BEFA UNIT I

B U S I N E S S

INTRODUCTION

Human beings are continuously engaged in some activity or other in order to

satisfy their unlimited wants. Every day we come across the word 'business' or
'businessman' directly or indirectly. Business has become essential part of
modern world.

Business is an economic activity, which is related with continuous and regular

production and distribution of goods and services for satisfying human wants.

All of us need food, clothing and shelter. We also have many other household
requirements to be satisfied in our daily lives. We met these requirements from
the shopkeeper. The shopkeeper gets from wholesaler. The wholesaler gets from
manufacturers. The shopkeeper, the wholesaler, the manufacturer are doing
business and therefore they are called as Businessman.

DEFINITIONS

Stephenson defines business as, "The regular production or purchase and sale
of goods undertaken with an objective of earning profit and acquiring wealth
through the satisfaction of human wants."

Dicksee defines business as "a form of activity conducted with an objective of

earning profits for the benefit of those on whose behalf the activity is
conducted."

Lewis Henry defines business as, "Human activity directed towards producing
or acquiring wealth through buying and selling of goods."

Thus, the term business means continuous production and distribution of goods
and services with the aim of earning profits under uncertain market conditions.

CHARACTERISTICS

1. Exchange of goods and services

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All business activities are directly or indirectly concerned with the exchange of
goods or services for money or money's worth.

2. Deals in numerous transactions

In business, the exchange of goods and services is a regular feature. A

businessman regularly deals in a number of transactions and not just one or two
transactions.

3. Profit is the main Objective

The business is carried on with the intention of earning a profit. The profit is a
reward for the services of a businessman.

4. Business skills for economic success

Anyone cannot run a business. To be a good businessman, one needs to have

good business qualities and skills. A businessman needs experience and skill to
run a business.

5. Risks and Uncertainties

Business is subject to risks and uncertainties. Some risks, such as risks of loss
due to fire and theft can be insured. There are also uncertainties, such as loss
due to change in demand or fall in price cannot be insured and must be borne by
the businessman.

6. Buyer and Seller

Every business transaction has minimum two parties that is a buyer and a seller.
Business is nothing but a contract or an agreement between buyer and seller.

7. Connected with production

Business activity may be connected with production of goods or services. In this

case, it is called as industrial activity. The industry may be primary or
secondary.

8. Marketing and Distribution of goods

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Business activity may be concerned with marketing or distribution of goods in
which case it is called as commercial activity.

9. Deals in goods and services

In business there has to be dealings in goods and service.

Goods may be divided into following two categories :-

1. Consumer goods : Goods which are used by final consumer for

consumption are called consumer goods e.g. T.V., Soaps, etc.

2. Producer goods : Goods used by producer for further production are

called producers goods e.g. Machinery, equipments, etc. Services are
intangible but can be exchanged for value like providing transport,
warehousing and insurance services, etc.

10. To Satisfy human wants

The businessman also desires to satisfy human wants through conduct of

business. By producing and supplying various commodities, businessmen try to
promote consumer's satisfaction.

11. Social obligations

Modern business is service oriented. Modern businessmen are conscious of their

social responsibility. Today's business is service-oriented rather than profit-
oriented.

STRUCTURE OF BUSINESS FIRM

A business firm is an organization that uses resources to produce goods and

services that are sold to consumers, other firms, or the government. Most
businesses exist because a group of people working together can be more
effective than a group of people working individually.

Firms are grouped into three types: sole proprietorships, partnerships, and
companies.

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A sole proprietorship is a business that is owned by one individual. This owner
makes all the business decisions, receives all the profits or losses of the firm,
and is legally responsible for the debts of the firm.

A type of business organization in which two or more individuals pool money,

skills, and other resources, and share profit and loss in accordance with terms of
the partnership agreement. In absence of such agreement, a partnership is
assumed to exit where the participants in an enterprise agree to share the
associated risks and rewards proportionately.

A company is a legal entity, allowed by legislation, which permits a group of

people, as shareholders, to apply to the government for an independent
organization to be created, which can then focus on pursuing set objectives, and
empowered with legal rights which are usually only reserved for individuals, such
as to sue and be sued, own property, hire employees or loan and borrow money.

THEORY OF FIRM

The following are the various theories of the firm.

1. Profit Maximization Theory

Profit maximization is one of the most common and widely accepted objectives
of a firm. According to the profit maximization theory, the main aim of the firm
is to produce large amount of profits. Profit is considered as the internal source
of funds and the market value of the firm also rely mainly on the profits earned
by the firm. in order to survive in the market, it is very essential for the firms to
earn profits. Profits are obtained by deducting total revenue from the total cost
i.e.,

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Profit = Total revenue – total cost

2. Baumol‟s Theory of Sales Revenue Maximization

According to Baumol, maximization of sales revenue is the main objective of the

firms in the competitive markets. It's based on the theory that, once a company
has reached an acceptable level of profit for a good or service, the aim should
shift away from increasing profit to focus on increasing revenue from sales.
According to the theory, companies should do so by producing more, keeping
prices low, and investing in advertising to increase product demand. The idea is
that applying this sales revenue maximization model will improve the overall
reputation of the company and, in turn, lead to higher long-term profits.

He found that sales volumes helps in finding out the market leadership in
competition. According to him, in large organization, the salary and other
benefits of the managers are connected with the sales volumes instead of
profits. Banks give loans to firms with more sales. So, managers try to maximize
the total revenue of the firms. The volume of sales represents the position of the
firm in the market. The managers‘ performance is measured on the basis of the
attainment of sales and maintain minimum profit. Thus, the main aim of the firm
is to maximize sales revenue and maintain minimum profits for satisfying
shareholders.

3. Marris theory of Growth Maximization

According to Marris, owners/shareholders strive for attaining profits and market

share and mangers strive for better salary, job security and growth. These two
objectives can be attained by maximizing the balanced growth of the firm. The
balanced growth of the firm relies mainly on the growth rate of demand for the
firm‘s products and growth rate of capital supplied to the firm. if the demand for
the firm‘s product and the capital supplied to the firm grows at the same rate
then the growth rate of the firm will be considered as balanced.

Marris found that the firms faces two difficulties while attaining the objectives of
maximization of balanced growth which are managerial difficulties and financial
difficulties. For maximizing the growth of the firm the managers should have
skills, expertise, efficiency and sincerity in them. The prudent financial policy of
the firm depends on at least three financial ratios which restricts the growth of
the firm. 1. Debt-Equity Ratio 2. Liquidity Ratio, 3. Retention Ratio.

4. Williamson‟s Model of Managerial Utility Functions

Williamson‘s model combined profits maximization and growth maximization

objectives. According to the model of managerial utility functions, managers

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makes use of their discretionary powers for maximizing their own utility function
and maintains minimum profits for satisfying shareholders.

 Minimum profits for minimum investment and growth of the firm.

 Managers want to maximize their own utility (satisfaction).
 Satisfaction or utility of managers depends on three variables.
1. Staff salaries, S: Includes management salaries, administration
expenses, selling expenditure. More the staff exp. more sales. Power
and prestige of managers increases with S.
2. Management emoluments, M: i.e., luxury offices, fancy cars. Perks.
3. Discretionary investments, D: Amount spent at his own discretion,
e.g. on latest equipment, furniture, decoration material etc. to satisfy
ego and give them a sense of pride. These give a boost to the
manager‘s esteem and status in the organization.
 Managers use that combination of above variables that maximizes their
own satisfaction.

The Williamson‘s model is written as,

UM = f(S,M,D)
Where, UM = Utility of Manager, S = Salaries, M = Managerial
emoluments, D = Discretionary power for investments.

The utility function of the managers rely on salary of the mangers, job security,
power, status, professional satisfaction and power to affect the objectives of the
firm.

5. Behavioral Theories

According to the behavioral theories, the firm tries to attain a satisfactory

behaviour instead of maximization. There are two important behavioral models,
1. Simon‘s satisfying model and 2. model developed by Cyest and March.

The Simon‘s satisfying model states that firms carry out their operations under
‗bounded rationality‘ and can only attain a satisfactory level of profit, sales and
growth. Simon carried out a research and found that modern business does not
have adequate information and is uncertain about future due to which it is very
difficult to attain profit, sales and growth objectives.

The model developed by Cyest and March states that firms should be oriented
towards multi-goal and multi-decisions making. Instead of dealing with
uncertainty and inadequate information, the firms should fulfil the conflicting
goals of various stakeholders (such as shareholders, employees, customers,
financiers, government and other social interest groups).

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TYPES OF BUSINESS ENTITIES

I. Sole Proprietorship

The sole trader is the simplest, oldest and natural form of business organization.
It is also called sole proprietorship. ‗Sole‘ means one. ‗Sole trader‘ implies that
there is only one trader who is the owner of the business.

It is a one-man form of organization wherein the trader assumes all the risk of
ownership carrying out the business with his own capital, skill and intelligence.
He is the boss for himself. He has total operational freedom. He is the owner,
Manager and controller. He has total freedom and flexibility. Full control lies with
him. He can take his own decisions. He can choose or drop a particular product
or business based on its merits. He need not discuss this with anybody. He is
responsible for himself. This form of organization is popular all over the world.
Ex: Restaurants, Supermarkets, pan shops, medical shops, hosiery shops etc.

Features

 It is easy to start a business under this form and also easy to close.

 He introduces his own capital. Sometimes, he may borrow, if necessary

 He enjoys all the profits and in case of loss, he lone suffers.

 He has unlimited liability which implies that his liability extends to his
personal properties in case of loss.

 He has a high degree of flexibility to shift from one business to the other.

 Business secretes can be guarded well

 There is no continuity. The business comes to a close with the death,

illness or insanity of the sole trader. Unless, the legal heirs show interest
to continue the business, the business cannot be restored.

 He has total operational freedom. He is the owner, manager and

controller.

 He can be directly in touch with the customers.

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 He can take decisions very fast and implement them promptly.

 Rates of tax, for example, income tax and so on are comparatively very
low.

Advantages

1. Easy to start and easy to close: Formation of a sole trader form of

organization is relatively easy even closing the business is easy.

2. Personal contact with customers directly: Based on the tastes and

preferences of the customers the stocks can be maintained.

3. Prompt decision-making: To improve the quality of services to the

customers, he can take any decision and implement the same promptly.
He is the boss and he is responsible for his business Decisions relating to
growth or expansion can be made promptly.

4. High degree of flexibility: Based on the profitability, the trader can

decide to continue or change the business, if need be.

5. Secrecy: Business secrets can well be maintained because there is only

one trader.

6. Low rate of taxation: The rate of income tax for sole traders is relatively
very low.

7. Direct motivation: If there are profits, all the profits belong to the trader
himself. In other words. If he works more hard, he will get more profits.
This is the direct motivating factor. At the same time, if he does not take
active interest, he may stand to lose badly also.

8. Total Control: The ownership, management and control are in the hands
of the sole trader and hence it is easy to maintain the hold on business.

9. Minimum interference from government: Except in matters relating to

public interest, government does not interfere in the business matters of
the sole trader. The sole trader is free to fix price for his products/services
if he enjoys monopoly market.

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10.Transferability: The legal heirs of the sole trader may take the
possession of the business.

Disadvantages

1. Unlimited liability: The liability of the sole trader is unlimited. It means

that the sole trader has to bring his personal property to clear off the
loans of his business. From the legal point of view, he is not different from
his business.

2. Limited amounts of capital: The resources a sole trader can mobilize

cannot be very large and hence this naturally sets a limit for the scale of
operations.

3. No division of labour: All the work related to different functions such as

marketing, production, finance, labour and so on has to be taken care of
by the sole trader himself. There is nobody else to take his burden. Family
members and relatives cannot show as much interest as the trader takes.

4. Uncertainty: There is no continuity in the duration of the business. On

the death, insanity of insolvency the business may be come to an end.

5. Inadequate for growth and expansion: This from is suitable for only
small size, one-man-show type of organizations. This may not really work
out for growing and expanding organizations.

6. Lack of specialization: The services of specialists such as accountants,

market researchers, consultants and so on, are not within the reach of
most of the sole traders.

7. More competition: Because it is easy to set up a small business, there is

a high degree of competition among the small businessmen and a few
who are good in taking care of customer requirements along can service.

8. Low bargaining power: The sole trader is the in the receiving end in
terms of loans or supply of raw materials. He may have to compromise
many times regarding the terms and conditions of purchase of materials
or borrowing loans from the finance houses or banks.

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II. Partnership

Partnership is an improved from of sole trader in certain respects. Where there

are like-minded persons with resources, they can come together to do the
business and share the profits/losses of the business in an agreed ratio. Persons
who have entered into such an agreement are individually called ‗partners‘ and
collectively called ‗firm‘. The relationship among partners is called a partnership.

Indian Partnership Act, 1932 defines partnership as the relationship between two
or more persons who agree to share the profits of the business carried on by all
or any one of them acting for all.

Features

1. Relationship: Partnership is a relationship among persons. It is

relationship resulting out of an agreement.

2. Two or more persons: There should be two or more number of persons.

3. There should be a business: Business should be conducted.

4. Agreement: Persons should agree to share the profits/losses of the

business

5. Carried on by all or any one of them acting for all: The business can
be carried on by all or any one of the persons acting for all. This means
that the business can be carried on by one person who is the agent for all
other persons. Every partner is both an agent and a principal.

6. Unlimited liability: The liability of the partners is unlimited. The

partnership and partners, in the eye of law, and not different but one and
the same. Hence, the partners have to bring their personal assets to clear
the losses of the firm, if any.

7. Number of partners: According to the Indian Partnership Act, the

minimum number of partners should be two and the maximum number if
restricted, as given below:

 10 partners in case of banking business

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 20 in case of non-banking business

8. Division of labour: Because there are more than two persons, the work
can be divided among the partners based on their aptitude.

9. Personal contact with customers: The partners can continuously be in

touch with the customers to monitor their requirements.

10.Flexibility: All the partners are likeminded persons and hence they can
take any decision relating to business.

Partnership Deed

The written agreement among the partners is called ‗the partnership deed‘. It
contains the terms and conditions governing the working of partnership. The
following are contents of the partnership deed.

1. Names and addresses of the firm and partners

2. Nature of the business proposed

3. Duration

4. Amount of capital of the partnership and the ratio for contribution by each
of the partners.

5. Their profit sharing ratio (this is used for sharing losses also)

6. Rate of interest charged on capital contributed, loans taken from the

partnership and the amounts drawn, if any, by the partners from their
respective capital balances.

7. The amount of salary or commission payable to any partner

8. Procedure to value good will of the firm at the time of admission of a new
partner, retirement of death of a partner

9. Allocation of responsibilities of the partners in the firm

10.Procedure for dissolution of the firm

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11.Name of the arbitrator to whom the disputes, if any, can be referred to for
settlement.

12.Special rights, obligations and liabilities of partners(s), if any.

Kind Of Partners:

1. Active Partner: Active partner takes active part in the affairs of the
partnership. He is also called working partner.

2. Sleeping Partner: Sleeping partner contributes to capital but does not

take part in the affairs of the partnership.

3. Nominal Partner: Nominal partner is partner just for namesake. He

neither contributes to capital nor takes part in the affairs of business.
Normally, the nominal partners are those who have good business
connections, and are well places in the society.

4. Partner by Estoppels: Estoppels means behavior or conduct. Partner by

estoppels gives an impression to outsiders that he is the partner in the
firm. In fact be neither contributes to capital, nor takes any role in the
affairs of the partnership.

5. Partner by holding out: If partners declare a particular person (having

social status) as partner and this person does not contradict even after he
comes to know such declaration, he is called a partner by holding out and
he is liable for the claims of third parties. However, the third parties
should prove they entered into contract with the firm in the belief that he
is the partner of the firm. Such a person is called partner by holding out.

6. Minor Partner: Minor has a special status in the partnership. A minor can
be admitted for the benefits of the firm. A minor is entitled to his share of
profits of the firm. The liability of a minor partner is limited to the extent
of his contribution of the capital of the firm.

Advantages

1. Easy to form: Once there is a group of like-minded persons and good

business proposal, it is easy to start and register a partnership.

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2. Availability of larger amount of capital: More amount of capital can be
raised from more number of partners.

3. Division of labour: The different partners come with varied backgrounds

and skills. This facilities division of labour.

4. Flexibility: The partners are free to change their decisions, add or drop a
particular product or start a new business or close the present one and so
on.

5. Personal contact with customers: There is scope to keep close

monitoring with customers requirements by keeping one of the partners in
charge of sales and marketing. Necessary changes can be initiated based
on the merits of the proposals from the customers.

6. Quick decisions and prompt action: If there is consensus among

partners, it is enough to implement any decision and initiate prompt
action. Sometimes, it may more time for the partners on strategic issues
to reach consensus.

7. The positive impact of unlimited liability: Every partner is always

alert about his impending danger of unlimited liability. Hence he tries to
do his best to bring profits for the partnership firm by making good use of
all his contacts.

Disadvantages:

1. Formation of partnership is difficult: Only like-minded persons can

start a partnership. It is sarcastically said,‘ it is easy to find a life partner,
but not a business partner‘.

2. Liability: The partners have joint and several liabilities beside unlimited
liability. Joint and several liability puts additional burden on the partners,
which means that even the personal properties of the partner or partners
can be attached. Even when all but one partner become insolvent, the
solvent partner has to bear the entire burden of business loss.

3. Lack of harmony or cohesiveness: It is likely that partners may not,

most often work as a group with cohesiveness. This result in mutual

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conflicts. Lack of harmony results in delay in decisions and paralyses the
entire operations.

4. Limited growth: The resources when compared to sole trader, a

partnership may raise little more. But when compare to the other forms
such as a company, resources raised in this form of organization are
limited. Added to this, there is a restriction on the maximum number of
partners.

5. Instability: The partnership form is known for its instability. The firm
may be dissolved on death, insolvency or insanity of any of the partners.

6. Lack of Public confidence: Public and even the financial institutions look
at the unregistered firm with a suspicious eye. Though registration of the
firm under the Indian Partnership Act is a solution of such problem, this
cannot revive public confidence into this form of organization overnight.
The partnership can create confidence in other only with their
performance.

III. Joint Stock Company

The joint stock company emerges from the limitations of partnership such as
joint and several liability, unlimited liability, limited resources and uncertain
duration and so on. Normally, to take part in a business, it may need large
money and we cannot foretell the fate of business. It is not literally possible to
get into business with little money. Against this background, it is interesting to
study the functioning of a joint stock company. The main principle of the joint
stock company from is to provide opportunity to take part in business with a low
investment as possible say Rs.1000. Joint Stock Company has been a boon for
investors with moderate funds to invest.

Company Defined

Lord justice Lindley explained the concept of the joint stock company from of
organization as „an association of many persons who contribute money or
money‟s worth to a common stock and employ it for a common purpose‟.

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Features

1. Artificial person: The Company has no form or shape. It is an artificial

person created by law. It is intangible, invisible and existing only, in the
eyes of law.

2. Separate legal existence: it has an independence existence, it separate

from its members. It can acquire the assets. It can borrow for the
company. It can sue other if they are in default in payment of dues,
breach of contract with it, if any. Similarly, outsiders for any claim can sue
it.

3. Voluntary association of persons: The Company is an association of

voluntary association of persons who want to carry on business for profit.
To carry on business, they need capital. So they invest in the share capital
of the company.

4. Limited Liability: The shareholders have limited liability i.e., liability

limited to the face value of the shares held by him.

5. Capital is divided into shares: The total capital is divided into a certain
number of units. Each unit is called a share.

6. Transferability of shares: In the company form of organization, the

shares can be transferred from one person to the other. A shareholder of
a public company can sell his holding of shares at his will. However, the
shares of a private company cannot be transferred.

7. Common Seal: As the company is an artificial person created by law has

no physical form, it cannot sign its name on a paper; so, it has a common
seal on which its name is engraved. The common seal should affix every
document or contract.

8. Perpetual succession: ‗Members may comes and members may go, but
the company continues for ever.

9. Ownership and Management separated: The shareholders are spread

over the length and breadth of the country, and sometimes, they are from
different parts of the world. To facilitate administration, the shareholders

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elect some among themselves directors to a Board, which looks after the
management of the business. The Board recruits the managers and
employees at different levels in the management. Thus the management
is separated from the owners.

10.Winding up: Winding up refers to the putting an end to the company.

Because law creates it, only law can put an end to it. The company is not
affected by the death or insolvency of any of its members.

11.The name of the company ends with „limited‟: it is necessary that the
name of the company ends with limited (Ltd.) to give an indication to the
outsiders that they are dealing with the company with limited liability and
they should be careful about the liability aspect of their transactions with
the company.

Advantages

1. Mobilization of larger resources: A joint stock company provides

opportunity for the investors to invest, even small sums, in the capital of
large companies. The facilities rising of larger resources.

2. Separate legal entity: The Company has separate legal entity. It is

registered under Indian Companies Act, 1956.

3. Limited liability: The shareholder has limited liability in respect of the

shares held by him. In no case, does his liability exceed more than the
face value of the shares allotted to him.

4. Transferability of shares: The shares can be transferred to others.

However, the private company shares cannot be transferred.

5. Liquidity of investments: By providing the transferability of shares,

shares can be converted into cash.

6. Inculcates the habit of savings and investments: Because the share

face value is very low, this promotes the habit of saving among the
common man and mobilizes the same towards investments in the
company.

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7. Democracy in management: the shareholders elect the directors in a
democratic way in the general body meetings.

8. Continued existence: The Company has perpetual succession. It has no

natural end. It continues forever and ever unless law put an end to it.

9. Growth and Expansion: With large resources and professional

management, the company can earn good returns on its operations, build
good amount of reserves and further consider the proposals for growth
and expansion.

Disadvantages

1. Formation of company is a long drawn procedure: Promoting a joint

stock company involves a long drawn procedure. It is expensive and
involves large number of legal formalities.

2. High degree of government interference: The government brings out

a number of rules and regulations governing the internal conduct of the
operations of a company such as meetings, voting, audit and so on, and
any violation of these rules results into statutory lapses, punishable under
the companies act.

3. Inordinate delays in decision-making: As the size of the organization

grows, the number of levels in organization also increases in the name of
specialization. The more the number of levels, the more is the delay in
decision-making.

4. Lack of initiative: In most of the cases, the employees of the company

at different levels show slack in their personal initiative with the result,
the opportunities once missed do not recur and the company loses the
revenue.

5. Lack of responsibility and commitment: In some cases, the managers

at different levels are afraid to take risk and more worried about their jobs
rather than the huge funds invested in the capital of the company lose the
revenue.

IV. Limited Liability Company (LLC)

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Limited Liability Company is another category of company registered under the
Indian New Companies Act, 2013. There are number of companies available in
India including private limited and public limited ones but Limited Liability
Company is a brand new one in the line. It's often called as a Limited Liability
Corporation and its nature of business is quite similar with partnership firm and
sole trade business. Company is an association of persons or an artificial person
formed under the Indian Companies act in order to carry out a certain business.
Under the Limited Liability Company Act, liability is limited among members or
partners.

New Companies Act, 2013 has defined all rules and regulations regarding
incorporating and registering all limited liability companies. One should apply to
the Registrar of Companies (ROC) by giving all the details regarding company
including name of the company, name and address of board of directors,
location of the company as per the company registration services. An LLC cannot
issue stocks. Since no stock is issued to the members of an LLC, the entity is
taxed as a pass-through entity. Each member of the LLC reports his share of the
entity's profits on his personal income statement in the form of income, but the
corporate entity itself incurs no taxes.

A private company whose owners are legally responsible for its debts only to the
extent of the amount of capital they invested. A Limited Liability Company, also
known as an LLC, is a type of business structure that combines traits of both
a sole-proprietorship and a company. An LLC is eligible for the pass-through
taxation feature of a partnership or sole proprietorship, while at the same time
limiting the liability of the owners, similar to a company. As the LLC is
considered a separate entity, the company does not pay taxes or take on losses.
Instead, this is done by the owners as they have to report the business profits,
or losses, on their personal income tax returns. However, just like company,
members of an LLC are protected from personal liabilities, thus the name Limited
Liability.

A limited liability company is an U.S. form of privately owned company that

combines the limited liability of a company with the simplified taxation of a sole
proprietorship or partnership. Owners of a limited liability company, referred to

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as an ―LLC,‖ report the company‘s profits and losses on their personal income
tax returns, rather than preparing separate corporate tax returns. This is known
as ―pass-through taxation.‖ LLC owners are referred to as ―members,‖ and the
company may be owned by a single individual, two or more individuals, or by a
company or another LLC.

Features

1. Limited liability: As the name implies, members‘ liabilities for the debts
and obligations of the LLC are limited to their own investment.

2. Pass-through taxation: For taxation purposes, income from your

business can be treated as your own personal income, and is therefore not
subject to certain corporate taxes for which companies are liable.

3. Separate Legal Entity: A LLC is a legal entity and a juristic person

established under the Act. Therefore, a LLC has wide legal capacity and
can own property and also incur debts.

4. Uninterrupted Existence: A LLC has 'perpetual succession', that is

continued or uninterrupted existence until it is legally dissolved. A LLC
being a separate legal person, is unaffected by the death or other
departure of any Partner. Hence, a LLC continues to be in existence
irrespective of the changes in ownership.

5. Audit not Required: An LLC does not require audit if it has less than
Rs. 40 lakhs of turnover and less than Rs.25 lakhs of capital contribution.
Therefore, LLCs are ideal for start-ups and small businesses that are just
starting their operations and want to have minimal regulatory compliance
related formalities.

6. Easy Transferability: The ownership of a LLC can be easily transferred

to another person by inducting them as a Partner of the LLC. LLC is a
separate legal entity separate from its Partners, so by changing the
Partners, the ownership of the LLC can be changed.

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7. Owning Property: A LLP being an artificial judicial person, can acquire,
own, enjoy and sell, property in its name. No Partner can make any claim
upon the property of the LLC - so long as the LLC is a going concern.

Advantages

1. Limited liability: As the name implies, members‘ liabilities for the debts
and obligations of the LLC are limited to their own investment.

2. Pass-through taxation: For taxation purposes, income from your

business can be treated as your own personal income, and is therefore not
subject to certain corporate taxes for which companies are liable.

3. Limitless ownership: Some legal structures limit the number of people

allowed to file as owners. With an LLC, there is no limit to the number of
owners. An LLC can have one member or hundreds of members.

4. Allocation flexibility: In an LLC, the amount of money that owners

invest into the business doesn‘t need to equal their percentage of
ownership. When an LLC is formed, members create an operating
agreement, in which different percentages of company profits and losses
can be assigned to owners regardless of the amounts of their initial
investments.

5. Freedom in management: Unlike standard companies, LLCs are not

required to have a board of directors, annual meetings, or strict books
requirements. This can free up a lot of time and stress to let you run your
business on your own terms. As you can imagine, this can be an
important advantage of a limited liability company as well.

Disadvantages

1. Building capital: Unlike companies, which can issue stock in order to

increase funds for their companies, LLCs have to work a little harder to
find investors and sources of capital due to the greater legal obligations to
add a new member to an LLC. If you have a fast growth internet company
that needs venture capital to scale, this limitation is one of the major
disadvantages of a limited liability company.

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2. Higher fees: LLCs must typically pay more fees to file as LLCs compared
to some other business entities or sole proprietorships.

3. Government regulation: Because of the protections afforded to LLCs,

some types of businesses are ineligible to file as LLCs. Banks, insurance
companies, and medical service companies are examples of businesses
that may be barred from filing.

4. Lack of case law: The LLC business form is a relatively new concept. As
a result, not a lot of cases have been decided surrounding LLCs. Case law
is important because of predictability. If you know a court has ruled a
certain way, you can act accordingly to protect yourself.

5. Confusion About Roles: Whereas corporations have specific roles (like

directors, managers, and employees), LLCs generally do not. This can
make it difficult for the company and especially investors to know who‘s in
charge, who can sign certain contracts, etc. Some of this confusion can be
avoided by creating an LLC Operating Agreement.

6. Limited Life: In many jurisdictions, if a member departs the LLC, the LLC
ceases to exist. This is unlike a corporation whose identity is unaffected by
the comings and goings of shareholders. Members of LLCs can combat this
weakness in the Operating Agreement.

SOURCES OF RAISING CAPITAL

Sources of raising long-term capital:

1) Issue of Shares: The amount of capital decided to be raised from

members of the public is divided into units of equal value. These units are
known as share and the aggregate values of shares are known as share
capital of the company. Those who subscribe to the share capital become
members of the company and are called shareholders. They are the
owners of the company.

a) Issue of Preference Shares: Preference share have three distinct

characteristics. Preference shareholders have the right to claim
dividend at a fixed rate, which is decided according to the terms of

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issue of shares. Moreover, the preference dividend is to be paid first
out of the net profit. The balance, if any, can be distributed among
other shareholders that is, equity shareholders. However, payment of
dividend is not legally compulsory. Only when dividend is declared,
preference shareholders have a prior claim over equity shareholders.

Preference shareholders also have the preferential right of claiming

repayment of capital in the event of winding up of the company.
Preference capital has to be repaid out of assets after meeting the loan
obligations and claims of creditors but before any amount is repaid to
equity shareholders.

b) Issue of Equity Shares: The most important source of raising long-

term capital for a company is the issue of equity shares. In the case of
equity shares there is no promise to shareholders a fixed dividend. But
if the company is successful and the level profits are high, equity
shareholders enjoy very high returns on their investment. This feature
is very attractive to many investors even though they run the risk of
having no return if the profits are inadequate or there is loss. They
have the right of control over the management of the company and
their liability is limited to the value of shares held by them.

2) Issue of Debentures: When a company decides to raise loans from the

public, the amount of loan is divided into units of equal. These units are
known as debentures. A debenture is the instrument or certificate issued
by a company to acknowledge its debt. Those who invest money in
debentures are known as ‗debenture holders‘. They are creditors of the
company. Debentures carry a fixed rate of interest, and generally are
repayable after a certain period.

3) Loans from financial Institutions: Government with the main object of

promoting industrial development has set up a number of financial
institutions. These institutions play an important role as sources of
company finance. These institutions provide medium and long-term
finance to industrial enterprises at a reason able rate of interest. Thus
companies may obtain direct loan from the financial institutions for

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expansion or modernization of existing manufacturing units or for starting
a new unit.

4) Retained Profits: Successful companies do not distribute the whole of

their profits as dividend to shareholders but reinvest a part of the profits.
The amount of profit reinvested in the business of a company is known as
retained profit.

5) Public Deposits: An important source of medium – term finance which

companies make use of is public deposits. This requires advertisement to
be issued inviting the general public of deposits. Against the deposit, the
company mentioning the amount, rate of interest, time of repayment and
such other information issues a receipt.

Sources of raising short-term capital:

1) Trade credit: Trade credit is a common source of short-term finance

available to all companies. It refers to the amount payable to the suppliers
of raw materials, goods etc. after an agreed period, which is generally less
than a year. It is customary for all business firms to allow credit facility to
their customers in trade business. Thus, it is an automatic source of
finance.

2) Bank loans and advances: Money advanced or granted as loan by

commercial banks is known as bank credit. Companies generally secure
bank credit to meet their current operating expenses. The most common
forms are cash credit and overdraft facilities. Under the cash credit
arrangement, the maximum limit of credit is fixed in advance on the
security of goods and materials in stock.

3) Overdraft: In the case of overdraft, the company is allowed to overdraw

its current account up to the sanctioned limit. This facility is also allowed
either against personal security or the security of assets. Interest is
charged on the amount actually overdrawn, not on the sanctioned limit.

4) Discounting of Bills: Commercial banks also advance money by

discounting bills of exchange. A company having sold goods on credit may
draw bills of exchange on the customers for their acceptance. A bill is an
order in writing requiring the customer to pay the specified amount after a

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certain period (say 60 days or 90 days). After acceptance of the bill, the
company can drawn the amount as an advance from many commercial
banks on payment of a discount. The amount of discount, which is equal
to the interest for the period of the bill, and the balance, is available to
the company. Bill discounting is thus another source of short-term finance
available from the commercial banks.

5) Short term loans from finance companies: Short-term funds may be

available from finance companies on the security of assets. Some finance
companies also provide funds according to the value of bills receivable or
amount due from the customers of the borrowing company, which they
take over.

NON-CONVENTIONAL SOURCES OF FINANCE

1. Venture capital

Venture capital is financing that investors provide to start-up companies and

small businesses that are believed to have long-term growth potential. Venture
capital generally comes from venture capital firms, which comprise of
professionally well-off investors, investment banks and any other financial
institutions. However, it does not always take just a monetary form; it can be
provided in the form of technical or managerial expertise.

Though it can be risky for the investors who put up the funds, the potential for
above-average returns is an attractive payoff. For new companies or ventures
that have a limited operating history (under two years), venture capital funding
is increasingly becoming a popular – even essential – source for raising capital,
especially if they lack access to capital markets, bank loans or other debt
instruments. The main downside is that the investors usually get equity in the
company, and thus a say in company decisions.

In a venture capital deal, large ownership chunks of a company are created and
sold to a few investors through independent limited partnerships that are
established by venture capital firms. Sometimes these partnerships consist of a
pool of several similar enterprises. One important difference between venture
capital and other private equity deals, however, is that venture capital tends to
focus on emerging companies seeking substantial funds for the first time , while
private equity tends to fund larger, more established companies that are seeking
an equity infusion or a chance for company founders to transfer some of their
ownership stake.

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2. Angel Investors

An angel investor is a person who invests in a business venture, providing

capital for start-up or expansion. Angel investors are typically individuals who
have spare cash available and are looking for a higher rate of return than would
be given by more traditional investments. An angel investment is a form
of equity financing - the investor supplies funding in exchange for taking an
equity position in the company.

3. Private Equity

Private equity is capital that is not noted on a public exchange. Private equity is
composed of funds and investors that directly invest in private companies, or
that engage in buyouts of public companies, resulting in the delisting of public
equity. Institutional and retail investors provide the capital for private equity,
and the capital can be utilized to fund new technology, make acquisitions,
expand working capital, and to bolster and solidify a balance sheet.

Private equity comes primarily from institutional investors and accredited

investors, who can dedicate substantial sums of money for extended time
periods. In most cases, considerably long holding periods are often required for
private equity investments, in order to ensure a turnaround for distressed
companies or to enable liquidity events such as an initial public offering (IPO) or
a sale to a public company.

4. IPO

An initial public offering, or IPO, is the very first sale of stock issued by a
company to the public. Prior to an IPO the company is considered private, with a
relatively small number of shareholders made up primarily of early investors
(such as the founders, their families and friends) and professional investors
(such as venture capitalists or angel investors). The public, on the other hand,
consists of everybody else – any individual or institutional investor who wasn‘t
involved in the early days of the company and who is interested in buying shares
of the company. Until a company‘s stock is offered for sale to the public, the
public is unable to invest in it. You can potentially approach the owners of a
private company about investing, but they're not obligated to sell you anything.
Public companies, on the other hand, have sold at least a portion of their shares
to the public to be traded on a stock exchange. This is why an IPO is also
referred to as "going public."

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E C O N O M I C S

INTRODUCTION

The English word economics is derived from the ancient Greek word
oikonomikos—meaning the management of a family or a household. Economics
is the study of how individuals and societies make decisions about way to use
scarce resources to fulfil wants and needs. Economics deals with individual
choice, money and borrowing, production and consumption, trade and markets,
employment and occupations, asset pricing, taxes and much more.
As an individual, for example, you constantly face the problem of having limited
resources with which to fulfil your wants and needs. As a result, you must make
certain choices with your money – what to spend it on, what not to spend it on,
and how much to save for the future. You'll probably spend part of your money
on relative necessities such as rent, electricity, clothing and food. Then you
might use the rest to go to the movies, dine out or buy a smart phone.
Economists are interested in the choices you make, and investigate why, for
instance, you might choose to spend your money on a new mobile phone instead
of replacing your old pair of shoes. The underlying essence of economics is
trying to understand how individuals, companies, and nations as a whole behave
in response to certain material constraints.

DEFINITIONS

1. Adam Smith‟s Definition:- Adam Smith, considered to be the founding

father of modern Economics, defines Economics as “the study of the
nature and causes of nations‟ wealth or simply as the study of
wealth”. The central point in Smith‘s definition is wealth creation. He
assumed that, the wealthier a nation becomes the happier are its citizens.
Thus, it is important to find out, how a nation can be wealthy. Economics is
the subject that tells us how to make a nation wealthy. Adam Smith‘s
definition is a wealth-centred definition of Economics.

2. Alfred Marshall‟s Definition:- Alfred Marshall also stressed the importance

of wealth. But he also emphasised the role of the individual in the creation
and the use of wealth. He defines: “Economics is a study of man in the
ordinary business of life. It enquires how he gets his income and how

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he uses it. Thus, it is on the one side, the study of wealth and on the
other and more important side, a part of the study of man”.

3. Lionel Robbins‟ Definition:- In his book „Essays on the Nature and

Significance of the Economic Science‟, published in 1932, Robbins gave
a definition which has become one of the most popular definitions of
Economics. According to Robbins, “Economics is a science which studies
human behaviour as a relationship between ends and scarce means
which have alternative uses”.

SIGNIFICANCE OF ECONOMICS

1. Allows to know the basics of human needs, production, distribution, reuse

and better use of resources.

2. It provides the basis for exchange of goods and services between

individuals, organizations and even countries.

3. Generates systems, techniques and public policies to improve social

welfare.

4. Help to set target prices of goods and services.

5. Adjust political, financial and even social imbalances.

6. Provides knowledge and techniques that prevent crises and help them out.

7. It uses econometric techniques to predict future economic conditions that

could harm or benefit certain situations in ascertain place, and how to
maximize the benefits and problems mystify.

8. As you can see, economics is a science that encompasses us completely.

9. To be an expert in this field you can study a university degree in

economics, in this course the student will learn how the economy moves
and how to generate the best social conditions.

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MICRO AND MACRO ECONOMICS
The whole economic theory is broadly divided into two parts –

Micro economics and Macro economics.

These two terms were at first used by Ragner Frisch in 1933. But these two
words became popular worldwide and most of the economist using nowadays.
The term ‗micro‘ and ‗macro‘ were derived from Greek words ‗Mikros‘ and
‗Makros‘ meaning ‗small‘ and ‗large‘ respectively. So micro economics deals with
the analysis of an individual unit and macro economics with economy as a
whole. For example, in micro economics we study how price of goods or factors
of production are determined. In macro economics we study what are the causes
of high or low level of employment.

So, according to Edwin Mansfield – ―Micro economics deals with the economic
behaviour of individual units such as consumers, firms, and resource owners;
while macro economics deals with behaviour of economic aggregates such as
gross national product and the level of employment.

Meaning of Micro – economics

The term micro was originated from Greek word ‗Mikros‘ which means small.
Hence, microeconomics is concerned on small economic units like as individual
consumer, households, firms, industry etc.

Microeconomics may be defined as the branch of economic analysis which

studies about the economic behaviour of individual economic unit may be a
person, a particular households, a particular firm and an industry. The main
objective of micro – economics is to explain the principles, problems and policies
related to the optimum allocation of resources. According to K. E. Boulding,
―Microeconomics is the study of particular firm, particular households, individual
price, wage, income of the industry and particular commodity‖.

It is the study of individual tree not a whole forest. Hence, microeconomics tries
to explain how an individual allocates his money income among various needs as
well as how an individual maximize satisfaction level from the consumption of
available limited resources. Microeconomics also explains about the process of
determination of individual price with interaction of demand and supply. It helps

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to determine the price of the product and factor inputs. Therefore, it is also
called as price theory or demand and supply theory. Simply microeconomics is
microscopic study of the economy.

Meaning of Macro - economics

The term macro- economics is derived from Greek word ― Makros‖, which means
― big‖. Hence, macro- economics studies not individual units but all the units
combined together or the economy as a whole. Since it studies the economy in
aggregate. It studies national income, national output, general price level, total
employment, total savings, total investment and so on. It is also called
―aggregate economics‖ or the ―income theory‖.

According to K.E. Boulding –‖ Macro- economics deals not with individual

quantities but with aggregate of these quantities, not with individual incomes,
but with national income, not with individual prices but with price level, not with
individual output but with national output.‖

J.M. Keynes made and outstanding contribution in the development of macro-

economics. It is also known as Keynesian Phenomenon.

NATIONAL INCOME

In every country goods and services are produced in agriculture sector,

industrial sector and service sector. The total value of final goods and services
produced in a country in a year is called national income. National income was
first calculated in India by Dadabai Noaroji in 1876. In our country national
income is calculated every year by Central Statistical Organization (CSO).It
includes payments made to all resources in the form of wages, interest, rent and
profits.

According to Marshall: ―The labour and capital of a country acting on its natural
resources produce annually a certain net aggregate of commodities, material
and immaterial including services of all kinds. This is the true net annual income
or revenue of the country or national dividend.‖ In this definition, the word ‗net‘
refers to deductions from the gross national income in respect of depreciation
and wearing out of machines. And to this, must be added income from abroad.

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Land, Labour, Capital, Organization

Rent, Wages, Interest, Profits

HOUSEHOLDS BUSINESS
FIRMS
Goods and Services

Payment for goods and services

Circular Flow of National Income :-

National income is a flow of money payments resulting from the productive
resources of a country during a year. It has the concept of circular flow in this
sense that the economic transactions which are made in a country during a
particular year appears in different ways. The expenditure of one person is the
income of another person, and his expenditure is also equal to value of goods
and services. To explain this idea we assume that there is economy where are
only two sectors in the economy.
1. Firms.
2. Households.
Firms are required to produce goods. Households own the various factors of
production. Firms require the services of households to produce goods. The firms
hire the services of households to produce goods. These goods are again
supplied to the households. When households sector purchases the goods it
makes the payments. Similarly firms make the payment in the shape of rent,
wages, and interest to the households against their services.
In this way the sum of prices of the goods and services must be equal to the
sum of the reward for the services of factors of production.
So income flows from firms to households in exchange for these services and
again the expenditure flows from households to firms. The goods which are
produced by the firms these are purchased by the household. The flow of income
flows from firms to household and flow of expenditure from household to firms
will be equal. This is called circular flow of national income.

National income can be calculated on the basis of:

1. Flow of goods and services

2. Flow of income
3. Flow of expenditure on goods and services

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CONCEPTS OF NATIONAL INCOME

There are various concepts of National Income. The main concepts of NI are:
GDP, GNP, NNP, NI, PI, DI, and PCI. These different concepts explain about the
phenomenon of economic activities of the various sectors of the economy.

1. Gross Domestic Product (GDP)

Gross domestic product- the market value of all final goods and services
produced in a country during a specific period of time which is usually one year.

GDP is measured using market values, and not quantities. Production is

measured in quantities, but then those quantities have to be changed to account
for their value. In economics we use prices to place values on the final goods,
so total production times price will give us the total value.

Final goods and services vs intermediate goods or services. A product is a final

good or service when it is purchased by the final user. Intermediate products
are used as an input to produce another good or service such as sugar being
purchased to make soda. Sugar is an intermediate good, while soda is a final
good.

GDP only includes the value of final goods, intermediate goods are not
included. GDP only includes current production, and ignores the sale of used
goods. If you purchase a bike in 2011, then that purchase is included in 2011
GDP measure, not 2010 or 2012. Also, if you sell that bike at any time in the
future, the sale of that bike is not included in GDP.

An equation for GDP and some actual values:

GDP = C + I + G + NX

The GDP equation shows us that GDP is equal to consumption expenditure (C)
plus investment expenditure (I) plus government expenditure (G) plus net
exports (NX = Exports - Imports).

2. Gross National Product (GNP)

Gross National Product is the total market value of all final goods and services
produced annually in a country plus net factor income from abroad. Thus, GNP is
the total measure of the flow of goods and services at market value resulting
from current production during a year in a country including net factor income
from abroad. The GNP can be expressed as the following equation:

GNP=GDP+NFIA (Net Factor Income from Abroad)

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NFIA = Income earned by Indians in abroad through jobs or businesses –
Income earned by foreigners in India by jobs or businesses.

3. Net National Product (NNP)

Net National Product is the market value of all final goods and services after
allowing for depreciation. It is also called National Income at market price. When
charges for depreciation are deducted from the gross national product, we get it.
Thus,

NNP=GNP-Depreciation

4. National Income (NI)

National Income is also known as National Income at factor cost. National

income at factor cost means the sum of all incomes earned by resources
suppliers for their contribution of land, labor, capital and organizational ability
which go into the years net production. Hence, the sum of the income received
by factors of production in the form of rent, wages, interest and profit is called
National Income. Symbolically,

NI=NNP + Subsidies given by Govt. - Indirect Taxes

5. Personal Income (PI)

Personal Income is the total money income received by individuals and

households of a country from all possible sources before direct taxes. Therefore,
personal income can be expressed as follows:

PI=NI-Corporate Income Taxes-Undistributed Corporate Profits-Social Security

Contribution + Transfer Payments

6. Disposable Income (DI)

The income left after the payment of direct taxes from personal income is called
Disposable Income. Disposable income means actual income which can be spent
on consumption by individuals and families. Thus, it can be expressed as:

DI=PI-Direct Taxes

7. Per Capita Income (PCI)

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Per Capita Income (average income) of a country is derived by dividing the
national income of the country by the total population of a country. Thus,

PCI=Total National Income/Total National Population

IMPORTANCE OF NATIONAL INCOME

The following points highlight the top eleven reasons for growing
importance of national income studies in recent years.

1. Economic Policy:

Economic policy refers to the actions which Govt. Takes in the economic feild
such as Tax policy, Money supply policy, Interest rate policy etc. National income
figures are an important tool of macroeconomic analysis and policy.

National income estimates are the most comprehensive measures of aggregate

economic activity in an economy. It is through such estimates that we know the
aggregate yield of the economy and can lay down future economic policy for
development.

2. Economic Planning:

National income statistics are the most important tools for long-term and short-
term economic planning. A country cannot possibly frame a plan without having
a prior knowledge of the trends in national income. The Planning Commission in
India also kept in view the national income estimates before formulating the
five-year plans.

3. Economy‟s Structure:

National income statistics enable us to have clear idea about the structure of the
economy. It enables us to know the relative importance of the various sectors of
the economy and their contribution towards national income. From these studies
we learn how income is produced, how it is distributed, how much is spent,
saved or taxed.

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4. Inflationary and Deflationary Gaps:

Inflationary gap means the amount by which the total demand is higher than the
total supply. Deflationary gap means the amount by which the total demand is
less than the total supply. National income and national product figures enable
us to have an idea of the inflationary and deflationary gaps. For accurate and
timely anti- inflationary and deflationary policies, we need regular estimates of
national income.

5. Budgetary Policies:

Modern governments try to prepare their budgets within the framework of

national income data and try to formulate anti-cyclical policies according to the
facts revealed by the national income estimates. Even the taxation and
borrowing policies are so framed as to avoid fluctuations in national income.

6. National Expenditure:

National income studies show how national expenditure is divided between

consumption expenditure and investment expenditure. It enables us to provide
for reasonable depreciation to maintain the capital stock of a community. Too
liberal allowance of depreciation may prove harmful as it may unnecessarily lead
to a reduction in consumption.

7. Distribution of Grants-in-aid:

National income estimates help a fair distribution of grants-in-aid by the federal

governments to the state governments and other constituent units.

8. Standard of Living Comparison:

National income studies help us to compare the standards of living of people in

different countries and of people living in the same country at different times.

9. International Sphere:

National income studies are important even in the international sphere as these
estimates not only help us to fix the burden of international payments equitably
amongst different nations but also enable us to determine the subscriptions and

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quotas of different countries to international organisations like the UNO, IMF,
IBRD. etc.

10. Defense and Development:

National income estimates help us to divide the national product between

defence and development purposes. From such figures we can easily know how
much can be spared for war by the civilian population.

11. Public Sector:

National income figures enable us to know the relative roles of public and private
sectors in the economy. If most of the activities are performed by the state, we
can easily conclude that public sector is playing a dominant role.

INFLATION

Inflation is defined as a sustained increase in the general level of prices for

goods and services in a county, and is measured as an annual percentage
change. Under conditions of inflation, the prices of things rise over time. Put
differently, as inflation rises, every rupee you own buys a smaller percentage of
a good or service. When prices rise, and alternatively when the value of money
falls you have inflation.

The value of a rupee (or any unit of money) is expressed in terms of

its purchasing power, which is the amount of real, tangible goods or actual
services that money can buy at a moment in time. When inflation goes up, there
is a decline in the purchasing power of money. For example, if the inflation rate
is 2% annually, then theoretically a Rs.1 chocolate will cost Rs.1.02 in a year.
After inflation, your rupee does not go as far as it did in the past.

FEATURES OF INFLATION

Following are the main features of inflation:

1. Inflation is always accompanied by a rise in the price level. It is a process

of uninterrupted increase in prices.

2. Inflation is a monetary phenomenon and it is generally caused by

excessive money supply.

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3. Inflation is essentially an economic phenomenon as it originates in the
economic system and is the result of action and interaction of economic
forces.

4. Inflation is a dynamic process as observed over the long period.

5. A cyclical movement of prices is not inflation.

6. Pure inflation starts after full employment.

7. Inflation may be demand-pull or cost-push.

TYPES OF INFLATION

1. Creeping Inflation: This is also known as mild inflation or moderate

inflation. This type of inflation occurs when the price level persistently
rises over a period of time at a mild rate. When the rate of inflation is less
than 10 per cent annually, or it is a single digit inflation rate, it is
considered to be a moderate inflation.

2. Galloping Inflation: If mild inflation is not checked and if it is

uncontrollable, it may assume the character of galloping inflation. Inflation
in the double or triple digit range of 20, 100 or 200 percent a year is called
galloping inflation . Many Latin American countries such as Argentina,
Brazil had inflation rates of 50 to 700 percent per year in the 1970s and
1980s.

3. Hyperinflation: It is a stage of very high rate of inflation. While

economies seem to survive under galloping inflation, a third and deadly
strain takes hold when the cancer of hyperinflation strikes. Nothing good
can be said about a market economy in which prices are rising a million or
even a trillion percent per year . Hyperinflation occurs when the prices go
out of control and the monetary authorities are unable to impose any
check on it. Germany had witnessed hyperinflation in 1920‘s.

4. Stagflation: It is an economic situation in which unemployment increases

along with rising inflation causing demand to remain stagnant in a given
period. In fact, it is an indication of an inefficient market, as traditionally,
there is an inverse relationship between unemployment rates and inflationary

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pressures. Stagflation was witnessed by developed countries in 1970s,
when world oil prices rose dramatically.

5. Deflation: Deflation is the reverse of inflation. It refers to a sustained

decline in the price level of goods and services. It occurs when the annual
inflation rate falls below zero percent (a negative inflation rate), resulting
in an increase in the real value of money. Japan suffered from deflation for
almost a decade in 1990s.

MONEY SUPPLY AND INFLATION

Inflation refers to a sustained rise in the prices of goods and services. When
inflation occurs, the buying value of a currency unit erodes, meaning that a
person needs more money to buy the same product. Most economists suggest
there is a direct relationship between the amount of money in an economy,
known as the money supply, and inflation levels. Understanding the relationship
between money supply and inflation is far from easy or predictable, since
inflation can easily be influenced by other factors as well.

The relationship between money supply and inflation is explained differently

depending on the type of economic theory used. In the quantity of money
theory, also called monetarism, the relationship is expressed as MV=PT, or
Money Supply (the amount of money in circulation) x Velocity of circulation (the
speed with which money flows round the economy)=Price Level x Transactions
or output. The Velocity and Transactions are considered to be constants, so
according to this explanation, supply and prices have a direct relationship. MV
represents supply of money and PT represents demand for money. Assuming V
and T are constant, price level varies in direct proportion to the quantity of
money. If supply of money increases, there is inflation or rise in prices.
In Keynesian theory, while there is still a relationship between money supply
and inflation, it is not the only large factor that can affect inflation and prices.
Generally, the Keynesian theory stresses the relationship between total or
aggregate demand and inflationary changes.

For example, assume a very small economy that has a money supply of Rs.50 and only two
people i.e., Farmer and Mechanic. Farmer goes to Mechanic for getting his tractor repaired
and paid Rs. 50. In turn, Mechanic purchases rise worth of Rs. 40 from Farmer. After few

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months, again Mechanic purchases maize worth of Rs. 10. These are the transactions taken
place in our imaginary economy in a year.

MV = PT

M = Money supplied, V = Velocity ( The rate at which money is exchanged from

one transaction to another), P = Average general price, T = No. of transactions.

MV = Total money supply; PT = Value of all the transactions (Value of goods and
services produced, i.e., GDP)

M = 50 V = ? P = (50+40+10)/3 transactions = 33.33 T = 3

V = PT/M

50 x V = 33.33 x 3

V = 100/50 = 2

If money supplied is increased by 100%, then price level also increases by 100%
when V and T are constant.

MV = PT

100 x 2 = P x 3

P = 200/3 = 66.67

Changes in money supply are often used to try and control inflationary
conditions. Central bank will generally lower lending rates and increase interest.
When inflation drops below a target level, these standards are generally relaxed
in an attempt to stimulate the economy.

BUSINESS CYCLE

Business cycles, also called trade cycles or economic cycles, refer to perpetual
features of the economic environment of a country. In simple words, business
cycles can be defined as fluctuations in the economic activities of a country. The
economic activities of a country include total output, income level, prices of
products and services, employment, and rate of consumption. All these activities
are interrelated; if one activity changes, rest of them would also show changes.

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These changes in the economic activities together produce a bigger change in
the overall economy of a nation. This overall change in an economy is termed as
a business cycle. Business cycles are generally regular and periodical in nature.

Definition: Lord Keynes defines business cycle as ― a business cycle is

composed of periods of good trade characterized by rising prices and low
unemployment percentage, altering with periods of bad trade characterized by
falling prices and high unemployment percentage‖.

CHARACTERISTICS OF A BUSINESS CYCLE

1. Cyclical movements: When excess movement in one direction, say

depression tends to bring into operations not only in its remedy but also a
stimulus to an excess movement in the other direction, say boom, the
movement is said to be cyclical. It is like the movement of a pendulum.
The movement in one direction tends to automatically generate a
movement in the opposite direction of prosperity in the economy sow the
seeds of depression also.
2. International in nature: it is very likely that boom in the economy of
one country boom in another country. Different countries are linked with
one another through international trade and foreign exchange. This
implies that prosperity in one country contributes to prosperity in other
countries also.
3. Varying degree of impact: Since periods of business cycles are more
likely to be different, they tend to vary in the degree of their impact on an
economy. Business cycles may affect different industries in an economy in
varying degrees.
4. Irregular patterns: No two business cycles are similar in rhythm. There
is no fixed pattern governing each business cycle.
5. Wave like movement: Business cycles reflect a wavelike movement
that implies a composite photograph of all the recorded cycles. One
complete round from boom to depression and depression to boom is called
business cycle.
6. Fluctuation in productive capacities: Production capacities undergo
wild fluctuations are measured in terms of unemployment.
7. Fluctuations in price levels: The upward phase of cycle is identified
with expansion of production capacities, diminishing unemployment and
rise in prices. On the other hand, the downward phase of cycle is
identified with contraction of production capacities, increasing
unemployment and fall in prices.
8. Every cycle has four distinct phases: (a) depression, (b) revival, (c)
prosperity or boom, and (d) recession.

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PHASES OF A BUSINESS CYCLE

(a) Prosperity/Expansion/Boom : In this stage increase production, high

capital investment in basic industries, expansion of the bank credit, high prices,
high profit, full employment.

(b) Recession : This stage is characterized by liquidation in the stock market,

strain in the banking system and some liquidation of bank loan, small fall in
price, sharp reduction in demand for capital equipment and abandoning of
relatively new projects. Unemployment leads to full income expenditure, price &
profits. It is cumulative effect once a recession starts it goes on gathering
momentum and finally assumes the shape of depression.

(c) Depression/Slump : It is a protective period in which Business activities in

the country is far below the normal. It is characterized by a sharp deduction of
production, mass unemployment, low employment, falling prices, falling profits,
low wages, and contraction of credit, high rate of business failures and an
atmosphere of all round pessimism and despair all construction activities come
to a more or less complete stand still during depression. The consumer goods
industries and however, not much affected.

(d) Recovery : It implies increase in business activity after the lowest point of
depression has been reached. The entrepreneur began to feel that the economic
situation was after all not so bad. This leads to new innovation in business
activities. The industrial production picks up slowly and gradually. The volume of
employment also straightly increases. There is a slow rise in prices accompanied
by a small rise in profit. Wages also raise new investment takes place in capital
goods industries. The bank also expands credit. Pessimism is gradually replaced
by an atmosphere of all round cautious hope.

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B U S I N E S S E C O N O M I C S

INTRODUCTION

Business Economics, also called Managerial Economics, is the application of

economic theory and methodology to business. Business involves decision-
making. Decision making means the process of selecting one out of two or more
alternative courses of action. The question of choice arises because the basic
resources such as capital, land, labor and management are limited and can be
employed in alternative uses. The decision-making function thus becomes one of
making choice and taking decisions that will provide the most efficient means of
attaining a desired end, say, profit maximization. Different aspects of business
need attention of the chief executive. He may be called upon to choose a single
option among the many that may be available to him. It would be in the interest
of the business to reach an optimal decision- the one that promotes the goal of
the business firm. A scientific formulation of the business problem and finding its
optimal solution requires that the business firm is he equipped with a rational
methodology and appropriate tools.

Economic theory underscores the fact that each firm in the industry operates under
competitive conditions and hence tries to operate more efficiently to withstand the
competition. The indicator of efficiency is profits. The assumption here is that each firm has
one man as the owner and entrepreneur, and that his sole aim is to maximize profits. As
time passed, one man firms were replaced by partnerships and giant companies and the
structure of the firm changed to include the owner/entrepreneur/shareholders on the one
hand and that managers on the other. The responsibility of the
owners/entrepreneur/shareholders got bifurcated. The day to day affairs of the firm were
looked after by the managers and owners/entrepreneur/shareholders took organizational
decisions aimed at maximizing profits. The goals of the owners/entrepreneurs/shareholders
are called organizational goals while the goals of the managers are referred to as
Business goals also known as operational goals.

DEFINITIONS

According to E. F. Brigham and J. L. Pappas, "Managerial Economics is the

application of Economic theory and methodology to business administration
practise."

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According to McNair and Meriam, "Managerial Economics consists of the use of
Economic modes of thought to analyse business situations."

According to M. H. Spencer and L. Siegelman, "Managerial Economics is the

integration of economic theory with business practise for the purpose of
facilitating decision making and forward planning."

According to Hauge, "Managerial Economics is concerned with using logic of

economics, mathematics & statistics to provide effective ways of thinking about
business decision problems."

According to Joel Dean, "The purpose of Managerial Economics is to show how

economic analysis can be used in formulating business policies."

NATURE OF BUSINESS ECONOMICS

Business economics is, perhaps, the youngest of all the social sciences. Since it
originates from Economics, it has the basis features of economics, such as
assuming that other things remaining the same. This assumption is made to
simplify the complexity of the Business phenomenon under study in a dynamic
business environment so many things are changing simultaneously. This set a
limitation that we cannot really hold other things remaining the same. In such a
case, the observations made out of such a study will have a limited purpose or
value. Managerial economics also has inherited this problem from economics.

The other features of managerial economics are explained as below:

(a)Microeconomics in nature: Business economics is concerned with finding

the solutions for different managerial problems of a particular firm. Thus, it is
more close to microeconomics.

(b)Operates against the backdrop of macroeconomics: The

macroeconomics conditions of the economy are also seen as limiting factors for
the firm to operate. In other words, the managerial economist has to be aware
of the limits set by the macroeconomics conditions such as government
industrial policy, inflation and so on.

(c)Normative economics: Economics can be classified into two broad

categories normally. Positive Economics and Normative Economics. Positive

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economics describes ― what is‖ i.e., observed economic phenomenon. The
statement ― Poverty in India is very high‖ is an example of positive economics.
Normative economics describes ―what ought to be‖ i.e., it differentiates the
ideals form the actual. Ex: People who earn high incomes ought to pay more
income tax than those who earn low incomes. A normative statement usually
includes or implies the words ‗ought‘ or ‗should‘. They reflect people‘s moral
attitudes and are expressions of what a team of people ought to do.

(d)Prescriptive actions: Prescriptive action is goal oriented. Given a problem

and the objectives of the firm, it suggests the course of action from the available
alternatives for optimal solution. It does not merely mention the concept, it also
explains whether the concept can be applied in a given context on not. For
instance, the fact that variable costs as marginal costs can be used to judge the
feasibility of an export order.

(e)Applied in nature: ‗Models‘ are built to reflect the real life complex
business situations and these models are of immense help to managers for
decision-making. The different areas where models are extensively used include
inventory control, optimization, project management etc. In Business economics,
we also employ case study methods to conceptualize the problem, identify that
alternative and determine the best course of action.

(f)Offers scope to evaluate each alternative: Business economics provides

an opportunity to evaluate each alternative in terms of its costs and revenue.
The Business economist can decide which is the better alternative to maximize
the profits for the firm.

(g)Interdisciplinary: The contents, tools and techniques of Business

economics are drawn from different subjects such as economics, management,
mathematics, statistics, accountancy, psychology, organizational behavior,
sociology and etc.

(h)Assumptions and limitations: Every concept and theory of Business

economics is based on certain assumption and as such their validity is not
universal. Where there is change in assumptions, the theory may not hold good
at all.

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SCOPE OF BUSINESS ECONOMICS

The main focus of Business economics is to find the solution to Business

problems for which the Business economist makes use of the concepts, tools and
techniques of economics and other related disciplines.

1. Demand Analyses and Forecasting:

A firm can survive only if it is able to the demand for its product at the right
time, within the right quantity. Understanding the basic concepts of demand is
essential for demand forecasting. Demand analysis should be a basic activity of
the firm because many of the other activities of the firms depend upon the
outcome of the demand forecast. Demand analysis provides:

a) The basis for analyzing market influences on the firms; products and thus
helps in the adaptation to those influences.
b) Demand analysis also highlights for factors, which influence the demand
for a product. This helps to manipulate demand. Thus demand analysis
studies not only the price elasticity but also income elasticity, cross
elasticity as well as the influence of advertising expenditure. With the
advent of computers, demand forecasting has become an increasingly
important function of Business economics.

2. Price determination:

Pricing decisions have been always within the preview of Business economics.
Pricing policies are merely a subset of broader class of Business economic
problems. Price theory helps to explain how prices are determined under
different types of market conditions. Competition analysis includes the
anticipation of the response of competing firms‘ pricing, advertising and

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marketing strategies. Product line pricing and price forecasting occupy an
important place here.

3. Production and cost analysis:

Production analysis is in physical terms. While the cost analysis is in monetary

terms. Cost concepts and classifications, cost-out-put relationships, economies
and diseconomies of scale and production functions are some of the points
constituting cost and production analysis.

4. Resource Allocation:

Business Economics is the traditional economic theory that is concerned with the
problem of optimum allocation of scarce resources. Marginal analysis is applied
to the problem of determining the level of output, which maximizes profit. In this
respect, linear programming techniques are used to solve optimization
problems. In fact, linear programming is one of the most practical and powerful
managerial decision making tools currently available.

5. Profit analysis:

Profit making is the major goal of firms. There are several constraints here on
account of competition from other products, changing input prices and changing
business environment hence in spite of careful planning, there is always certain
risk involved. Business economics deals with techniques of averting of
minimizing risks. Profit theory guides in the measurement and management of
profit, in calculating the pure return on capital, besides future profit planning.

6. Investment decisions:

Capital is the foundation of business. Lack of capital may result in small size of
operations. Availability of capital from various sources like equity capital,
institutional finance etc. may help to undertake large-scale operations. Hence
efficient allocation and management of capital is one of the most important tasks
of the managers. The major issues related to capital analysis are:

1. The choice of investment project

2. Evaluation of the efficiency of capital

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3. Most efficient allocation of capital

Knowledge of capital theory can help very much in taking investment decisions.
This involves, capital budgeting, feasibility studies, analysis of cost of capital etc.

7. Forward planning:

Strategic planning provides management with a framework on which long-term

decisions can be made which has an impact on the behavior of the firm. The firm
sets certain long-term goals and objectives and selects the strategies to achieve
the same. Strategic planning is now a new addition to the scope of Business
economics with the emergence of multinational corporations. The perspective of
strategic planning is global.

THE ROLE OF BUSINESS ECONOMIST

The role of business economist can be summarized as follows:

1. He studies the economic patterns at macro-level and analysis its

significance to the specific firm he is working in.

2. He has to consistently examine the probabilities of transforming an ever-

changing economic environment into profitable business avenues.

3. He assists the business planning process of a firm.

4. He also carries cost-benefit analysis.

5. He assists the management in the decisions pertaining to internal

functioning of a firm.

6. In addition, a business economist has to analyze changes in macro-

economic indicators such as national income, population, business cycles,
and their possible effect on the firm‘s functioning.

7. He is also involved in advising the management on public relations,

foreign exchange, and trade.

8. He guides the firm on the likely impact of changes in monetary and fiscal
policy on the firm‘s functioning.

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9. The most significant function of a business economist is to conduct a
detailed research on industrial market.

10.He must be vigilant and must have ability to cope up with the pressures.

11.He also provides management with economic information such as tax

rates, competitor‘s price and product, etc.

MULTI-DISCIPLINARY NATURE OF BUSINESS ECONOMICS

Many new subjects have evolved in recent years due to the interaction among
basic disciplines. While there are many such new subjects in natural and social
sciences, Business economics can be taken as the best example of such a
phenomenon among social sciences. Hence it is necessary to trace its roots and
relationship with other disciplines.

1. Relationship with economics:

The relationship between Business economics and economics theory may be

viewed from the point of view of the two approaches to the subject Viz. Micro
Economics and Marco Economics. Microeconomics is the study of the economic
behavior of individuals, firms and other such micro organizations. Business
economics is rooted in Micro Economic theory. Business Economics makes use of
several Micro Economic concepts such as marginal cost, marginal revenue,
elasticity of demand as well as price theory and theories of market structure to
name only a few. Macro theory on the other hand is the study of the economy as
a whole. It deals with the analysis of national income, the level of employment,
general price level, consumption and investment in the economy and even
matters related to international trade, Money, public finance, etc.

2. Relationship with accounting:

Business economics has been influenced by the developments in management

theory and accounting techniques. A proper knowledge of accounting techniques
is very essential for the success of the firm because profit maximization is the
major objective of the firm. Business Economist requires a proper knowledge of
cost and revenue information and their classification.

3. Relationship with mathematics:

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The use of mathematics is significant for Business economics in view of its profit
maximization goal long with optional use of resources. The major problem of the
firm is how to minimize cost, how to maximize profit or how to optimize sales.
Mathematical concepts and techniques are widely used in economic logic to solve
these problems. Geometry, Algebra and calculus are the major branches of
mathematics which are of use in Business economics.

4. Relationship with Statistics:

A successful businessman must correctly estimate the demand for his product.
Statistical methods provide and sure base for decision-making. Thus statistical
tools are used in collecting data and analyzing them to help in the decision
making process. Statistical tools like the theory of probability and forecasting
techniques help the firm to predict the future course of events. Business
Economics also make use of correlation and multiple regressions in related
variables like price and demand to estimate the extent of dependence of one
variable on the other.

5. Relationship with Operations Research:

The development of techniques and concepts such as linear programming,

inventory models and game theory is due to the development of this new
subject of operations research in the post-war years. Operations research is
concerned with the complex problems arising out of the management of men,
machines, materials and money.

Operation research provides a scientific model of the system and it helps

Business economists in the field of product development, material management,
and inventory control, quality control, marketing and demand analysis.

7. Relationship with Computer Science:

Computers are used in data and accounts maintenance, inventory and stock
controls and supply and demand predictions. What used to take days and
months is done in a few minutes or hours by the computers. In fact
computerization of business activities on a large scale has reduced the workload
of Business personnel.

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