IB BUSINESS MANAGEMENT SL | UNIT 1: INTRODUCTION TO BUSINESS MANAGEMENT
1.2 Types of Business Entities
Comprehensive IB Business Management SL study notes covering every type of business entity you need for the exam: sole traders, partnerships, private and public limited companies, cooperatives, social enterprises, and non-governmental organisations. Includes liability concepts, incorporation, comparison tables, key formulas rendered in MathJax, and an interactive quiz.
Key Definition
A business entity is the legal structure under which a business operates. The choice of entity affects ownership, control, liability, sources of finance, taxation, and how profits are distributed. Understanding each type and its suitability is a core IB Business Management SL skill.
Limited vs Unlimited Liability
Liability is the most important concept when comparing types of business entities. It determines the financial risk that owners take on when running a business.
Unlimited Liability
There is no legal separation between the owner and the business. If the business cannot pay its debts, the owner's personal assets (house, car, savings) can be seized by creditors to cover the shortfall.
Applies to: sole traders, general partnerships
Limited Liability
The business has a separate legal identity from its owners. Shareholders can only lose the amount they have invested in the business. Their personal assets are protected from business debts.
Applies to: private limited companies (Ltd), public limited companies (PLC)
Owner's Maximum Financial Loss
\[ \text{Unlimited Liability:} \quad \text{Max Loss} = \text{All Business Debts} + \text{Personal Assets at Risk} \]
\[ \text{Limited Liability:} \quad \text{Max Loss} = \text{Amount Invested (Share Capital)} \]
Sole Traders (Sole Proprietorships)
A sole trader is a business owned and run by one person. It is the simplest and most common form of business ownership worldwide. There is no legal distinction between the owner and the business itself.
Advantages
- Easy and inexpensive to set up (few legal formalities)
- Owner keeps all profits after tax
- Complete control over all business decisions
- Financial privacy (accounts not publicly disclosed)
- Flexibility and speed in decision-making
Disadvantages
- Unlimited liability: personal assets at risk if business fails
- Limited sources of finance (personal savings, bank loans)
- Heavy workload: owner manages everything alone
- No continuity: business may end if owner retires or dies
- Difficult to grow or achieve economies of scale
Sole Trader Profit Calculation
\[ \text{Net Profit} = \text{Total Revenue} - \text{Total Costs} \]
\[ \text{Total Revenue} = \text{Selling Price per Unit} \times \text{Quantity Sold} \]
The sole trader keeps the entire net profit. There are no shareholders or partners to share it with.
Real-World Examples
Corner shops, freelance graphic designers, independent plumbers, market stallholders, private tutors, and local hairdressers are all common sole trader businesses.
Partnerships
A partnership is a business owned by two or more individuals (typically 2 to 20) who share the responsibility, investment, risks, and profits of the business. A written Deed of Partnership (partnership agreement) should be drawn up to set out the terms.
What a Deed of Partnership Covers
- Each partner's capital contribution
- Profit-sharing ratio
- Roles and responsibilities of each partner
- Procedures for admitting or removing partners
- How disputes will be resolved
Advantages
- More capital available than a sole trader
- Shared workload and specialised skills
- Shared risk between partners
- Relatively easy and inexpensive to set up
- Financial privacy (accounts not publicly disclosed)
Disadvantages
- Unlimited liability for all general partners
- Profits must be shared among partners
- Disagreements between partners can disrupt operations
- Slower decision-making (must consult partners)
- Lack of continuity if a partner leaves or dies
Partnership Profit Distribution Formula
\[ \text{Partner's Share of Profit} = \text{Total Profit} \times \frac{\text{Partner's Ratio}}{\text{Sum of All Ratios}} \]
Example: Three partners share profits 3:2:1. Total profit = $90,000. Partner A receives \( 90{,}000 \times \frac{3}{6} = \$45{,}000 \). Partner B receives \( 90{,}000 \times \frac{2}{6} = \$30{,}000 \). Partner C receives \( 90{,}000 \times \frac{1}{6} = \$15{,}000 \).
Companies (Corporations)
A company (corporation) is a business with a separate legal identity from its owners. This process of becoming a separate legal entity is called incorporation. The owners are shareholders and they enjoy limited liability.
The Incorporation Process
To become incorporated, a business must submit legal documents to the relevant government authority:
Memorandum of Association
Company name,
registered address,
business objectives
Articles of Association
Internal rules:
voting rights, meetings,
share transfers
Certificate of Incorporation
Company is legally
born as a separate
entity
Private Limited Companies (Ltd / LLC)
Shares are sold privately to selected individuals (family, friends, approved investors). Shares cannot be traded on a public stock exchange.
- Ownership: Private shareholders (often family or founders)
- Liability: Limited to the value of shares held
- Share transfer: Restricted; existing shareholders must approve
- Disclosure: Less public reporting required
- Examples: IKEA, Deloitte, Mars Inc., Bosch
Public Limited Companies (PLC / Inc)
Shares are sold to the general public through a stock exchange via an Initial Public Offering (IPO). Anyone can buy and sell shares freely.
- Ownership: Public shareholders (individuals, pension funds, institutions)
- Liability: Limited to the value of shares held
- Share transfer: Freely traded on stock exchanges
- Disclosure: Must publish annual reports and audited accounts
- Risk: Vulnerable to hostile takeovers
- Examples: Apple, Unilever, Toyota, Tata, Shell
Key Shareholder Formulas
\[ \text{Dividend per Share} = \frac{\text{Total Dividends Paid}}{\text{Number of Shares Issued}} \]
\[ \text{Earnings per Share (EPS)} = \frac{\text{Net Profit after Tax}}{\text{Number of Shares Issued}} \]
Private vs Public Companies: Comparison Table
| Feature | Private Limited (Ltd) | Public Limited (PLC) |
|---|---|---|
| Share trading | Privately only; restricted transfer | Publicly on stock exchanges |
| Minimum capital | No statutory minimum (varies by country) | Often requires a minimum (e.g. £50,000 in UK) |
| Disclosure | Limited public disclosure | Full annual reports and audited financials |
| Ownership control | Founders typically retain control | Dispersed ownership; risk of hostile takeover |
| Access to finance | Limited to private investors, retained profit | Can raise large sums through public share issues |
| Pressure | Long-term strategic focus | Short-term shareholder pressure for dividends |
Cooperatives
A cooperative is a business owned and democratically controlled by its members. The fundamental principle is "one member, one vote" regardless of how much capital each member has contributed. Members share the surplus (profits) based on their participation.
Worker Cooperative
Owned and managed by employees who share profits and make decisions together. Example: Mondragon Corporation (Spain).
Consumer Cooperative
Owned by customers who collectively purchase goods or services. Members receive dividends based on purchases. Example: The Co-operative Group (UK).
Producer Cooperative
Owned by producers (often farmers) who pool resources for processing, marketing, and distribution. Example: Fonterra (New Zealand dairy cooperative).
Cooperative Surplus Distribution
\[ \text{Member's Dividend} = \frac{\text{Member's Purchases (or Contribution)}}{\text{Total Cooperative Activity}} \times \text{Total Surplus} \]
Advantages
- Democratic control (one member, one vote)
- Surplus shared fairly among members
- Members are motivated as they are also owners
- Often focused on ethical and community values
Disadvantages
- Slow decision-making (democratic process)
- Limited access to external capital
- Members may lack business management expertise
- Risk of free-riding by less active members
Social Enterprises
A social enterprise is a business that trades to address social, environmental, or community problems. It generates revenue through commercial activities but reinvests the majority of its profits into the social mission rather than distributing them to shareholders.
The Triple Bottom Line (TBL)
Social enterprises measure success not just by financial profit, but by their impact on people and the planet:
\[ \text{Triple Bottom Line} = \text{People} + \text{Planet} + \text{Profit} \]
TOMS Shoes
For every product purchased, TOMS helps a person in need. Combines commercial sales with humanitarian impact through its "one-for-one" model.
Grameen Bank
Provides microloans to the poorest communities without requiring collateral. Founded by Nobel laureate Muhammad Yunus to fight poverty.
The Big Issue
A magazine sold by homeless people, who keep part of the cover price. Provides income and a pathway out of homelessness.
For-Profit vs Non-Profit vs Social Enterprise
| Feature | For-Profit Business | Non-Profit (NGO/Charity) | Social Enterprise |
|---|---|---|---|
| Primary aim | Maximise profit for owners | Social, environmental, or humanitarian mission | Social mission funded by trading |
| Profit distribution | Dividends to shareholders | All surplus reinvested in mission | Majority reinvested; limited distribution |
| Revenue sources | Sales of goods/services | Donations, grants, fundraising | Commercial sales + some grants |
| Ownership | Shareholders, partners, or sole trader | No owners; governed by board of trustees | Varies (CIC, cooperative, etc.) |
| Examples | Apple, Samsung, local restaurants | Oxfam, Red Cross, Doctors Without Borders | TOMS, Grameen Bank, The Big Issue |
Non-Governmental Organisations (NGOs)
An NGO (non-governmental organisation) is a not-for-profit organisation that operates independently from the government to address social, humanitarian, or environmental issues. NGOs rely on donations, grants, and fundraising rather than commercial sales.
- Ownership: No owners; run by a board of trustees or directors
- Aim: Social cause, not generating profit
- Funding: Donations, grants, memberships, government subsidies
- Surplus: Fully reinvested in the mission; never distributed to individuals
- Examples: Oxfam, Greenpeace, Red Crescent, Doctors Without Borders (MSF), UNICEF
Private Sector vs Public Sector
All organisations operate within either the private sector (owned by individuals or companies) or the public sector (owned and operated by the government).
Private Sector
- Owned by individuals, families, or corporate shareholders
- Aim: profit maximisation, growth, market share
- Funded by private investment, loans, retained profits
- Examples: Samsung, Nestlé, local shops, start-ups
Public Sector
- Owned and controlled by the government
- Aim: provide essential public services, not profit
- Funded by taxation and government budgets
- Examples: NHS (UK), national railways, state schools, police
Master Comparison: All Business Entities
| Entity | Ownership | Liability | Profit | Purpose | Examples |
|---|---|---|---|---|---|
| Sole Trader | Individual | Unlimited | Owner keeps all | Profit, autonomy | Corner shop, freelancer |
| Partnership | 2-20 partners | Unlimited (general) | Shared by ratio | Pool skills & capital | Law firm, GP practice |
| Private Ltd (Ltd) | Private shareholders | Limited | Dividends by shareholding | Growth with control | IKEA, Mars, Bosch |
| Public Ltd (PLC) | Public shareholders | Limited | Dividends; share price | Large-scale growth | Apple, Toyota, Shell |
| Cooperative | Members | Limited (usually) | Shared by participation | Member benefit | Mondragon, Co-op UK |
| Social Enterprise | Varies (CIC, co-op) | Limited (usually) | Reinvested in mission | Social / environmental | TOMS, Big Issue |
| NGO / Charity | Board/trustees | Limited | Reinvested fully | Humanitarian / social | Oxfam, Red Cross |
| Public Sector | Government | Usually limited | No distribution | Public service | NHS, state schools |
Factors Affecting the Choice of Business Entity
Selecting the right business entity depends on several factors. The IB frequently asks students to evaluate or recommend a suitable entity based on a given scenario.
Liability Risk
How much personal financial risk is the owner willing to accept? Unlimited liability risks personal assets; limited liability protects them.
Capital Needs
How much start-up capital is needed? Sole traders have limited access; PLCs can raise millions through public share issues.
Control
Does the owner want full control? Sole traders decide everything; PLC directors answer to shareholders at AGMs.
Profit Distribution
Should profits go to owners, members, or be reinvested? This determines whether a for-profit, cooperative, or social enterprise is appropriate.
Legal Costs
Incorporation involves legal fees and ongoing disclosure. Sole traders and partnerships have minimal paperwork and lower costs.
Business Objectives
Is the primary aim profit, social impact, or public service? The entity must align with the organisation's mission and values.
Common IB Exam Mistakes
- Confusing limited liability with limited company: Limited liability is a concept (owners' risk is capped at their investment). A limited company is a type of entity that provides limited liability. They are related but not the same thing.
- Saying sole traders have "no liability": Sole traders have unlimited liability. They are personally responsible for every business debt. This is their biggest disadvantage, not a feature they lack.
- Confusing private company with private sector: A private limited company (Ltd) is a legal structure. The private sector refers to any business not owned by the government. Both PLCs and Ltd companies belong to the private sector.
- Stating cooperatives cannot make profit: Cooperatives can and do generate a surplus. The difference is that surplus is distributed among members based on their participation, not among external shareholders.
- Confusing social enterprise with charity: A social enterprise generates revenue through commercial trading. A charity relies mainly on donations and grants. Both aim for social impact, but their funding models differ.
- Not linking entity choice to context: In evaluation questions, always explain why a particular entity suits the specific business described, considering its size, objectives, risk tolerance, and capital needs.
Official and Recommended Resources
The following are verified official and authoritative resources for IB Business Management 1.2.
International Baccalaureate Organisation
Official IB Business Management course page covering the syllabus guide, assessment criteria, and specimen papers.
ibo.org – Business ManagementIB Programme Resource Centre
Past papers, markschemes, examiner reports, and teacher support materials (registered IB schools).
resources.ibo.orgInvestopedia – Business Structures
Comprehensive articles explaining sole proprietorships, partnerships, LLCs, and corporations with financial formulas.
investopedia.com – Business StructureKhan Academy – Forms of Business
Free video lessons covering types of business organisations, liability concepts, and corporate finance fundamentals.
khanacademy.org – Core FinanceWorld Bank – SME Finance
Data and resources on small and medium enterprise development, financing structures, and business formation worldwide.
worldbank.org – SME FinanceOECD – Corporate Governance
Research on governance principles, shareholder rights, and public-private structures across OECD countries.
oecd.org – CorporateTest Your Knowledge: 1.2 Types of Business Entities Quiz
Check your understanding of the key SL concepts. Select the best answer for each question.
Key Takeaways for the IB SL Exam
- Unlimited liability means personal assets are at risk (sole traders, general partnerships). Limited liability protects personal assets (Ltd, PLC).
- Incorporation creates a separate legal entity (via Memorandum and Articles of Association). It grants limited liability but requires disclosure and legal costs.
- Private Ltd companies sell shares privately (restricted transfer); PLCs sell shares publicly on stock exchanges (free transfer, vulnerable to takeover).
- Cooperatives operate on the democratic principle of one member, one vote. Social enterprises use the Triple Bottom Line (People, Planet, Profit).
- Every entity has trade-offs: more capital access often means less control; limited liability requires more disclosure; democratic governance slows decisions.
- Always link entity choice to context in exam answers: consider size, objectives, risk appetite, capital needs, and the desired level of personal control.
Frequently Asked Questions About IB BM SL 1.2
What is the difference between limited and unlimited liability?
With unlimited liability, the owner is personally responsible for all business debts. If the business cannot pay, personal assets (house, car, savings) can be seized. With limited liability, the business is a separate legal entity and owners can only lose the amount they invested. This distinction separates unincorporated businesses (sole traders, general partnerships) from incorporated ones (Ltd, PLC).
What are the main differences between a private limited company and a public limited company?
A private limited company (Ltd) sells shares privately to selected investors and restricts share transfers. A public limited company (PLC) sells shares on a stock exchange to the general public through an IPO. PLCs can raise far more capital but face greater disclosure requirements, shareholder pressure for short-term profits, and the risk of hostile takeovers.
What is a social enterprise and how does it differ from a for-profit business?
A social enterprise generates revenue through commercial activities (selling goods or services) but reinvests the majority of profits into its social or environmental mission. A for-profit business distributes profits to owners or shareholders. Social enterprises measure success using the Triple Bottom Line: People, Planet, and Profit.
Why is a Deed of Partnership important?
A Deed of Partnership is a legal document that sets out the agreed terms between partners: capital contributions, profit-sharing ratios, roles, decision-making processes, and procedures for admitting or removing partners. Without one, disputes can arise over how profits are shared, who makes decisions, and what happens if a partner leaves.
What factors should a business consider when choosing an entity type?
Six key factors: (1) Liability risk: unlimited vs limited. (2) Capital needs: how much finance is required. (3) Control: does the owner want full autonomy? (4) Profit distribution: shareholders, members, or reinvestment. (5) Legal and administrative costs. (6) Business objectives: profit, social impact, or public service. The best entity depends on the specific circumstances.
Can cooperatives make a profit?
Cooperatives can and do generate a surplus (the cooperative term for profit). The important distinction is that surplus is distributed among members based on their level of participation (purchases, labour, or usage), not based on capital invested. This democratic, member-focused approach contrasts with shareholder-owned companies where dividends are based on shareholding.
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