When a sole proprietorship expands, it faces the problem of shortage of capital and managerial skills. Two alternatives are available to the proprietor for solving this problem:
1. To employ a paid assistant; or
2. To admit one or more partners.
Employment of Paid Assistant: When the sole proprietor employs a paid assistant, he has the following advantages and disadvantages:
(a) Division of work:
A specialist assistant can be appointed whose expertise can be used for the benefit of the business. By delegating some of the work, the proprietor can devote greater time and attention to crucial matters of business.
(b) No share in profits:
The assistant is paid a fixed wage or salary. Such wage or salary is an expense for calculating taxable income. The assistant is not given a share in the profits.
(c) Complete control:
The paid assistant has no right to interfere in decision-making. Therefore, the proprietor retains full control over the business. He can take decisions quickly.
The proprietor is able to retain business secrets. He is not expected to share the secrets with his manager.
(e) Easy to dismiss:
The proprietor can terminate the services of the assistant as and when he likes.
(a) Lack of motivation:
The assistant does not have sufficient incentive to work hard unless he is given a share in the profits. Therefore, he may not be as sincere and careful as the proprietor himself.
(b) Lack of responsibility:
The employee is not responsible for the losses incurred in business. The risk of failure has to be borne by the proprietor himself. It is difficult to find a suitable person for employment. If a wrong person is employed, it may create new problems.
(c) Problem of capital:
Appointing a paid assistant does not solve the problem of finance. The employee does not bring any capital with him. Employment of an assistant does not add to the borrowing capacity of business.
The assistant may commit mistakes and cause a loss. He may give up his job creating serious problem of administration. He may after leaving service set up a competitive business
Admission of a partner
(a) Availability of capital:
The new partner brings some capital into the business. As a result the problem of shortage of funds can be solved. Admission of a partner also increases the goodwill and borrowing capacity of the firm.
(b) Division of work:
Work can be divided between the original proprietor and the partner on the basis of knowledge and skills. There is pooling of judgement and experience. The advice and expertise of the partner is available for taking decisions.
A partner gets a share in profits and, therefore, has an incentive to work hard for the success of the business.
(d) Reduced risk:
Each partner shares the loss and liability of business. As a result, the risk of the sole proprietor is reduced.
(e) Economy of costs:
No wage or salary is to be paid to the partner. Therefore, the cost of management is comparatively low.
Division of profits:
The proprietor has to give a share in profits to the partner.
Loss of freedom:
Every partner has a right to be consulted. The proprietor cannot take decisions independently without consulting his partner. Freedom of action and complete control of one individual in decision making are lost. As a result, there may be delay in taking decisions.
Lack of secrecy:
When a partner is admitted, business secrets have to be shared with him. These secrets may be passed out when relations among partners get strained.
Difficulty in removing partner:
A partner cannot be dismissed from the business or withdraw his capital without the consent of all the other partners. The capital is blocked as a partner cannot transfer his interest to outsiders without the approval of the other partners.
Source of disputes:
Existence of two or more partners with equal authority is often a source of disagreement and conflict. Such disputes between partners affect the efficiency and continuity of business.
Thus, the two alternatives for expansion of sole proprietorship have their own merits and demerits. In case the proprietor can himself arrange more capital, it is better to employ a qualified and experienced assistant to share the managerial workload.
If this is not possible, it may be advisable to take a partner who can contribute both capital and managerial talent. 6.10 Causes for Survival of Proprietorship
Sole proprietorship has its own areas of activity and continues to exist in spite of the development of bigger organisations like partnership and Joint Stock Company. The main reasons for the survival of sole proprietary concerns are given below:
1. Human inertia:
Sometimes, a business may continue to remain small even though expansion is possible and profitable. This happens due to inertia (laziness or inaction) on the part of the proprietor. The proprietor may be satisfied with the existing scale of business or he may have a fear that expansion will result in loss of freedom.
2. Personal motivation:
In a proprietary concern, the owner has a direct motivation to work hard and take personal interest in improving the efficiency of business. He can spot and avoid many losses and wastages which go unnoticed in large firms due to the indifference of paid employees.
3. Desire for independence:
An entrepreneur may prefer sole proprietorship if he wants to enjoy complete freedom of action. Desire for exclusive control of business and to avoid outside interference may avoid admission of partners. The owner may not be willing to serve under others and may prefer to be self-employed.
4. Nature of market:
Where demand for a product is limited or fashions change quickly, small firms enjoy an advantage. Similarly, where the necessary raw materials and demand are both widely scattered small firms are able to serve better than large firms.
For instance, in building industry, brick kilns tend to operate as proprietary concerns. Firms in women clothing tend to be small due to frequent changes in fashions.
5. Need for personal attention:
When attention to individual tastes or special preferences is necessary, scale of operations tend to be small. Where quality, variety and attention to detail are important, the small firm often has an advantage over its large competitor. Tailoring, photography and painting are examples of such industries.
6. Nature of manufacturing process:
Where the production process is simple and inexpensive the size tends to be small. For example, the process of making Khandsari is much simpler than that of making crystal sugar. Therefore, Khandsari units are small, whereas sugar factories are big.
7. Ancillary industry:
Standardisation of components and interchangeability of parts has enabled the small firms to serve as feeders to large scale industry. In India a large number of small units supply components to large assembling concerns.
Development of new sources of power, e.g., electricity has also contributed to the survival of small firms. Previously a minimum size of boiler required that a firm should be sufficiently large to make its full use for producing steam power.
8. Retainer system:
Small firms can now retain (hire) expensive equipment and experts/ specialists on fees which they can afford. It is not essential to buy and employ them permanently.
9. State assistance and patronage:
In a country like India, small firms enjoy Government’s assistance as they contribute to employment, rural development, decentralisation of industry and export promotion.
Moreover, “small firms are protected by their goodwill, the attachment of customers, the individual markets they possess and which the large firms can acquire only at a certain expense”.
10. Cover for monopoly:
Where an industry is dominated by a few large firms, small firms may be tolerated as they provide superficial evidence that monopoly does not exist and thereby discourage emergence of new competitors.
Thus, sole proprietorship form of business has survived and will continue to survive because it has its own uses. In some cases it is the most natural form of enterprise.