders.
Advantage of being a Pty Ltd
- You don’t have to explain your finances and decisions to anyone. This is the reason Richard Branson took his company private again after having it public for two years.
- The business is a sperate entity, so it continues to run smoothly even if you sell your shares or take on partners.
- Shareholders are typically not liable for company debts, although there are some tax liabilities.
- Anyone acting recklessly or fraudulently can be personally liable for all or any debts of the Pty Ltd.
Disadvantages of being a Pty Ltd
Although there are a fair amount of benefits, there are also drawbacks to structuring your business as a Proprietary limited company, such as:
- Private companies are required to comply with a large number of legal requirements.
- This type of business is challenging and expensive to register.
- As this is a private company, you can’t offer shares to the public or list the business on a stock exchange.
- Two shareholders must be at a meeting, except when the company only has one shareholder
- All of your financial statements need to undergo annual auditing. There are some exceptions in the new Companies Act, find out more here.
Pty Ltd Example
Although he started out as a sole proprietor and eventually launched as a public company, he ultimately chose to run a private company. Here is an example of a private company:
Virgin – Richard Branson
After several years of hustling, in 1969, Richard Branson started a mail-order record company. It made enough money for him to expand and open a discounted record store.
He then launched a successful record label, as well as expanding into industries such as trains, mobile phones, banking, bridal wear and gyms and an airline.
“I did not set out to build a business empire. I set out to create something I enjoyed that would pay the bills,” says Branson.
4. Public Company
A public company is a business that issues securities through an initial public offering (IPO) and trades its stock on at least one stock exchange. The daily trading of the public company’s stock determines the value of the whole business.
Publicly traded companies are defined as public because, unlike Pty Ltd businesses, shareholders can be anyone who purchases stock. Anyone can then become equity owners of the business.
Advantage of publicly traded companies
Just like any other type of business structure, a public company has benefits, such as:
- Since you can sell your shares to the public, this offers you more capital to work with.
- Being listed on a stock exchange means that fund managers and traders are keeping an eye on your business. The more interest you have, the more business opportunities will come your way.
- The risk is spread out amongst the various shareholders. The more shareholders, the less risk everyone holds.
Disadvantages of publicly traded companies
Here are the disadvantages of this type of business structure:
- Setting up a public company is more challenging compared to the other types of business structures.
- Since there are now more shareholders, directors and managers, making decisions can take significantly longer.
- You’ll need to reveal some of your documents and annual accounts are published for inspection to the public. This improves transparency but doesn’t enable you to guard your secrets effectively.
- When you go public, you’re selling the ownership of your company to strangers. It’s challenging to raise the money you need while keeping a 51% majority.
Public Company Example
Many internationally recognisable businesses started out as a partnership, this business is no different. Today it is one of many publicly traded companies on the New York Stock Exchange.
Facebook – Mark Zuckerberg
In 2004, Mark Zuckerberg, Eduardo Saverin, Dustin Moskovitz, and Chris Hughes, founded Facebook while studying at Harvard University. Facebook has since become the largest social network in the world, with 2.38 billion monthly active users.
In 2012, Facebook filed to become a public company. Its initial public offering raised $16 billion, giving it a market value of $102.4 billion. At the end of the first day of trading, Mark Zuckerberg’s holdings were estimated at more than $19 billion.
A franchise is when the owner of a business licenses their business to a third party. This gives you the right to operate the business or distribute goods and/or services using the business’s name and systems, for a fee.
Advantage of operating a franchise
- Typically, a franchise has a successful track record and a positive reputation that you can capitalise on.
- Franchises offer training programmes designed to optimise how you run the business and bring you up to speed quickly.
- If you join a franchise, they also offer ongoing operational support. This ensures you’re not alone when building and growing your business.
Disadvantages of operating as a franchise
Buying into a franchise also comes with its own set of issues and drawbacks, such as:
- If you’ve bought into a franchise, you’ll have to follow the rules, regulations, system operations and directives of the franchise.
- The cost of becoming a franchisee can be high, sometimes even higher than starting your own business.
- You’ll have to pay royalties to the franchise for the use of their name and systems.
Franchise Example – McDonald’s
McDonald’s started out as a partnership between the two McDonald’s brothers. Since then it has franchised across the world, opening over 36 000 restaurants and operates in over 100 countries and territories.
Now it is one of the most popular international fast-food chains. Their popularity amongst new franchisees has to do with their extensive training and support, to continue to offer consistency across every business no matter where in the world.
McDonald’s restaurants serve over 68 million people every day, that’s more than the entire population of South Africa.
What type of business should you start?
Your needs and the needs of your business will determine which type of business structure will be the best for you. Feel free to switch between types as your business grows.
When starting a business, you can register as a sole proprietor or partnership and eventually grow into a Pty Ltd or public company. Use the different types of business structures to your and your business’s advantage.