Introduction to firms

What is a firm?

A firm exists in order to organise production: they bring together various factors of production, and organise the production process in order to produce output.

Types of firm

  • Sole proprietor: the owner of the firm runs the firm. Owner is liable for the debts of the enterprise, but also gets to keep any profit. e.g. plumber, independent corner shop
  • Partnership: profits shared among the partners, as are debts, according to the contract drawn up between them. e.g. doctors, dentists, solicitors
  • Private joint stock company: owned by shareholders, each of whom has contributed funds to the business by buying shares.  Ltd. is the abbreviation for this setup, which stands for limited liability. This is because each shareholder’s liability for the debts is limited to the amount they paid for the shares. Profits are distributed to the shareholders as dividends. Not traded on stock exchange, and the firms tend to be controlled by the shareholders themselves.
  • Public joint stock company: Similar to private joint stock companies, but are listed on the stock exchange. Again, the liability of a shareholder is limited to the amount they paid for the shares. However, such companies are required to publish their annual accounts and also to publish an annual report to their shareholders. Day-to-day decision-making is usually delegated to the board of directors, appointed to the AGM of the shareholders. plc. is the abbreviation for this type of company, standing for public limited company.

The way a firm is organised directly affects the way that decisions are made on key economic issues, which I will discuss later.

The nature of the activity being undertaken by the firm, and its scale of operation will help to determine its most efficient form of organisation. For firms to operate successfully, they must minimise the transaction costs of undertaking business.

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