Operating a Business in Australia - Case Study Example

Business Entity Name Course Lecture Date 1.0 Introduction For persons wishing to operate a business in Australia various types of business entities are available. Businesses in Australia can operate as sole proprietorships, partnerships or a company limited by shares. In the case of two investors like Kylie and Imad, they can either operate their business as a partnership or a company limited by shares. Each type of business has various variations which provide additional advantages to those operating under that form of business. Each of those two business forms carries a number of legal implications and advantages for the investors. 2.0 Sole proprietorship Sole proprietorships are the easiest and simplest business entities in Australia. However, for two individuals who want to go into business together, sole proprietorship are not an option. Sole proprietorships are businesses that are owned and operated by one owner. 3.0 partnerships A partnership is a more suitable entity for Kylie and Imad to start their business in Australia. A partnership allows two or more people to engage in an investment opportunity jointly. The definition of a partnership refers to a relationship between two or more individuals with the objective of making a profit1. Under The Corporations Act 2001 (Cth) s 115, the number of partners who can legally form a partnership is limited to 202. However, for some professional businesses different membership caps are applied. 3.1 Legal formalities at formation One of the main advantages of operating a business as a partnership is that there are no legal formalities required for the formation of the business. The law only requires the partners to have the legal capacity to understand the legal implication of entering into a partnership relationship3. However, legal capacity does not restrict minors from becoming members of partnerships. In some cases, partners are required to formulate a partnership agreement at formation. Partnerships are also required to register their business name if it is different from their own names. It is illegal for partnership to use an unregistered business name unless the name comprises all the names of the partners4. 3.2 Partnership agreement A partnership agreement is a document that sets the terms of association between members of the firm. In its absence all matters concerning association of the partners are under the jurisdiction of the State’s or territory’s Partnership Act. Under legislation, losses, liability and profits are shared equally between the partners. In contrast, the partnership agreement allows the partners to specify how profits, losses and liabilities will be shared between the partners of the firm5. 3.3 Liability of Partners One of the disadvantages of a partnership as a business entity is the unlimited liability of its partners. The law does not recognize a partnership as a separate legal entity from the people who have formed the business6. Under partnership legislation, partners are jointly and severally responsible for the partnerships liabilities. This weakness of a partnership as a form of business has serious implications for individuals wishing to operate a business as a partnership. Partners can therefore be sued for liability that is incurred or occurs as a result of their partners’ actions. In Walker v European Electronics Pty Ltd (in liq) (1990) 23 NSWLR 1, a partner was held to be liable for liability incurred by another partner in the course of running their business7. Section 9 (1) of the Parnership Act 1892 (NSW) asserts that partners are jointly responsible for contractual and debt obligations incurred by their firm8. In combination with the fact that partnerships have unlimited liability, joint liability means partners are most vulnerable to having their personal property attached for the debts of the firm. Unfortunately, Legislation allows partners unlimited power to enter into business contracts on behalf of the partnership. In some cases, partnerships may not be bound by contracts made by partners operating beyond the scope of their authority. Section 5(1) of Parnership Act 1892 (NSW) asserts that a firm is not bound by contracts made by partners, if: the partner is not authorised to act on behalf of the partnership; if the contracting party is aware that the partner has no authority to act on behalf of the partnership9. However, Young v Lamb (2001) 10 BPR 18,553; [2001] ANZ ConvR 629; [2001] NSWCA 225 held that consent of all the partners is not needed for them to be bound by a business decision made by rogue partner10. 4.0 Company Limited by shares Company limited by shares overcomes the unlimited liability weakness of partnershipS while allowing individuals to operate business ventureS jointly. Kylie and Imad can form a company where they both own shares and their liability is limited to their capital contribution11. Unlike, partnerships, the law recognizes the company formed as a separate legal entity and the shareholders and directors personal property cannot be attached to cover the debt obligation of the company12. Companies limited by shares can either be public or private companies13. A public company is not suitable for Imad and Kylie as it involves issuing shares to the public at the stock exchange. While the public company has many advantages when it comes to raising capital, for two individual wishing to operate a business together it is not an appropriate form for their business. A proprietary company is a more suitable form of company for Imad and Kylie to use to operate their business venture. This type of company can have as few as one shareholder and a maximum of 50 shareholders as set out by the Corporation Act14. However, unlike public companies, private companies cannot issues prospectus as an instrument for raising capital 15. A proprietary company is recognized by the presence of the suffix “pty limited” or “Pty ltd” at the end the business name16. 4.1 Set up formalities One of the main disadvantages of operating as a private company is the number of legal formalities required at the formation stage. These legal formalities may attract substantial cost to Imad and Kylie before the company is formed. In addition to the registration of the business name a company also to has to fulfil other additional legal requirements. Companies are requiring preparing a constitution and registering with the ASIC before starting operations17. 4.2 Tax Implications Company’s limited by shares suffer a taxation disadvantage when compared to partnerships. The profits for partnerships are assessed for income tax as the owners’ personal income. In contrast, the profits of a company are levied a corporation tax and later the dividends are18. 4.3 Continuity and transfer of ownership From the perspective of creditors, the ability of a company to continue existing after the death of a shareholder or shareholders is a great advantage. This characteristic of a company allows creditors to recover their debt even though shareholders may have died19. This means lenders are more confident of recovering their debts when dealing with companies. Furthermore, Imad and Kylie can transfer the ownership of the business to other interested parties if they wish to exit the investment20. However, a shareholder wishing to transfer his ownership in a proprietary company has to obtain the consent of the other shareholders. 4.4 Management and Control While partners can directly manage and control their business investment, management and control in companies is indirect. Shareholders of companies manage their investment through elected directors21. 4.5 Member’s liabilities Arguably, a company limited by shares is the most viable option for Kylie and Imad to use to start their business. Kylie and Imad will be able to operate their business without worrying about personal liability for the business’s debts. Business debt can only be recovered against the shareholders capital contribution. However, as owners of a proprietary company, Imad and Kylie may be asked on occasion to provide personal guarantees to lenders22. In addition, Imad and Kylie must be aware that court may disregard the limited liability of proprietary companies and pave the way for the shareholders to be personally liable for the business debts and other liability23. 5.0 Private Company Kylie and Imad should form a privately-held company or proprietary company as it is most suitable for an investment with two partners. The company should have the following characteristics to be legally recognises as a proprietary company24: Must have share capital; either limited by shares or unlimited; Have less than 50 shareholders25; Undertake no disclosure reporting as required of corporations under Chapter 6D of the Corporation Act26; Have at least one Directors27; Must not offer shares to the public in order to raise capital28. Kylie and Imad’s company will join many other Australian businesses that operate as proprietary companies. Many proprietary companies are characterised by ownership by families or a limited group of shareholder29. On many occasions, the shareholders of proprietary companies are also directors and employees in the companies. Like, public corporation the activities of proprietary companies come under the regulation of the Australian Securities and Investments Commission (ASIC). Australian law further distinguishes Small proprietary companies from large proprietary companies. Imad and Kylie are likely to operate a small proprietary company with annual revenue of less than $25 million, and with total consolidated assets of $12.5 million30. In addition, the two cannot be able to employee more than 50 employee to usher the large proprietory company status. 6.0 Director’s Obligations A director of a company has many obligations owed to the shareholders of the company, the company as a separate entity or to the general public. A director in most cases is an elected representative of shareholders who is responsible for the running the day to day affairs off the business. In Australia, the conduct of directors is regulated by the Australian Corporation law which imposes various obligations. A director of a company should be qualified to hold the position of director in a company. On occasions some individuals may be expressly prohibited from acting as company directors. Persons below the age of 16, bankrupts and company auditors cannot act as directors of a company31. However, a director is not required to have any mandatory qualification but be competent to carry out all the obligations placed on him/her by the Corporation Law. A company director has many obligations under the Australia Corporation Law. Among the general duties of directors set out by the Corporation Act 2001 include32: 1. Obligation to act within the scope of their powers: Company director are required to adhere to the company’s constitution and make decisions in accordance to the company’s constitution33. The must also exercise the powers conferred to them for a proper purpose. 2. Directors are also required to act in good faith and in the best interest of the company while considering all relevant matters to an issue34. All decisions made by directors on behalf of the company must be in the interest of its member and must be intended for the benefit of the corporation as far as the director knows. Directors are require to take all matters set out in the company constitution including35: Long term consequence of decisions on various parties; Consequence on interest of employee shareholders; Effect of the decision on relationship with business stakeholders such as customer, supplier, lender. Business decisions must also consider their impact on the environment and the community. The need of the business to maintain a good reputation as regard its business conduct; and the need to ensure justice is served on all the shareholders of the company. 3. Obligation to exercise independent Judgement: Directors should be able to exercise good judgement that is free from bias and influence36. A director is still free to seek the advice of others in his decisions. However, they may choose to follow or disregard the advice after considering it independently. 4. Obligation to exercise reasonable care, skill and diligence: The Corporation Act 2001 hold directors to a high standard of duty of care while making business decisions37. It is the duty of the director to inform himself about the affairs of the company. The duty of care, skill and diligence means that a director must have the necessary qualification to take up a directorship position within the company. 5. Duty to avoid conflict of interest: A company directors is obliged to avoid situations where their own personal interest conflict with those of the company38. For example, a director should not engage in competing business with the organization or award Company contracts to relatives. 6. Obligation not to benefit from opportunities arising due to holding the position of director39. Directors must not accept benefits such as a cut on sales or kickbacks for award of company contracts. However, the company may authorise directors to accept benefits accruing from assisting the business gain marketing opportunities. 7. Obligation to declare interest in transactions: Directors are required to declare any interest they may have in a transaction with outsiders before the transaction takes place40. All interest whether direct or indirect must be declared prior to the transaction occurring. 8. Company directors also have a duty to prevent insolvent trading: When companies are insolvent, the company director has an obligation to act in the best interest of lenders to ensure their recover their debts41. 9. A company director is also obligated to maintain confidentiality of business sensitive information42. Information in most cases is a source of competitive advantage for companies and thus its confidentiality should be maintained. 10. Duties of the Company: Directors ensure that the company fulfil all its obligations to shareholders, the public and the government. Directors ensure the company is maintaining full and accurate accounting records43. They are also responsible for filling annual filings with the ASIC. Company director also ensure that the company is operating legally by adhering to relevant laws and regulation. As representatives of the company, directors ensure compliance of the company to its legal and social obligations. Where the company is found liable for breach of its obligation, the directors in many instances are also found jointly liable for the breach and may be fined or imprisoned44. 6.0 Company Owners as Employees Company shareholder can also be employees in the company. It is common practice for businesses to offer their employee share options thus making them shareholder in the company45. Kylie and Imad can hold positions as employees within the company they form as it is separate legal entity from the two shareholders. If Imad and Kylie are employees of the private company they become bound by the companies employment contract. In many cases, private company are family owned and the shareholders hold key management positions within the organization. 7.0 Conclusion The best business entity for Kylie and Imad to use to start their new pub is a proprietary company as it offers many advantages over a partnership. The main weakness of partnerships over proprietary companies is that they do not have limited liability protection. The personal property of partners can easily be attached to recover business debts. In contrast, only the share capital of proprietary companies can be used to pay for business debts. Partnership also suffers a major management and control weakness since each of the partners has the capacity to bind all partners to faulty business decisions. Unlike companies where the conduct of directors is regulated, partners can easily get their business in trouble without being personally liable for imprudent business decisions. Partnership law asserts that all partners are jointly and personally liable for the business debts and contractual obligations. In contrast, corporation laws hold the directors liable for bad decisions made in the course of running the business. Bibliography A. Articles/Books/Reports Samuels, J.M.Wilkes, F.M. Brayshaw, R.E., Financial Management and Decision Making (International Thomson Business Press, 1999) Clark, Eugene, and Ram Vemuri. "Conducting business in Australia: Prospects and strategies for international managers." Global Business and Organizational Excellence 27, no. 5 (2008): 49-64. Wilkes, F.M. Brayshaw, R.E., Financial Management and Decision Making (International Thomson Business Press, 1999) Tomasic, Roman, Stephen Bottomley, and Rob McQueen. Corporation Law in Australia. The Federation Press, 2002. J Farrar, ‘Fraud, Fairness and Piercing the Corporate Veil’ (1990) 16 Canadian Business Law Journal 474, 478. Dagwell, Ron, Graeme Wines, and Cecilia Lambert, ‘Corporate accounting in Australia’ (Pearson Higher Education AU, 2011) Lindgren, K.E. and Vermeesch, R.B, Vermeesch and Lindgren's Business Law of Australia, (LexisNexisButterworths, 2011) B. Legislation Business Names Registration Act 2011 (cth) s 181 Partnership Act 1892 (NSW) The Corporations Act 2001 (cth) C. Cases Walker v European Electronics Pty Ltd (in liq) (1990) 23 NSWLR 1 Young v Lamb (2001) 10 BPR 18,553; [2001] ANZ ConvR 629; [2001] NSWCA 225 Mills v Mills (1938) 60 CLR 150 at 185. Aberdeen Railway Co v Blaikie Bros (1854) 1 Macq 461 at 471. Read More