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BUSINESS STUDIES FORM 2

NOTES

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TOPIC: FORMS OF BUSINESS UNITS

CONTENTS

• Introduction

• Sole proprietorship

• Partnership

• Co-operatives

• Limited liability companies

• Public corporations

INTRODUCTION

Forms of business units refers to types of business ownership which

includes the following:

• Sole proprietor

• Partnerships

• Co-operatives

• Limited liability companies

• Public corporations

• Parastatals

Business units can further be classified on the basis of their legal status

into two, namely:

a) Unincorporated business organisations

b) Incorporated business organizations

a) Unincorporated business organizations

This are those business units which the law has no or little control over

their formation, ownership and operations. There is no formal certificate of

registration required to form these business units. They may include

partnerships and sole proprietorships.

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b) Incorporated business units

These are business units where there is legal control over their formation,

ownership and operation.

These business are allowed to start operations after complying with all

legal requirements.

Examples are limited liability companies, co-operative societies and public

corporations

Differences between incorporated and unincorporated business

organisations

Unincorporated business

organisations

Incorporated business

organisations

There are no legal procedures to be followed during their

formation

Legal procedures have to be followed during their formation

The business is not a separate legal entity

The business is a separate legal entity

All transactions are conducted in

the name of the owner(s)

All transactions are conducted in

the name of the business

The owners have unlimited

liabilities

The owners have limited

liabilities

They lack perpetual existence They have perpetual existence

The business tends to be small in size due to limited capital

The business tends to be large in size due to the ability to raise

more capital

SOLE PROPRIETORSHIP

Ownership

This is a form of business unit which is owned by one person. This person

is known as a sole trader or a sole proprietor.

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Sole proprietorships are the most common forms of business units. They

mostly operate in retail and wholesale trade.

Formation

Formation of a sole proprietor is very simple since it requires very few

legal formalities.

In Kenyan, one only is required to apply to the local authority and if the

application is approved, he is issued with a trade license after paying the

trade license fee. The trade licence gives him the permission start his

business

Management

Management of a sole proprietorship is done by the owner. The owner

may however get assistance from his family members or employ other

people to assist him in managing the business.

The sole proprietor remains responsible for the success and failure of the

business

Capital

The amount of capital required to start a sole proprietorship is relatively

small compared to other forms of business units. The owner can raise

capital through the following sources:

• Owners’ savings (main source)

• Inheritance

• Grants and donations from friends and relatives

• Buying on credit

• Ploughing back profits

• Leasing and renting of property

• Borrowing from friends, banks and other financial institutions.

NOTE: The amount of capital borrowed depends on the following factors:

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• Whether the lender has funds to loan out

• The amount of interest to be charged on borrowed capital

• Ability of the borrower to repay the loan together with interest

• Whether the amount of money borrowed will serve the intended

purpose

Advantages of sole proprietorship

a) Requires fewer legal formalities to start hence reducing formation

costs

b) Decision making is faster since the sole proprietor does not consult

anybody

c) The owner exercises direct control over the business at all time

d) The owner enjoys close contact with his customers enabling him

cater for their individual needs

e) Direct contact with customers enables the owner to assess the credit

worthiness of his/her customers in order to know whom to allow

credit so as to avoid losing money through bad debts

f) The trader is accountable to himself

g) The sole trader is able to keep the top secrets of his/her business

h) The trader enjoys profits alone

i) The trader can get assistance from family members to run the

business

j) Requires less amount of capital to start

k) The owner works to his level best because he is accountable to

him/herself

l) The business is flexible i.e. it can switch from one line of trade to

another

Disadvantages of sole proprietorship

a) The business has limited liabilities. This means that in case business

assets are not enough to pay business debts, personal property of the

owner may be sold to repay the debts

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b) Expansion of the business may be limited due to scarcity of capital

c) The sole trader may overwork himself leaving him/her with little

time for leisure

d) The owner suffers all losses and risks alone

e) Lack of specialisation leads to poor performance. This is because one

person may not manage all the aspects of the business effectively

f) Death of the owner may lead to the collapse or poor performance of

the business

g) The owner may not enjoy benefits enjoyed by large scale business

such as easy access to loans

h) Lack of consultation may lead poor decision making

Dissolution

Dissolution refers to bringing a business to an end.

A sole proprietorship may be dissolved under the following circumstances

• If the owner decides to dissolve the business

• In case of death, insanity or bankruptcy of the owner

• In case the intended purpose is accomplished

• If the court orders the business to dissolve

Features of a sole proprietorship

a) It is owned and managed by one person

b) The owner is responsible for all the debts of the business

c) The owner provides capital to start the business

d) The business lacks a separate legal entity status i.e. the owner and the

business are regarded as one

e) The owner has unlimited liabilities

f) The owner enjoys all profits

g) The owner makes all decisions affecting his/her business

h) The owner bears all losses alone

i) Mostly, the business is smaller in size

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Circumstances under which sole proprietorship is appropriate

a) When the investor has limited capital

b) When the size of the market is small

c) When there is need to retain control over the business

d) When the investor would like to give personalized services

Role of a sole proprietorship in the economy

a) Creates employment to oneself and to others

b) Enables the utilisation of local natural resources

c) Provides revenue to the government in form of taxes

d) Helps in bringing goods and services closer to the people

PARTNERSHIP

Ownership

A partnership is a business unit which is owned by more than one person.

The people who own a partnership are known as partners.

A partnership is owned by a minimum of 2 partners and a maximum of 20,

except for partnerships which provide professional services such as law,

medicine, auditing, banking etc. which have a maximum of 50 partners.

Classification of partnerships

Partnerships may be categorised in either of the following ways:

• According to the type of partners

• According to the period of operation

a) According to the type of partners

When classified according to the type of partners, partnerships can either

be general or limited.

General partnership: in a general partnership, all members have

unlimited liabilities. This means if partners are unable to repay all business

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debts from the available business assets, personal property of the partners

will be sold to repay the debts

Limited partnership: in a limited partnership, partners have limited

liabilities. This means that if partners are unable to repay business debts

from the available business assets, partners only loose the capital they

contributed to the business but not their personal property.

NOTE: in a limited partnership, there must be one partner whose liabilities

are unlimited

b) According to period of operation

When classified according to the period of operation, partners can either

be temporary or permanent.

Temporary partnership: these are partnerships which are formed to

accomplish a specific objective after which they are dissolved. These

partnerships are also known as joint ventures.

Permanent partnerships: these are partnerships which are formed to

operate indefinitely

Types of partners

Partners may be classified according to the role they play, their liabilities,

their age and their capital contribution as discussed below

a) Role played by the partners

Partner can either be active or dormant. An active partner is the one who

plays an active role in the running of the business while a dormant partner

does not play an active role in the running of the business

A dormant partner is also known as a sleeping, passive or silent partner

b) Liabilities of the partners

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When classified according to their liabilities, partners can either be general

or limited. Limited partners have limited liabilities while general partners

have unlimited liabilities.

c) Age of partners

According to their ages, partners can either be min or major. A minor

partner is the one who is below 18 years. A minor partner only takes part

in the sharing of profits but cannot participate in the day to day running of

the business until he/she attains the majority age ( 18 years and above). A

major partners is the one who is above 18 years.

d) Capital contributions

When classified according to their capital contributions, partners can be

real or nominal. A real partner is the one who has contributed capital to the

business while a nominal partner is the one who does not contribute capital

to the business but allows the business to use his/her name for prestige in

order to attract customers.

A nominal partner may also be a person who retired from the partnership

but left his/her in the business in form of a loan which earns him interest

from the partnership at an agreed rate.

A nominal does not take part in the sharing of profits.

A nominal partner is also known as a quasi-partner.

Formation

When forming the partnership, partners have to agree on how the business

will be operated in order to avoid misunderstanding amongst themselves.

The agreement among partners is known as a partnership agreement.

The partnership agreement can either be oral or in writing. When it is in

writing, the partnership agreement is known as a partnership deed.

The partnership deed contains the following:

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• Name of the partnership

• Address of the head office

• Location and area of operation of the partnership

• The term of the partnership ( whether temporary or permanent)

• The objectives of the business

• Amount of capital contributed by each partner

• Rate of interest on capital

• Drawings by partners and the rate of interest on drawings

• Salaries and commissions to partners

• Rate of interest on loans from partners to the business

• Procedures of dissolving the partnership

• Profit/loss sharing ratio

• Means of solving conflicts between partners

• Methods of valuing goodwill on the admission or retirement of a

partner

Once the partnership agreement is ready, the business can be registered by

the registrar of companies upon payment of the registration fee.

The name of the partnership should be different from the surnames of the

individual partners.

NOTE: in case the partnership deed has not been drawn or is ambiguous,

the contents of the partnership act of 1963 will apply. These contents are:

• All partners should contribute equal amount of capital

• No salary is to be paid to any partner

• No interest is to be allowed on capital

• No interest is to be charged on drawings

• All profits and losses are to shared equally

• Every partner has the right to inspect the books of account

• Every partner has a right to take part in decision making

• Interest must be paid on all loans advanced to partners

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• When the partnership is dissolving, external debts are paid first,

followed by loans from partners and lastly partners’ capital

• No partner should carry out competing business

• Any major change in the business such as the admission of a new

partner must be agreed upon by all the partners

• Partners should be compensated for the losses they incur while

executing duties of the business

Management

All partners share the responsibility of managing the business. This is done

by assigning different areas of management to partners based on their

specialities

Partners may also employ specialized personnel to manage the business on

their behalf especially when the business is too large or when the partners

are ignorant on how the business should be managed

Partners who take play an active role in the management of the business

are major, real and general partners. Minor, quasi and limited partners do

not play an active role in the management of the business. They are

however allowed to access the books of account and to offer advice to

active partners

Sources of capital

• Contributions by partners

• Loans from banks and other financial institutions

• Buying on hire purchase

• Buying goods on credit

• Ploughing back profits

• Leasing and renting property

Advantages of partnerships

a) Capital raised is higher

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b) Workload is reduced since work is distributed among partners

c) Losses are risks are shared

d) Requires fewer legal formalities to start compared to companies

e) Consultation in decision making results in good decisions

f) Combining of different talents in management results in efficient

management

Disadvantages of partnerships

a) A mistake made by one partner results in losses that are shared by all

partners

b) The liability of some partners is unlimited

c) Continued disagreements among partners may lead to dissolution

d) Decision making process may be slow since all partners have to be

consulted

e) Actions taken by any partner in good faith on behalf of the business

are binding to all other partners

f) Retirement or death of a partner may adversely affect the partnership

in case the business heavily relied on that partner

g) Compared to limited companies, partnerships have limited access to

major sources of capital

h) Lack of a variety of managerial skills especially when partners

manage the business alone

i) A hard working may not be rewarded for his/her hard due to the fact

that profits realised from efforts are shared

Dissolution

A partnership may come to an end under the following circumstances

a) If the partners mutually agree to dissolve

b) In case of death, insanity or bankruptcy of the main partner(s)

c) In case of the completion of the intended purpose or end of the

agreed time

d) If the court orders the business to dissolve

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e) When one of the partners requests for a dissolution in writing

f) If the business engages in unlawful activities or in activities that have

been rendered illegal by a change in law

g) In case of retirement or admission of a new partner, the partnership

may be dissolved temporarily or permanently

h) In case of continued disagreements among partners

Features of a partnership

a) Formed and owned by 2-20 people in the case of ordinary

partnerships and 2-50 people in te case of partnerships offering

professional services

b) Capital is mostly contributed by partners

c) The business is managed by partners

d) The business lacks legal entity status.

e) Partners have unlimited liabilities

f) Profits are shared

g) Losses are shared

h) Each partner can act as an agent of the business

i) Business decisions are made jointly

CO-OPERATIVES

A co-operative society is a group people who come together mainly to

provide convenient and efficient services to members.

Co-operatives are also formed in order to eliminate middlemen so that all

profits goes to members.

Co-operatives are formed by people who have common interests and

problems.

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The idea behind the formation of co-operatives is the need to pool together

individuals’ scarce resources so as to achieve common goals more

efficiently.

Ownership

Co-operative societies are owned by more than 10 adults who register as

members upon payment of a non-refundable membership fee

Members are further expected to buy shares in the co-operative. The value

of each should not be less than Ksh 20.

No single member should own more than 5% of the co-operative’s shares

capital. This is to ensure that the co-operative is not controlled by a single

member.

Membership to a co-operative is open and voluntary. This means that any

member of the public can join the society provided he shares the common

of objective as that of the society. The member can also leave the society

at will.

Members also have limited liabilities

Formation

Co-operative societies are formed by people who are above 18 years

irrespective of their social, economic or political background.

The number of members required to form a co-operative should not be less

than 10.

The atleast 10 members will draft rules and regulations to govern the

operations of the co-operative. These rules and regulations are known as

by-laws. The by-laws are submitted to the commissioner of co-operatives

for approval. Upon approval, the commissioner registers the co-operative

and issues it with the certificate of registration to enable it commence its

operations.

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NOTE: in case of failure by members to draft their own by-laws, the co-

operative societies’ act of 1996 can be adopted in part or whole

Management

A co-operative society is managed by a committee elected by members in

a general meeting. The committee consists of nine members.

The management committee then elects the executive committee members

i.e. the chairman, treasurer and the secretary amongst themselves.

The committee acts on behalf of members i.e. it can enter into contracts,

borrow money etc. on behalf of the society. The committee also educates

the members on their responsibilities by organising seminars.

The committee holds regular meetings to discuss matters affecting the co-

operative society.

The co-operative society can also hire professionals to assist in managing

the society.

The management committee members are not paid salaries for their

services to the society. Instead they are allowed sitting allowances and

honoraria in accordance with the guidelines of the commissioner of co-

operatives.

Where the committee fails to perform as expected, it can be voted out by

members in a general meeting or be dismissed by the commissioner of co-

operatives

Sources of capital

a) Membership contributions in the form of registration fee and share

capital contribution

b) Retained profit (earnings)

c) Interest on loans to members

d) Investment income

e) Acquiring property on credit or hire purchase

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Dissolution

A co-operative society may be dissolved under the following

circumstances:

a) In case of a court order

b) In case of an order from the commissioner

c) In case of a decision by members to dissolve the society

d) In case of withdrawal of members from the society leaving less than

ten members

e) In case the society is declared bankrupt

PRINCIPLES OF CO-OPERATIVES

These are rules and regulations which govern the operations of co-

operative societies. These principles are discussed below:

a) Principle of open and voluntary membership

Membership to a co-operative society is open to any member of the public

provided he shares the same objectives as the other members of the

society.

b) Principle of democratic administration

A co-operative society is managed on the basis of one man one vote. This

ensures that all members have an equal say in the running of the co-

operative

c) Principle of limited interest on share capital

Members earn interest or dividends on their share capital and savings.

These interest or dividends calculated on a percentage which is determined

by the income earned by the society for the year.

d) Principle of co-operation with other co-operatives

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A co-operative society is required to co-operate with other co-operatives

of the same level so as to learn from one another

e) Principle of education to members

A co-operative society should continuously educate their members on their

rights and responsibilities. This is done through organised seminars.

f) Principle of provision of dividends to members

Co-operatives are required to pay members dividends on their share capital

at a given rate.

TYPES OF CO-OPERATIVE SOCIETIES IN KENYA

In Kenya, co-operative societies are classified according to the nature of

their activities or according to the levels of operation

Classification according to the nature of their activities

When classified according to the nature of their activities, co-operative

societies can be categorised into:

a) Producer co-operatives

b) Consumer co-operatives

c) Savings and credit co-operative societies

a) Producer co-operative societies

A producer co-operative society is an association of producers who have

come together to improve the production and marketing of their products.

Functions (advantages) of producer co-operative societies

• Obtaining better prices for members’ products

• Providing better storage facilities for members’ products

• Providing affordable means of transporting members’ products to the

market

• Providing loans to members

• Grading, packing and processing products for members

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• Providing farm inputs on credit to members

• Educating members on better production methods

Examples of producer co-operative societies in Kenya are:

• Kenya co-operative creameries (KCC)

• Kenya planters co-operative union (KGGCU)

• Kenya grain growers co-operative union (KGGCU)

b) Consumer co-operative societies

These are formed by a group of consumers who come together and set up

shops from where they can buy goods of better quality more conveniently.

These co-operatives buy goods directly thereby eliminating middlemen i.e.

retailers and whole salers. As such they are able to sell goods to members

at relatively lower prices.

These co-operatives mostly deal in goods of general consumption e.g.

milk, grocery etc.

Members of the public are also allowed to buy from the society at normal

prices hence enabling the society make more profit.

Profit made by these co-operatives is shared by members in the ratio of

their purchases from the society

Examples of consumer co-operative societies in the Kenya are:

• Nairobi consumer co-operative union

• Railways co-operative society etc.

Advantages of consumer co-operative societies

a) They sell goods of high quality to members

b) They sell goods to members at lower prices

c) They sell goods to the public at normal prices thereby making more

profit

d) They give credit facilities to members

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e) They buy goods directly from producers hence eliminating

middlemen. This enables them make more profit

f) They may pay interest on members’ capital

g) They avail a variety of goods to members

h) They ensure constant supply of goods to members

i) They protect members against exploitation by traders

Disadvantages of consumer co-operative societies

a) They face stiff competition from large scale retailers who buy goods

directly from producers and sell them directly to consumers at lower

prices

b) They may not afford to employ qualified staff

c) They may not raise adequate capital due to the fact that majority of

its members are low income earners.

d) Subsistence production, makes them unpopular

e) Consumer shops may be mismanaged

c) Savings and credit co-operative societies (SACCOs)

These are co-operative societies which are formed with the objective of

enabling their members save money and access loans.

They are mostly attached to the employer i.e. the employer deducts part of

the employee’s earns on a monthly basis (check off system) and remits the

money to the society.

SACCOs have become very popular in Kenya especially due to the check

off system and due to the fact that they offer loans at lower interest rates

Examples of SACCOs in Kenya include:

• Mwalimu SACCO

• Stima SACCO

• Mhasibu SACCO etc.

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Advantages of SACCOs

a) Profits made by SACCOs are distributed to members in form of

dividends

b) They enable members to save

c) Enable members access loans at lower interest rates

d) In case a member dies, the outstanding loan is written off

e) They offer variety of loans to members e.g. school fees loans,

development loans, emergency loans etc.

f) In case a member dies, the beneficiaries are entitled double his share

contribution

g) Easy access to loans since it requires few formalities

h) They offer education to members on co-operative activities, their

rights and obligations

i) They may offer banking services through their front offices

j) Members are paid dividends on their share contributions

k) They insure members’ contributions and loans

l) They pay interest to members on their savings

Disadvantages of SACCOs

a) They may not have enough finances at their disposal to cater for the

needs of all their members

b) Continued default on loan repayment may cripple the society

financially

c) They face stiff competition from well-established financial

institutions

d) They may be mismanaged

e) They may be subjected to misappropriation of funds

Reasons for the popularity of SACCOS

a) They provide easy access to loans since very few formalities are

required

b) They offer loans at relatively lower interest rates

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c) They offer a variety of loans to their members

d) In case a member dies, the outstanding loan is written off

e) In case a member dies, his/her beneficially are entitled to double the

amount of his capital contribution

f) Channelling members’ share capital contributions through a check

off system

Classification according to level of operation

When classified according to the level of operation, co-operatives may

be categorised into two, namely:

• Primary co-operative societies

• Secondary co-operative societies

a) Primary co-operative societies

These are co-operative societies which are composed of individuals who

are either actual producers, consumers or people who come together to

save and obtain loans more conveniently

Most primary co-operative societies operate at village and district levels

though a few of them operate at national level

Most consumer co-operatives societies and most SACCOs are primary co-

operative societies since their membership is composed of individuals.

b) Secondary co-operative societies

These are co-operative societies which are composed of primary c0-

operative societies as their members.

They are also known as unions.

They are found either at district or national level.

NOTE: all co-operative societies in Kenya are under the Kenya federation

of co-operatives

Advantages of c-operative societies

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a) They serve the interests of members more effectively

b) They provide services to members more cheaply

c) Profits made by the society are shared among members in form of

dividends or interest

d) Management is democratic.

e) They enable members increase their incomes and their living

standard by giving them loans

f) They continuously educate their members on their rights,

responsibilities and the investment opportunities available

g) They offer credit facilities to their members e.g. in the form of farm

inputs

h) Membership is open and voluntary

i) Members have limited liabilities

j) They eliminate exploitation of members by middlemen. This is done

by buying directly from the producer and selling to their members.

k) The government through the ministry of co-operatives may step in to

assist them whenever they are in financial crisis

l) They offer loans to members at lower interest rates

m) Any member can be elected to the management committee.

Disadvantages of co-operatives

a) Some co-operatives have lesser capital hence they cannot benefit

from economies of scale

b) They may be poorly managed due to lack of trained personnel

c) Withdrawal of members from the society may create financial

problems since their capital contributions are refunded

d) They may suffer from political interference

e) They may subjected to corruption and embezzlement of funds

f) Some members may not be keen on the management of the society

since their capital contribution is small.

Problems facing co-operative societies

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a) Poor management

b) Financial problems

c) Low interest on members’ deposits discourages their participation

d) Low share capital

e) Lack of co-operative education and awareness among potential

members

f) Political interference

Features of co-operative societies

a) They separate legal entities

b) Members have limited liabilities

c) They can sell shares to the public

d) Membership is free and voluntary

e) All members are equal i.e. all have one vote irrespective of the

number of shares one owns

f) One member cannot own more than 5% of the society’s shares

g) Managed by an elected committee

h) Profits are shared amongst members in the form of dividends

i) Formed a minimum of 10 people and maximum

LIMITED LIABILITIES COMPANIES

A company is an association of persons who contribute capital in order to

carry out business with the aim of making profit.

A company is viewed by law as a separate legal entity separate from the

members who form it, therefore death, insanity, bankruptcy or retirement

of some of its members does not affect its continuity.

The members (owners) of a company are known as shareholders.

A company is regarded by the law as an artificial person, hence just like

natural persons, it can own property, enter into contracts, sue and be sued

in a court of law in its own name.

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A company unlike natural persons can only engage in those activities

which it is authorised to engage in by terms of its registration (acting intra

vires). E.g. a company registered to offer transport services cannot offer

banking services. A company which engages in activities which it is

registered to engage is said to acting against the law (ultra vires)

Formation

The people who come together to form a company are known as

promoters.

When forming the company, promoters are expected to come up with the

following documents

• The memorandum of association

• Articles of association

a) Memorandum of association

This is a document which defines the relationship between the company

and the outsiders.

Contents of the memorandum of association

Information contained in the memorandum of association is divided into

subsections known as clauses. These are discussed below

a) Name clauses

In contains the name of the company. This name must end with the word

limited (Ltd) which indicates that the liabilities of the company are

limited.

Some companies have their names ending with the initials PLC which

stands for public limited company. This indicates that it is a public

company and not a private company.

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b) The objects clause

The objects clause stipulates the activities the company should engage in.

the company is therefore not authorised to engage in any other activity

other than the one indicated in its objects clause.

The objects clause serves as a warning to the public that the company is

only authorised to engage in the stated activities only.

c) Situation clause

The situation clause indicates the location of the registered office of the

company where official communication can be sent to or received from.

d) Liability clause

This is clause which informs members of the public that the liabilities of

the members of the company are limited

e) Capital clause

This clause indicates the amount of capital the company is required to

raise and the subdivision of this capital into smaller units of equal value

known as shares.

The amount of capital indicated in the capital clause is known as the

authorised share capital, registered capital or nominal share capital.

This clause also specifies the types of shares and the value of each share

f) Declaration clause

This is a declaration which is signed by the promoters stating that they

wish to form the company and buy shares in the company.

The declaration should be signed by a minimum of seven promoters in the

case of a public limited company and a minimum of two in the case of a

private company.

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NOTE: the memorandum also contains the names of the promoters, their

addresses, occupations and the number of shares they intend to buy. Each

promoter must sign against his/her details.

b) Articles of association

This is a document which governs the internal operations of the company.

It contains rules which govern the conduct of shareholders in relation to

each other and to the company.

Contents of the articles of association

a) Rights of type of shareholders e.g. voting rights

b) Methods of calling meetings e.g. a notice must be given to each

shareholder before a meeting is called

c) Rules governing the election of officials e.g. the chairman, directors

and auditors

d) Rules regarding the auditing of account

e) A list of directors with details of their names, addresses, occupations,

number of shares they have bought and the statement of agreement to

serve as directors.

f) A declaration that registration requires as laid down by the law have

been met. The declaration must be signed by a lawyer, secretary or a

director

g) A statement signed by directors stating that they have agreed to act

as directors

Once the above documents are ready, they are submitted by the promoters

to the registrar of companies for approval. If the registrar is satisfied that

the documents are correct, he will issue a certificate of registration

(certificate of incorporation) to the company upon payment of a

registration fee.

The certificate of incorporation makes the company a separate legal entity

from its members.

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Sources of capital

a) Issue of shares

This is the main source of capital for a company. A share is a unit of

capital for a company.

Example

A company may state its share capital as Ksh 10,000,000. But because it

cannot raise all this capital from one person, they subdivide this capital

into affordable units of equal value say Ksh 10 each. Each of these units is

known as a share. Therefore the company will be said to have 1,000,000

shares. A person becomes a member (shareholder) by buying shares in the

company.

Shareholders are entitled to a share of profits of the company. This share

of profits are known as dividends.

Each share is given a number. However after all shares of a given class

have been sold and fully paid for, they do not require numbering hence

they are grouped together into to bigger units known as stocks. A company

that deals in stocks in known as a joint stock company.

Types of shares

There are two types of shares.

• Ordinary shares

• Preference shares

1) Ordinary shares (equity shares)

These are shares which have the following rights (features)

• They have voting rights

• They have no fixed rate of returns (dividends). The dividends paid to

ordinary shareholders depends on the profits made by the company

• They have a claim to dividends after preference shares

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• They are paid last when the company is liquidated (dissolved)

Benefits of raising capital through sale of ordinary shares

a) The company acquires permanent capital as ordinary shares are not

redeemable

b) The company is not obliged to pay dividends to ordinary

shareholders

c) Rate of dividends on ordinary shares is not fixed since it is

determined by realised profits

d) Ordinary shareholders are paid last when the company is winding up

e) Ordinary shares require no security

2) Preference shares

These are shares with the following rights (features)

• Have a fixed rate of dividends

• Have a claim to dividends before ordinary shares

• Have no voting rights

• Can be redeemable or irredeemable: To redeem means to buy

back. Therefore redeemable shares are the ones that can be bought

back by the company at a future date whereas irredeemable shares

cannot be bought back by the company.

• Can be cumulative or non- cumulative: to cumulate means to

increase by adding. Cumulative shares therefore are the ones whose

dividends keeps accumulating until they are paid. This means that if

the company makes a loss or a profit that is not enough to pay

dividends owing to cumulative preference shares in the current year,

such dividend will be carried forward to the next year (s) when

enough profits will be made. Non- cumulative shares are the ones

whose dividends are not carried forward to future years i.e. they are

only entitled for dividends in the year when dividends are declared.

3) Debentures

A debenture is a loan from the public to the company.

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A debenture may also refer acknowledgement of a debt by a company.

Debenture being loans carries interest at fixed rates which must be paid

whether the company makes profit or not. Debentures are issued to the

public the same way as shares

Types of debentures

a) Redeemable debentures

These are debentures that can be bought back by the company within a

specified future date

b) Irredeemable

These are debentures that cannot be bought back by the company. They

can however be redeemed when the company is being dissolved

(liquidated)

c) Mortgage ( secured) debentures

To mortgage means to attach property as security. Mortgage debentures

are therefore the ones to which company property is attached (pledged) as

security.

d) Naked (unsecured)debentures

These are debentures to which no security is attached. They are treated the

same way creditors are treated in the event that the company is being

liquidated.

Differences between shares and debentures

Shares Debentures

A share is a unit of capital in a

limited company

A debenture is a loan advanced

to a limited company

Shareholders are owners of the

company

Debenture holders are creditors

of the company

Shares earn dividends Debentures earn interest

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Dividends on shares are paid

only when the company makes profit

Interest on debentures must be

paid whether the company makes profit or not

Shares represent capital invested

hence do not require security

Debentures are loans and

security must be provided by the company

Shareholders have voting rights Debentures have no voting rights

Share capital cannot be withdrawn unless when the

company is dissolving

Debentures can be withdrawn at any time

In case of dissolution, shareholders are paid last

In case of dissolution, debenture holders are paid first

Reasons why public limited companies prefer raising finance through

issue of ordinary shares to debentures

a) Debentures are units of loans which must be repaid while ordinary

shares are units of capital and are not paid back

b) Ordinary shareholders are not paid a fixed rate of dividends but

debenture holders are paid a fixed rate of interest irrespective of

whether the company makes profits or not

c) Payment of interest on debentures is a legal obligation failure to

which may lead to liquidation while dividends on shares is not a

legal obligation

d) Shareholders contribute important ideas during AGM on how to run

the company while debenture do not contribute any ideas since they

do not attend the AGM

Differences between debit financing and equity financing

Debt financing (Raising capital

through sale of debentures)

Equity financing (Raising

capital through sale of

ordinary shares)

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Usually redeemable It is a permanent source of

capital

Payment of interest on finance is

a legal obligation

Payment of dividends is not a

legal obligation

Rate of interest on finance is fixed

Rate of dividends varies with the amount of profit realised

Involves costs such as insurance

and security

Does not involve such costs

It is usually secured It is not secured

4) Loans from banks and other financial institutions

A company may borrow money from banks and other financial

institutions in the form of loans. These loans carry interest at an agreed

rate.

5) Ploughing back profits

A company may decide not to distribute all its profits to members in form

of dividends but to set aside part of the profits for a specific purpose. Profit

set aside this way is known as a reserve

6) Bank overdraft

A backdraft is an over-withdrawal of the amount in the account holder’s

account. A company can arrange with its back to be allowed overdraft

facilities.

7) Leasing and renting of property

8) Buying goods on credit

9) Acquiring property through hire purchase

Features of limited liability companies

a) It is a separate legal entity

b) Shareholders have limited liabilities

c) Most capital is raised through sale of shares

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d) Managed by a board of directors

e) Profits are shared among shareholders in the form of dividends

f) Has perpetual existence

g) The procedure of formation, registration and operation is controlled

by law

TYPES OF COMPANIES

Limited companies can be classified into two;

• Private limited company

• Public limited company

a) Private limited company

This is a company which has the following characteristics:

a) They are formed by a minimum of 2 and a maximum of 50

shareholders (excluding employees.

b) It does not advertise its shares to the public. It therefore sells them

privately to specific people

c) It restricts the transfer of shares i.e. a shareholder cannot sell his/her

shares without the consent of other shareholders

d) Can be managed by one or two shareholders. But a big private

limited company may be managed by a board of directors

e) It can start trading immediately after receiving a certificate of

incorporation

Advantages of a private limited company

a) It is easy to form since it involves a shorter procedure with less cost

compared to a public limited company

b) It has a separate legal entity from its owners hence it can own

property, sue, be sued and enter into contracts

c) The liabilities of shareholders is limited

d) It enjoys wide sources of capital

e) It is in a position to hire professionals to manage it

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f) It starts traded immediately it receives a certificate of incorporation

g) It is assured of continuity i.e. death of a shareholder (s) does not

affect its continuity

Disadvantages of private limited companies

a) It is required to submit annual returns on prescribed forms to the

registrar of companies immediately after the annual general meeting.

This may be so involving.

b) It cannot sell shares to the public. This limits its access to more

capital

c) Transfer of shares is restricted

d) It is only allowed to carry activities spelt out in its objects clause

e) Shareholders do not directly control the business since management

is done by directors

f) Decision making takes long since each decision must be sanctioned

by shareholders

b) Public limited company

This is a company with the following characteristics

a) It can be formed by a minimum of 7 shareholders and no set

maximum

b) It can only start trading after being issued with a certificate of

trading.

NOTE: a certificate of trading is issued after the certificate of

incorporation. It is issued after the company has raised the minimum

amount of capital as spelt out in its capital clause.

c) It is managed by a board of directors

d) Its shares and debentures are freely transferable from one person to

another. This may be done through a stock exchange market.

e) It advertises and invites the public to subscribe (buy) to its shares and

debentures

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NOTE: the advertisement inviting members of the public to subscribe

to a company’s shares and debentures is contained in a special booklet

known as the prospectus. A prospectus contains the details of the type,

amount and value of the shares or debentures offered.

Advantages of a public limited company

a) It has access to a wide range of sources of capital

b) Shareholders have limited liabilities

c) It can afford to hire professionals to manage it

d) It has a wide choice of business opportunities i.e. its wide capital

sources enables it to expand operations to new markets

e) Shares are freely transferable

f) It is assured of continuity

g) It enjoys economies of large scale operations i.e. it is able to reduce

its production costs in order to maximize profit

h) Its employees are well motivated e.g. by giving them an opportunity

to buy shares in the company

Disadvantages of public limited companies

a) Cost of formation may be high. Examples of expenses incurred when

forming a public limited company include; legal costs, registration

fees and taxes

b) It is required by law to comply with a number of requirements e.g.

filing of tax returns, maintaining a list of all its shareholders etc.

c) Shareholders do not have direct control over the running of the

business since management is done by a board of directors.

d) Lacks secrecy. This is because they are required by law to publish

their end year financial statements. Any member of the public can

also access these financial statements from the registrar after

payment of a small fee.

e) Directors may have personal interests that may conflicts interests of

the company

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f) Slow decision making since all major decisions must be sanctioned

by shareholders

g) It may experience high costs of operation

h) It is subjected to double taxation. This is because its profits are taxed

and are the dividends distributed to its shareholders.

Management

Management of a private company is determined by its size. A small

private company may be managed by one director known as the managing

director. A bigger private company is managed by a board of directors.

A small public company can be managed by two directors one of whom

must a managing director. A bigger public company is managed by a

board of directors and other professional staff such as auditors,

accountants, lawyers etc. the directors are responsible for the formulation

of the company’s policies

Below the directors are the professional managers e.g. the general

manager, the marketing manager, the personnel manager and the finance

manager. The managers are responsible for their own departments. They

however take collective responsibility for the implementation of the

company’s plans.

Differences between a private limited company and a public limited

company

Private limited company Public limited company

Formed by a minimum of two

and a maximum of fifty shareholders

Formed by a minimum of seven

shareholder. The maximum is controlled by the number and

type of shares

Managed by atleast one director Managed by atleast two directors and the maximum is not

specified

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Shares are not freely transferable

i.e. any transfer must be endorsed by all shareholders

Shares are freely transferable

Does not advertise its shares to

the public

Advertises its shares to the

public

Its audited accounts do not have

to be published in the press

Its audited accounts must be

published in the press

Differences between a public limited company and a partnership

Public limited company Partnership

Formed by a minimum of 7 members and no specified

maximum

Formed by a minimum of 2 and a maximum of 20 members (

except for partnerships providing

professional services whose maximum membership is 50)

Members have a limited liability Partners have unlimited liability

Managed by a board of directors Managed by partners themselves

Regulated by articles and memorandum of association

Regulated by the partnership deed or the partnership act

Pays corporation tax Pays income tax

Can be sued under its name Individual partners are sued

It is a legal entity It is not a legal entity

Differences between public limited company and a co-operative

society

Co-operative society Public limited company

It is welfare motivated It is profit motivated

It serves members only It serves members and outsiders

Formed by a minimum of 10

members and no specified

maximum

Formed by a minimum of 7

members and no specified

maximum

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Governed on the basis of one

member one vote

Governed on the basis of one

share one vote

Co-operates with other co-

operatives

Competes with other companies

Governed by the co-operatives act

Governed by the company’ act

Has only one class of

shareholders

Has several types of shareholder

THE STOCK EXCHANGE MARKET

This is a market where shares of quoted companies are bought and sold.

Definitions

Stock: refers to a group of shares in a public limited company.

A quoted company: this is a company that has been registered (listed) as

a member of the stock exchange market.

Securities: refers to shares. It may also refer to documents which support

share ownership

Initial public offer (IPO): refers to situations where a company has

floated new shares for subscription by the public i.e. has invited the public

to buy its new shares. New shares are issued in a primary market.

Secondary market: this is a market for second hand shares. It facilities

the transfer of shares from one person to another.

Stock broker: refers to individuals or organisations which buy and sell

shares on behalf of investors

Investor: refers to an individual or an organisation who intends to buy or

sell shares in the stock exchange.

Jobbers: these are dealers in shares who buy and sell shares and other

securities on their own behalf with the intention of making profit

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The capital markets authority: this is an organization established by the

government to supervise and oversee the operations of the stock exchange

NOTE

• It is only quoted companies that can have their shares traded in the

stock exchange.

• The only stock exchange market in Kenya is the Nairobi stock

exchange.

• Apart from shares, the stock exchange may also deal in government

securities such as bonds, treasury bills and stocks of local authorities.

• The stock exchange facilities both primary and secondary share

deals

• An investor cannot buy or sell shares directly in the stock exchange

market, he/she can only buy or sell shares through stock brokers.

Role played by the stock exchange market an economy

a) Facilitates buying of shares

The stock exchange market provides the market for investors willing to

buy shares in different quoted companies

b) Facilitates selling of shares

The stock exchange market provides a steady market for those wishing to

sell their securities

c) Safeguards investors’ interests

The stock exchange market safeguards the interest of investors by putting

in place standards of performance to be attained before a company is

quoted. The stock exchange market also ensures that quoted companies are

observing certain set regulations

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d) Provides useful information to investors

The stock exchange market provides timely, accurate and reliable

information to enable them make investment decisions

e) Enables companies raise capital

The stock exchange market enables companies raise capital by providing a

market where they can issue shares to the public.

f) Creates employment

Stock exchange market has created employment opportunities for those

people who facilitate the buying and selling of shares. This may include

stock brokers and their agents.

g) Raises revenue for the government

The government raises revenue through fees and other dues charged on

activities carried out in the stock exchange market. The government may

revenue from the stock exchange market in the form of taxes and license

fees.

h) Avails a variety of securities

The stock exchange market fulfils the needs of different investors by

availing to them a variety of securities from different companies

i) Fixes prices

The stock exchange market provides an environment buyers and sellers of

securities meet to determine the prices of securities.

j) Measures a country’s economic progress

The performance of securities in the stock exchange market indicates a

country’s economic progress. E.g. a rise in demand and prices of securities

indicates that the economy is doing well.

k) Promotes a saving culture

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Stock exchange market provides an avenue where investors can channel

their excess funds hence they save funds by investing them in the stock

exchange.

Benefits enjoyed by a company quoted on the stock exchange

a) The company can sell its shares and other securities easily to raise

capital

b) Interested investors can invest in different companies by buying their

shares and securities

c) It improves the image of the company as a well-managed, profitable

and a financially stable company

d) Quotation on the stock exchange improves the management of the

company as managers try to uphold the integrity of the company

e) It improves the credit rating of the company making it easier for the

company to obtain loans from financial institutions

f) The stock exchange advertises the company to the public

Dissolution of limited liability companies

Dissolution of a limited company is also known as liquidation or winding

up. A limited liability company may be dissolved under the following

circumstances:

a) Insolvency

This refers to a situation where the company is unable to pay its debts. A

company may be dissolved if fails to pay its debts. If this happens, the

company may be placed in the hands of the official receiver (placed under

receivership)

b) Ultra vires

Refers to where the company is engaging in activities contrary to the

provisions of its objects clause. A company which is acting ultra vires will

be wound up.

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c) Amalgamation

Refers to joining together of two or more companies to form one company

which is completely different from the original companies. When this

happens, the companies joining together must be dissolved.

d) Court order

A company may be ordered by a court of law to dissolve especially when

there are complaints from creditors.

e) Decision by share holders

The shareholders may decide to dissolve a company. This decision can

only be arrived at in a general meeting.

PUBLIC CORPORATIONS

Public corporations (state corporations) are organisations which are

formed and/or controlled by the government.

More than 50% of their shares are owned by the government.

Public corporations are formed to provide essential services to the public

more cheaply.

Examples of public corporations include:

• Mumias sugar company

• Kenya commercial bank

• Telcom Kenya

• Kenyatta national hospital

• Public schools

• Postal Corporation of Kenya etc.

Formation

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Most public corporations are formed by an act of parliament while a few

are formed under the existing laws. E.g. all public schools are formed

under the existing laws i.e. the education act.

When a corporation is formed by an act of parliament, the act outlines the

following:

a) Proposed name of the corporation

b) Aims and objectives of the corporation

c) Goods or services to be provided or produced

d) Location and area of operation of the corporation

e) The appointment of executives

f) The powers of the board of directors

g) The ministry under which it will operate

Management.

Corporations are managed by a board of directors which is headed by a

chairman.

The chairman and the members of the board of directors are appointed by

the president or by the respective minister.

The chairman of the board of directors reports to the government through

the minister.

The managing director is the secretary to the board of directors and is the

chief executive officer of the corporation.

Sources of finance (capital)

The initial financing is provided by the government through the concerned

ministry. Thereafter, the corporation will be expected to generate finances

on its own. Other sources of capital may include:

• Ploughed back profits

• Profits from investments in the economy

• Loans from banks and other financial institutions

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• Sale of its property etc.

Advantages of public corporations

a) Initial capital is readily available since it is provided by the

government

b) They provide goods and services to the public at relatively lower

prices

c) They benefit from economies of large scale production i.e. they are

able to lower the cost of production in order to maximize profit.

d) Some corporations are monopolies e.g. Kenya power and lighting

company. Therefore they enjoy the benefits of enjoyed by

monopolies such as lower advertising costs

e) The government comes to their aid whenever they are in a financial

crisis

f) They provide revenue to the government

g) They create employment

Disadvantages of public corporations

a) They may not provide the goods and services they produce to every

part of the country as they are expected

b) They may incur high operational costs

c) Slow decision making processing because of the large number of

people to be involved

d) Their performance may be poor due to the fact that managers are

political appointees who may be lacking appropriate management

skills.

e) Corporations may be insensitive to customers’ feelings especially

when they are monopolies

Dissolution of public corporations

Public corporations are dissolved by the government. This may happen

under the following circumstances

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a) Persistent loss making

b) Bankruptcy

Types of public corporations

a) Marketing boards

These are public corporations formed by the government to assist local

farmers in marketing and selling their prices at the best possible price

Their functions include

• Collecting, transporting and storing produce from farmers

• Processing, grading and parking the produce

• Searching for markets

• Selling products on behalf of farmers

• Undertaking market research

• Stabilising prices by controlling supply

b) Commercial (trading) corporations

These are public corporations which are established with the aim of

engaging in business to provide goods and services at a profit. E.g. Kenya

power and lighting company, postal corporation of Kenya

c) Finance and banking corporations

These are corporations which are established to do the following:

• Provide banking services

• Earn revenue to the government

• Mobilise funds from the public and channel them to investment

activities

• Supporting trade by providing loans

d) Research corporations

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These are corporations which are established to provide research services

in order to support the development of industry, agriculture etc. e.g. Kenya

agricultural research institute

TRENDS IN PUBLIC CORPORATIONS

Emerging issues in public corporations include

a) Privatisation

b) Nationalisation

1) Privatization of public corporations

Privatisation is the process through which the government gives up

ownership of public corporations by selling its shares to the private sector

The government can sell part of its shares to the public so as to reduce its

shareholding to below 50%

Some of the circumstances (reasons) under which a public corporation

may be privatised include:

a) If the corporation makes losses regularly

b) To improve service delivery

c) To eliminate wastage of resources

d) To raise revenue to the government

e) To eliminate political interference

f) To promote local ownership of such corporations

g) To make management more accountable

Advantages of privatization

a) Enables the government to raise capital through sale of shares

b) Enables the government to concentrate on other state responsibilities

c) Attracts foreign investment

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d) The government obtains revenue by taxing the profits made by the

firm

e) Reduces government expenditure

f) Offers opportunity for private citizens to participate in business

g) Enhances efficiency in the management of the firm

2) Nationalisation

Refers to the process where the government acquires total ownership of

privately owned business organisations thereby transforming into public

corporations

Reasons for nationalisation

a) For security reasons e.g. weapon making businesses

b) To provide non profitable but essential services to the citizens

c) Need to protect consumers from exploitation from high prices

charged on goods provided by a private investor

d) Need to avoid foreign control over an industry

e) Changes in political ideology

f) To generate revenue

Ways in which the government participates in the operations of state

corporations

a) Appointing directors

b) Providing legal advice

c) Giving financial support

d) Supervising the activities of state corporations

e) Auditing the accounting records of state corporations

f) Training staff in state corporations.

PARASTATALS

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A Parastatals is a public corporation which is fully owned by the

government. Its formation, management, sources of capital is the same as

that of a public corporation.

Ways of improving the efficiency of Parastatals

a) Employing qualified staff

b) Organizing regular training for staff

c) Enforcing laws to punish errant Parastatals

d) Controlling errant staff

e) Reducing undue influence by government

f) Motivating staff

g) Restructuring them so as to make them more competitive

h) Reducing monopolistic tendencies

SUMMARY OF DIFFERENT FORMS OF BUSINESS UNITS

Characterist

ics

Sole

propriet

orship

partnersh

ip

Limited

liability

compan

ies

Parastata

ls

Co-

operatives

Formation Individu

al’s

decision

Agreemen

t by

partners

Registrat

ion by

the registrar

of

companies

Act of

parliamen

t

Members’

decision

Ownership/m

embership

On

person

2-20

partners

2-50

shareholders for

a private

limited compan

y and 7

and no

Gov’t

owned

10 and no

maximum members

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maximu

m for public

limited

companies

Sources of

capital • O

wn

ers,

saving

s

• Lo

ans

• Ret

ain

ed

profit

• Mem

bers’

contr

ibutions

• Loan

s

• Retai

ned profi

ts

• Iss

ue

of

shares

• Lo

ans

• Re

taine

d

profit

• Cr

edi

t

purch

ase

s

• Le

asing

an

d ren

tin

g

• Gov

ern

men

t

• Reta

ined profi

t

• Leas

ing

and

renting

• Mem

bers’

contr

ibutions

• Inter

est

on

loans

• Retai

ned

profit

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management Owner

with employe

es or

family members

Active

partners with

employees

Board of

directors

Chairman

with the board of

directors

Managem

ent committee

Sources of short term financing to businesses

a) Promissory notes

b) Trade credit

c) Bank overdraft

d) Retained earnings

e) Personal savings

f) Contributions from relatives

g) Bills of exchange

Advantages of leasing as a method of raising capital

a) Lease finance is not secured i.e. no property is attached to it

b) It is a long term source of capital

c) The borrower has an option of buying the asset after expiry of the

lease period

d) Leasing is not subject to credit control by the central bank

e) Rental charges may be lower than inflation rate

Reasons why a firm would prefer trade credit as a source of capital to

a bank loan

a) Bank loan is always secured while trade credit is not secured

b) Bank loan is expensive since interest must be paid while in trade

credit, the borrower will only forego discounts

c) Acquiring a loan involves a long procedure while the acquisition of

trade credit does not require long procedure

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d) Trade credit does not involve any explicit costs unlike a bank loan

which will require the restrictive use of security

e) For a firm to secure a loan, it must have maintained a healthy bank

account with the bank while to secure trade credit, a firm does not

need to have a bank account

TRENDS IN FORMS OF BUSINESS UNITS

The following are some of the current trends in forms of business units

a) Holding companies

A holding company is one that acquire 51% or more shares in one or more

other companies. The companies owned are known as subsidiaries of the

holding company. The subsidiaries retain their names.

b) Cartels

A cartel is a group of related companies that agree to work together in

order to control output, prices and the markets of their goods and services.

E.g. O.P.E.C.

Features of cartels

a) Cartels sell similar goods

b) Their members decide on their share of the market

c) Members form rules governing their operations

d) They are made up of competing firms

e) Members agree to fix prices of goods sold

Disadvantages of a cartel

a) They may result in monopolistic situations

b) They may lead to the production of inferior goods due to lack of

competition

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c) Prices of goods may be kept high

d) They may restrict entry of other firms into the market hence limiting

consumer choice

e) Leads to shortages

f) Denies customers bargaining power

c) Privatisation

Privatisation is the changing of state owned corporations into public

limited companies

d) Absorptions (takeovers)

Absorption refers to a business taking over another business by buying all

its assets making it cease to exist.

e) Mergers (amalgamations)

This where two or more businesses combine to form a new business. The

merging businesses totally cease to exist.

Reasons for mergers (amalgamations)

a) To lower cost of production

b) To make it easier to face risks

c) To control prices

d) To make it easier to borrow

e) To avoid decline in profits/loss making

f) To control inputs

g) To control a wider market

h) Desire to share research

i) To bring on board new skills

j) To venture into new businesses

Advantages of mergers (amalgamations)

a) Reduces competition amongst firms hence reducing advertising costs

b) Brings together a pool of managerial skills

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c) Ensures that a firm has steady supply of raw materials

d) Firms will enjoy economies of scale enabling them to lower the cost

of production

e) It may result in control of a wider market

f) Results in market diversification which helps in spreading risks faced

by the firm

g) Enables the firm effectively utilize the resources

h) Creates empolyment

f) Check-off system

This where money is deducted by the employer and directly submitted to

the SACCO on behalf of the employee who is a member of the SACCO.

Check-off system is one of the reasons behind the success of SACCOs

g) Burial benevolent funds (BBF)

This is a system mostly in SACCOs which is aimed at assisting their

members financially during burials

h) Front office savings account (FOSA)

This is a service which used in SACCOs to enable their members

conveniently deposit and withdraw money.

i) Franchising

This is where one business grants another the rights to manufacture,

distribute or provide its branded products using the name of the business

that granted the right. E.g. general motors have a right to sell Toyota, Isuzu

and Nissan vehicles

j) Trusts

This is where a group of companies work together to reduce competition.

A trust may also be formed when a company buys more than 50% of

shares in another company so as to reduce competition

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k) Globalisation

Refers to the use of technology to enable business conduct their operations

worldwide.

l) Performance contract

These are contracts signed by employees in state corporations where they

commit perform to set standards.

TOPIC2: GOVERNMENT AND BUSINESS

CONTENTS

• Introduction

• Reasons for government involvement in business activities

• Methods of government involvement in business activities

• Merits and demerits of government involvement in business

activities

• Consumer protection

INTRODUCTION

The government gets involved in business activities in several ways. These

include:

a) Production of goods and services

b) Distribution of goods and services

c) Offering advisory services to producers and traders

d) Promotion of trade and economic development

e) Protecting consumers against exploitation by business people

f) As a consumer of goods and services

REASONS FOR GOVERNMENT INVOLVEMENT IN BUSINESS

ACTIVITIES

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a) To prevent the exploitation of consumers by business people. Such

exploitation may include selling of commodities at high prices or

selling poor quality commodities.

b) To provide essential goods and services in areas where private

business do not operate due to low profitability

c) To provide essential goods and services which the private sector is

unable because they require high capital e.g. electricity

d) To attract foreign investors into the country by initiating major

business projects which attract foreign investors

e) To stimulate economic growth and development in the country

f) To provide very sensitive goods and services which cannot be left in

the hands of the private sector e.g. fire arms

g) To create employment opportunities through initiating projects

which create jobs

h) To prevent dominance of foreign investors in the economy. It does

this by investing in areas where the local people are unable to invest

in

METHODS OF GOVERNMENT INVOLVEMENT IN BUSINESS

ACTIVITIES

These are the ways through which the government gets involved in

business activities. These methods are discussed below:

1) Regulation

The government may regulate the operations of businesses through

methods such as

• Licensing

• Ensuring standards

• Legislations

a) Licensing

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A business must be given permission to operate by the government. This

permission is indicated by the issuance of a license.

A licence is therefore a document which shows that a business has been

allowed by the government to start operating

It is usually obtained upon payment of a fee known as the license fee.

Reasons for licensing

a) Regulates the number of businesses operating in a given area so as to

avoid unhealthy competition

b) Controls the type and amount of goods entering and leaving the

country

c) Helps in getting rid of illegal businesses

d) Helps in ensuring that traders engage licensed activities only

e) To ensure that those engaging in professional activities such as

accountancy meet the requirements of the profession

f) To raise revenue to the government

b) Ensuring standard

The government regulates business activities by setting standards that

businesses must meet in their operations.

In Kenya, the Kenya bureau of standards (KEBS) is charged with the

responsibility of setting standards especially for manufactured goods and

ensuring that such standard are adhered to. Products which meet the set

standard are stamped with the KEBS logo as a sign of quality.

Functions of Kenya bureau of standards (KEBS)

a) It sets the required standards for all goods sold in Kenya

b) Ensuring that set standard are maintained through regular inspection

c) Prosecuting those who produce inferior goods

d) Putting a stamp of approval to show that the established standards

have been met

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e) Carrying out testing on measuring apparatus to establish accuracy

standards.

c) Legislations

Legislations are rules and regulations put in place by the government to

regulate business activities. The government can therefore come up with

rules and regulations that regulate the operations of businesses. For

example the government may ban hawking in certain areas such as within

the city centre

Other methods of regulating businesses include the following:

• Imposition of taxes

• Issuing guidelines to business people

• Total ban on new businesses where there is need

• Registration of business

• Fixing quotas

2) Training

The government organises trainings for business people. This is mainly

done at the Kenya business training institute (K.B.T.I)

Reasons for training business people

a) To expose them to modern developments in management

b) To educate them on better and efficient methods of operating

businesses e.g. effective advertising and book-keeping methods

c) To expose them to problems facing businesses and their possible

solutions

d) To impart proper business ethics to business people e.g. good

customer relations.

e) To educate them on ways of using the available resources to

minimize cost and maximize profit

f) To inform them on the available business opportunities

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g) To expose them to government policies and legislations regarding

the operations of businesses

3) Trade promotion

Trade promotion refers to a government initiated and supported policy to

encourage the local people enter into business.

The aim or trade promotion is to increase the volume and variety of goods

and services traded in.

Trade promotion may take two forms:

• External trade promotion

• Internal trade promotion

a) External trade promotion

This is a form of trade promotion which aims at encouraging the local

business people to enter into export trade. It is also intended to encourage

foreign investors into the country.

In Kenya external trade promotion is done by the ministry of trade and

industry. It can also be done by commercial attaches and Kenya external

trade authority (K.E.T.A)

Commercial attaches

These are offices sent by the country’s government to work with

embassies in foreign countries as support in the field of trade.

Functions of commercial attaches

a) Explore and identify new markets for exports from their home

countries

b) Research and analyse markets for exports from their home countries

c) Takes and keep important statistical data of products e.g. volumes,

packaging sizes and method of manufacturing.

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d) Attends meetings, seminars and workshops where trade patterns of

respective foreign countries are discussed hence keeping data on new

markets for exports

e) Advertise their country’s exports in foreign countries besides

publishing such exports in business journals of foreign countries

f) Identify buyers, agents and distributors of their home country’s

exports

g) Informs traders in their home countries of the standard required for

export

h) Assist sales missions from their home countries by organising

educational tours for them

i) Organise visits to trade fairs and exhibitions for business people from

their home countries

j) Make detailed reports on commercial activities that may improve

exports from their home countries.

Kenya external trade authority

Its functions

b) Expands and diversifies exports

c) Expands and diversifies foreign markets

d) Developing bilateral and multilateral trade

e) Providing information to Kenyan producers on the available selling

opportunities in foreign countries

f) Educates and advertises exporters on trade regulations and

commercial practices in other countries

g) Arranges courses and seminars for business people and relevant

government officials to inform them on how to promote exports

Problems faced by K.E.T.A and commercial attaches

a) Poor infrastructure which hampers operations of investors

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b) High rate of taxation that discourages investors and makes local

goods less competitive

c) High production costs that makes local products very expensive

d) Insecurity that discourages investors

e) Corruption which may add extra costs to investments

f) Inadequate funds which makes it difficult for K.E.T.A and

commercial attaches to carry their functions

h) Internal trade promotions

This is a form of trade promotion that aims at helping the local people to

start and run businesses. Internal trade promotion is the responsibility of

the ministry of trade and industry.

Internal trade promotion can also be done through Kenya chamber of

commerce and industry

Functions of the ministry of trade and industry

a) Advising business people on matters relating to the type of goods to

produce, available sources of finance, suitable locations for their

businesses and the legal formalities required for various businesses.

b) Training businesses people on appropriate ways of carrying out

businesses

c) Offering business people financial assistance to enable them start and

operate their businesses

d) Organising shows, trade fairs and exhibitions from where local

traders can advertise their products

e) Providing incentives such as tax exemptions to encourage local

businesses

f) Creating a conducive business environment

Functions of the Kenya chamber of commerce and industry

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a) Issues certificates to those who want to export goods to other

countries

b) Informing members on all the registration requirements affecting

their businesses

c) Acting as an agent between the government and businessmen on

matters relating to business activities

d) Holding courses for the members and discussing problems affecting

their businesses

e) Publishing business journals for members and interested parties

f) Organising trade shows and participating in national shows

g) Organising participation in trade shows outside the country

h) Collecting statistics which are vital for government budgeting

4) Provision of public utilities

Public utilities are essential services such as water, transport, electricity,

sewerage, communication etc.

These services are provided either by the central government or by the

county governments through businesses set up by them.

Businesses set up to provide public utilities enjoy some level of monopoly

and are financed by the government e.g. the Kenya power and lighting

company. The major objective of these businesses is to provide public

utilities affordably, profit making is their secondary objective.

Public utilities provided by the central government are meant for the

welfare of the general public whereas those provided by the county

government are meant to benefit the residents of the given county

Examples of public utilities

a) Good infrastructure

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b) Reliable and less expensive power supply

c) Water supply and good sewerage systems

d) Good communication systems

e) Education

f) Healthcare

g) Security to help create confidence among investors

5) Enabling environment

The government plays an important role in ensuring that the business

environment is conducive.

Ways of creating a conducive business environment

a) Offering subsidies

A subsidy is a financial assistance given by the government to the

businesses people in order to enable them lower their production costs so

as to sell goods at lower prices.

Subsidies may take the following forms

• Technical assistance

• Cheap financing

• Manpower assistance etc.

b) Giving incentives

Incentives are things that are given to encourage one to do something. The

government may offer various incentives to business people in order to

encourage them invest.

Incentives may take the following forms:

• Tax holidays and tax exemptions

• Duty free privileges

• Expatriate protection for foreign investors etc.

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c) Protection of local businesses from unfavourable foreign

competition

This refers to putting in place legal measures and regulations which are

aimed at shielding local industries from foreign competition. This is

because big foreign firms which are able to take advantage of economies

of scale and sell their goods at relatively lower prices compared to the

local small firms may take control of the local market if allowed to operate

freely hence forcing local businesses to close down.

The government therefore has to come up with measures that will protect

local businesses. Such measures may involve the use of import duties and

import quotas.

Import duties increases taxes on imports making them expensive compared

to the locally manufactured goods whereas import quotas reduces the

amount of goods to be imported.

Other methods of creating an enabling environment include:

a) Providing basic infrastructure

b) Enabling business people get access to loans

c) Lowering taxes

d) Easing licensing procedures

e) Providing adequate security

f) Ensuring there is political stability

g) Putting in place anti-dumping rules

d) Loan guarantee

The government may act as a guarantor to enable local businesses access

loans from international financial institutions.

A guarantor is a person who undertakes to pay the loan in case the loanee

defaults in payment.

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MERITS OF GOVERNMENT INVOLVED IN BUSINESS

ACTIVITIES

a) The government is able to carry out businesses that require large

amount of start-up capital which the private investors cannot raise.

E.g. Kenya power and lighting company.

b) Government involvement in business activities facilities the

provision of essential but non-profitable services since most of these

services are provided by the government. E.g. medical care,

education, provision of water, construction of roads

c) Businesses started and run by the government helps solve the

problem of unemployment.

d) Profits realised by businesses run by the government may be

distributed to all citizens in the form of provision of services e.g.

education and health care.

e) Businesses run by the government helps create competition which

may make private investor improve quality and charge fair prices of

their goods and services

f) Government involvement in business activities helps reduce foreign

dominance in an economy.

DEMERITS OF GOVERNMENT INVOLVEMENT IN BUSINESS

ACTIVITIES

a) Businesses run by the government may be mismanaged since in most

cases managers are political appointees who may not have the

required qualifications.

b) Government involvement in business activities may scare away

potential investors who would have rendered the same services more

efficiently

c) Government-run businesses may consistently make losses forcing the

government to finance them using tax payers money

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d) Most government-run businesses and projects require high amount of

start-up capital, expensive equipment and highly trained staff which

may be very costly.

e) Government-run businesses are subjected to increased cases of

corruption and embezzlement of funds

CONSUMER PROTECTION

Consumer protection involves safeguarding the consumer from

exploitation by producers and business people.

The consumer may be exploited through:

• Unfair pricing

• Selling poor quality goods and services

• Misleading advertising

• Misleading on quantities of goods etc.

Need (reasons) for consumer protection

a) To ensure commodities sold to consumers are of good quality

b) To ensure that commodities offered for sale to consumers are of right

quantity and size

c) To ensure that the required health standards are maintained e.g.

businesses premises such as butcheries should be clean and hygienic.

d) To ensure that safety standard are observed when constructing

business buildings. For example buildings such as schools, hospitals

and supermarkets should be firm and safe i.e. with emergency exists.

e) To ensure fair prices are charged on goods and services

f) To ensure that goods are readily available to consumers. This is to

ensure that business people and producers do not create artificial

shortages by hoarding products so as to increase their prices.

g) To protect consumers against false and misleading advertisement

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h) To ensure consumers are protecting from the sale of harmful

commodities which may adversely affect their health. For instance,

all products should have expiry dates printed on their packages

i) To protect consumers against breach of contract since businesses

people may fail to honour contracts entered into with consumers with

regard to the sale of goods.

METHODS OF CONSUMER PROTECTION

Methods of consumer protection can be classified into two:

• Government initiated methods

• Consumer initiated methods

• Non-governmental organisations

a) Government initiated methods

These are methods the government uses to protect consumers from

exploitation by business people. These methods are discussed below.

a) Setting up standards

Setting of standards in Kenya is the responsibility of the Kenya bureau of

standards (KEBS). KEBS sets national quality standards and ensures

commodities conform to the set standards.

KEBS also requires that commodities are examined and tested before

being used.

b) Weights and measures act

The government ensures that equipment used for weighing and measuring

are correct and accurate. This is done by regular checking and testing of

these equipment.

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The government further requires consumers to be issued with receipts

which indicate the quantity, size and price of the commodities they buy.

The receipt is to act as evidence in case the consumer raises a complaint.

c) Licensing

Licenses are documents which shows that a given business has been

allowed by the government to operate. Through licensing, the government

ensures that there is control on the type of business carried out.

d) Foods and drugs act

This ensures that producers and traders do not include any substance in the

commodities they sell that can be harmful to the consumers’ health.

According to this act, all packages of food products and medicine should

show the ingredients used in making the commodity. For medicine, side

effects should be disclosed.

There is also a requirement in this act that who sell certain category of

foods and drugs be licensed e.g. all butcheries, hotels and chemists must

be licensed.

e) Trade description act (sale of goods act)

This act ensures that producers and traders must not mislead consumers by

providing false descriptions of commodities.

The act further requires that goods offered for sale are of good quality and

right standards

f) Public health act

This act ensures that commodities offered for sale hygienic and of good

quality.

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The act further requires that business premises conform to laid down

health and construction regulations. This is done through regular

inspection of public places by health inspectors.

g) Price control

This refers to setting of a price beyond which a product should not be sold.

Price control is done by the government and it mostly affects essential

goods and services such as petroleum products.

There is also a requirement that traders display price lists or price tags for

the goods and services they sell.

h) Rent and tribunal act

This act ensures that tenants are not overcharged by landlords.

b) Consumer initiated methods

Consumers can protect themselves by forming consumer associations.

These associations act as a watchdog to ensure that consumers are not

cheated or exploited.

Functions of consumer associations

a) They deal with complaints concerning any defective items bought by

members.

b) They make sure goods are not hoarded by traders. This is to ensure

that regular supply of goods is maintained.

c) They ensure that weights and measures of commodities are correct

d) They ensure that health and safety regulations are adhered to

e) They ensure that essential goods and services are available at fair

prices

f) They educate their members on their rights as consumers

g) They seek legal redness against offenders

h) They take consumer complaints to the relevant government bodies

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Some off the complaints received by consumer associations relate to:

• Sale of poor quality goods and services

• Incorrect weights and measures

• Unfair pricing

• Sale of expired goods

• Non-compliance to building standards

• Sale of harmful goods

• Hoarding

• Misleading advertising

• Environmental pollution

• Technological side effects

• Breach of contract

Role of manufacturers/producers in ensuring the efficiency of

consumer associations

a) They should indicate proper expiry dates on their products

b) They should indicate the type of ingredients used to manufacture

products

c) They should indicate the recommended retail price on packets

d) They should indicating any side effects that a consumer may

experience after consuming the product

e) They should that agents and distributors observe ethics when dealing

with consumers

f) They should not mislead consumers during advertising

g) They should ensure that their products or packaging materials do not

litter the environment

Other consumer initiated methods include the following:

• Boycotting buying from traders who exploit them

• Reporting traders who exploit them to the authority

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• Complaining through the press whenever they are exploited

• Taking their exploiters to court

• Promoting consumer education so as to inform consumers about their

rights

• Informing vigilant groups to fight against exploitation

Limitations of consumer initiated methods

a) They lack government support

b) They lack adequate capital to finance their operations

c) Some consumers are ignorant about of their rights

d) They have fewer members due to the reluctance of some consume

join

e) Consumers may not have the initiative to check on traders’

performance and report cases of non-compliance to quality and price

c) Non-governmental organisations (NGOs)

Some non-governmental organisations may also participate in activities

aimed at protecting the consumer. E.g. the public law institute.

Advantages of consumer protection

a) Leads to production of high quality goods

b) Creates a positive attitude and confidence of the consumers in goods

and services

c) Leads to charging of fair prices on goods and services

d) Makes producers take consumer’s complaints more seriously

Disadvantages of consumer protection

a) Adhering to set standards may raise the cost of production leading to

increase in prices

b) Consumer protection campaigns may be used unethically against

competitors

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c) Over reacting of consumer protection agencies may lead to political

and social instability

EMMERGING ISSUES IN GOVERNMENT AND BUSINESS

a) Market liberalization

This refers to the removal of protective policies and regulations so that

Kenyan market is open to all

b) Privatization

Refers to the conversion of public enterprises into private enterprises

c) Dumping of goods

Refers to selling of out-dated or low quality goods at lower prices in

overseas markets

TOPIC 3: TRANSPORT

CONTENTS

• Introduction

• Importance of transport to businesses

• Essential elements of transport

• Modes of transport

• Factors influencing the choice of an appropriate means of transport

• Trends in transport

INTRODUCTION

Transport refers to the movement of goods or people from one place to

another.

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Transport enables the availing of goods and services to consumers at

places convenient to them. Transport therefore helps in bridging the

geographical gap between producers and consumers.

Transport facilitates trade. It is an aid to trade that creates place utility.

IMPORTANCE OF TRANSPORT TO BUSINESSES

a) Links consumers to producers

Transports links consumers to producers hence enabling consumers obtain

the goods they need.

b) Creates employment

Transport helps in the creation of job opportunities. It creates jobs for

drivers, pilots, touts, mechanics, road constructors etc.

c) Promotes specialisation

Transport enables people to specialise in jobs they are best at. For

example, transport enables producers to concentrate only on production

and distributors to concentrate only on distribution.

d) Increases the usefulness of commodities

Through transport, goods and services are moved from places where they

are least needed to places where they are most needed thereby making

them more useful.

e) Improves peoples’ standard of living

Transport enables consumers to get a variety of goods and services thereby

improving their standards of living

f) Widens the market for goods and services

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Transports helps producers to reach consumers in far places. This enables

them reach more customers hence increasing their sales volumes.

g) Increases the volume of production

Due to the wide market created through transport, producers are able to

increase the amount of commodities they produce

h) Avoids wastage

Transport makes the disposal of surplus goods possible by taking them to

areas where they are needed.

i) Promotes development of industries

Through transport, raw materials can be taken manufacturing industries

and also finished goods taken to the market. As such more manufacturing

industries are established. Transport may also promote the development of

service industries e.g. tourism.

Ways in which transport promotes trade

a) Assists in the distribution of finished goods

b) Aids in the transportation of labour to industries

c) Facilitates the movement of raw materials to industries

d) Creates place and time utility for goods

e) Widens the market by moving goods from areas of surplus to areas

of shortage

f) Creates specialization in production by enabling producers

concentrate in production and distributors concentrate in distribution

g) Facilitates large scale production by ensuring that goods produced

are taken to the market

ESSENTIAL ELEMENTS OF TRANSPORT

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Elements of transports are factors that must be in place for transportation

to take place. These elements include:

• Unit(s) of carriage

• Methods of propulsion

• Ways

• Terminals(terminuses)

a) Units of carriage

Refers to anything that is used to carry goods and people to be transported

from one place to another. Units of carriage include: ships, trains,

aeroplanes, motor vehicles, bicycles, human beings, carts, animals etc.

b) Methods of propulsion

This is the driving force (source of power) that makes a unit of carriage

move. The most common methods of propulsion include: petroleum

products, electricity, human energy, animal energy etc.

c) Ways

This is the route or path where the unit of carriage passes. The route can be

on land, on water or through air. Examples of ways may include: roads,

railways, paths, canals, air etc.

Ways can be classified into two

i. Natural ways: these are ways which are provided by nature. They

are free to acquire. They include: airways and sea ways

ii. Man-made ways: these are ways that are made available by human

beings. They cost money to construct and maintain. They include:

roads, canals and railways.

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d) Terminals

These are places where loading and off-loading to and from the unit of

carriage is done. Examples of terminals include: bus stations, airports,

seaports, railway stations etc.

MODES OF TRANSPORT

Mode of transport refers to the manner in which transport is carried out i.e.

transport can be carried out through air, on water or on land.

There are three modes of transport, namely:

• Land transport

• Water transport

• Air transport

a) LAND TRANSPORT

This mode of transport involves the movement of goods and people using

units of carriage that move on dry land.

Means of transport under land transport

The various means of transport under land transport include:

• Human porterage

• Carts

• Vehicles

• Trains

• Pipeline

1) Human porterage

This involves human beings carrying goods on their shoulders, heads or

backs as they transport them from one place to another.

It is the oldest but still very common means of transport.

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It is suitable for carrying light goods over short distances

Its major advantage is that it can access places where other means of

transport cannot access.

Advantages of human porterage

a) It is always available

b) It supplements other means of transport

c) It is flexible since it does not have a fixed timetable

d) It may be cheaper compared to the means of transport

e) It is convenient over short distances

Disadvantages of human porterage

a) It is not suitable for long distances

b) It increases congestion on roads.

c) It is not suitable for transporting heavy and bulky goods

d) It is relatively slow

e) It relies on human energy which can be exhausted

Reasons for the popularity of human porterage

a) It requires low or no running expenses

b) It is highly flexible in terms of time and routes

c) It is economical for small quantities over short distances

d) It can access places where other means of transport cannot access

e) It is readily available

2) Carts

Carts are open vessels which move on two or four wheels and are pulled or

pushed by human beings or by animals such as donkeys.

The carts that are pushed or pulled by human beings are referred to as

hand carts or mikokoteni. The ones pulled by animals are called animal

driven carts.

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Compared to human beings, carts can carry relatively large quantities of

goods. They are however slow hence not suitable for long distances.

Advantages of carts

a) They compliment other means of transport

b) They are relatively cheap to hire

c) Initial buying and maintenance cost is relatively low.

d) They are readily available

e) They can fairly heavier and bulkier goods

f) They are convenient for transporting goods over short distances

Disadvantages of carts

a) They may not be suitable for transporting very heavy and very bulky

goods

b) They contribute to congestion on roads

c) They are not suitable for transporting goods over long distances.

3) Vehicles

These are means of transport where the units of carriage ferry goods and

people on roads. Vehicles are the most commonly used means of transport.

Vehicles are either passenger or goods carriers. Passenger carriers includes

buses, matatus, taxis, private cars etc. while goods carriers include Lorries,

tankers, trailers etc.

Vehicles may be expensive to acquire and maintain.

Matatus

This is a special category of vehicles on Kenyan roads. Matatus are

privately owned passenger vehicles that are mostly used to supplement big

transport companies.

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Advantages of matatus

a) They supplement big transport companies e.g. bus companies

especially in the rural areas

b) They save time since they fill up faster

c) They are more flexible since they mostly don’t follow fixed routes

d) They can access the rural areas where buses do not access

e) Their fares are not fixed hence they can be negotiated

f) They are readily available

g) They are cheaper compared to buses

Disadvantages of matatus

a) Some matatus are poorly maintained making them unroadworthy

b) They can be subjected to reckless driving as drivers rush to pick

passengers

c) Touts may use impolite and abusive language

d) They may cause noise pollution due to unnecessary hooting and loud

music

e) They may cause unnecessary congestion in towns due to careless

driving and parking

f) They may increase fares suddenly especially during peak hours

thereby inconveniencing travellers

g) They operate mostly during peak hours i.e. during the day

h) They may change their routes unexpectedly hence inconveniencing

travellers

Reasons for the popularity of matatus

a) They don’t follow fixed schedules hence preferred by many people

b) They do not require large amount of capital to acquire as compared

to buses

c) They fill faster

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d) They access many areas where other means of transport may not

access

e) They are readily available

Advantages of vehicles

a) They are readily available

b) They are relatively faster compared to carts and human porterage

c) They are relatively cheaper over short distances

d) They are flexible hence they can offer door-to-door services

e) Vehicles can be modified to transport special categories of goods

f) They access most parts where roads are constructed

Disadvantages of vehicles

a) Acquisition and maintenance cost may be relatively higher

b) They may not be suitable for transporting heavy and bulky goods

c) They are affected by traffic jams on roads resulting into delays

d) Vehicle transport is prone to accidents

e) Some roads may be impassable during bad weather e.g. during rainy

seasons

Reasons for the popularity of road transport

a) Roads are available in most parts of the country

b) It is flexible since means of transport used can offer door to door

services

c) There is a wide variety of vehicles

d) It is cheaper over short distances

e) Means of transport used mostly have flexible schedules

4) Trains

Trains are vessels that transport goods and people on rails. The terminuses

for railway transport are the railway stations.

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Railway transport is suitable for heavy and bulky goods. Trains can also be

designed to transport passengers.

There are two types of trains:

Cargo trains: these are trains that are used to transport goods

Passenger trains: these are trains that are used to transport people

Advantages of trains

a) They are relatively secure as cases of theft and accidents are minimal

b) They follow a fixed timetable hence allowing the transporter to plan

for the transport of his/her goods

c) They are economical (relatively cheaper) for transporting heavy and

bulky goods over long distances

d) Trains may have facilities for carrying special categories of goods

e.g. gas, petrol and vehicles

e) They may deliver goods up to or from the owner’s premises

Disadvantages of trains

a) They are not flexible since they follow a fixed timetable

b) Rails are expensive to construct and maintain

c) Trains may not be always available since not all areas are served by

railway lines

d) They are not suitable for transporting perishable and urgently needed

goods

e) They are unsuitable for transporting goods and passengers over short

distances

f) Trains are expensive to acquire and maintain

Circumstances under which railway transport is preferred

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a) When goods are bulky

b) When goods are heavy

c) When storage facilities are required since railway terminus have

warehouses

d) When planning is desired since trains follow a regular time table

e) Where specialized loading and off-loading is desired

5) Pipeline transport

Refers to the movement of liquids and gases from one place to another

through a pipe. Examples of products that are transported using pipeline

transport are water, gases, petrol, dieses and solids that cannot dissolve or

damaged by water.

The pipeline is both a vessel (unit of carriage) and the way.

Products flow through the pipe by the force of gravity by pressure from the

source.

Advantages of pipeline transport

a) It saves labour costs since it requires minimal workers

b) It may not cause environmental pollution since it is noise and smoke

free

c) Pipelines can pass in places where other means of transport cannot

pass e.g. on sloppy areas

d) Pipeline transport allows continuous flow of liquids being

transported

e) It reduces road damage by reducing the number of tankers on roads

f) It reduces the number of accidents that may be caused by tankers on

roads

g) It delivers liquids in time since there are no delays along the way

h) Maintenance cost of pipelines is relatively low

i) Pipeline transport may not be affected by adverse weather conditions

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Disadvantages of pipeline transport

a) An undetected leakage may result in huge losses

b) Initial construction cost of pipelines is high

c) Accidental leakages may cause environmental pollution

d) It travels only in one direction

e) It can transport only one product at a time

f) It is not flexible. This is because the pipeline once laid cannot be

adjusted to fit the desires of the transporter

g) It contributes to unemployment since it requires few workers

h) It is subject to sabotage by enemies.

Advantages of transporting oil by pipeline rather than roads in Kenya

b) Reduces transport cost

c) Loss of oil through accidents on roads is reduced

d) Cases of theft of oil are reduced

e) There is less damage to the roads since no or few tankers are on the

road

f) It ensures regular and reliable supply of oil

g) It reduces environmental pollution

h) Large volume of oil is transported at a given time

i) WATER TRANSPORT

This is a mode of transport where the units of carriage transports people

and goods on water. Water in this case refers to navigable rivers, lakes,

seas and oceans.

The units of carriage which are also the means of transport include: ships,

boats, ferries, steamers and dhows.

Water transport can be divided into two:

1) Inland water ways:

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This is transport that is carried out on lakes, rivers and inland canals e.g.

transportation on Lake Victoria.

Advantages of inland water transport

a) The water way is free hence cheaper to construct a terminal

b) There is no congestion on the route

Disadvantages of inland transport

a) It is slow

b) It does not allow the use of large vessels

c) Often affected by unpredictable strong winds

d) Affected by water weeds such as hyacinth

Reasons for limited use of inland water transport in Kenya

a) Most rivers in Kenya are not navigable due to changing seasons,

rapids and falls

b) Inland water transport is slow hence not suitable where urgency is

desired

c) Most rivers in Kenya usually affected by strong winds and storms

d) Most rivers are narrow and shallow hence they do not allow the use

of large vessels

e) Inland water transport may be affected by water weeds e.g. water

hyacinth

2) Sea transport:

This is transport that is carried out in seas and oceans. Sea transport

connects continents hence facilitating international trade.

NOTE: most rivers in Kenya are not navigable (cannot allow water

transport) due to the following reasons

• They are too small

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• Due to presence of rapids and water falls

• They are too shallow

• Some of them are seasonal

• Some have steep slopes

Means of transport under water transport (types of water vessels)

The common means of transport under water transport include:

• Ships

• Boats and ferries

1) Ships

A ship is a large vessel that transports people or goods through water.

Ships connect countries or places which borders the sea or the ocean.

They load and off-load in terminals known as harbours e.g. the Kilindini

harbour in Mombasa.

Classification of ships

Ships can be categorised into:

• Cargo ships

• Passenger ships

• Liners

• Tramps

a) Cargo ships

These are ships that are designed to transport goods. They are convenient

for transport heavy and bulky goods

b) Passenger ships

These are ships that are designed to transport people

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c) Liners

These are ships that are owned and operated by shipping companies

known as conferences.

Each conference determines the routes each liner should operate, the rates

they will charge and the rules and regulations to be followed by their

members

Characteristics of liners

• They have fixed routes

• They follow a fixed time table

• They charge fixed rates

• They call at specific ports along the route at regular intervals

• They travel at regular intervals

• They are owned by shipping companies

Advantages of liners

• Their freight charges are generally cheap and affordable

• Freight charges are fixed

• Efficient and economical

• They operate on fixed routes, fixed timetables and fixed schedules

Disadvantages of liners

• They are not flexible

• They operate at a loss when demand on a particular route is low

• They leave the port whether they are full or not

d) Tramps

These are ships that do not follow fixed routes or time table

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Their routes and rates depend on demand in the sense that they charge

higher rates when demand is high and low rates when demand is low

Tramps can be likened to matatus in Kenya.

Tramps may be owned by individuals or by firms

Characteristics of tramps

• They don’t charge fixed rates

• That don’t have a fixed time table

• They are owned by individuals or firms

• They have irregular travelling patterns.

• They are normally owned by small scale private individuals,

partnerships or limited companies

Advantages of tramps

• They are flexible

• Their freight charges are lower than those of liners

• They are readily available for hire

• Their freight and hire charges are negotiable

• They carry all types of cargo

Disadvantages of tramps

• Their timing, route and schedule are not fixed

• Their freight charges are not fixed

• They must be fully loaded before departure hence causing delays

• They lower their freight charges when demand decreases leading tom

losses

Shipping conferences

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These are associations of companies which own liners. The membership of

these conferences is international.

Shipping conferences serve the following purposes

a) Fixing and controlled the routes used by liners

b) Fixing and controlling the freight charges

c) Fixing and controlling the timetables and schedules for members

d) Acting as watchdogs to safeguard the interests of their members

e) Establishing their own shipping agencies and their own shipping

offices in countries and ports where they operate

f) Countering competition from tramps

NOTE

i. When a trader hires an entire ship to transport goods to a given

destination, he/she and the ship owner sign a document known as the

charter party which shows the terms and conditions under which the

goods are to be transported.

ii. When the ship is hired to carry goods for a given journey, the trader

and the ship owner sign a document known as the voyage charter.

iii. When the ship is hired to transport goods for a given period of time,

the trader and the ship owner sign a document known as the time

charter.

Ships may build and designed to carry special goods.

2) Boats and ferries

These are water vessels that are used to transport people and goods over

short distances.

They are found both in inland and sea transport. E.g. the Likoni ferry in

Mombasa.

Advantages of water transport

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a) It is economical since the number of employees to carriage volume is

less

b) It is suitable for transporting heavy and bulky goods

c) It is relatively cheaper since the way is natural and free

d) Connects countries of the world bordering the sea hence creating

harmony and understanding among countries

e) Ships may be designed to carry special types of goods

f) Large volume can be carried hence reducing cost per unit

Disadvantages of water transport

a) Sea-sickness, sea pirates and storms may occur

b) It is not suitable for transporting perishable and urgently needed

goods

c) Artificial harbours are expensive to construct and maintain

d) It may be affected by bad unfavourable weather conditions

e) It is not accessible to land-locked countries

f) The cost of acquiring and maintaining ships may be too high

g) Lack of loading and off-loading facilities may cause delays

Importance of water transport in Kenya

a) It is the gateway for most imports and exports thereby facilitating

international trade

b) Earns Kenya foreign exchange

c) Promotes the development of agricultural and industrial sector

d) Creates employment

e) Promotes tourism by receiving passenger liners which transport

tourists

NOTE: in Kenya water transport is managed and controlled by the Kenya

ports authority

Functions of Kenya ports authority

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a) Ensures that facilities are available to handle goods at the port

b) It takes precautionary measures to ensure safety of the ship and that

of the cargo

c) It provides enough space for storing cargo

d) It supervises and maintain other small ports

e) It provides navigational services to the ship

f) It provides other shipping services such as loading and off-loading

3) AIR TRANSPORT

This is a mode of transport where aeroplanes are used. Therefore

aeroplanes (aircrafts) are the means of transport.

Air is the way while airports and airstrips are the terminuses

Air transport is the fastest means of transport hence it is suitable for

transporting urgently needed goods over long distances.

Air crafts can be classified into two, namely,

• Passengers planes

• Cargo planes

Passenger planes transport people whereas cargo planes transport goods

Aeroplanes may be designed to carry special types of goods.

Aeroplanes may be expensive to acquire and maintain.

Features of air transport

a) Air transported has the highly automated and mechanised cargo and

passenger handling facilities

b) Aircrafts are fitted with special safety facilities

c) Air transport services are controlled by international air transport

associations

d) Fares and rates are comprehensive to include all services at the

terminus

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Advantages of air transport

a) There is less handling of goods along the way since aeroplanes

mostly fly directly to their final destinations. This reduces cases of

damage to the goods.

b) The way is natural and free

c) Planes can move through places other means cannot e.g. across

mountains.

d) Airlines are interconnected all over the world hence making it more

convenient

e) It is suitable for long distance travelling e.g. from one country to

another

f) It is suitable for transporting perishable and urgently needed goods

Disadvantages of air transport

a) It causes pollution

b) Airstrips and airports are not available everywhere

c) It is not convenient for heavy and bulky goods

d) Aircrafts are expensive to acquire and maintain

e) It requires highly trained personnel e.g. pilots.

f) Unfavourable weather conditions causes delays

g) It an expensive means of transport in terms of freight charges

h) It is not suitable for transporting inflammable goods such as petrol

and cooking gas

i) Airstrips and airports (airfields) are expensive to construct and

maintain

j) In case of an accident, the results are catastrophic

Circumstances under which air transport is preferred

a) When urgency is desired

b) When goods to be transported are perishable

c) When goods to be transported are of high value

d) When goods to be transported are fragile in nature

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e) When the distance to be covered is long

f) When safety is desired

Role of air transport in Kenya

a) Promotes the development of horticultural industry by providing

speedy transportation of agricultural products

b) Provides revenues to the government through fees and taxes

c) Facilitates the movement of business people

d) Promotes development of tourism by transporting tourists

e) Creates employment

CONTAINERISATION

Involves the transportation of goods packed in standard box like

containers. These containers can either be made of wood or metal.

These containers can either be bought or hired.

Containers can be transports using ships, trains, Lorries or even by air.

Goods can be transported in containers using two methods:

• Full container load

• Less than container load

Full container load (F.C.L): this applies where the container is filled with

goods belonging to one person (consignor)

Less than container load (L.C.L): this applies where a container is filled

with goods belonging to several people (consignors). When such container

reaches the destination, it is open for each Consignor to take his/her goods.

In Kenya, the main container depot is in Mombasa. Kenya ports authority

has also established inland container depots known as dry ports e.g. in

Embakasi-Nairobi.

The aim of establishing dry ports is to:

• Easy congestion at the sea port

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• Make handling of cargo easier and efficient for inland importers and

exporters

When containers are off-loaded from ships in Mombasa, they are loaded

into special container trains known as railtainers which transports them by

railway to the inland container depot at Embakasi.

Containers can also be transports by road using specially designed trucks.

Railtainer: this is a special train meant for transporting containers from

one sea port to the upcountry dry port inland container depot.

Advantages of containerisation

a) It minimizes of loss or damage of goods since containers are sealed

at source

b) Containers can be fitted with devices that movement and handling

easier

c) Saves time and labour on loading and off-loading since machines are

used

d) Reduces delay due to the fact that containers are sealed at source and

only opened at the destination

e) The costs of insuring containers are low since risks are minimal.

f) Use of containers saves on space compared to when individual items

are packed in the carrier

Disadvantages of containerisation

a) Containers are expensive to acquire

b) Contributes to unemployment due to the use of machines

c) It is not suitable for transporting small quantities of goods

d) Requires special handling equipment which may be expensive

e) It may not be suitable for transporting goods with irregular shapes

FACTORS THAT INFLUENCE THE CHOICE OF AN

APPROPRIATE MEANS OF TRANSPORT

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a) Cost

The cost of transport vary from one means of transport to another. An

affordable means of transport should therefore be chosen.

b) Nature of goods

Goods to be transported can be perishable, durable, light, heavy and bulky.

The fastest means of transport should be used for perishable goods. Heavy

and bulky goods require the appropriate means of transport such as use of

trains and ships.

How the nature of goods influences the choice of a means of transport

a) If goods are perishable, a faster means of transport should be chosen

b) If goods are fragile, a smooth means of transport should be used

c) If goods are of high value, a secure means of transport should be

used

d) If goods are urgently needed, a faster means of transport should be

used

e) If goods are bulky, a means of transport with enough space should be

used

c) Reliability

Reliability refers to the assurance that goods will reach the intended

destination at the right time and in the right form. The most reliable means

should therefore be chosen.

d) Urgency

When goods to be transported are urgently required, the fastest means of

transport should be chosen.

e) Security

A more secure means of transport should be chosen in order to ensure that

goods in transit secured against damage, loss or theft.

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f) Distance

Distance to be covered should also be considered when choosing a suitable

means of transport. For long distances, air, railway and water transport

will be appropriate whereas for shorter distances, road transport will be the

most appropriate means of transport.

g) Availability of the means

One should always choose the means of transport that is easily available

h) Flexibility

Flexibility is the ability of the means of transport to be manipulated in

order to meet the needs of the transporter. Where flexibility is required, a

more flexible means of transport such as the use of matatus should be

selected.

i) Terminals

Some means of transport may have their terminals closer to the transporter

than others. In this case, the transporter should choose the means of

transport whose terminals are accessible.

FEATURES OF AN EFFICIENT TRANSPORT SYSTEM

a) It should be affordable

b) It should be punctual

c) It should be quick

d) Its speed should be moderate

e) It should be reliable

f) It should be flexible and convenient

g) It should be comfortable

h) It should be safe

ROLE OF TRANSPORT IN THE ECONOMY

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a) It promotes the development of industries by facilitating the

movement of raw materials and distributing finished goods

b) Promotes the development of agriculture by transporting inputs to

farmers and produced goods to the market

c) Promotes regional specialisation by transporting the goods produced

to the market thereby encouraging the continued production of such

goods

d) Facilitates the delocalisation of industries

e) Facilitates the movement of workers and business people from one

place to another

f) Promotes the movement of people within the country creating peace

and understanding

g) Facilitates the disposal of surplus goods hence avoiding wastage

h) Promotes tourism by transporting tourists to tourist attraction sites

TRENDS IN TRANSPORT

A lot of changes have been introduced in the transport sector both in

Kenya and abroad. Some of these changes include:

a) Introduction of pipeline transport

b) Introduction of electric trains to replace diesel engines

c) Use of underground tunnels for trains to ease congestion on Kenyan

roads.

d) Introduction of dual carriage roads to ease congestion and reduce

accidents

e) Development of planes with larger carrying capacity and high speed

f) Use of bicycles popularly known as bodaboda, motor cycles and

tuktuks especially in the rural areas and bus terminals to supplement

other means of transport.

g) Use of private vehicles with smaller capacities as matatus

h) Passenger vehicles are fitted with radios, music systems, video

players etc. to entertain passengers

i) Introduction of the yellow line on passenger vehicles in Kenya

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j) Introduction of uniforms for drivers and conductors of all public

service vehicles

k) Introduction of speed governors on public service vehicles to control

speed

l) Limiting the carrying capacity for all public service vehicles i.e. 14

seaters.

TOPIC 4: COMMUNICATION

CONTENTS

• Introduction

• Importance of communication

• Lines of communication

• Essentials of effective communication

• Forms and means of communication

• Factors to consider when choosing a means of communication

• Barriers to effective communication

• Services that facilitate communication

• Trends in communication

INTRODUCTION

Communication is the process of passing information from one person to

another.

Communication has to be effective in order to facilitate efficient

operations in the organization.

IMPORTANCE OF COMMUNICATION

a) Facilitates the giving and obtaining of information

Communication facilitates proper flow of information within the

organization and also between the organization and outsiders

b) Enables the clarification of issues and points

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Through communication, the organization is able to clarify issues which

would otherwise be confusing.

c) Enhancing public relations

Good communication enables the organization to create a positive image

to outsiders in order to over negative attitudes that people may have

towards the organization

d) Enables the starting and influencing of actions

Communication enables management to get new ideas, make plans and

ensure that they are implemented in the desired way.

e) Improves customer relations

Good communication helps in handling customers’ complaints and

enquiries more efficiently and offering them appropriate feedback.

f) Facilitates the giving of instructions

Through communication, management is able to get work done by issuing

procedures and orders

g) Facilitates the giving of reassurances

Communication is used to reassure people that their performance is good

so as to boost their morale. E.g. the best performing employee will feel

recognised if he/she is sent a letter to appreciate him/her for the good

work.

h) Helps in confirming arrangements

Through communication, arrangements for activities to take place such as

meetings and conferences can be confirmed.

i) Co-ordinates departments of the firm

Communication enables the coordination of activities of various

departments. For example when sales increase, the sales department has to

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inform the production department about this increase for it to increase

production proportionately

LINES OF COMMUNICATION

Lines of communication refers to the direction in which communication

flows from the sender to the receiver.

Lines of communication can be classified according to the level of the

communicating parties or according to the nature of the message.

Classification according to the level of the communicating parties

When classified according to the level of the communicating parties,

communication can be classified into:

a) Vertical communication

b) Horizontal (lateral) communication

c) Diagonal communication

a) Vertical communication

This is where messages are passed between a senior and his/her juniors in

the same organization.

Classification of vertical communication

Downward communication: this is a communication process where a

person communicates with his/her juniors. It is commonly used when:

• Training juniors

• Evaluating performance of juniors

• Delegating duties

• Solving problems facing junior officers

• Inspiring and motivating juniors

Upward communication: this is a communication process where a person

communicates with his/her seniors. It is mostly used when:

• Submitting reports

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• Giving suggestions

• Submitting complaints

b) Horizontal (lateral) communication

This is communication between or among people of the same level e.g.

between heads of departments.

It used to:

• Co-ordinate and harmonise various activities in the organization

• Create team work within the organization

• Exchange ideas

• To create a sense of belonging within the organization

c) Diagonal communication

This is communication between people of different levels in different

departments or in different organisations. E.g. an accounts clerk

communicating with a sales manager of the same organization or from a

different organization.

Diagonal communication enhances team work.

Classification according to nature of the message

When classified according to the nature of the message, communication

can be classified into:

a) Formal (official) communication

b) Informal communication

a) Formal communication

This is where messages are passed using the approved and recognised way

in an organization. This means that messages are passed to the right people

following the right channels and in the right form.

It is also known as official communication because it involves the transfer

of messages meant for office purposes.

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b) Informal communication

This is where messages are passed not in the right form and without

following the right channels.

It is commonly used when sending messages to friends and relatives.

It can also take the form of gossiping and rumour mongering.

NOTE: both formal and informal communication are necessary for the

smooth running of the organization

ESSENTIALS OF EFFECTIVE COMMUNICATION

These are the essential elements that must be in place for communication

to be effective. These elements are discussed below:

a) The sender (communicator)

This the person from whom the message originates.

The sender encodes the message i.e. puts the message in a form that can be

understood.

The sender encodes the message through the proper use of words,

symbols, gestures and signs to represent his/her ideas

After encoding the message, the sender sends the message.

b) The message

This is the information to be sent. The message may be in the form of

words, symbols, pictures or in any other form that will make it

understandable

c) The medium (channel)

This refers to the means through which the message is sent. The medium

can be a telephone, a letter, a radio, face to face etc.

d) The receiver

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This is the person for whom the message is intended.

The receiver decodes the message i.e. interprets the message for easy

understanding.

e) Feed-back

This refers to the reaction of the receiver to the message. It may be in the

form of a response which the receiver sends back to the sender.

Communication process

The process of communication involves three stages:

a) Sending the message (transmission)

b) Receipt of the message by the receiver

c) Response from the receiver

Feedback ensures that communication is complete.

(Illustrate)

FORMS AND MEANS OF COMMUNICATION

Forms of communication: these are the methods or ways used to pass

messages. There are three forms of communication, namely:

• Oral communication

• Written communication

• Audio-visual communication

• Electronic communication

Means of communication: these are devices used to pass on information.

Examples include messengers, letters, telephones, radio, televisions, face-

to face etc.

1) ORAL (VERBAL) COMMUNICATION

This is where information is conveyed by word of mouth.

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Circumstances when verbal communication is used

a) When a person wishes to convince, persuade or influence another

b) When the message is urgent

c) When the message is confidential

d) When immediate feedback is required

Means of oral communication

Some of the means of oral communication include:

a) Face-to-face conversation

b) Telephone

c) Radio calls

d) Paging

1) Face-to-face conversation

This is a means of communication which involves two or more people

talking to each other.

It is appropriate when the parties involved are closer to each other.

It is suitable where the subject matter requires convincing, persuasion and

immediate feedback

Advantages of face-to-face conversation

a) Provides immediate feedback

b) It has personal appeal

c) Allows the expression of body language

d) One is able to convince and persuade another

e) It is simple to use

f) It is direct i.e. does not pass through intermediaries

g) It is convenient for confidential messages

h) It promotes harmony due to discussions

Disadvantages of face-to-face conversation

a) It has no record for future reference

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b) It can be time consuming

c) The message can be distorted

d) It is not suitable when people are far away

e) It is not suitable for the deaf and dumb

Circumstances where face-to-face conversation is preferred

a) When there is need to persuade and convince another person

b) During meetings

c) When confidentiality is desired

d) When parties involved in communication are near each other

e) When immediate feedback is required

f) When giving routine instructions

g) When there is need to discuss issues

Reasons for the ineffectiveness of face-to-face communication

a) Where there if age difference

b) Poor timing

c) Where there are pronunciation problems

d) Differences in language between the communicating parties

e) Where the receiver has hearing problems

f) Where unfamiliar terminologies are used

g) In case of poor listening by the receiver

h) In case there is noise in the environment

i) Inability of the receiver to understand gestures accompanying face-

to-face communication

j) Where the message is long and detailed making the receiver lose

concentration

2) Telephone

A telephone is an electronic gadget that is used to send messages.

It is suitable for sending messages quickly over short distances.

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In Kenya, telephone services are provided by Telkom Kenya, safaricom,

airtel, yu etc.

Advantages of telephones

a) Relatively fast

b) It has personal appeal

c) Provides for immediate feedback

d) Allows for persuasion and convincing

e) Suitable for long distance communication

Disadvantages of telephones

a) Telephones may be expensive to acquire

b) It lacks confidentiality

c) It is not convenient for deaf and dumb people

d) It can be time consuming

e) It is not suitable for detailed messages

Circumstances where telephones will be preferred

a) When there is the desire convince and persuade the other person

b) When the parties involved in communication are far away from one

another

c) When immediate feedback is desired

d) When the message is urgent

Reasons for popularity of mobile phones

a) They have personal appeal

b) They convey status in the owner

c) Sending messages via mobile phones is relatively cheaper

d) They offer additional services such as the radio, mp3 player, internet

etc.

e) Some of them are relatively cheaper to acquire

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3) Radio calls

This is a means of communication where messages or information is

conveyed by use of radio waves i.e. without connecting wires between the

sender and the receiver.

The device used is called a radio telephone.

Radio telephones are mostly used in places without telephone lines

Radio calls are mostly used by the police, game rangers, researchers,

foresters etc.

Advantages of radio calls

a) It is relatively fast

b) It has immediate feedback

c) It has personal appeal

d) Allows persuasion and convincing

e) It can transmit messages over long distances

Disadvantages of radio calls

a) It has no record for future reference

b) It lacks confidentiality

c) Messages are sent one way at a time

d) It can be expensive

e) It is not suitable for deaf and dumb people

f) It can be time consuming

4) Paging

This is a means of communication that mostly used to locate or alert staff

quickly within an organization.

It can be done using loud speakers, bells, portable receivers and lighted

signals

Paging only works within a given radius

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Advantages of oral communication

a) The message has a greater impact on the receiver

b) Clarity can be sought from the sender

c) Allows the sender to convince and persuade the receiver

d) It has personal appeal (touch)

e) The message reaches the intended recipient

f) Immediate feedback is possible

g) Suitable for conveying confidential messages

h) It can be used to pass messages to a large audience

i) Allows the participation of others

Disadvantages of oral communication

a) It does not keep a record for future reference

b) It cannot be used when the communicating parties are far from one

another

c) It does not allow detailed messages

d) It is not suitable for the deaf and dumb

e) It is time consuming especially when persuading and convincing the

other party

2) WRITTEN COMMUNICATION

This refers to transmission of messages through writing

Means of written communication

Some of the means of written communication include the following

a) Letters

b) Telegram

c) Telex

d) Facsimile (fax)

e) Memorandum (memo)

f) Notice

g) Reports

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h) Circulars

i) Agenda

j) Minutes

a) Letters

Letters can be classified into two, namely:

• Formal letters

• Informal letters

Formal letters include business and official letters while informal letters

refer to personal letters.

NOTE:

a) Business letters are used to pass information between the business

and its customers e.g. the letter of inquiry. They may be used to pass

information the employer and employees within the organization

b) Official letters are used to pass information from government to

employers and employees and vice versa.

c) Personal letters are those letters that are written to friends and

relatives

Advantages of letters

• It provides evidence

• The message is not distorted

• Provides a record for future reference

• The message can be detailed

• It is relatively cheap

• It can be used to send confidential messages

b) Telegram

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This is a means of communication that is provided by the post office. The

sender types or writes a message on a telegram form in capital letters and

hands it over to the post office. The post office then transmits the message

to the recipient’s post office.

The charges for sending a telegram are based on the number of words i.e.

the more the words, the higher the charges

c) Telex

This is a means of communication that is used to send short or detailed

messages faster by using a machine known as a teleprinter.

It is provided by the post office.

Both the sender and the receiver must have telex machines which should

be connected to each other. The message is typed on the sender’s machine

and it is simultaneously received or typed on the receiver’s machine.

It is fast hence saving time. However it is expensive.

d) Facsimile (fax)

This involves the transmission of information through a fax machine. Both

the sender and the receiver must fax machines connected by a telephone

line.

To send the message, the sender dials the fax number of the receiving

machine. He then feeds the document to be sent into his/her machine. The

receiving machine reproduces the document immediately.

A fax works like a distant photocopying machine.

e) Memorandum (memo)

This is a means of communication that is used to pass information between

departments or offices in an organization.

They are used to inform workers within an organization on matters related

to the organization

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f) Notice

This is a means of communication that is used to inform a group or the

public about past, current or future events.

It is brief and to the point.

It can be placed on walls, in public places, in newspapers or on notice

boards.

g) Reports

Reports are statements that are used to communicate finding,

recommendations and conclusions of an investigation.

A report is usually sent to people who asked for it for a specific purpose.

h) Circulars

These are copies of a single letter that are addressed and copied to many

people when the message to be sent to each person is the same. For

example, the ministry of education can send circulars to all school heads in

Kenya informing them on the closing date.

I) Agenda

This is an outline of items to be discussed in a meeting. It is normally

contained in a notice of the meeting that is sent to participants of the

meeting.

The notice of the meeting contains the following:

• The date of the meeting

• The venue of the meeting

• Time of the meeting

• The agenda of the meeting

i) Minutes

This is record of the proceedings of a meeting.

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Advantages of written communication

a) It provides a record for future reference

b) Some means of communication under written communication are

relatively cheap

c) It suitable for confidential messages

d) It can allow the inclusion of details

e) The message may not be distorted

f) Written communication can be used as evidence.

g) It can be addressed to many people

Disadvantages of written communication

a) It lacks personal appeal

b) It takes time to prepare

c) It is not suitable for the illiterate people

d) Immediate feedback may not be possible

e) It does not offer room for persuasion and convincing

f) It is not a two way communication

g) The message may take long to reach the receiver

h) It does not allow the expressions of body language

i) Some means of written communication are expensive

3) AUDIO-VISUAL COMMUNICATION

This is a form of communication where messages are sent through sounds

and signs.

Audio-visual communication is suitable where the message is targeting a

large number of people.

Means of audio-visual communication

• Siren

• Television

• Photographs

• Signs

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• Charts

• whistle

a) Siren

This is a means of communication where a device is used to proud a loud

shrill sound. This sound may be accompanied by a flashing light.

It is commonly used by the police, ambulances, security firms and fire

brigades

b) Television (TV)

This is a device that produces information in the form of a series of images

on a screen accompanied by sound.

It is a very effective means of communication since it combines the

advantages of image and sound.

It is suitable for sending urgent message that give live coverage of events.

c) Photographs

A photograph is an image of an object as it appeared at the time when the

photograph was taken.

They are self-explanatory hence the receiver is able to get the message at a

glance

d) Signs

Signs refer to symbols, drawings or gestures whose purpose is to inform

the public about such things as directions, distances and dangers

e) Charts

These are visual representations of information which are clearly displayed

so that the observer can get the message at a glance.

f) Whistle

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This is where a small device is blown to produce sound whose purpose is

to warn or alert the target audience.

Advantages of audio-visual communication

a) It reaches many people

b) It is more appealing compared to other means of communication

c) It reinforces verbal communication hence making it more clearer

d) It may have a lasting effect on the receiver

e) It is suitable for the illiterate

f) It increases the receiver’s concentration

g) Information can be used to entertain while communicating the

message

Disadvantages of audio-visual communication

a) There may no feedback

b) Some means of verbal communication may require interpretation to

be understood e.g. charts

c) The preparation of the message may be expensive and time

consuming

d) It is not suitable for confidential messages

4) ELECTRONIC COMMUNICATION

This is a form of communication where messages are passed via electronic

devices such as computers and mobile forms.

The means of communication under electronic communication include E-

mails and text messages.

Electronic communication is suitable for sending urgent massages.

Advantages of using E-mail to communicate

a) It is relatively cheap

b) It is relatively fast

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c) it is suitable for sending confidential messages

d) it allows immediate feedback

e) it is easy to access the message

f) it is universal hence allowing world-wide communication

g) it allows detailed messages

h) it keeps a record for future reference

FACTORS TO CONSIDER WHEN CHOOSING A MEANS OF

COMMUNICATION

a) Speed

It is important to take in consideration the speed of the means of

communication especially when the message is urgent.

For urgent messages therefore, telex, fax and telephone will be the

preferred means of communication

b) Cost

Cost refers to the expenses incurred when sending a message. a less costly

means of communication should be selected

c) Confidentiality

The message is said to be confidential when it is intended for a specific

person(s) only. In this case, a telephone, a registered mail or an internal

memo enclosed in an envelope may be used.

d) Distance

This refers to the geographical distance between the sender and the

receiver of the message.

For short distances, face-face, posters and sirens may be used whereas for

long distances, fax, telephone and letters are most suitable.

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e) Availability of evidence

Refers to the ability of the means of communication to provide a record for

future reference. Where evidence is required, all means of written

communication will be preferred.

f) Reliability

Reliability is the assurance that the message will reach the intended

recipient at the intended time, place and in the right form. Where

reliability is to be considered, face-to face communication should be used.

g) Accuracy

Accuracy refers to the exactness of the message to be conveyed by a

means of communication. When accuracy is to be considered, written

communication should be given preference

h) Desired impression

At times, it may be necessary to create a certain impression on the

receiver. E.g. use of a telegram conveys a sense of urgency, use of

coloured and attractive letterheads portrays a goods image of the business

etc. a means of communication that conveys the desired impression should

therefore be chosen

i) Availability

Some means of communication are easily available than others. A readily

available means of communication should therefore be chosen.

BARRIERS TO EFFECTIVE COMMUNICATION

Barriers to effective communication are conditions existing between the

sender and the receiver which have the effect of distorting the message

leading to ineffective communication.

These barriers are discussed below:

a) Language barrier

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This is where the receiver is unable to understand the language being used

by the sender. It may be due to use of a foreign language or use of a

different accent.

b) Poor listening

Communication is effective when the recipient is a keen listener. Listening

requires careful attention and concentration. Poor communication

therefore renders communication ineffective.

c) Negative attitude

Attitudes refers to feelings of the communicating parties towards one

another. Where these feelings are negative, there may be intentional

misunderstanding of the message resulting in ineffective communication.

d) Poor timing

For communication to be effective, the message should be sent and

received at the appropriate time. For example a message sent when

somebody is in a hurry may not be properly received. Poor timing

therefore contributes to effective communication.

e) Use of a wrong medium

Medium refers to the means of communication used. The means of

communication used should be appropriate for the message being

conveyed e.g. on cannot convey confidential messages effectively using

audio-visual communication.

Using a wrong medium therefore contributes to effective communication.

f) Prejudgement

Prejudgement refers to past experiences and knowledge about the sender

and the message. For example a message conveyed by the sender who is a

well-known drunk may not be taken seriously.

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Negative prejudgements there contribute to ineffective communication.

g) Emotional responses

These are reactions resulting from anger or excitement. These reactions

may distort the message

h) Unclear systems within the organisation

If the channels of passing information within the organisation are not

clear, messages will not get to the right people as intended.

i) Noise

Noise refers to any disturbing sounds within the surrounding that may

interfere with the concentration or the listening ability of the recipient.

The presence of noise may make it impossible for the message to be

received in the right form.

j) Unfamiliar non-verbal signals

Non-verbal signals are the means of communication which help enhance

verbal communication. These signals may include facial expressions,

gestures and nodding. Non-verbal signs become a barrier to effective

communication when they are misinterpreted by the receiver.

Features of effective communication

a) It should be relatively cheap

b) It should be widely available

c) It should be relatively fast

d) It should offer a variety of means of communication

SERVICES THAT FACILITATE COMMUNICATION

These are services offered by different organisations such as Telkom,

postal courier etc. to facilitate communication. These services may be

classified into four:

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a) Mailing services

b) Telephone services

c) Broadcasting services

d) Print media services

a) Mailing services

Mailing refers to the handling of letters and parcels. Mailing services are

therefore are those services which deal with the handling of letters and

parcels.

These services are provided by organisations such as the postal

corporation of Kenya, Securicor courier etc.

Mailing services include the following:

a) Speed post

This is a service that is offered by the post office to send correspondence

and parcels to a destination within the shortest time possible. To deliver

the mail, the post office uses the fastest means of transport available to the

destination.

The sender pays the normal postage plus a fee for the special service.

In Kenya, EMS is the best example of speed post service

b) Poste restante

This is a service offered by the post office to travellers who may wish to

receive correspondence while away from their post office box.

The receiver (traveller) has to inform those who may wish to communicate

with him his/her nearest post office during his/her travel. The sender must

write the words ‘post restante’ on the envelope

An additional fee on top the normal postage charges is paid for the service.

c) Express mail

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This is a service offered by the post office where mails and

correspondences are delivered to the destination in the shortest time

possible.

When mail is sent using express, it is delivered to the receiver’s nearest

post office from where the post office will make arrangements to deliver

the mail to the receiver within the shortest time possible.

The difference between express and speed post lies in the manner in which

the mail is treated. For speed post, special arrangements to deliver the mail

start at the sender’s post office whereas for express mail, arrangements

start at the sender’s post office.

Normal charges plus a fee is charged for using this service.

d) Registered mail

This is a service that is offered by the post office and other registered

service provider such as Akamba, Securicor etc. for sending valuable

items for which secure handling is required.

A registration fee and a commission is paid for this service. The

commission depends on the weight and the nature of the item being sent.

When sending items via registered mail, a certificate of registration is

issued to the sender. In case of loss, the sender is compensated on

producing the registration certificate.

e) Business reply services

This is a service that is used by businesses that intend to encourage their

customers to reply their letters promptly. These business usually send their

customers unstamped reply cards, letter cards or envelopes marked

“postage paid” or “postage will be paid by licensee”

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b) Telephone services

These are services that are offered by firms such as Telkom Kenya, airtel

and safaricom.

These services are available on either landline or mobile telephones.

For one to use the service, he/she must have a telephone equipment which

is connected to the service provider through networking.

The subscriber pays for the service either in advance (post-paid) or in

arrears (pre-paid)

c) Broadcasting services

These are services that are provided by radio and television stations.

These services are regulated by the telecommunications commissions of

Kenya which issues licenses for radio and television broadcasting stations.

Examples of radio and television stations in Kenya include:

• Kenya television network (KTN)

• Nation TV

• Kiss 100

• Easy FM

• Radio jambo etc.

d) Print media services

These are means of written communication that are intended to pass

messages to the general public. They include newspapers, magazines and

journals.

TRENDS IN COMMUNICATION

a) Emergency of communication bureaus: these are privately owned

kiosks where telephone services are offered

b) Introduction of mobile phones

c) Introduction of E-mail services

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d) Introduction of internet

e) The growing use of short message services provided by mobile

phones.

TOPIC 5: WAREHOUSING

CONTENTS

• Introduction

• Importance of warehousing to business

• Essentials of a warehouse

• Types of warehouses

INTRODUCTION

Warehouse

A warehouse is a special place where goods are stored until demand for

them arises.

It may be a building known as a storehouse, or an open space known as a

stockyard.

A warehouse is also referred to as a depot or a godown.

Warehousing

Warehousing is the process of storing goods until the time they are

required. It may also refer to the systems by which goods are handled and

controlled for efficient retrieval.

Warehousing involves the following:

a) Receiving goods into the warehouse

b) Storing the goods in the warehouse

c) Releasing the goods from the warehouse

Warehousing is an aid to trade which creates time utility.

IMPORTANCE OF WAREHOUSING TO BUSINESS

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a) Ensures steady flow of goods

Warehousing ensure steady supply of goods by storing goods during times

of surplus and releasing them to the market when need for them arises.

b) Ensures stability in market prices

By ensuring steady supply of goods, warehousing prevents shortages or

surplus in the market which may lead to changes in market prices

c) Protects goods

Warehousing protects the goods stored from risks such as theft, fraud and

physical damage

d) Helps in meeting unexpected demands

Through warehousing, goods are stored during times of surplus and later

released to the market when demand for them arises. As such,

warehousing helps in meeting unexpected demand.

e) Ensures continuity in production

Warehousing enables production activities to continue throughout. This is

because it enables producers to store raw materials awaiting their need to

arise.

f) Enables the preparation of goods for sale

Goods stored in the warehouse can be blended, branded, packed and

graded in preparation for sale

g) Enables the owner to look for market

Warehousing gives the owner of the goods time to look for a suitable

buyer(s) while the goods are still in the warehouse

h) Goods can improve in quality

The quality of some goods such as wine and bananas may improve while

still in the warehouse

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i) Encourages specialization

Through warehousing, the producers are able to only deal with the

production of goods whereas distributors only deal in the storage and

distribution of goods. As such, each party is able to only specialize in one

line of operation.

j) Enables buyers inspect the goods

Warehousing gives buyers an opportunity to inspect the goods before they

can buy them.

Importance of warehousing to producer (manufacturer)

a) Allows the producer to produce goods in advance in order to meet

unexpected demand

b) Allows the producer to produce goods steadily without rushing

c) Enables the producer to offer steady supply of seasonal goods

d) Raw materials can be stored in the warehouse hence enabling the

producer to continue his production throughout

e) Producer’s goods are protected from physical damage and spillage

f) Enables the producer to prepare goods for sale

Importance of a warehouse to the consumer

a) Ensures constant supply of goods to the consumer

b) Stabilizes prices by avoiding excess demand through constant supply

of goods

c) Inspection of goods in the warehouse ensures the consumer does not

receive defective goods

d) Ensures the consumer has access to a wider variety of goods#

e) Through packing and packaging, goods are broken into smaller

quantities hence enabling the consumer access small quantities of

goods

ESSENTIALS OF A WAREHOUSE

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Essentials of a warehouse are the features and the resources that a

warehouse must have for it to function effectively. These include the

following:

a) Suitable location

A warehouse should be located in a place where receipt and issue of goods

can be done efficiently. The location therefore should be accessible or near

the market.

Reasons for locating a warehouse nearer to the customer

a) To minimize transportation cost

b) To minimize damages

c) To ensure continuous supply of goods to the market

d) To increase sales as a result of continuous supply of goods to the

market

e) Tom minimize losses due to damages

b) Suitable buildings

A warehouse should be designed in such a way that it is appropriate for the

type of goods being stored. The design of the warehouse should also

facilitate safety, security and ease of handling goods that have been stored

c) Appropriate equipment

A warehouse should be equipped with proper and appropriate facilities for

handling the type of goods stored.

d) Proper safety facilities

A warehouse should be fitted with safety equipment and facilities

necessary for protecting goods against damage that can be caused by

water, sunshine or personnel who may mishandle the goods.

e) Appropriate transport system

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A warehouse should be located in a place which is accessible to the

appropriate transport system for the type of goods stored. This is to

facilitate the movement of goods in and out of the warehouse.

f) Good communication network

A warehouse should have access to good communication network for easy

contact with the clients and suppliers

g) Adequate space

A warehouse should be spacious enough to allow easy movement of

personnel and goods. The space should also be enough to accommodate

the required quantity of goods.

h) Efficient staff

Warehouse staff should be well trained with the necessary skills for

handling the type of goods stored

i) Appropriate special facilities

A warehouse should be equipped with appropriate special facilities for

handling special goods e.g. refrigerators for perishable goods.

j) Proper recording systems

A warehouse should have a good recording system to monitor movement

of goods

k) Compliance with the law

A warehouse should be operated in accordance with the law.

l) Precaution against risks

Precautions against risks such as fire should be taken within the

warehouse. This can be done by providing suitable equipment and

insurance against such risks.

TYPES OF WAREHOUSES

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Warehouses can be classified according to ownership or according to the

goods stored.

When classified according to ownership, warehouses can be categorised

into:

• Private warehouses

• Public warehouses

When classified according to the goods stored, warehouses can be

categorised into:

• Bonded warehouses

• Free warehouses

1) PRIVATE WAREHOUSES

These are warehouses that are privately owned either by individuals or

firms.

They are used to store goods belonging to the owner only.

These warehouses may be owned by producers, wholesalers or retailers

a) Wholesalers’ warehouses

These are warehouses that are owned by the wholesaler.

Wholesalers need warehouses to store the goods they buy in bulk from

producers before they are bought by retailers.

These warehouses enables the retailer to prepare the goods for sale through

packaging, branding, blending and sorting.

b) Producers’ warehouses

These are warehouses that belong to producers.

c) Retailers’ warehouses

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These are warehouses which are owned by large scale retailers to store

their goods as they wait for customers. Such large scale retailers include

supermarkets, hypermarkets, chain stores and departmental stores.

Advantages of private warehouses

a) Eliminates the cost of hiring storage space

b) The owner is tied to the procedures of receiving and releasing goods

c) The owner exercises full control over the warehouse hence he/she

can make major decisions without having to consult anybody

d) The owner may design the warehouse to suit his/her specification

e) The owner can purchase special facilities to handle special goods

f) Gives the owner time to look for market

g) Enable the business to maintain continuous supply of goods

h) The warehouse can be conveniently located

Disadvantages of private warehouses

a) The initial construction cost of the warehouse is high

b) Staff may be under-utilised (idle) during times of volumes of goods

c) Private warehouses may not employ qualified staff to run the affairs

of the warehouse

d) The overhead costs (expenses) may be higher

Circumstances under which traders (retailers and warehouses)

require warehousing facilities

a) When they buy goods in bulk

b) When they don’t have ready market for their goods

c) When public warehouses and other warehouses are located far away

d) When they need to prepare their goods for sale through packaging,

blending, sorting and branding

e) When they need to avoid storage charges

Circumstances under which traders (retailers and wholesalers) may

not require (or require minimal) warehousing facilities

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a) When they deal in perishable goods

b) When demand for the goods is high

c) When their premises are located near customers

d) When they deal in fast moving goods

e) When they deal in goods that require orders

f) When they deal in goods of high value

2) PUBLIC WAREHOUSES

These are warehouses that are owned by individuals or firms for the

purpose of renting space to members of the public who need temporal

storage for their goods.

They are strategically located i.e. near major roads junctions, bus stations,

airports, railway stations etc.

Advantages of public warehouses

a) Goods can be sold while still in the warehouse

b) Gives traders an opportunity to rent space in the warehouse

c) Traders do not have to construct their own warehouses

d) Goods in the public warehouse are insured against risks such as fire

and theft

e) The goods held in the warehouse can be used as collateral security to

access loans from the warehousing firm and other financial

institutions

f) Public warehouses can offer additional services such as bottling,

bagging and repairs to their clients

g) Owners of public warehouses hire qualified staff who ensures proper

operations of the warehouse

Disadvantages of public warehouses

a) The hirer competes for space with other hirers hence he/she can miss

space during peak seasons

b) The owner of the goods is denied the opportunity to physically

handle the goods

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c) The owner of the goods may lose contact with his/her customers if

they buy goods directly from the warehouse

d) The procedure of receiving and releasing goods may be long

e) Continued renting of space in the public warehouse may be

expensive in the long run compared to constructing one’s own

warehouse

f) The location of the public warehouse may not be suitable to the hirer

i.e. they may be far away from the hirer

3) BONDED WAREHOUSES

These are public warehouses which are specifically meant for storing

imported goods as they await payment of customs duty.

Customs duty is the tax that is imposed on imported goods.

These warehouses are located at entry points for goods entering the

country from other countries. Such entry points include airports, seaports

and border towns.

Goods kept in a bonded warehouse are said to be goods under bond or

goods in bond. This means that the owner of the goods has given a bond to

customs duty authorities. A bond is a guarantee that the goods cannot be

released before duty for them is paid.

A bonded warehouse can be owned by the government or by an individual

who is different from the owner of the goods.

If goods are sold while still in the warehouse, the buyer (new owner) takes

the responsibility of paying customs duty.

If goods are re-exported from the warehouse, the owner (importer) does

not pay customs duty.

Goods are stored in the bonded warehouse for a specific period of time. If

this period expires before customs duty is paid by the owner of the goods,

the goods can be auctioned by the customs authorities.

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Once the owner of the goods pays customs duty, he/she is issued with a

release warrant to enable him/her get the goods out of the warehouse.

Features of a bonded warehouse

a) Goods are bonded until custom duty is paid

b) Goods can be re-exported while still in the warehouse

c) Storage charges are made on all goods stored in the warehouse

d) Goods can be sold while still in the warehouse

e) Goods can be inspected and prepared for sale while in the warehouse

f) Goods are released after the production of a release warrant

g) They are usually located at entry points

h) They are usually large in size

i) They are used for storing imported goods

j) Goods are stored in the warehouse for a fixed period of time

Advantages of a bonded warehouse to the importer

a) The importer can prepare the goods for sale while still in the

warehouse

b) The importer can look for market before paying customs duty

c) Some goods lose weight while still in the warehouse, therefore the

importer pays less duty in case duty is based on the weight of the

goods

d) The burden of paying customs duty passes to the buyer in case goods

are sold while still in the warehouse

e) It gives the importer time to look for money to pay for customs duty

f) Security and safety of goods is provided

g) Some goods e.g. wine may improve in quality while still in the

warehouse

h) Storage space in the bonded warehouse is always available

i) Goods can be withdrawn from the warehouse in bits as duty for them

is paid

Advantages of a bonded warehouse to the government

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a) It earns revenue to the government through duty charged on the

goods

b) The government is able to control the entry of harmful goods into the

country

c) Enables the government to verify documents for goods in transit

d) The government is able to control the quality of goods entering the

country

e) Enables the government to control the quantity of goods entering the

country

f) Enables the government to inspect the goods imported

g) Enables the government to check on illegal goods entering the

country

h) Helps the government prevent dumping

Disadvantages of a bonded warehouse

a) Goods are auctioned by customs authorities if the importer fails to

pay customs duty.

b) Warehouse charges may be expensive to the importer

c) Owners of goods (importers) have no control over the operations and

management of the warehouse

d) The importer pays higher duty in the long run when he/she

withdraws goods from the warehouse in bits compared to when

he/she pays duty at once

Differences between a private warehouse and a bonded warehouse

Private warehouse Bonded warehouse

It is owned by an individual It is owned by the government

It stores owner’s goods It stores imported goods

It is located near owner’s

premises

It is located at entry points

No permission is needed when releasing goods

A release warrant is required before goods are released

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No customs duty is paid on

stored goods

Goods are stored awaiting

payment of customs duty

Differences between a public warehouse and a bonded warehouse

Public warehouse Bonded warehouse

It is owned by individuals or

firms

It is owned for the government

It stores clients’ (hirers’) goods It stores imported goods

It is located strategically e.g. at

airports

It is located at entry points

Goods are released after payment of rent charges

Goods are released after a release warrant has been obtained

No customs duty is paid on

goods stored

Goods are stored awaiting

payment of customs duty

4) FREE WAREHOUSES

These are warehouses where tax free goods are kept as they await sale or

collection by owners.

Goods kept in a these warehouses may be locally produced goods which

require no taxation or imported goods which are duty free or whose duty

has already been paid.

NOTE: all other warehouses (private and public) are free warehouses

since tax is not paid on goods stored in them.

Advantages of free warehouses

a) The goods cannot be auctioned since there is no taxation on the

goods

b) It is cheaper to store goods in free warehouses since customs duty is

not paid on the goods

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c) Clearing goods from a free warehouse is easy since a release warrant

is not required

d) They are located in places convenient to the hirers

Disadvantages of free warehouses

a) The government does not benefit from free warehouses since

customs duty is not paid

b) Some traders may store dutable goods in free warehouses so as to

avoid paying taxes

c) Illegal goods maybe be stored in free warehouses since they are not

strict on inspection and scrutiny of goods

The processing of warehousing

Warehousing involves three key stages. These are:

a) Receipt of goods

It involves ordering for the goods, inspecting them on arrival and

accepting them into the warehouse. Receipt of goods involves the

following activities

• Ordering goods from suppliers

• Inspecting the goods

• Checking the documents which accompany the goods for their

authenticity

• Coding goods

• Recording incoming goods

• Accepting goods into the warehouse

b) Storing the goods

It involves placing goods in the appropriate storage facilities and regularly

inspecting them to ensure they are in good condition

Activities carried out during this stage includes:

• Providing handling facilities

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• Regular checking to ascertain conditions of goods

• Regular stock taking

c) Protecting goods

Involves protection of goods from damages. Activities carried out at this

stage include:

• Providing necessary preservation facilities

• Regular checking of goods to ascertain their conditions

• Hiring personnel to look after the goods

d) Releasing the goods

It involves issuing the goods to the owner upon payment of customs duty.

Releasing goods involves the following activities:

• Receiving orders from customers

• Inspecting outgoing goods

• Recording outgoing goods

• Preparing goods for resale through parking them

• Passing dispatches to the accounts department

Advantages of systematic arrangement of goods in the warehouse

a) It minimizes breakages

b) It minimizes pilferage

c) It minimizes contamination

d) It ensures proper utilization of space

e) It is easier to access goods

f) It is easy to detect illegal goods

TRENDS IN WAREHOUSING

a) Use of machines to handle goods

b) Storage of goods using racks to allow easy retrieval

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c) Environmental pollution due to destruction of unwanted goods.

TOPIC 6: INSURANCE

CONTENTS

• Introduction

• Pooling of risks

• An insurance contract

• Importance of insurance

• Terms used in insurance

• Principles of insurance

• Classes of insurance

• Re-insurance

• Co-insurance

• Procedure of obtaining an insurance

• Procedure of making an insurance claim

• Insurance and gambling

INTRODUCTION

Insurance is a contract between an individual or an organisation and the

insurance company where the insurance company undertakes to protect the

individual or the organisation against loss arising from the occurrence of

the risks insured against.

The individual or the organisation taking the insurance cover is known as

the insured whereas the company giving the insurance cover is known as

the insurer.

The insured must make regular payments to the insurer to effect insurance.

These regular payments are known as premiums.

The insurance uses the number of people insured a particular risk and its

past experience as the basis for determine the amount of premiums to be

charged.

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Examples of insurance companies in Kenya include:

• Blue shield insurance company

• Amaco insurance company

• Britam insurance company etc.

How insurance works

Insurance companies operate on the law of large numbers where:

a) Many people are insured against the same risk

b) Each person contributes a small amount of money (premium) to

cover the risk

c) The amount of money contributed by all persons is collected together

into a pool

d) Any person who suffers a loss from the insured risk is compensated

from the money collected in a pool

POOLING OF RISKS

Refers to the practising of grouping together all the people insured

against the same risk by the insurance company.

The pooling or risks spreads the risk over a large number of people,

hence reducing the burden on each of them.

Benefits of pooling of risks to the insurance company

a) It enables the insurance company to create a common pool of funds

out of the premiums paid

b) It enables the insurance company to compensate those who suffer

loss when the risks insured against occur

c) It enables the insurance to spread the risks over a large numbers of

insured thereby reducing the burden on each of them

d) Surplus funds from the pool can be invested in the economy by the

insurance company

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e) The insurance company can use funds from the common pool to its

operational costs

f) It enables the insurance company to calculate the insurance company

to be paid by each insured

g) It enables the insurance to determine whether to re-insure itself with

another insurance company or not

Characteristics of an insurance scheme

a) There must be a large number of people exposed to the similar risk

b) The possibility of calculating premiums must exist

c) Occurrence of the loss should be accidental

d) The insured must suffer a financial loss

e) The insured risk must not be catastrophic

INSURANCE CONTRACT

A contract is a legally binding agreement between two or more parties.

An insurance contract is therefore a legally binding agreement between the

insurer and the insured where each of them agrees to undertake certain

specified obligations.

An insurance contract must meet the following conditions in order to be

legally binding

a) It must be for a legal purpose i.e. one cannot insure illegal activities

or items such as bhang.

b) The parties must have the legal capacity to contract i.e. they must be

mature (above 18 years), sane and not bankrupt.

c) The terms and conditions of the contract must be acceptable to both

the insured and the insurer.

d) There must be a payment and a consideration. The payment is the

premiums paid by the insured whereas the consideration is the

insurance cover given by the insurer.

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IMPORTANCE OF INSURANCE

a) Creates employment

Insurance creates employment opportunities either directly or indirectly. It

creates employment opportunities directly through the employment of

people in insurance companies. On the other hand, it creates employment

opportunities indirectly by enabling business to continue operating which

in return employ people.

b) Creates confidence in investors

Insurance creates confidence in investors thereby encouraging them to

venture in risky but profitable businesses.

c) Earns revenue to the government

The government earns from insurance companies by taxing the profits they

make and the salaries paid to their employees.

d) Ensures continuity of businesses

Insurance enables businesses to continue operating throughout by

compensating them whenever the risks insured against occurs

e) Spreads risks

Through pooling of risks, insurance spreads risks in that each of the

insured contributes a small amount of money into a common pool out of

which those who suffer losses are compensated. As such they spread the

burden (loss) to all the insured.

f) Encourages savings

The amount of money contributed as premiums may act as savings

especially in life assurance polices

g) Invests in the economy

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Insurance companies may invest their surplus funds in the economy e.g. by

buying shares in order to earn more incomes.

TERMS USED IN INSURANCE

Some of the commonly used terms in insurance are discussed below:

a) The insurer

This is the insurance company that undertakes to provide the insurance

cover

b) The insured

This is the individual or an organisation who takes insurance cover

c) Insurance

This is a written contract between the insured and the insurer where the

insurer undertakes to protect the insured against loss arising from the

occurrence of the risk insured against.

d) Premium

This is the specified amount of money which is paid by the insured to the

insurer at regular intervals in return for the insurance cover.

e) Risk

These are perils or events against which an insurance cover is taken. They

include fire, theft, accident etc.

There are four types of risks:

• Pure risk

• Speculative risk

• Insurable risks

• Uninsurable risks

i. Pure risk

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This is a risk which results in a loss it occurs and results in no gains if it

doesn’t occur e.g. accident.

ii. Speculative risk

This is a risk which results in a loss or a gain when it occurs e.g. risks

involved in the stock exchange.

iii. Insurable risks

These are events or risks which an insurance firm will accept to insure.

Examples include fire, accidents, theft etc. Their features include the

following:

• Their probability of occurrence of the risk may be predicted

• Financial loss arising from their occurrence may be determined

accurately

• The number of people who are likely to suffer loss from their

occurrence within a given period of time can be predicted.

• The risk must not be under the control of the insured

• The risk must be pure and not speculative

• The risk must not be unlawful

• A large number of people must be exposed to the same risk

• The risk must unlikely to affect all the insured at once

• The loss must be significant enough to warrant insurance

• The insured must have insurable interest in the subject matter

• The value of the insured should be easily determined

iv. Uninsurable risks

These are risks or events which an insurance firm would not be willing to

insure e.g. death. Their features include the following:

• Their probability of occurrence may not be accurately predicted

• The resulting financial loss may be too enormous to compensate

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• The number of people likely to suffer the loss is not accurately

predictable

f) Actuaries

These are people employed by the insurance company to compute

expected losses and calculate the value of premiums

g) Claim

This is a demand for compensation from the insurance company by the

insured for loss arising from the occurrence of the insured risk

h) Policy

This is a document that contains the terms and conditions of the insurance

contract

i) Actual value

This is the true value of the property insured

j) Sum insured/sum assured

This is the financial value of the subject matter insured as stated by the

insured at the time of taking the insurance cover.

k) Surrender value

This is the amount of money that is refunded to the insured by the

insurance company in case the insured terminates payment of premiums

before the insurance contracts matures. The amount compensated is

usually less than the total amount of premiums already paid.

l) Grace period

This is the time allowed between the date of signing the insurance contract

and the date of payment of the first premium. The grace period is usually a

maximum of 30 days

m) Proposer

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This is the person who is wishing to take out an insurance cover. He/she is

the prospective insured.

n) Cover-note (binder)

This is a document that is given to the insured by the insurer on payment

of the first premium while awaiting processing of the policy.

The cover-note acts as an evidence that the insurer has accepted to cover

the proposed risk.

p) Annuity

This is the amount of money that the insurance company agrees to pay the

insured annually until the insured’s death.

Annuity is paid when the insured saves a large amount of money with the

insurance company and agrees with the insurance company that on

maturity of the insurance contract, he/she be paid a specific amount of

money annually until his/her death.

q) Consequential loss

This is loss that is suffered by the insured as a result of the disruption of

business caused by the occurrence of the risk insured against

r) Assignment

This is the transfer of an insurance policy by an insured to another person.

The new policy holder is known as the assignee. The assignee takes over

all the claims arising from the transferred policy

s) Beneficiaries

These are people named in life assurance policy by the insured who are to

be paid by the insurance company in the event that the insured dies.

t) Nomination

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This is the act of designating (identifying) beneficiaries. The designated

people are known as nominees

u) Average clause

This is a clause that is included in the policy to discourage under-insurance

(insurance property at a lower value than its actual value).

The clause provides that the insured can only recover the proportion of the

loss as the value of the policy bears on the property insured.

The formulae used to calculate the amount of compensation when the

property is under-insured is:

Compensation = (value of the policy × loss) ÷ value of property

Example: Musa insured a car valued at Ksh 500,000 against an accident

for Ksh 400,000. An accident occurred and the car was damaged. The loss

suffered was estimated at Ksh 200,000. Calculate the amount of

compensation Musa will receive from the insurance company.

Compensation = (400,000 × 200,000) ÷ 500000 = Ksh 160,000

v) Double insurance

This refers to where the insured takes insurance policies with more than

one insurance companies in respect of the same risk and subject matter.

E.g. insuring a house against the risk of fire with two insurance companies.

In this case, the insurance companies will share the compensation

proportionate to the value of the subject matter insured with them.

w) Self-insurance

This is where an individual or an organisation insures oneself/itself by

saving and accumulating funds to meet losses that may occur from certain

risks rather than insurance the risks with the insurance company

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x) Proposal form

This is a form that is filled by the prospective insured seeking to get an

insurance cover from the insurance company.

PRINCIPLES OF INSURANCE

These are the guidelines which govern the relationship between the

insured and the insurer.

These principles are discussed below:

a) The principle of utmost good faith (uberrimae fidei)

According to this principle, the person taking out insurance cover should

disclose all the material facts relating to the person or the property being

insured.

This disclosure is done at the time of entering into the contract. Any

changes during the contract period must be communicated to the insurance

company.

All relevant material fact must be disclosed by the insured whether he is

asked to or not.

The aim of this principle therefore is to ensure that the insured discloses all

the relevant material facts when taking the insurance policy.

Disclosure of all relevant material facts enables the insurance company to:

a) Decide whether to offer insurance cover or not

b) Determine the amount of premiums to be paid

If the insured fails to give all the material facts honestly and truthfully, the

insurance company has the right to refuse to compensate the insure when

the risk insure against occurs

b) Principle of insurable interest

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According to this principle, one should only insure property whose

damage (loss) as a result of the occurrence of the risk insured against will

result in a financial loss to him/herself.

According to this principle therefore one can only insure his/her own

property or any other property in which he/she has interest.

Where the subject matter (property) to be insured is owned by more than

one person, each person can insure only to the extent of his/her interest in

the subject matter.

The aim of the principle is to discourage people from insuring other

people’s property.

c) Principle of proximate cause

According to this principle, for the insured to be compensated, there must

be a very close relationship between cause of the loss and the risk insured

against i.e. the loss must arise directly from or be closely connected to the

risk insured. For example is a person insures his vehicle accident and it is

stolen, he/she cannot be compensated

The aim of this principle is to ensure that compensation is made for losses

arising from risks insured against only

d) Principle of indemnity

To indemnify means to put one in the financial position he/she was in just

before the loss occurred.

According to this principle therefore, the insured should be compensated

only to the extent of the actual financial loss suffered.

The aim of this principle is to ensure that the insured does not benefit from

the misfortune.

For example, if a vehicle is insured for Ksh 500,000 against theft, the

insurance will only compensate up to a maximum of Ksh 500,000 in the

event that the vehicle is stolen

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NOTE: the principle of indemnity does not apply to life assurance policies

as it is not possible to restore life

e) Principle of subrogation

To subrogate means to step in the place of or to find a substitute for.

According to this principle, whatever remains of the property insured after

the insured has been compensated according to the terms of the policy

becomes the property of the insurance company.

For example, if a vehicle which is insured for Ksh 300,000 is totally

damaged and the owner fully compensated, any scrap metal left behind

after compensation becomes the property of the insurer.


the misfortune in accordance with the principle of indemnity.

f) Principle of contribution

This principle operates in a situation where the insured has taken policies

with more than one insurance companies covering the same risk (double

insurance).

According to this principle, in the event of a loss, all the insurance

companies would contribute proportionately in order to indemnify the

insured.

The total amount received from all the insurers should be equal to the loss

suffered in compliance with the principle of indemnity.


the misfortune in accordance with the principle of indemnity.

CLASSES OF INSURANCE

There are two broad categories of insurance, namely:

a) Life assurance

b) Property insurance

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a) LIFE ASSURANCE

This is a form of insurance cover that is taken to cover personal life. It

covers the risk of death or incapacitation.

Death as a risk is inevitable hence the word “assurance” is used.

Life assurance is not a contract of indemnity.

The value of the insurance policy is determined by the ability of the

insured tom pay premiums.

Types of life assurance policies

The common types of life assurance policies include the following:

a) Term insurance policy

b) Whole life assurance policy

c) Endowment insurance policy

d) Annuities

e) Statutory scheme

f) Miscellaneous life assurance policies

a) Term insurance policy

This is a form of life assurance that provides protection within a specified

period of time whereby if the policy holder dies within this period,

compensation is offered to beneficiaries.

However if the assured does not die within the specified period, no

compensation is offered

Term assurance covers short periods of time e.g. 1 year, 5 years 10 years

etc.

Term assurance is purely for protection. It is not a savings plan.

b) Whole life assurance policy

This is a type of insurance policy in which the assured pays premiums

until he/she dies.

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Upon death of the assured, his/her beneficiaries are paid the sum assured

as indicated in the policy.

Whole life assurance also covers disabilities due to illness or accidents in

that if the assured is disabled during the period when the policy is in form,

the insurer will compensate him/her for the income lost.

Premiums can be paid over an agreed period of time or in a single

payment.

c) Endowment insurance policy

This is a type of life assurance policy where the assured pays premiums

regularly for a specified period of time. Sum assured is paid at maturity of

the policy.

If however the assured dies before the policy matures, he/her beneficiaries

are paid the sum assured.

Endowment insurance can be terminated by the assured before maturity, in

this case the assured is paid the surrender value

Advantages of endowment insurance policy

a) It is a savings plan since the assured can be paid the sum assured

b) Provides financial security to the beneficiaries in case of early death

of the assured

c) It provides financial security to the assured at retirement

d) It can be terminated before maturity by the assured

e) It is a form of investment since it earns interest in most cases

f) The assured enjoys a special tax relief

g) It can be used as a collateral security to acquire a loan

Differences between a whole life policy and endowment policy

Whole life Endowment

Compensation is paid after the

death of the assured

Compensation is paid after the

expiry of an agreed upon period

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Premiums are paid throughout

the life of the assured

Premiums are paid for an agreed

period of time

Benefits go the beneficiaries Benefits may go to the assured if

he/she is still alive at the

maturity of the policy

Aimed at providing financial

security to the dependants

Aimed at providing financial

security to the assured and the

dependants

d) Annuities

This is a type of life assurance policy where the assured (annuitant) pays a

certain sum of money to the insurance company in return for an annual

payment of a specified amount of money from the insurance company for

a specific period of time or until his/her death.

e) Statutory schemes

These are insurance schemes which are offered by the government to

provide welfare to the members of the scheme. Such welfare may be in the

form of medical services or retirement benefits.

They are mostly offered to people who are employed.

A member and the employer both contribute certain amounts of money to

the scheme at regular intervals.

Examples of statutory schemes in Kenya include:

• National social security fund (NSSF)

• National hospital insurance fund (NHIF)

f) Miscellaneous life assurance policies

Under this category of life assurance,

a) One can insure anybody whose life he/she has an interest e.g. a wife,

a child or a husband

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b) Group life policies can be taken to cover a group of people e.g. an

employee can take a group policy over his/her employees

Characteristics of life assurance policy

a) It may cover life until death or for a specific period of time

b) It deals exclusively with life

c) It is usually a long term contract which does not require annual

renewal

d) Its value depends on the ability of the assured to pay premiums

e) It may be used as a security when acquiring loans

f) It can be assigned to beneficiaries

g) It has surrender value

h) It has a maturity date

i) It may be a savings plan

Circumstances under which life assurance policies may be terminated

a) When the assured fails to pay premiums as agreed

b) When the assured terminates the policy before maturity

c) When the assured dies

d) When the policy matures

b) GENERAL (PROPERTY OR NON-LIFE) INSURANCE

This is a class of insurance that covers property against various risks

which may result to loss or damage.

It is a contract of indemnity which requires annual renewal.

Examples of risks insured under property insurance include; fire, accident

and marine. Each of these is discussed below:

1) FIRE INSURANCE

This is a type of insurance that covers loss or damage of property caused

by fire. Property covered under fire insurance include; stock, machines,

equipment and building.

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For the insured to be compensated under fire insurance, the following

conditions must be met:

a) Fire must be accidental

b) Fire must be the immediate cause of the loss and not the incidental

loss

c) The loss must be caused by the actual fire.

Types of fire insurance policies

There are three types of fire insurance policies;

a) Consequential loss (profit interruption) policy

b) Sprinkler leakage policy

c) Fire and related perils (material damage) policy

a) Consequential loss( profit interruption) policy

This is a type of fire insurance policy which is aimed at indemnifying the

insured due to loss of profit as a resulting of the interruption of business

activities as a result of fire.

b) Sprinkler leakage policy

This is a type of fire insurance policy which provides cover against loss or

damage caused to goods or premises by accidental leakages from fire

fighting sprinklers.

Fire fighting sprinklers are devices which are installed in buildings to

provide automatic mechanisms for fighting fire outbreaks

c) Fire and related perils( material damage) policy

This is a type of fire insurance policy which covers buildings and their

contents. Such buildings may include; shops, warehouses, offices and

factories

2) ACCIDENT INSURANCE

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This is a type of insurance which covers all type of risks which occur by

accident.

Types of accident insurance policies

There are two types of accident policies;

a) Motor policies

b) General accident policies

a) Motor policies

These are policies which are aimed at covering vehicles from losses

arising from accidents.

Motor policies requires annual renewal.

Policies offered under motor policies include:

• Third party insurance

• Third party fire and theft

• Comprehensive policy

a) Third party insurance

This is a policy that covers losses caused by the vehicle to other people,

other vehicles and to property as a result of the accident.

The policy does not cover the vehicle and the owner.

In Kenya, this policy is mandatory for all vehicles.

NOTE:

• First party: refers to the driver and the vehicle

• Second party: refers to the passengers and goods carried in the

vehicle

• Third party: refers to road users and property outside the vehicles

b) Third party fire and theft

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This is a policy where compensation is offered to third parties as well as

the vehicle itself in case of loss or damage caused by fire or theft.

c) Comprehensive policy

This is a policy which covers damage or loss caused by the vehicle to first,

second and third parties as a result of an accident.

It also covers loss of the insured vehicle through fire and theft.

b) General accident policies

This is a form of insurance which provides cover for a wide range of risks.

These risks are discussed below:

a) Personal accident cover

This is a policy that covers partial or total physical disability caused to a

person due to injury or loss of income as a result of an accident.

The policy offers the following:

• A lumpsum in case the insured loses part of body

• Regular payments in case of partial or total disability

• Payment to beneficiaries in case the insured dies in an accident

• Meeting the medical bill in case the insured is hospitalised

b) Workmen’s compensation cover (employer’s accident liability

cover)

This is a policy that covers employees who may suffer injuries while on

official duty.

c) Cash or goods in transit cover

This is a policy that provides cover for loss of cash or goods while being

transported.

d) Theft and burglary cover

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This is a policy that provides cover for losses arising from the activities of

robbers and thieves. For example if robbers break into business premises

and take away goods, the insurer will compensate the insured for loss of

goods and damage to business premises.

e) Bad debt cover

This is a policy that covers the business against losses arising from failure

of debtors to pay their debts.

f) Public liability cover

This is a policy that covers losses, injuries or damages caused accidentally

by a business or its employees to the members of the public. For example

if a building collapses injuring passers-by in the process, the insurer will

compensate the people who were injured.

g) Fidelity guarantee policy

This is a policy that covers the owner of the business against losses arising

from activities of his/her dishonest employees.

h) Consequential loss policy

This is a policy that provide cover against loss of profits resulting from

interruptions in business causing the business to close down temporarily.

3) MARINE INSURANCE

This is a type of insurance that provide cover for the ship, other water

vessels and cargo against sea perils that may lead to financial loss.

Examples of sea perils include storms, fire and sinking.

Policies available under marine insurance include the following:

a) Marine hull policy

This is a policy that covers the ship against loss or damage as a result of

risks at sea. These risks include; storm, fire, collision and capsizing.

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b) Marine cargo policy

This a policy that covers cargo against loss or damage while being

transported by ship

c) Part policy

This is a policy that covers a specific peril when the ship is being loaded,

off-loaded or serviced

d) Voyage policy

This is a policy that covers the ship or cargo on a particular journey. The

insurer may not compensate if the destination is changed unless such

change was necessary to save the ship, cargo or human life.

e) Floating policy

This is a policy where several shippers pay a lumpsum to cover their ships

while in transit. As ships make shipments, the amount of insurance for a

particular shipment is deducted from the lumpsum. The policy collapses

when the sum insured equals the total value of all the shipments.

f) Time policy

This is a policy that covers losses arising within a specified period of time.

g) Mixed policy

This a policy that covers ships against losses while on a specified voyage

and specified time.

h) Fleet policy

This is a policy which covers a fleet of ships against losses under one

policy. This is possible where there are many ships belonging to one

organisation

i) Composite policy

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This is a policy that provides cover to one specific ship which is insured

by several insurance companies. This is necessary where the sum insured

is too large for one insurance company to cover.

j) Construction (builders) policy

This is a policy which covers the risks that a ship is exposed to while it is

either being constructed, tested or delivered.

k) Freight policy

This is a policy that covers the ship owner against losses arising from

failure by the hirer of the ship to pay freight charges

l) Third party liability

This is a policy that covers claims that may arise from loss caused to other

people and property by the ship.

m) Port policy

This is a policy that covers the ship against sea perils when it is at the port

Marine losses

Losses encountered in insurance can be classified into two;

a) Total loss

b) Partial losses

a) Total loss

Refers to total damage to the ship or on the cargo or on both.

Total loss may be classified into two:

• Constructive total loss: this occurs when the insured is extensively

damaged and as a result it is abandoned because the cost of salvaging

it would be more than the wreckage.

• Actual total loss: this occurs when there is total damage to the ship,

on the cargo or both.

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b) Partial loss

Refers to where the ship or the cargo is partly damaged. It is also known

as average.

Partial loss may be classified into two:

• Particular average: this is an accidental loss or damage on either

the ship or the cargo.

• General average: this is loss that occurs when actions taken to save

the ship and the cargo result in a loss

Characteristics of general insurance

a) The policy cannot be assigned to somebody else

b) The amount of premiums depends on the value of the property and

the degree of the risk.

c) It is a contract of indemnity

d) It is usually a short term contract which requires periodic (annual)

renewal

e) It requires the insured to have insurable interest in the property being

insured

f) It has no surrender value

Differences between property (general) insurance and life assurance

Property (general) insurance Life assurance

The policy cannot be assigned to

a beneficiary

The policy can be assigned to a

beneficiary

The amount of premiums depends on the value of the

property and the degree of the

risk

The amount of premiums depends on the sum assured and

the ability of the assured to pay

Deals exclusively with property Deals exclusively with life

It is usually a short term contract

which requires annual renewal

It is a long term contract which

does not require annual renewal

Has no surrender value It has surrender value

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It is not a savings plan It is a savings plan

It is a contract of indemnity It is not a contract of indemnity

Causes of over or under

insurance may arise

There is no under or over

insurance

Nominees are not named Nominees are named

Factors influencing the amount of premiums to be paid

a) Health of the insured

The amount of premiums will he higher when health of the insured is poor

compared to when he/she is healthy

b) Frequency of occurrence of insured risk

The amount of premiums will be higher when the probability of

occurrence of the insured risk is higher than when the probability is low

c) Extent of previous losses

The amount of premiums will be higher if the extent of damage caused by

the insured risk previously was high compared to when the extent of

damage was low

d) Value of property insured

The higher the value of the property, the higher the amount of premiums

and vice versa

e) Occupation of the insured

An insured person with a well-paying job will pay higher premiums

compared to the one with a poor paying job.

f) Age of the insure or property

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Older people will pay higher premiums than higher people than younger

people. On the other hand, the insured will pay low premiums for older

properties compared to newer properties.

g) Period to be covered by the policy

A longer period attracts lesser premiums than a longer period

h) Residence of the insured

Insured who reside in urban areas tend to pay higher premiums than the

ones residing in rural areas. This is because those residing in urban are

assumed to be financially stable than those residing in the rural areas

RE-INSURANCE

Re-insurance means to insure again. Re-insurance therefore refers to

where insurance companies insure themselves with other insurance

companies known as re-insurers.

Insurance companies usually re-insure themselves when the value of the

property insured with them is high or when the chances of the risk

occurring are very high.

In the event of the risk insured against occurring, the re-insurer helps the

insurance company to compensate.

In Kenya, all insurance companies are required by law to re-insure

themselves with the Kenya re-insurance company.

Circumstances (reasons) that necessitate re-insurance

a) When the value of the property insured is high

b) When chances of the risk insured against occurring are high

c) When the loss from the damage caused by the occurrence of the risk

is projected to be high

d) When the insurance company has insured many different risks

e) When there is need to spread the risk

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f) When the government requires all insurance companies to re-insure

themselves

g) When the insurance company wishes to share liability in case of a

major loss

Features of a re-insurance company (e.g. Kenya re-insurance

company)

a) It commands large financial resources

b) Re-insurance companies are empowered by law to insure other

insure other insurance companies

c) Government has a stake in the re-insurance company

d) Re-insurance company only deals with corporate insurance clients

e) It guarantees compensation

CO-INSURANCE

Refers to where the insurance company insures the same property for the

same risk with other insurance companies.

Co-insurance is necessary when the value of the property is high to be

covered by one insurance company.

Each insurance company will provide cover for only a portion of the value

of the property insured.

The insurance company that accepts to insure the property or the one the

highest proportion is known as the leader while the others are called co-

insurers.

In the event of the risk occurring, the leader will ascertain the loss and

apportion it to each of the co-insurers in accordance to the value of the

property covered by each of them for compensation purposes.

DOUBLE INSURANCE

Refers to where the owner of the property (insured) insures the same

property for the same risk with two or more insurance companies.

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The property may be insured with each insurance company for the full

value or each firm taking a share of the value.

In the event the risk insured against occurs, each insurance company only

a share of the loss suffered based on the proportion of the value insured.

UNDER-INSURANCE

This is where the sum insured is less than the actual value of the subject

matter insured. In the event of the actual loss, the insured will be

compensated the lesser of the sum insured or the actual loss suffered

OVER-INSURANCE

This is where the sum insured is higher than the actual value of the subject

matter insured. In the event of the actual loss, the insured is compensated

the less of the actual loss or the actual value of the subject matter.

PROCEDURE OF OBTAINING AN INSURANCE POLICY

The process of obtaining an insurance policy involves five key stages

which are outlined below:

a) Filling a proposal form

A person intending to take an insurance policy will first fill a proposal

form which will be obtained from the insurance company he intends enter

into contracts with.

The applicant is expected to fill the form with the highest level of honesty

by disclosing all the relevant facts in compliance with the principle of

indemnity.

Information given in the proposal form is used by the insurance company

to calculate the amount of premiums to be paid by the insured.

b) Determining the premiums to be paid

On receiving the proposal form, the insurance company uses the facts

stated in the form to decide whether to accept to cover the risk. If the

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insurance company accepts to cover the risk, it will calculate the amount

of premiums to be paid based on the information provided in the proposal

form.

Where necessary, arrangements may be made to inspect the subject to be

insured

c) Payment of the first premium

After the insurance company has accepted to cover the risk and the

premiums calculated, the insured pays the first premium.

d) Issue of the cover note (binder)

Upon paying the first premium, the insured is issued with a cover note by

the insurer. The purpose of the cover note is to serve as an evidence that a

contract has been entered into between the insured and the insurer.

The cover note is valid for a period of 30 days after which the policy is

issued.

e) Issuing of the policy

The policy is the actual document of contract between the insured and the

insurer. It contains the terms and conditions of the insurance contract.

The policy is issued within 30 days to replace the cover note.

PROCEDURE OF MAKING AN INSURANCE CLAIM

This is the process followed by the insured when claiming compensation

from the insurer. This process involves five key stages which are discussed

below:

a) Notifying the insurer

The insured should inform the insurer immediately the risk insured occurs.

b) Filling a claim form

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After being notified of the occurrence of the risk, the insurer issues a claim

form to the insured. The insured will then fill the form by giving all the

details relating to the occurrence of the risk. The fully filled claim form is

retained by the insurer.

c) Investigation of the claim

On receiving the claim form, the insurer undertakes to investigate the

cause of the occurrence of the risk so as to ascertain whether the cause of

the loss has any direct connection with the risk covered.

d) Preparation of the assessment report

Once the insurance company establishes that the claim is valid, it prepares

a report concerning the extent of the loss suffered. This report is prepared

by experts known as assessors

e) Payment of the claim

Upon receiving the assessment report, the insurer makes arrangements to

pay insured. This payment concludes the contract between the insured and

the insurer.

INSURANCE AND GAMBLING

Gambling refers to the activity or practice of playing a game of chance for

money or other stakes. In most cases insurance is erroneously taken to be

the same as gambling in that small amounts are contributed by many

people into a common fund which later benefits a few people.

Insurance however differs with gambling in the following ways:

Insurance Gambling

The person taking the policy

should have insurable interest

A gambler doesn’t need

insurance interest

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The aim of insurance is to

indemnify the insured

The aim of gambling is to

improve the financial position of the gambler

The insured is required to pay

regular premiums to the insurer for the insurance cover to be in

force.

Gambling money is paid at once

Insurance involves pure risks Gambling involves speculative risks

The event of loss may not occur The event of bet must happen to

determine the winner and the loser

Reasons for terminating an insurance contract

a) When the insured has not acted with utmost good faith and is

discovered by the insurer

b) When the risk insured has occurred and compensation has been paid

c) When the insurance contract matures

d) When the insured decides to terminate the contract

e) When the court of law orders termination of the contract thus

rendering it null and void

f) When the insurance company is wound up

g) When the insured ceases to have insurable interest on the property

e.g. in case the property is sold

TRENDS IN INSURANCE

a) Introduction of education policies

b) Introduction of funeral and benevolent funds

c) Introduction of medical insurance

TOPIC 7: PRODUCT PROMOTION

CONTENTS

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• Introduction

• Importance of product promotion

• Methods of product promotion

• Sales promotion

• Ethical issues in product promotion

• Trends in product promotion

INTRODUCTION

Product promotion refers to the use of various methods and techniques to

inform, influence and persuade consumers to buy and consume the

products.

A product is a good or a service produced for the purpose of satisfying

human wants. A product can also be an idea.

PURPOSE OF PRODUCT PROMOTION

a) Introduces new products

Product promotion aims at providing information about new products and

persuades consumers to buy them.

b) Highlights the benefits of a product

Product promotion aims at providing information about the benefits of the

product to the consumer

c) Monitors consumer loyalty

Product promotion aims at ensuring that consumers continue buying the

product.

d) Stimulates demand

Product promotion encourages the consumption of the product thereby

increasing sales

e) Creates awareness

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Product promotion aims at educating the consumer on the features of the

product, its quality and its usage.

f) Counters competition

Product promotion may enable the firm outdo its competitors by gaining a

greater market share for the product

g) Improves the image of the business organisation

Product promotion is used as a strategy of marketing the business

organisation hence improving its image

h) Persuades consumers to buy the product

Product promotion aims at convincing consumers that the product will

fulfil their needs hence influencing them to buy the product.

i) Reminds consumers about the existence of the product

Product promotion aims at reminding consumers about the continued

existence of the product so as to encourage them to keep buying the

product.

METHODS OF PRODUCT PROMOTION

Methods of product promotion are the activities that are carried out by

businesses in order to increase the demand for their products.

Common product promotion methods include the following

a) Personal selling

b) Advertising

c) Publicity

d) Public relations

e) Point of purchase (window) display

f) Direct mail advertising

g) Catalogue

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h) Guarantee

i) Discount

j) Loss leader

k) Psychological selling

l) Coupons

m) Credit facilities

n) After-sale-services

a) PERSONAL SELLING

This is a method of product promotion where a sales person (sales

representative) presents a commodity to the consumer with the aim of

convincing the consumer to buy.

To be able to sell, the sales person should do the following:

• Gain the attention of the consumer

• Arouse the interest of the consumer in the product

• Arouse the desire of the consumer to buy the product

• Convince the consumer to buy the product

Qualities of an effective sales person

a) He/she should have an attractive personality

b) Should have knowledge about the product

c) Should be polite

d) Should be honest

e) Should be able to assess the behaviour of different customers

f) Should be well educated so as to cope with customers of different

educational backgrounds

g) Should have good communication skills

h) Should be smart in appearance

Circumstances under which personal selling is suitable

a) When introducing a new product

b) Where demonstration on the use of the product is required

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c) When the product is expensive and durable e.g. cars

d) Where the market consists of few customers who can be easily

accessed

e) When the product is designed tom meet customers’ specifications

f) When the firm can afford to hire sales persons

g) When the customers are concentrated in one area.

Steps involved in personal selling

Personal selling involves the following steps:

a) Identifying the prospective customers

Potential customers are referred to as prospects. Potential customers can be

identified through the following methods:

• Analysing the organisation’s past customers records

• Reading newspapers

• Interviews and meeting

b) Preparing the presentation

The sales person should gather as much information about the product as

possible and then present this information to the prospective buyer.

c) Establishing customer contacts

The sales person should an appropriate time when the prospective

customer is available and likely to attend the sales person

d) Arousing interest in the product

The sales person should use the appropriate approach and language to

arouse the prospective customer’s interest in the product.

e) Dealing with objections

Objections are the reactions of the prospective customer. The sales person

should be prepared to deal with objections. The objections may relate to

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price, quality, quantity and design. The objections must be dealt with

properly otherwise the prospective customer will decide not to buy.

f) Closing the sale

This involves the sales person asking the prospective customer to buy the

product. This should be done in a friendly way.

g) Offering after sale services

Once the sale has been made, the sales person should make a follow up to

ensure that all the after sale services promised to the customer have been

offered. Such services may include; transportations, installations and

repairs.

Methods of personal selling

These are the ways in which personal selling is carried out. These methods

include the following:

• Sales persons approaching customers

• Shows, trade fairs and exhibitions

• Showrooms

• Field sales

• Free gifts

• Free samples

1) Sales persons approaching customers

This is where the sales persons physically approach the prospective

customers to explain the details of the product and even demonstrate the

use of the product with the aim of convincing the customer to buy the

product.

2) Shows, trade fairs and exhibitions

A trade fair refers to an event where producers or dealers in a given class

of products show their products to the prospective buyers with the aim of

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convincing them to buy. An exhibition on the other hand is an outdoor

public display of products.

During shows, trade fairs and exhibitions, sales persons demonstrate and

explains the features of the products to the prospective buyers. This

enables the firm to sell their products and attract new customers.

Role of shows, trade fairs and exhibitions

a) Enables producers and traders to display their products for sale

b) Gives an opportunity for producers and traders to advertise their

products

c) Gives an opportunity for producers and traders to attract with their

customers so as to answer their questions

d) Enables producers and traders to launch new products in the market

e) Enables traders to compete fairly

f) Enables producers to get new ideas on how to improve their products

Advantages

a) Gives customers an opportunity to compare various products before

they decide on the one to buy

b) Gives sales persons an opportunity to demonstrate and explain

various features of their products

c) The firm is able to get feedback from customers immediately

d) Enables the organisation to assess whether their product is popular or

not based on the number of people who visit their stall

Disadvantages

a) Stalls may be expensive to hire

b) It is tiresome to sales persons as they are forced to explain and

demonstrate several times since customers don’t visit the stall at the

same time

c) Shows, trade fairs and exhibitions are not organised oftenly hence

they cannot be relied on as a method of promoting sales.

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3) Showrooms

These are large rooms in which products for sale are displayed for sale to

prospective customers.

Showrooms usually deal with bulky and durable products e.g. cars.

Customers who visit the show rooms get the necessary details from the

sales persons concerning the displayed product.

Advantages

a) The seller is able to interact with customers and get immediate

feedback from them

b) Customers are able to get clarifications from the sales persons before

deciding to buy the product

c) It is a cheap method of product promotion

d) Enables the demonstrations on the uses of the product

e) Customers can be advised on the type of goods to buy

Disadvantages

a) Showrooms are not accessible to many people since they are mostly

located in urban centres

b) Putting up or hiring a show room is expensive

c) Showrooms require security which may be expensive to provide

d) Customers may tamper with the products in the show room

4) Free gifts

A gift is an item which is given to a customer for free after buying a given

product worth a certain value. The aim of giving free gifts is to encourage

customers to buy more products.

Advantages

a) It enables the customer to enjoy using a certain product without

paying for it

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b) It encourages customers more products so as to get more free gifts

c) It increases customer satisfaction

d) May create customer’s loyalty to the firm offering the free gifts

Disadvantages

a) It may encourage unplanned buying by the customer in his/her

efforts to get the free gift

b) Getting the free gift may be costly since the customer has to buy

more goods in order to get the free gift

c) Some traders may keep away the free gift

d) There is assurance to the trader that the customer will buy the

product after getting the free gift

5) Free sample

A free sample is a product that is given to the customer freely for trial.

Free samples are normally given when the product is new or when the old

product has been improved.

The aim of giving free samples is to induce customers to buy more of the

product

Advantages

a) Enables the customer to use the product before paying for it

b) Enables the customer to enjoy using the product which he/she may

not have otherwise enjoyed

c) Attracts more customers to the organisation

Disadvantages

a) Some people receive free samples may not be potential customers

b) It is an expensive method of sales promotion

c) The sample may not increase the sales in cases where the product is

not appealing to the consumers

d) It is not appropriate for expensive products

6) Field sales

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This is where sales persons go out with samples of products to meet

prospective buyers and try to convince them to buy the products.

Advantages of personal selling

a) It gives the sales person an opportunity to explain and persuade

customers to buy the product

b) It facilitates exchange of ideas between the sales person and the

customers

c) It enables the sales person to gather information concerning the

response of consumers towards the product

d) It gives customers a chance to ask questions and clear their doubts

about the product

e) It is a flexible method of sales promotion since the marketer is able

to meet the needs of the individual customers

f) Enables the sales person to demonstrate the operation and use of the

product

g) It gives the buyer an opportunity to negotiate the terms of purchase

e.g. price, discounts, delivery etc.

h) It can be directed to specific prospective buyers only

i) Enables the buyer to make informed decisions when buying the

product

j) It takes care of both the literate and the illiterate

k) It establishes interpersonal relationships between the buyer and the

sales person which may encourage the customer to buy again

Disadvantages of personal selling

a) It is a costly method to operate since sales persons are paid and

sometimes trained regularly

b) It is time consuming since it involves bargaining, demonstrating,

asking and answering questions etc.

c) It may be difficult to persuade the prospective customer especially

when the sales person lacks etiquette, skills and knowledge.

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d) Sales people may misuse the resources allocated to them

e) Personal selling may inconvenience the programs of the prospective

buyer

f) It covers a small geographical area

g) It may not be self-sufficient hence it has to be supported by

advertising

h) Sales persons may convince customers to buy products that they

don’t need.

b) ADVERTISING

This is refers to any form of impersonal presentation of a product which is

made through the mass communication media such as newspapers, radios,

TVs etc.

Features of advertising

a) It is impersonal i.e. sales persons are not used

b) Advertising is paid for

c) It is directed to a given category of people or to the public

d) Most advertisements are persuasive

Reasons for advertising

a) To reach new markets

b) To maintain the sales of an already existing product

c) To create awareness of the new product in the market

d) To inform customers on any changes in the product e.g. price, quality

and uses

e) To build and uphold the image and reputation of the selling firm

f) To increase the sales volume for the existing product

g) To reach potential customers who are not accessible by the sales

persons

h) To boost the efforts of sales persons

i) To counter customers’ misconceptions about the product

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j) To link producers and consumers

k) To fight off competition

Types of advertising

a) Product advertising

This is a type of advertising which aims at increasing the sales of a

particular product. The brand name of the product features predominantly

in the advertisement.

The name of the manufacturer is not mentioned in the advertisement.

b) Primary demand (informative) advertising

This is a type of advertising that mainly aims at popularising a new

product to potential customers.

The aim of this advertisement is to create awareness to the potential

customers about a new product in the market.

c) Institutional advertising

This is a type of advertising that is aimed at popularising the business

organisation and not the individual products.

Institutional advertising is mostly used when various business

organisations are selling similar products.

The main objective of this form of advertising is to improve the image of

the business organisation, its sales and its relations with customers.

d) Competitive (persuasive) advertising

This is a type of advertising which is used by a business organisation that

is face facing stiff market competition to convince potential customers that

the product provided by the organisation is the best in the market.

It is used to differentiate the products of the business organisation from

those of the competitors

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e) Celebrity advertising

This is a type of advertising where famous people are used to advertise

products. The aim of this advertisement is to encourage people to identify

with such celebrities so as to buy the product

f) Reminder advertising

This is a type of advertising which is used to remind that the product is

still available so as to help in retaining these customers and encouraging

them to continue buying the product.

g) Educative advertising

This is a type of advertising which has features of both informative and

persuasive advertising.

Educative advertising educates the consumer about the product and leaves

the consumer to make the decision on whether to buy the product or not.

h) National advertising

This is a type of advertising which is done by producers whose products

are consumed nationwide

i) Regional advertising

This is a type of advertising which is aimed at a particular region or

section of the country

j) Local advertising

This is a type of advertising which is done by retailers to attract customers

to their business premises e.g. use of posters, neon signs etc.

ADVERTISING MEDIA

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Advertising media refers to the channel through which the advertising

message is conveyed to the target group. These channels include the

following:

a) Newspapers

b) Magazines and journals

c) Posters

d) Billboards (hoardings)

e) Transit (transport) advertising

f) Electronic neon signs

g) Radio

h) Television

i) Cinema

a) NEWSPAPERS

These are regular publications which contain news and advertisements.

They are commonly used in advertising since they penetrate most

segments of the society.

Examples of newspapers in Kenya include the standard, the daily nation,

Taifa Leo, the star etc.

Advantages

a) They cover a wide geographical area hence reaching high number of

potential customer

b) They are relatively cheaper

c) Advertised messages on the newspapers are easily acceptable by

readers

d) They convey the message for a long time

Disadvantages

a) They have a short lifespan since they are mostly read during the day

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b) They mostly advertise in Kiswahili or English hence the message

cannot get to potential customers who don’t understand the two

languages

c) The message cannot be targeted to a specific group as newspapers

are read by everyone

d) Some readers go through the newspaper in a hurry hence they may

not read the advertisement

e) It is costly to advertise on the newspaper

f) It does not allow demonstrations

b) MAGAZINES AND JOURNALS

These are publications which are produced periodically i.e. monthly or

yearly. They mostly target a specific class of readers.

Examples of magazines include; parents, eve, Africa law reports etc.

Advantages

a) The advertisement can be targeted to a specific class or group of

people

b) They have a long lifespan i.e. they are read again and again.

c) They use high quality papers hence able to catch the reader’s eye.

Disadvantages

a) There may be a big time gap between when the advertisement is

placed and when the publication is circulated making the

advertisement fail to achieve the desired objective.

b) They are a bit expensive to buy hence not all potential customers can

afford to buy them

c) It is costly to advertise in magazines

d) Circulation of magazines may be limited to a small geographical area

e.g. in urban areas

e) They are written mostly in English and Kiswahili hence the

advertisement cannot be understood by people who cannot read and

write.

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c) POSTERS

These are forms of outdoor advertising media that can be used to advertise

products.

Posters contain advertising information both in words only or in both

words and pictures

To be effective, posters should be placed in strategic places where it is

likely to draw attention.

Advantages

a) They may convey the advertised message to a large audience since

they are placed in strategic places

b) They are cheaper to prepare

c) Different colours may be used to make it appealing to the audience

d) They are appropriate both to the literate and the illiterate

e) They are easy to prepare

Disadvantages

a) They may be affected by adverse weather conditions

b) It is a silent channel of advertising which may not be recognised

c) They are prone to destruction by passers-by

d) BILLBOARDS (HOARDINGS)

This is a medium of advertising where the advertising message is written

on the board. The advertising message is designed in such a way that it is

attractive and capable of read from a distance.

Advantages

a) They are positions at strategic points where they can be easily read

by many people

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b) It is easy to understand the advertising message since it is heavily

worded

c) They are relatively permanent hence they convey the advertising

message for a long time

d) They are attractive to the audience

Disadvantages

a) They are prone to vandalism

b) They are expensive to make

c) They are not suitable in circumstances where the customers need to

examine the good

d) They may contribute to accidents by obstructing motorists’ visibility

e) TRANSIT (TRANSPORT) ADVERTISING

This is where vehicles such as matatus, buses, trains and Lorries carry the

advertising message. The advertiser paints the message or fixes a poster on

the body of the vehicle.

Advantages

a) The advertiser reaches people inside the vehicle as well as those in

areas served by the vehicle

b) The painting on the vehicle may be long lasting hence able to convey

the message for a long time.

c) The advertising message can be read quite often as many people are

regular travellers

Disadvantages

a) Rush hour crowds may limit travellers’ opportunity to read the

message

b) The advertising message gets only to those places accessed by the

vehicle

f) ELECTRONIC NEON SIGNS

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These are coloured lights which usually keep on flickering at regular

intervals to attract passers –by. They are mostly found on walls and roofs

of tall buildings.

Advantages

a) They are attractive especially at night

b) They can direct customers to places where advertised services are

rendered

Disadvantages

a) They are expensive to install

b) They are not convincing and persuasive hence they can be ignored

by passers-by

c) They require electricity

g) RADIO

This is a medium of advertising that uses electromagnetic waves to receive

and broadcast sound messages.

A radio is an important medium of advertising as it reaches many parts of

the country.

Advantages

a) It has a wider coverage therefore the advertisement can reach many

potential customers

b) It conveys the advertisement to many people at the same time

c) The advertisement reaches both the literate and the illiterate

d) Different radio stations are able to broadcast in different languages

hence the advertising message can reach those who don’t understand

Kiswahili and English

e) Radio advertisement is appealing to many people since the message

can be accompanied by music

f) The advertisement can be repeated over and over again according to

the needs of the advertiser

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g) The advertisement reaches the audience in the intended time

h) The advertisement may be targeted to a specific audience through

proper timing

i) Radios captures the attention of the audience quickly

Disadvantages

a) Radio advertisement lacks reference since records cannot be kept

b) The audience cannot see the image of the products being advertised

c) The advertisement may be a nuisance especially when it interrupts a

popular programme

d) The advertisement may be aired when the target audience is not

listening

e) The advertisement may be aired for a short term hence the audience

may not understand the message

j) TELEVISION (TV)

This is a medium of advertisement that conveys both audio and visual

messages. The TV is therefore the most effective medium of advertisement

since it can convey messages by combining words, sounds and motion

pictures.

Advantages

a) Dramatized advertisement appeal to many people since they are

entertaining

b) The advertiser can show the various features of the product being

advertised

c) TV advertising combines words, sounds and motion pictures which

create a more lasting impression in the minds of the viewers.

d) The advertisement can be modified as per the needs of the

organisation

e) The advertisement may be aired as frequently as required by the

advertiser

Disadvantages

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a) It is expensive to advertise through the TV

b) The advertisement may be screened when the target audience is not

viewing

c) A TV set may be expensive to buy hence the advertisement may not

reach everyone

d) TV sets require electricity as a power source

e) Advertisement through the TV is not long lasting

k) CINEMA

A cinema is place where films (movies) are shown. Such films may be

used to pass the advertisement.

The film just like a TV may be combine written words, sounds and motion

pictures so as to reach the audience more effectively.

Cinemas are mostly attended by the youth and the middle aged people

hence cinemas can be used to advertise products to a target group.

Advantages

a) The advertisement reaches both the literate and the illiterate

b) The advertisement may target a specific group

c) It allows demonstration in order to show the features of the product

being advertised

d) Films combines written words, sounds and motion pictures which

creates a lasting impression on the audience

e) Cinemas are normally taken to highly populated areas hence the

advertisement reaches many people

Disadvantages

a) The advertisement may not reach those who don’t attend cinemas

b) Cinemas are fairly expensive as an advertising medium

c) Cinema attendance has reduced over the years due to the popularity

of television and videos.

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d) Movie halls are fewer hence limiting their use as the advertising

media.

ADVERTISING AGENCIES

These are businesses that specialise in advertising work and are hired to

carry out advertising functions for businesses

Advertising agencies are paid on commission basis for their services.

Functions of advertising agencies

a) They help organisations in designing their trademarks, logos and

advertising materials

b) They book space and airtime for their customers in various media

c) They advise their clients on best-selling techniques

d) They advertise on behalf of their clients

e) They choose the appropriate media to use on behalf of their clients

Reasons why product promotion may not result in an increase in sales

a) The price of the product may be too high

b) Economic conditions maybe unfavourable e.g. the living standards

may be too high

c) Tastes and preferences of consumers may not be in favour of the

product

d) Product promotion may not have targeted the right group

e) There is stiff market competition

FACTORS TO CONSIDER WHEN CHOOSING THE

ADVERTISING MEDIUM

a) Cost of the medium

The advertising medium chosen should be economical, affordable and

within the available budget

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b) Selectivity

This is the ability of the medium to distinguishing between groups so as to

reach the intended group. The medium that can convey the advertising

message to the target group should be selected

c) Flexibility

This is the ease with which it is possible to change from one medium to

another. The medium selected should be flexible to accommodate future

changes

d) Lifespan of the advertising message

If the firm wants to keep the advertising message for long, newspapers,

journals and magazines but if it intends to keep the advertising message

for a short time, then radios, TVs and cinema will be preferred. The firm

should therefore choose the medium that will keep the message for the

intended length of time

e) Availability of the medium

The medium selected should be easily available

f) Nature of the product

The product being promoted may be such that it either requires

demonstration or it doesn’t. For products requiring demonstration, TVs

and cinemas are most appropriate and for products which don not require

demonstration, the radio is appropriate. The firm should therefore choose

the medium that will suit the product being promoted.

g) Government policy

A firm should use the medium which is approved by the law to promote its

products

h) Medium used by competitors

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An alternative medium from the one used by the competitors should be

used in order to counter competition

Other factors to consider include:

• The target group

• Reliability of the medium

• Time of promotion

• Speed/urgency of the promotion message

• Duration of the promotion message.

Advantages of advertising to the business

a) Creates awareness of the firm’s products to potential customers

especially when the product or the firm is new in the market

b) Increases the volume of sales

c) Popularises the firm’s products hence encouraging their frequent use

d) Reminds consumers of continued existence of the product

e) Enables businesses get feedback from consumers about their

products through consumer reactions to advertisements

Disadvantages of advertising to the business

a) It is costly to the business

b) Costs incurred in advertising results in reduction of profits

c) A poorly planned advertisement may have a negative effect on the

publicity of the business making customers to hate the product being

advertised

d) Misleading advertisement may results in the business being sued

hence negatively affecting its reputation

e) Advertisement may not result in increase in sales

Advantages of advertising to the customer

a) The customer through advertising may be educated on how to use the

product

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b) Advertisement may inform the customer about the offers available in

the market

c) Competitive advertising may result in price reductions

d) The customer may be guided by the advertisement on where to find

the product

e) Competitive advertising may result in improved quality of goods and

services

f) Advertising enables the availing of information relating to price and

other features of the product to the customer

g) Competitive advertising may result in production of different types

of goods to customers hence providing a variety of goods to

customers

h) Advertising through the mass media entertains customers

Disadvantages of advertising to customers

a) Advertisements may not disclose the side effects of the product

b) Advertising costs may be passed over to the consumer through

increased prices

c) Advertisement may persuade the customer to buy products he/she

doesn’t need.

d) Misleading advertisement may make the customer buy sub-standard

goods

e) May lead to impulse buying

c) PUBLICITY

Publicity refers to any mention of the product, firm or person in the mass

media.

Publicity makes the product, firm or person mentioned known to many

people.

Types of publicity

Publicity can be classified into two:

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• Free publicity

• Special feature publicity

a) Free publicity

This is publicity which is not paid for. For example, when an organisation

invites somebody important to open a new branch, the mass media that

will cover such event offer free publicity to the organisation

b) Special feature publicity

This is publicity which is paid for by the organisation. For example where

the organisation has organised a sporting activity and invites mass media

to cover the event.

Advantages of publicity

a) It may be free i.e. in case of free publicity

b) It covers a large geographical area

c) It may improve the image of the advertiser

Disadvantages of publicity

a) The firm has no control over free publicity as related to the content

of the message, timing and space

b) Only a portion of the information released by the firm might appear

in the media

c) The media may give negative information about the firm hence

adversely affecting the firm

d) The media may not cover the firm at the firm’s convenience

e) It is not long lasting

f) Special feature advertising may be costly to the firm

d) PUBLIC RELATIONS

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This is the process of passing information with a view of creating,

promoting or maintaining good will and a favourable image of the

organisation to the public.

Public relations is not aimed at increasing sales directly.

Public relations involves the following activities:

a) Informing the public about the firm’s achievements and concerns

b) Contributing to community welfare by helping the disabled, giving

bursaries to needy students, supporting sporting activities etc.

Advantages of public relations

a) It may correct the bad image of the organisation

b) It informs the public about the activities of the firm

c) Assists in upholding the good image of the organisation

d) It improves the relationship between the firm and its customers

e) It can be used to target a particular category of potential customers

Disadvantages of public relations

a) It is costly

b) It is difficulty to evaluate the impact of the message since customers

are not obliged to respond

c) It lead to premature buying by customers

d) It takes longer for the effects of the advertisement to be realised

e) It does not guarantee increase in sales

f) POINT OF PURCHASE (WINDOW) DISPLAY

This refers to the arrangement of items at strategic points in the shop

where potential customers can easily see them

Point of purchase display is used to attract, inform and induce customers to

buy from the shop.

Advantages of window displays

a) It is a relatively cheaper method of product promotion

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b) Potential customers can be induced to buy the product displayed

c) Through the display, customers are able to get the basic features of

the product such as colour, size and price before making a decision

on whether to buy the product

d) The display may attract customers into the shop and finally end up

buying products inside the shop

Disadvantages of window displays

a) Customers who are located far away may not be reached

b) It may attract thieves leading to heavy losses

c) Customers may not go inside the shop to buy if goods displayed are

not appealing to them

d) Setting up the display area or window may be expensive

e) DIRECT MAIL ADVERTISING

This refers to any form of advertising which is sent directly to the potential

customer through the mail.

Advantages of direct mail advertising

a) The advertisement reaches the target audience

b) There may be immediate feedback from the potential customer

c) Potential customers do not incur any costs to get the information

d) The message may be tailored to suit the needs of each individual

customer

Disadvantages of direct mail advertising

a) It is only appropriate to the literate

b) Sometimes the mail may not get to the intended potential customer

c) It may be costly

d) Sometimes potential customers may ignore the message

e) It may not be appropriate where the customer needs to examine the

product

f) CATALOGUE

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A catalogue is a booklet that gives a brief description of products sold. It

gives details relating to price of different products and the terms of sale.

Advantages of a catalogue

a) It can be used to advertise all the products the organisation sales at

once

b) The advertiser has total control over the catalogue

c) It gives details information about the product

d) It is printed in beautiful colours hence making an attractive

promotional tool

Disadvantages of a catalogue

a) It is expensive to produce

b) It is affected by price changes

g) GUARANTEE

This is the assurance by the seller to the buyer that the product offered for

sale will serve as expected if it is used as specified.

During the guarantee period, the seller undertakes to either replace, or

repair the item if it fails to perform as specified.

The seller will however not repair or replace the item during the guarantee

period if the buyer uses the item against the specifications

The aim of the guarantee is to build confidence in customers so that they

can buy the firm’s products.

Advantages of a guarantee

a) Helps boost the firm’ sales

b) Helps in creating the customers’ loyalty to the products of the firm

c) The products are replaced or repaired during the guarantee period in

case they develop a problem. This is an advantage to the buyer

Disadvantages of a guarantee

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a) Repairing and replacing items may be costly to the firm

b) Customers may carelessly handle the products during the guarantee

period

c) It is only suitable for durable goods

h) DISCOUNT

Discount refers to the reduction in the sales price of the commodity by the

seller so that the buyer ends up paying less. There are three types of

discount; trade discount, quantity discount and cash discount (already

discussed)

Discounts are used to attract customers since customers are likely to buy

from sellers who give discounts than those who don’t.

i) LOSS LEADER

A loss leader is a product that is sold below its marked price in order to

attract customers into the shop with the view that once in the shop, the

customer is likely to buy other products which are sold at normal prices

j) PSYCHOLOGICAL SELLING

Psychological selling involves all the activities which are meant to

increase sales by playing around with the customer’s mind. For example

the price may be quoted as Ksh 999 to make the customer think the price is

reduced and therefore end up buying the product

k) COUPONS

A coupon is a small piece of paper that gives someone a right to buy

something at a lower price than normal. For example sellers may give

coupons of Ksh 50 for any purchase of goods worth Ksh 2000. The

customer can use this coupons to buy more goods worth the value of the

coupon from the seller.

l) CREDIT FACILITIES

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This is a method of selling where the seller allows the buyer to take goods

and pay for them later. Credit facilities may induce may induce the

customer to buy more. It also creates loyalty in the customer

m) AFTER-SALE-SERVICES

These are services offered by a seller to a buyer after the buyer has bought

goods. Such services may include; transport, installation and repairs.

After-sale-services may be offered freely or at a reduced cost.

A seller who offers after-sale services is likely to retain existing customers

as well as attract new ones

Ways of offering after-sale-services

a) Transportation/delivery services

b) Installation of equipment

c) Provision of technical advice

d) Giving guarantees

Circumstances which necessitate after-sale-services

a) Where goods are technical in nature

b) Where expertise is required in installation and the trader has

technical ability

c) Where the product is new in the market and the trader wants constant

feedback

d) Where competition is stiff hence the seller uses after-sale-services to

attract customers

e) Where expertise is required in maintenance

f) Where the policy of the business requires the use of after-sale

services as a strategy of improving customer relations

g) Where it is a government

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h) Where specialized transport is required

Advantages of after-sale-services

a) More customers are attracted to buy from the seller

b) It promotes a good image of the seller

c) The customer is able to get longer and better services from the

product due to repairs

d) Buyers are assisted with technical advice on how to use the product

Disadvantages of after-sale-services

a) Lack of spare parts may hinder after-sale-services

b) It is costly to the seller which may reduce profits

c) Some sellers may require the product to be brought to their premises

for servicing. This may inconvenience the buyer.

d) High expenses may result in increase in prices of products

e) Servicing of products may require specialists which may be costly to

the seller

f) It may encourage careless handling of products by the buyer

Problems faced by a trader who stocks only one type of a product

a) A fall in demand for the product will result in a decrease in profits

leading to closure of the business

b) The trader may attract many buyers since most people prefer buying

from traders who stock a variety of goods

c) A fall in supply from suppliers may result in the closure of the

business

d) The trader will lack innovativeness

e) The trader will face stiff competition from firms which offer varieties

SALES PROMOTION

Sales promotion refers to the application of various techniques and

activities to attract customers and increase sales. Some of these techniques

and activities include the following:

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a) Organising shows, trade fairs and exhibitions

b) Giving free gifts to customers

c) Giving free samples to customers

d) Showroom sales

e) Window displays

f) Allowing customers credit facilities

g) Giving customers after sale services

h) Through guarantees

i) Giving discounts to customers

j) Using loss leaders

k) Using psychological selling

l) Giving coupons to customers

m) Self-service

n) Personal attention

o) Proper pricing

Reasons for sales promotion

a) To increase sales

b) To inform customers about the new product

c) To persuade existing and potential customers to buy the firm’s

products

d) To remind customers about product attributes

Role of a sales department

a) It sells goods to consumers

b) It receives orders for goods

c) It maintains records/documents

d) It undertakes market research

e) It evaluates the credit worthiness of customers

f) It processes orders for goods and services

g) It handles complaints from customers

h) It gives advice to customers

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Advantages of sales promotion

a) It increases sales almost instantly

b) It results in expanding the firm’s market share

c) The customer may buy the product at a lower price

Disadvantages of sales promotion

a) It involves expenditure hence increasing overhead costs

b) It may pressurise customers into buying products that they do not

need

c) It leads to impulse buying

d) Overhead costs may be passed over to the buyer by increasing the

selling price

FACTORS INFLUENCING THE CHOICE OF PROMOTION

METHOD

a) Cost

A more affordable method of sales promotion should be chosen.

b) Nature of the product

Some products because of their nature require to be promoted by specific

methods only. For example a product requiring demonstration is best

promoted through personal selling. Therefore the firm should chose a

method of product promotion that suits its products

c) Target group

The promoter should a method of promotion that reaches his/her target

group so as to reduce wastage.

d) Objectives of the promoting firm

Sometimes, firms undertake product promotion in order to achieve certain

objectives. For instance, if the objective is to correct the bad image of the

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firm, public relations should be preferred. A firm should therefore choose

a method of sales promotion that will help meet the objectives of the firm.

e) Methods used by the competing firm

Firms should choose methods of promotion that enables them compete

favourably with their competitors that is the firm should use a different

method of promotion from the one the competitor is using

f) Government policy

A firm should use only those methods that are allowed by the law of the

land

g) Geographical region

Some products may require countrywide coverage while others will

require regional coverage. The firm should therefore choose a method that

will cover the geographical area intended

h) Availability of the promotion method

Some methods of product promotion are easily available than others. A

firm should therefore choose a method that is easily available

ETHICAL ISSUES IN PRODUCT PROMOTION

The term ethics refers to the prescribed or accepted code of conduct.

Ethics in product promotion therefore refers to the rules and regulations

which are to be followed when promoting products so as to avoid the

violation of other people’s rights.

Ethical issues in product promotion refers to product promotion practices

which contravene the principles of good ethics and fair business practices

resulting to negative effects on the consumer. These ethical issues are

discussed below:

a) Cheating on performance of the product

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This is a situation whereby the promoter of the product does tell the truth

about the performance of the product.

b) Cheating on ingredients of the product

This is where the promoter gives false information about the ingredients of

the product so as to lure the customers into buying the product. He/she

may give the impression that the product contains certain ingredients when

it doesn’t

c) Failure to disclose the side effects

Side effects refers to the negative effects the product may have on the

consumer alongside the intended purpose. Promoters may avoid disclosing

negative effects and only disclose positive effects so as to lure the

consumers into buying their products

d) False pricing

Some promoters may overprice their products and later reduce their prices

slightly so as to make the customer think that the price has been reduced

and therefore buy the product.

e) Disregarding negative effects on the environment

Some promotional activities may have adverse effects on the environment

e.g. loudspeakers used by sales persons may cause noise pollution. The

promoter may however disregard all these negative effect on the

environment in his/her efforts to sell the product

f) Encouraging social-cultural conflicts

Product promotion may encourage the use of foreign products and styles

that conflict with the cultures of the various communities in the country.

For example putting on earrings by men is considered a taboo in some

communities.

Ethics (ethical practices) in product promotion

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a) Advertisements should not challenge the cultural set-up of the

society

b) Advertisements should not lead to high prices of goods

c) Advertisements should not mislead the customer

d) Advertisements should not corrupt brand names of popular products

e) The methods used in product promotion should be environmental

friendly e.g. posters should not make the environment look untidy

f) Sellers should not use product promotion to malign the names of

their competitors

g) Sales people should make offers that they intend to fulfil e.g.

promised guarantee should be genuine

h) Consumers should be educated on the side effects of the products

i) Ingredients used to make the product should be disclosed

Reasons for ethical practices in product promotion

a) Encourages the selling of quality products

b) Safeguards cultural practices

c) Encourages disclosure of information about the product

d) Ensures compliance with existing government legislations

e) Helps curb environmental degradation

f) Safeguards consumers against misleading advertising

g) Helps counter market competition

TRENDS IN PRODUCT PROMOTION

a) Use of internet to promote products

b) Intensifying the use of personal selling

c) Use of promotion convoys

d) Promoting products over mobile phones by sending SMSs to

prospective buyers

e) Use of advertising agencies

f) Use of public relations.

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g) Conversion of single shops into mini super markets

h) Establishment of customer care centres by most firms.

Documents

[email protected] BUSINESS STUDIES FORM 2