90 Accounting: Business Reporting for Decision Making
Chapter 3 preview
Individuals are regarded as separate business entities from the entities they invest in, trade with
and are employed by. This means that, in establishing a business entity, business transactions
will be recorded separately from the personal transactions involving the owner(s). This is known
as the accounting entity concept, and the application of this concept results in the preparation
of separate financial statements for the business entity. When an individual establishes a business
entity, the choice of the appropriate business structure is an important decision that will have a
significant impact on the future direction of the entity. The type of business structure will have impli-
cations for such areas as tax, financing the entity, the role of the owners and the extent of liability of
the owners.
This chapter will introduce the different forms of business structure. It will describe the
differences between for-profit entities and not-for-profit entities (NFPs) and the concept of SMEs.
It will discuss the different focus of business entities, i.e. manufacturing, trading and service. It will
outline the main characteristics of each form of business structure, explain their relative advantages
and disadvantages, and compare and contrast the financial statements for each type of structure. It
will outline the reporting requirements for disclosing entities and discuss the concept of differential
reporting.
3.1 Forms of business entities
LEARNING OBJECTIVE 3.1 Understand the different forms that business entities take.
A business is an entity or organisation that engages in the trading of goods and/or services, but most
frequently is established for making money. Business entities come in many shapes and forms and the
choice of an appropriate business structure is important for individuals contemplating commencing a
business. Many factors must be taken into account when determining which form of business struc-
ture will best suit the needs of the entity. Business entities may not have profit making as their main
objective; these entities are known as not-for-profit entities. Businesses such as sporting clubs, hos-
pitals, schools, local councils and charities are examples of not-for-profit entities. The government
sector, which is also referred to as the public sector, consists of many departments which are largely
not-for-profit entities.
For-profit entities are usually structured in one of the following ways: as a sole trader, partnership,
company, or trust. All of these structures have different features that make them attractive to individuals
intending to go into business. The four for-profit business structures differ mainly in terms of owner lia-
bility, equity structure, funding opportunities, decision-making responsibilities and taxation. The most
common classification of a business entity is the SME — the small to medium sized enterprise. SMEs
account for approximately 99 per cent of business entities.
The focus of business entities is either manufacturing, trading or services. Business enti-
ties that trade in goods are either manufacturers of the goods or traders of the goods. Manufac-
turing entities are involved in the conversion of raw materials into finished goods. The finished
goods are either used in more complex manufacturing operations or sold to wholesalers. Trading
entities are involved in the buying of inventory (goods) at cost price and then selling the goods at
sale price.
Service entities provide services to customers. The services provided may be either equipment-based
services or largely people-based services. Examples of equipment-based services include classes at the
gym and excavation of building sites. Examples of people-based service operations include plumbing
and electrical services, motor mechanic services, professional services such as those provided by doc-
tors, lawyers and accountants, and coaching or tuition services.
The reality check below provides an insight into not-for-profit entities — their diversity, laws and
regulations, and financial statements.