If a person wishes to launch a new business, he has to make some preparatory steps.
The first step is the selection of an appropriate legal form. In various countries these forms differ. But usually they are as follows: a limited liability company, a partnership and a sole proprietor.
There is a basic difference between these forms. A limited liability company is a legal entity (legal person). In case of a bankruptcy, it has to reimburse (cover) its debts with all its assets, but the creditors cannot seize the assets owned by the company’s shareholders.
Sole proprietors or partners do not form a legal entity and have unlimited liability. If their business goes bankrupt, they have to reimburse the debts not only with the firm’s assets but also with their personal belongings: money, houses, cars, etc.
For this reason, most businesses are set up as limited liability companies.
The name of such a company ends with “Limited” in the UK or Canada and with
“Inc.”, “Corp.” or “LLC” in the USA.
A limited liability company may be private or public. A private company is usually founded by a small group of people who know each other and intend to do business together. A private company cannot sell its shares to the public and if it the business is not successful the founders loose their own money only.
A public company’s shares are traded on the stock market and may be purchased by millions of people all over the world. These shareholders are not aware of the company’s day to day performance and must rely on the professionalism of the company’s managers and their reports. If the management is poor or in case of the managers’ fraud, the shareholders may loose billions of dollars.
Many countries have special regulatory bodies to supervise public companies, such as the US Securities Exchange Commission. Yet, corporate disasters sometimes happen. One of the most recent examples is the bankruptcy of Enron Corporation, a giant supplier of energy resources in the Western part of the United States.
The second step in setting up a business is the preparation of various documents, such as: Memorandum of Association, Articles of Association and
Resolution of the founders on the appointment of directors. The Memorandum contains the conditions, on which the founders agree to set up this business, and the Articles set out the principles of the company’s formation and management: its name, objectives, share capital, rules of management, etc. The founders have to make the initial investment and may either hire the directors of the company or appoint themselves as the directors.
Every new business is to be registered with the official company register.
The UK has such registration offices in London and in Edinburgh, while in the USA each of the 50 states has its own register.
Any business is set up to make profit. But the founders sometimes do not have enough experience or make serious mistakes, which result in losses.
The financial results of the company’s operations can be seen from its financial reports.
There are at least three reasons for preparing such reports. First, every government needs to collect taxes and therefore requires detailed information on the company’s performance, revenues and expenses. Second, the shareholders need to know, whether the company’s management is professional enough, and ask for confirmation with facts and figures.
Third, the company’s top executives must control the efficiency of the company’s various departments and the input of each department in the company’s operational results. The reports prepared by the company’s accounting department are often verified by an auditor, which is an independent public accountant. The auditor has to confirm that the reports comply with legal requirements and reflect the company’s actual performance.
There are a lot of reports submitted annually, semi-annually and quarterly.
The most important one is the balance sheet, which describes the company’s assets and liabilities as on the last date of each year. The assets are the values, which the company owns: money, buildings, equipment, raw materials, computer hardware and software, trade marks. The liabilities specify what the company owes, such as: share capital, credits received from banks and suppliers, other debts. If the amount of assets is higher than that of the liabilities, the company has profit. If the liabilities are higher than the assets, the company has losses. In the latter case they say that the company is “in the red”.
Money transfers between the company and its partners during the year are shown on the statement of cash flows. Cash is the most liquid asset, which is as important for the company’s activities as blood for a human body. If a company has huge fixed assets (land, buildings, equipment) but does not have enough money, it is a sign of financial problems.