Chapter 3

Prepared by
Simon Lenthen
Adapted by Graeme J. Mitchell
University of Western Sydney
http://www.scribd.com/doc/19089605

In this presentation...
1. define the term sole trader and give the main features of a
sole trader
2. outline the advantages and disadvantages of a sole trader
3. define the term partnership and give the main features of a
partnership
4. outline the advantages and disadvantages of a partnership
5. define the term company
6. identify the different types of companies and provide
examples of each
7. outline the advantages and disadvantages of a company
8. compare and contrast financial statements for different
business structures
9. explain the term differential reporting. What are the
implications for disclosing entities?
Prepared by Simon Lenthen
University of Western Sydney

Introduction
The basic forms of business structure are:
Sole trader
Partnership
Company
Trust
(Note: whilst trusts are discussed in
the textbook they are not part of unit 200101 AIM
and will not be examined)

The above differ in terms of owner liability,

equity structure, funding opportunities,
decision making responsibilities and taxation
Prepared by Simon Lenthen
University of Western Sydney

Sole Traders
Definitions and Features
A sole trader is an individual who
controls and manages a business
The business is not a separate legal
entity
The individual is fully liable for all debts
The general registration requirements
involve applying for an ABN
Use accounting software such as MYOB
to prepare financial reports
Prepared by Simon Lenthen
University of Western Sydney

Sole Trader
Advantages
Quick, inexpensive and easy to
establish Inexpensive to wind down
Not subject to company regulation
Owner has total autonomy over
business decisions
Owner claims all the profits of the
business and all the after-tax gains if
the business is sold
Prepared by Simon Lenthen
University of Western Sydney

Sole Traders
Disadvantages
Unlimited liability bears full
responsibility for business debts and
legal actions such as negligence
Limited by skill, time and investment
of owner
Restrictive structure due to non-legal
status of the entity
Business will cease to exist if owner
leaves, retires or dies
Prepared by Simon Lenthen
University of Western Sydney

Partnerships
Definitions and Features
An association between two or more persons
who
carry on a business as partners
share profits or losses according to partnership
agreement

Enables sharing of ideas, skills and resources

Easy and cheap to establish
No separate taxation payable but does lodge
income tax return with ATO
Some partnerships have a written agreement,
others dont
Prepared by Simon Lenthen
University of Western Sydney

Partnership
Advantages
Relatively easy and simple to set up
Informal business structure not
bound by accounting standards
Ability to share capital, skills, talents,
knowledge and workload between
two or more people

Prepared by Simon Lenthen

University of Western Sydney

Partnerships
Disadvantages
Unlimited liability for business debts and
obligations by all partners
Limited life if one partner dies or
withdraws from the business then the
partnership must dissolve
Mutual agency each partner is seen as
being an agent for the business and so is
bound by any partnership contract
Many partnership disputes arise from profit
sharing and decision making issues
Prepared by Simon Lenthen
University of Western Sydney

Companies
Definition and Features
Owners of a company are known as
shareholders
Independent legal entity (i.e. separate from
the people who own, control and manage
it)
Shareholders have limited liability for the
purchase price of their shares only (not
company debts)
A company has unlimited life not
dissolved when owners die or change
Prepared by Simon Lenthen
University of Western Sydney

10

Companies
Types

Prepared by Simon Lenthen

University of Western Sydney

11

Company
Advantages
Limited liability for shareholders
Taxation rate (30%) lower than top
personal tax rate
Business expansion networks made
easier due to legal structure
Can raise additional equity (capital)
through public share offerings

Prepared by Simon Lenthen

University of Western Sydney

12

Disadvantages of a
company
More time consuming and costly to set up
Must comply with complex company rules
and other legal requirements
Taxed from the first dollar of profit
Limited liability aspect may causes problems
Banks often prefer to have directors personal
guarantees instead

Separation of ownership and control

Even more so when issuing shares to the
public for the first time
Prepared by Simon Lenthen
University of Western Sydney

13

Comparison of Business Reports

This section briefly outlines the main
components of the financial
statements for the sole trader,
partnership and company business
structures
The accounting entity concept is
where each form of business
structure will record and report
business transactions separately
from the personal transactions of the
Prepared by Simon Lenthen
University of Western Sydney

14

Comparison of Reports
Sole Trader Income Statement
Amelias Cafe A. Wong
Income statement
for the period ended 31 December 2013

Income
statement
shows
income less
expenses
No taxation
is shown

Income
Sales
$24 000
Cost of sales
10 000
Gross profit
14 000
Operating expenses
Administration expenses $1 200
Rent
4 000
Finance expenses
400
Depreciation of store equipment 2 000
Wages and salaries
6 000
Profit

Prepared by Simon Lenthen

University of Western Sydney

13 600

400
15

Comparison of Reports
Partnership
Income
Statement

Profit and
loss is split
according to
original
capital
contributions
as specified
in the
partnership
agreement

No taxation
is shown

Tom, Felix and Charlie - Accountants

Income statement (extract)
for the period ended 31 December 2013

Profit

$ 31 200

Distributions to partners
Salary Tom
8 000
Felix
4 000
Charlie 6 000
18 000
Distribution of remaining profit to current accounts
Tom (100 000/560 000 13 200)
2 358
Felix (400 000/560 000 13 200) 9 428
Charlie (60 000/560 000 13 200)
1 414
$ 31 200
Prepared by Simon Lenthen
University of Western Sydney

13 200

16

Comparison of Reports
Private Company Income Statement
Simply Scarves Pty Ltd
Income statement
for the period ended 31 December 2013

Income tax
being
deducted
directly from
company
profit

Income
Sales
Cost of sales
Gross profit
Operating expenses

$300 000
70 000
230 000
80 000

Profit before tax

Taxation expense
Profit after tax

Prepared by Simon Lenthen

University of Western Sydney

$ 150 000
45 000
$ 105 000

17

Comparison of Reports
Public Company Income Statement
Power Point Ltd
Income statement (extract)
for the period ended 31 December 2013

The income
statement is
prepared in
accordance
with
pronounceme
nts of the
Australian
Accounting
Standards
Board (AASBs)

Income
Notes
Sales
3
$300 000
Cost of sales
4
70 000
Gross profit
230 000
Operating expenses
80 000
Profit before tax
$ 150 000
Taxation expense
7
45 000
Profit for the year
$ 105 000
Attributable to: parent equity holders
Earnings Per Share
Basic Shares
31 82.45
Prepared by Simon Lenthen
University of Western Sydney

$ 105 000

18

Comparison of Reports
Sole Trader Balance Sheet
Balance
sheet has
only one
capital
account
Profit (or
loss) added
(or
subtracted)
to capital
account (in
balance
sheet)

Amelias Cafe A. Wong

Balance Sheet
As at 31 December 2013

Current assets
Cash on hand $ 4 000
Cash in bank 6 800 $10 800
Non-current assets
Store equipment 28 000
Less Acc depn
10 000
18 000
Total assets 28 800
Current liabilities
Accounts payable 8 000
Non-current liabilities
Bank loan
10 000
Total liabilities
18 000
Net assets $10 800
Owners equity
Capital G Green
10 400
Profit (loss)
400
Total equity
$ 10 800
Prepared by Simon Lenthen
University of Western Sydney

19

Comparison of Reports
Partnership Balance Sheet
Tom, Felix and Charlie - Accountants
Balance Sheet (extract)
As at 31 December 2013

Balance
sheet has a
capital
account (and
often a
current
account) for
each partner

Net assets
Partners equity
Capital
Tom
Felix
Charlie
Current
Tom
Felix
Charlie

$573 200

100 000
400 000
60 000

560 000

2 358
9 428
1 414
13 200
$ 573 200

Prepared by Simon Lenthen

University of Western Sydney

20

Comparison of Reports
Company Balance Sheet
Simply Scarves Pty Ltd
Balance Sheet (extract)
As at 31 December 2013

share capital
as opposed
to owners or
partners
capital
account
retained
earnings

Net assets
$290 210
Shareholders equity
Share Capital
200 000
Retained Earnings
90 210
Total Shareholders equity
$ 290 210

Prepared by Simon Lenthen

University of Western Sydney

21

Summary
Characteristics
Sole Trader

Partnership Companies

No. Of
Owners

2 50

As many as per articles of

association

Liability

Unlimited

Unlimited

Limited

Profit

Belongs to
owner

Distributed
to partners
as per
agreement

Distributed to shareholders
in form of dividends, at
discretion of board.

Tax

Owner taxed as
individual tax
payer (profit
treated as
income of
owner)

Partners
taxed as
separate
individuals

Company taxed on profits.

Shareholders taxed on
dividends less tax credit for
tax paid by company

Prepared by Simon Lenthen

University of Western Sydney

22

Summary
Financial Statements
Sole
Trader

Partnership

Companies

Income
Statement

No tax
shown
Prepared
to meet
needs of
owner

No tax
shown
Profit
distribution
to individual
partners
shown

Tax shown as expense

Earnings per share shown
but not dividends

Equity on
Balance
Sheet

Profit
increases
capital
directly

Individual
partner
equity shown

Capital = issued shares

Retained earnings = all
profits not distributed to
shareholders.

Prepared by Simon Lenthen

University of Western Sydney

23

Prepared by Simon Lenthen

University of Western Sydney

24