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BUSINESS STUDIES FORM ONE NOTES

INTRODUCTION TO BUSINESS STUDIES
Objectives: By the end of the topic, the learner should be able to:
i) Explain the meaning of Business studies
ii) Explain the importance of Business studies in society.
i) Business: Any activity that is carried out by an individual or an orga-
nization concerning provision of goods and services with a view to
making profit.
ii) Business studies: Is the study/examination of the business activities
in society. These activities are related to the production of goods and
provision of services.
-It can also be defined as the study of activities that are carried out in
and around production, distribution and consumption of goods and
services.
iii) Goods: These are items that are tangible .i.e. they can be touched and
felt.
Activity 1: The students to list items in the classroom that can be touched
and felt
-Furniture, buildings, books, vehicles e.t.c
iv) Services: These are efforts or acts/actions or activities that may be
sold and are intangible (cannot be touched nor felt).
Activity 2: The students to list items that money is paid to get but they
cannot touch.
v) Production: Refers to the creation of goods and services or increas-
ing their usefulness through activities such as transporting them to where they
are required. People who are involved in production of goods and services are
referred to as producers.
Activity 3: Using the lists of goods and services above, the students to
name those involved in their production.
vi) Distribution: Refers to the movement of goods and services from produc-
ers to the users. Some activities that take place as goods and services all
moved include transportation, storage, insurance, communication, advertis-
ing.e.t.c
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vii) Consumption: Refers to the act of using the goods or services produced
consumption is the ultimate goal of production. The persons who uses a good
or a service is referred to as a consumer.
Activity 4: The students to list the consumers of the goods and services
listed in activity (1) and (2) above.
Business studies as a subject is composed of topics drawn from various disci-
plines such as:
a. Commerce
b. Accounting
c. Economics
d. Office practice
e. Entrepreneurship
Commerce
This is the study of trade and aids to trade. Trade refers to the exchange of
goods and services for other goods and services or money.
Aids to trade are human activities (services) that assist trade to take place.
Economics
This is the study of how human beings strive to satisfy their endless wants us-
ing the available scarce resources.
Accounting
This refers to a systematic way of recording business activities which all used
for decision making.
Office practice
This refers to all activities that are carried out in an office e.g. communication,
filling, clerical work, reproduction of documents e.t.c
Entrepreneurship
This is the study of activities involved in the process of identifying a business
opportunity and acquiring the necessary resources to start and run a business.
The person who carries out these activities is refered to as an entrepreneur.
Importance of Business studies in society
Business studies is meant to prepare learners to function as informed con-
sumers, producers and workers in the society.
Some of the benefits of learning business studies include:
i. Assists the learners/members of the society to acquire knowledge and
awareness of business terminologies which are necessary when dis-
cussing business issues such as profit and loss.
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ii. Assists the individuals in appreciating the role of business in society/in

provision of goods and services.
iii. It enables the learners to acquire basic knowledge, skills and attitudes
necessary for the development of self and the nation by starting and op-
erating business.
iv. Equips the members of society with knowledge and skills necessary to
start and run a business comfortably.
v. Makes the members of society to appreciate the need for good business
management practices
vi. Assists individual to acquire self-discipline and positive attitude towards
work
vii. Equips individual with abilities to promote co-operation in society
through trade
viii. Enables the individual to understand the role of government in business
activities
ix. Equips individuals with abilities to understand the role of communica-
tion and information technology in modern business management
x. Helps the individuals to develop positive attitudes towards the environ-
ment
xi. Equips the individual with knowledge and skills required to evaluate
business performance
xii. It helps individual to develop various intellectual abilities such as in-
quiry, critical thinking, analysis, interpretation, rational judgement, inno-
vation and creativity.
xiii. It enables learners to acquire skills for wise buying and selling.
xiv. It creates a firm foundation for further education and training in business
and other related fields.
xv. It enables one to understand and appreciate the basic economic issues
that affect the society such as increase in prices of goods and services.

BUSINESS AND ITS ENVIRONMENT

By the end of the topic, the learner should be able to:
a. Explain the meaning and purpose of a business
b. Identify various business activities
c. Identify various types of business environments
d. Explain how the various business environments influence a business.
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Meaning of a business
This refers to any activity carried out by an individual or by an organization
with the aim of making a profit.
Profit is what the business earns above what it spends in providing goods and
services to the people who need them.
The term business also refers to firms or organizations that provide goods and
services to make a profit.
Purpose of business (Reasons for the existence of businesses)
Business is important in any society because it is not possible for people to
provide themselves with all what they need without direct or indirect aid from
others. Some of the main reasons why businesses exist are:
i) To provide goods and services-Businesses exist to satisfy the needs
and wants of buyers by providing them with goods and services. Buy-
ers include individual consumers, other businesses and the govern-
ment.
ii) To create employment-Businesses provide job opportunities through
which members of society can earn money, which can be used to buy
goods and services for the satisfaction of their needs.
iii) To earn profit-Profit is the primary goal of carrying out business op-
erations. It is earned by the people who put their resources and effort
in business
iv) As an outlet of new innovation-Some businesses provide unique
goods and services which may not be existing in society e.g. plastic
fencing poles that are now replacing wooden poles.
v) To be as own boss-Some people run businesses so as to be in full
control of the operations and make all the decisions regarding the
business without need of reference to people.
vi) To utilize extra resources-Some people go into business to make use
of money or property which is not being put to profitably use at a
given time.
vii) To offer special services-Some businesses provide services that raise
the living standard of people e.g. government enterprises that provide
public utilities such as health care and water.
viii) To utilize spare time-Some people run businesses in order to make
use of extra time at their disposal and in the process make some extra
money. A large number of formally employed people have small
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business which they run during their free time in order to earn more
money.
NB: Whatever purpose a business fulfills, it has to earn a reasonable return
on the invested money to survive.

TYPES OF BUSINESS ACTIVITIES

People carry out different business activities in order to earn income. Busi-
ness activities are activities which involve the provision of goods or ser-
vices with an aim of earning a profit.
Activities done without the intention of making profit are referred to as
non-business activities. Business activities may be grouped into the fol-
lowing seven categories:
a) Extraction
This involves obtaining goods from their natural setting e.g. mining, farming,
lumbering, fishing, quarrying e.t.c
b) Processing-This involves the conversion of raw materials into more use-
ful products without combining it with other goods. Examples here in-
clude milling/grinding flour, refining oil, tanning of skins and hides,
conversion of iron into steel e.t.c
c) Manufacturing-This involves combining different raw materials to
come up with one final product. Such activities include bread baking,
making a table e.t.c
d) Construction-This involves building of structures such as
bridges,ships,aeroplanes,houses,roads,railways e.t.c
e) Distribution of goods-This refers to the activities involved in moving
goods from where they are produced to where they are needed. People
who carry out distribution are called distributors. Examples of distribu-
tors are wholesalers and retailers.
f) Trade-Activities in this category involve the buying and selling of
goods with a view of making a profit. People involved in trade are called
traders.
g) Provisions of services-Activities in this category involve human acts
which could be mental or physical. These include activities such as hair-
cutting, hair styling, car-washing, nursing, teaching, driving, and enter-
taining e.t.c.
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NOTE: Students to give examples of activities they pay money for

which are not goods.

BUSINESS ENVIRONMENTS AND THEIR EFFECTS ON THE BUSI-

NESS
Business environment refers to conditions or factors which surround and af-
fect business operations. These factors could be within the business (internal
environment) or from outside the business (external environment).
These factors affect the decisions, strategies, processes and overall perfor-
mance of the business.
Activity: Discuss some factors that have a strong influence on businesses
within the immediate environment.
Internal Business Environment
This comprises factors that are within the business unit itself. These factors
can be controlled fully by the business. Internal environmental conditions
could be either strength or weaknesses. The strengths tend to improve the per-
formance of the firm while weaknesses tend to affect the operations of the
business negatively.
Internal environment is also referred to as: micro-environment. Micro envi-
ronmental factors include:
1) Objectives of the business
These ate targets or goals that are set by the owners or managers of a busi-
ness to be achieved. The objectives will influence the following;
a. The strategies of a business-This is a plan of action which a business
intends to follow so as to achieve its goals.
b. The resources required-By studying the objectives set; a business
can determine the resources required for its effective operation. These
resources may be physical,financial,human e.t.c
2) Management policies and style
The management refers to the people who are responsible for directing the
day-to-day operations of a business. It is the management that sets the ob-
jectives and policies of an organization.
A policy is a course of action of action for achieving set objectives, which
is adopted by a business.(it is the established way of doing things in a busi-
ness.
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a) The policies of a business-The policies adopted by a business may

boost or hinder its growth and survival e.g. the management may decide
that workers will not be allowed to join trade unions. This may make the
workers feel locked out of the decision-making process, resulting in ten-
sion. This tension may interfere with the performance of the employees
and result in inefficiency.
b) The activities of a business - Management policies will determine the
activities of a business i.e. the goods and services provided, location of
business e.t.c.
c) Management style-This refers to how managers conduct the daily oper-
ations of the business. This will determine how workers relate with their
managers. The style adopted by the management will influence the
workers performance positively or negatively thus affecting the overall
performance of the business.

3) Business structure
This is the formal arrangement of activities that are carried out at various lev-
els of the organization so that objectives of the business can be achieved.
Duties and responsibilities of all the workers are defined in the business struc-
ture. Their interrelationships are also defined.
A well laid out business structure is likely to lead to success of the business
since:
i. Each of the employees know what is expected from them
ii. There will be no conflicts or confusion among the workers
iii. Team work is enhanced
iv. Ensures proper control which is turn promotes efficiency.
A poor business structure leads to business failure.
4) Business Resources
A resource refers to anything that can be used to achieve an objective. These
resources include;
a. Human resource-Human resource (personnel) refers to the employees
working in an organization. Employees will only be useful if they have
the necessary knowledge and skills to successfully carry out the assigned
tasks. It is therefore necessary for the management to match the correct
people with the correct job activities; this will ensure success for the
business.
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b. Financial resource-Money is required in order to start and operate a

business.A business with adequate finances that are property allocated to
various activities and also monitored is likely to do better than the one
lacking such aspects.
c. Physical resources-These include tangible facilities which belong to the
business such as buildings, machinery, furniture and stock. Availability
of such facilities enables the business to operate.
d. Technology-This refers to skills and methods used in production. Use of
modern technology enhances production of goods and services.
5.) Research and development
Research and development is an important factor for the success of a busi-
ness. Research generates new ideas, skills and better methods of doing
things.
A business has to do market and consumer research regularly to find out
how the consumers perceive its goods and services, and how they can im-
prove in order to outdo their competitors.
Research also assists in the development of new and unique goods and ser-
vices that may attract new consumers or maintain the loyalty of the existing
ones.
6.) Business culture
This is a combination of employees expectations, beliefs and values within
the business. It is normally passed on from one generation of employees to
the next. Employees acquire norms and code of conduct that is acceptable
to all from the general manager down to the sweeper. A business that has a
culture of involving employees in decision-making may perform better than
one that does not involve its employees.
7. Owners
The owners of the business provide finances/resources to start and run the
business. They also make decisions concerning operations of the business.
Appropriate decisions are likely to lead to well being of the business while
poor decisions may adversely affect the business.
External Business Environment
This environment consists of all the factors which affect the operations of the
business from the outside. Some of these factors offer business opportunities
while others may create problems (threats).
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Business have limited or no control over external environmental factors and

should therefore try to do adjust in order to cope with them.
External environmental factors are also referred to as macro-environment i.e.
environment that is in large scale.
External business environment can further be sub-divided into operating en-
vironment and remote environment, depending on whether the factors can
be influenced to some extent or not. Those environments that can be influ-
enced are referred to as operating environment while those that cannot be in-
fluenced are known as remote environment.

ENTREPRENEURSHIP
By the end of the topic, the learner should be able to:
i. Explain the meaning of entrepreneurship
ii. Discuss the importance of entrepreneurship to an economy
iii. Describe characteristics of an entrepreneur
iv. Generate business ideas
v. Identify a business opportunity
vi. Evaluate a business opportunity
vii. Explain the need for a business plan
viii. Discuss factors that influence entrepreneurship practices in Kenya
ix. Discuss the causes of business success
x. Recognize the need for ethical practices in business
Meaning of entrepreneurship
This is the process of identifying business opportunities and gathering the nec-
essary resources to start and run a business.
An entrepreneur who identifies business opportunities and gets the necessary
resources in order to start and run a business. The entrepreneur therefore cre-
ates new businesses or transform the existing ones in the face of risks and un-
certainties in order to make profits.
An entrepreneur is therefore a business owner; he starts and organizes the
business (the factors of production in appropriate combination)
Importance of entrepreneurship to an economy
i. Creation of employment-Through entrepreneurship, jobs are cre-
ated which help in absorbing people who would otherwise have
been jobless e.g. people employed in the jua kali sector.
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ii. Formation of capital-Profit earned by entrepreneurs may be used

to expand the business or even to start other businesses. Wages and
salaries paid to the employees is a source of capital to them.
iii. Raising standards of living-Entrepreneurs pay wages and salaries
to their employees which enable them to acquire goods and ser-
vices they need to live comfortable lives. Entrepreneurs also pro-
vide a wide variety of goods and services to consumers hence lead-
ing to improved living standards.
iv. Encourages the use of local resources-Entrepreneurship makes it
possible to use/exploit local resources. Idle resources such as scrap
metal may be used to make jikos.
v. Improving infrastructure-The existence of businesses in the
economy makes the government establish or improve infrastruc-
ture such as roads, communication facilities and water. At other
times, entrepreneurs may combine forces to improve infrastructure
in their area of operation.
vi. Savings on imports-Local entrepreneurs are able to produce goods
and services that are a substitute to imports. This helps the country
to reduce the amount of money required to pay for such imports.
vii. Reducing foreign dominance of the economy-Participation of lo-
cal entrepreneurs in various business activities helps in reducing
investments by foreigners in the particular area.
viii. Promotion of technology/promotion of innovation, research
and development-Entrepreneurs are creative and they come up
with new and better ways of accomplishing tasks. Most of the in-
ventions and innovations in our society have been developed by
entrepreneurs.
ix. Promotion of entrepreneurial culture/helps in the creation of
role models- Successful entrepreneurs/entrepreneurial ventures en-
courage other members of society to initiate their own businesses
and hence act as role models in the business world.
x. It contributes to government revenue-Taxes and fees paid by en-
trepreneurial ventures constitute part of government revenue / in-
come that helps it to facilitate its operations.
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xi. It promotes economic growth-Entrepreneurs produce goods and

services. This increases the volume of goods and services in the
economy leading to expansion of the economy.
xii. It may promote self-actualization and esteem-By initiating bu-
sine-sses in which they are their own bosses, entrepreneurs pride is
boosted and this may promote the overall productivity of the econ-
omy.
Characteristics of an entrepreneur
A good entrepreneur should have the following characteristics:
a) Desire to achieve-An entrepreneur is a person who wishes to excel and
has the drive to succeed while competing with others. He/she always tries to
accomplish something new.
b) Ability to solve problems-An entrepreneur is expected to struggle with
determination to get solutions even under difficult situation so that the busi-
ness can succeed.
c) Risk taker-Entrepreneurs take viable business ventures even when they
are not sure of the returns. They assess situations and take calculated risks.
d) Initiative –An entrepreneur should be aggressive in implementing ideas
well ahead of other businesses so that he/she can be ahead of them.
e)Time consciousness-An entrepreneur should be able to use time wisely
and avoid wasting it. A wise and quickly implemented decision may mean
success in business whereas time lost may mean failure.
f) Creativity and innovation-An entrepreneur should be able to generate
new ideas as well as think of the best ways of putting them into practice.
g)Independence and self confidence-Entrepreneurs are their own bosses
and should believe in their ability to do things and succeed.
h) Persistence and patience-An entrepreneur should not give up when
challenges arise. Sometimes, he/she takes time and make a repeated action
or adopts a different course of action in order to overcome such challenges
so as to reach the target
i) Decisive-Entrepreneurs have strong problem, solving and decision making
skills. The business environment is such that decision has to be made
quickly to respond to any situation that may arise.
j) Persuasive-Convincing people to believe in their ideas and buy their prod-
ucts keeps entrepreneurs in business
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k)Goal-oriented-Entrepreneurs are achievers who work towards set goals.

They continually monitor progress to determine whether they are achiev-
ing the goals they have set and where improvements need to be made.
l) Seek information-Entrepreneurs use various methods to get the relevant
information that is necessary for the success of the business.
m) Concern for high quality products-An entrepreneur should strive to
cope or beat the existing standards of quality. This will enable him/her
succeed in a competitive market.
n) Commitment to work-An entrepreneur places priority on getting tasks
accomplished. To achieve this he/she may make extra ordinary personal
sacrifice e.g. working until very late.
o) Concern for customer satisfaction-An entrepreneur should ensure that
customers are satisfied so as to continue being/remain loyal to the busi-
ness.
p) Desire to feedback-An entrepreneur should be interested in knowing how
the business is performing.
Generating Business Ideas
For an entrepreneur, the first step in starting a business begins with an idea
(business idea).
Business ideas are all about thoughts on possible businesses an entrepreneur
can start or improve. It indicates among other things;
a) The products to produce/sell
b) Who the business will sell to (market)
c) Where the business will be located
d) How the will be run (management)
e) Why the business is needed (objectives)

Sources of Business Ideas

i. Newspapers-Local newspapers like the Daily Nation, East African e.t.c es-
pecially in the business and advertising sections have a lot of information
about commercial opportunities as well as personal services.
ii. Shows and exhibition-Visiting shows and exhibitions organized by
manufactures and distributors and asking questions from the sales persons.
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Entrepreneurs can also get business ideas from products displayed in such
shows.
iii. Magazines and journals-Reading magazines and journals with business
information may equip an entrepreneur with new business ideas.
iv. Hobbies –These are activities pursued for pleasure but they can also serve
as a source of business ideas e.g. photography.
v. Vocational training and experience-A business idea may be developed
from one’s own area of training or experience e.g. a teacher may use ideas
from his/her training to start a private school.
vi. Surveys and market research-This involves conducting an investigation
to gather information from consumers on what products they require.
vii. Recycling/using waste products-Some waste products could be con-
verted into useful products e.g. scrap metal for making jikos,old tyres for
making sandals e.t.c
viii. Listening to what people say-By listening keenly to what people say,
one can identify unsatisfied needs e.g. complaints about goods and services in
the market. These complaints may form a basis of a business idea for an entre-
preneur.
ix. Identifying a market gap (niche)-An entrepreneur may try to identify/
spot the needs of consumers which are not being met by the existing goods
and services.
x. Brain storming-An entrepreneur can engage other people in a discussion
on how best to develop businesses.
xi. Listing attributes of a product-By listing the attributes of a product that
is already existing in the market, one can find new use for the product.
xii. Copying/improving an existing business-This involves identifying the
weaknesses of a business and trying to come up with solutions.
Business Opportunity
A good business plan is not necessarily a business opportunity. A business
idea becomes a business opportunity if it is viable i.e. it can be developed into
a successful/profitable business enterprise
A business opportunity is a favourable chance that an entrepreneur accepts for
investment. It exists where there is a gap to be filled in the needs of the mar-
ket. Examples of such gaps include:
a) In availability of products-This is where goods and services needed by
the consumers are not available at all in the market.
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b) Poor quality products-A business opportunity exists if one offers better

quality goods and services than those of the existing businesses.
c) Insufficient quantities-This is where the goods supplied are not enough to
meet the demand/need of the consumers.
d) Unaffordable prices-A business opportunity exists where one would
charge affordable prices.
e) Poor services-A business opportunity exists where customers are not
served well.
Evaluating a business opportunity
This means assessing whether the identified opportunity is viable or not. This
helps in arriving at the best decision concerning the business idea to imple-
ment
Evaluation should be done carefully, systematically and without emotions.
Evaluation is necessary even where there is only one business idea. This will
help in avoiding starting a business that cannot succeed.
Factors to consider when evaluating a business opportunity
The following are the factors to consider when evaluating a business opportu-
nity.
a. Personal consideration-These are the abilities and expectations of an
entrepreneur. They include the following;
 Objectives-The entrepreneur should evaluate the business idea to find
out whether it is in line with his/her objectives.
 Skills-Where a business requires certain specialized skills and those
skills are lacking the idea may be dropped.
 Commitments-Where the business is likely to interfere with the en-
trepreneurs other commitments it may fail.
 Interest-It is necessary to check whether the intended business will
interest the entrepreneur or not. If the entrepreneur will not enjoy run-
ning the business, the idea should be dropped.
b. Business consideration-These are external factors that are likely to af-
fect the operations of the business and they include;
i. Availability of market for the product-An entrepreneur should assess
the availability of customers before starting a business. Customers exist
where there is a gap/nich in the market.
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ii. Technology-The business should be evaluated in terms of whether there

is an appropriate technology that can be used in production. Factors to
be looked into include;
a. -Appropriateness of the technology
b. -The cost of the technology
c. -The possibility of the business suffering in case the technology be-
comes outdated/obsolete.
iii. Availability of raw materials and other resources-The raw materials
and resources required should be within the reach and affordable to the
entrepreneur.
iv. Government policy-An entrepreneur should consider the requirements
of the government before starting a business e.g. the government may re-
quire certain businesses to be located in certain areas only.
v. Amount of capital required-The capital required to run and maintain
the business should be considered i.e the source of capital.
vi. Profitability of the business-Within a certain duration of time.
vii. The break-even period-How long the business can take to support it-
self.
viii. Possibility of expansion i.e. the potential for growth of the business.
ix. Impact of the business operations on the environments; some businesses
lead to environmental degradation and should be located in appropriate
places/effect on community and environmental health.
x. Security-Availability of security should be considered.
xi. Level of competition-This will help determine whether the business will
survive or not.
xii. The risks that the business will face.

BUSINESS PLAN
This is a written document that highlights the objectives of the business and
steps to be followed in order to achieve these objectives. It indicates where the
business is, where it wants to move to, how and when.
Contents of a good business plan
1. Name of the business
2. The product to be sold or produced
3. Personnel to manage the business
4. Amount of finance and other resources required
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5. The market to be served (customers)

6. Types of employees required
7. Projection (level of achievement in future in terms of profit)
8. Summary of the plan.
Need for the business plan
i. A business plan is necessary to an entrepreneur for the following rea-
sons:
ii. Avoiding mistakes-in the process of drawing a plan; mistakes that would
take place in the business are identified and corrected in the plan. This
helps in avoiding the occurrence of such mistakes in the business.
iii. Identifying strength and weaknesses-A business plan helps in identifying
strengths or weaknesses and where weaknesses are detected, remedial
actions may be taken early enough.
iv. Requirement by financiers-Financial institutions such as banks may re-
quire a business plan before they can accept to finance the activities of
the business.
v. Allocation of resources-It helps to determine the resources required and
plan on how and where to use them. This ensures that resources are nei-
ther underutilized nor used for the wrong purpose.
vi. Facilitates business evaluation-A business plan helps an entrepreneur to
assess the progress of the business and any deviation (difference) from
the intended plan can be corrected in good time.
vii. It helps an entrepreneur outline competition-It helps the entrepreneur to
be fully aware of the market she or he plans to operate in, understand
important trends and know who her/his competitors are and their
strengths and weaknesses. This information aids the entrepreneur to de-
velop products that are better than those of the competitors.
viii. A motivating factor-A business plan is communicated to all employees
in the business. This makes them aware of the direction to be taken by
the business. This motivates them to work towards that direction.
ix. Adaptability-Normally, not all events occur as predicted in the business
plan. However, a well drawn business plan should give room to accom-
modate any changes that might occur in the future.
x. Tool for control-Planning involves setting of standards against which
performances can be assessed. In case of deviation corrective measures
can be taken.
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Factors that influence entrepreneurship practices

There are many conditions or factors which may encourage or discourage en-
trepreneurship. Some of these factors are:
i. Government policy-Some government policies are favourable to the
operations of the business and thus encourage people to go into business
while other policies may be unfavourable and will discourage people
from going into business. E.g. higher taxes are unfavourable hence dis-
couraging.
ii. Infrastructure-infrastructure includes transport and communication net-
works, water, security e.t.c. Availability of good infrastructure in an area
tends to encourage people to set up businesses while poor infrastructure
tends to discourage them
iii. Levels of education and skills-Relevant and appropriate knowledge and
skills are necessary if the business has to succeed. These are acquired
through education, training or experience.
iv. Availability of markets-Adequate markets encourages existing en-
trepreneurs to continue producing and also encourage/attract new ones to
venture into business.
v. Availability of resources-Appropriate resources are necessary for start-
ing and smooth running of a business. These resources include physical,
human, capital and technology.
vi. Cultural and social beliefs and attitudes-These are norms, values and
beliefs of a given community. Culture helps determine the kind of goods
and services that people consume. this in turn, dictates the type of busi-
nesses to be established in such communities.e.g Muslims do not take
pork therefore businesses selling pork will not do well in such communi-
ties.
vii. Competition-Businesses will do well if they are able to complete
favourably. Others will avoid competition by establishing businesses
where there is no competition.
viii. Political stability-political stability gives conducive atmosphere for
businesses to start and thrive on the other hands, where there is no politi-
cal instability, businesses may not do well and entrepreneurs may close
down businesses or new ones may not come up.
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ix. Natural factors-natural factors such as rainfall, temperatures, earth-

quakes, pests, drought e.t.c. may influence the type of businesses that are
carried out in an area, especially agricultural businesses.
x. Presence of role models in the society-The presence of successful en-
trepreneurs acts as an encouragement to aspiring entrepreneurs.
Causes of Business success
A business is considered as being successful if it makes consistent profit and
experiences progressive growth in the scale of its operations.
Some of the factors that lead to the success of business may include:
(i) Right choice of business-A good business opportunity needs to be eval-
uated on the basis of ability to capture many customers, make reasonable
profit for the owner(s) and provide an opportunity for growth. Making
the right choice of a business or product ultimately contributes to the
success of a business.
(ii) Proper managerial skills-An entrepreneur should be able to carry out
management roles effectively. A good manager will carry out roles such
as;
a) Hiring staff-The process of acquiring new employees to take up new
positions or to replace employees who have left the business.
b)Assigning duties-Allocating employees duties according to their qualifi-
cations.
c)Supervising-Ensuring that employees carry out tasks that are assigned
to them
d)Training-Enabling employees to acquire knowledge and skills neces-
sary to perform duties assigned to them.
e)Motivating-giving employees inducement to perform their duties.
(iii) Proper location/availability of customers-The business should be sit-
uated in a place convenient for its operations e.g. where customers are
easily available.
(iv) Adequate finance/capital-Money is needed to acquire other resources
that are required by the business. A business that has adequate capital is
likely to do well as it is able to finance all its operations.
(v) Lack of competition-Most businesses are put out of operation by stiff
competition. Therefore, a business operating in an area where there is
little or no competition is likely to succeed.
(vi) Commitment to business
 19

(vii) Proper financial management-Proper management of finances is nec-

essary for the success of the business. It ensures that money is available
and is used for the intended purpose.
Management of finances includes:
a) Acquisition of finances-This involves raising of the required amounts
of money. This can be done through a variety of ways such as loans
from financial institutions and owner’s contributions.
b) Managing cash-This ensures that the available money is only used for
the activities that are beneficial to the well being of the business.
c) Proper record keeping-This involves having a record of finances
raised and how they are used.
(viii) Proper debt management-Care should be taken to ensure that credit is
only extended to credit worthy customers (credit worthy customers are
those whose chances of paying are high).Debt collection should also be
carefully planned to ensure that they are collected when due.
(ix) Good public relations-This involves creating and improving a good re-
lationship between the business and other people. Good relations are nec-
essary for attracting and retention of customers.
(x) Being creative and innovative-This involves finding new uses of a
product, new channels of communication and new ways of doing things.
This enables the entrepreneur to be ahead of others.
(xi) Proper market research-The business environment usually changes at a
high rate. This makes it necessary for an entrepreneur to study his/her
customer’s preferences, tastes, spending patterns, income levels, compe-
titions, and behavior and substitute products.
(xii) Good/proper time management-Time management is the ability to
carry out planned activities within the allocated period.
(xiii) Proper skills and attitudes of employees-Employing qualified
staff results in work being done in a professional manner. This enhances
the performance of the business.
(xiv)Proper pricing of goods and services-Pricing should be done appropri-
ately. If the prices for the products are too high, the business will lose
customers. Very low prices may attract customers but kill the business.
It is therefore important to create a balance between price to charge and
the profit margin to realize.
 20

ETHICAL ISSUES IN BUSINESS

Ethics -refers to a set of values, principles and rules of acceptable behavior
which influence how individuals, groups of people and the society in general
behave.
Business ethics-refers to acceptable behavior that should be displayed by
business people. Business ethics helps businesses in deciding what actions are
right or wrong depending on circumstances.
Ethical issues-are the moral concerns that arise in the course of carrying out
business.
Need for Ethical issues in Business
The need for ethical issues in business includes the following;
i. Ensures no discrimination in business-Business ethics ensures there is no
discrimination in areas such as recruitment (hiring), promotion, training, re-
muneration and assignment of duties. These processes should be objective
and based on merit, qualification, experience and ability.
-It ensures that everybody is given an equal opportunity (has equal chance)
and is not discriminated against because of their sex, religion, ethnicity, social
background e.t.c.
ii. Ensures protection of the environment/Helps in avoiding environmen-
tal pollution-Business ethics prohibits business units from carrying out ac-
tivities that may cause pollution and degradation of the environment. Envi-
ronmental degradation may be caused by human activities such as logging
and unplanned cultivation. Pollution may be caused by activities such as:
a) Damping effluents from production units into water masses thereby causing
water pollution. Water pollution is disastrous to human health and also to
aquatic animals.
b) Emitting carbon dioxide and other gases into the atmosphere causing air
pollution
c) Damping of waste material on the land surface causing solid waste pollu-
tion This creates terrible sites to watch and also breeding places for danger-
ous insects such as flies.
iii.Ensures fair play in competition-Ethics ensures that businesses do not en-
gage in unfair practices while competing with others. These practices may
include:
 Destroying a competitor’s product or promotional tools such as bill-
boards
 21

 Buying and destroying competitor’s products before they reach the mar-
ket
 Giving false information about a competitor’s product
 Helps in avoiding environmental degradation-Ethics ensures that the
physical environment is not degraded through business activities. Such
activities may include:
 Deforestation through logging
 Unplanned cultivation
 Helps in avoiding environmental pollution-Environmental pollution
may be caused by activities such as:
 Releasing carbon dioxide and other gases into the atmosphere thereby caus-
ing air pollution
 Channeling effluents from factories to water masses thereby causing water
pollution. Such pollution can be harmful to human health and aquatic ani-
mals.
 Disposing of waste material such as paper and scrap metal on the land sur-
face thereby causing solid waste pollution.
 Producing too loud noise which might be harmful to human beings hearings
 Emitting too strong light that may be harmful to our eyesight
iv. Ensures rights of employees are upheld-Ethics ensures that the em-
ployer does not violate the rights of employees especially as laid out in their
terms and conditions of employment. Such rights include payment of dues
in time.
v. Eliminates use of unfair means of achieving business objectives-Ethics
ensures that the business operations are carried out in a professional way
e.g. it is unethical to give or receive a bribe in order to win a business con-
tract. Similarly, it is not ethical to hoard goods awaiting their prices to go
up.
vi. Avoids consumer exploitation-Ethics ensures that consumers are not ex-
ploited by the business. Consumers may be exploited through practices
such as:
a) Overcharging them
b) False advertisement
c) Selling poor quality goods and services
d) Selling wrong quantities
e) Selling harmful commodities
 22

THE OFFICE
1.Define the term an office
An office is a building, room or a place set aside for administrative, communi-
cation or clerical work of an organization.
2.Outline the functions of an office
 Receiving of information in various forms such as calls, personal visits or
documents such as letters
 Recording and sorting of information received.
 Storing of information for future reference
 Distribution of information within and outside the organization to the vari-
ous sections, departments or personnel for necessary action
 Reproduction or making of copies of document by use of various methods,
such as photocopying, duplicating and carbon copying
 Protecting or safeguarding the organization’s property
3.State the various reprographic techniques that can be carried out in an
office
 Carbon copying
 Stencil duplication
 Photocopying
 Spirit duplicating
 Ink duplicating
4.Your school would wish to use photocopying as a method of making
copies of exams. State the advantages and disadvantages of using this
method
Advantages of photocopying
 It is a fast method of reprography
 It is a simple method and require little training of the users
 One will obtain the exact copies of the original document
 The method is not expensive if the copies to be made are few
 It is environmental friendly
Disadvantages of photocopying
 The copies that are made fade in the cause of time
 Photocopying can be costly if the copies being made are many
 23

 The employees may misuse the method due to its convenience

 Photocopying machine requires electricity which may be expensive
 Few colours in a document may be obtained by use of this method
5. State the types of office layout
 Enclosed office layout
 Open office layout
 Landscape office layout
6. Suggest reasons why an organization should use landscape office lay-
out
 It creates a relaxed atmosphere for the workers
 It is more attractive and beautiful
 The image of the organization/firm is enhanced
 It promotes good working relations and co-operation among the
workers
 Equipment and office facilities may be shared among the employ-
ees
 The flowers or plants used break the monotony of open spaces
7. State ways in which landscape office layout can be created
 By placing plants/flowers in an office
 By having paintings of animals or plants on the wall
 By placing fish aquariums in an office
 Through shaping of office furniture in form of animals, birds and
concrete shapes
 Creating miniature physical features such as waterfalls and moun-
tains in the office
8. State why you will advice an office manager to use an open office lay-
out instead of an enclosed office layout
 In an open office layout it is easier to supervise workers than in an
enclosed office
 An open office discourages absenteeism which may be common in
an enclosed office
 It is cheaper to maintain an open office than an enclosed office
 Equipment, facilities and machines can be shared in an open office
which may not be possible in an enclosed office
 24

 Floor space is saved in an open office than in an enclosed office

 There is enhanced attraction and framework in open office
 It is cheaper to light an open office than an enclosed office
 It is easy to locate employees in an open office
9. State the advantages of enclosed office layout
 It is ideal for work that is confidential in nature
 It is more secure than an open office layout
 The office is ideal where high level of concentration is required
 It is prestigious for the occupant of such an office as they are rec-
ognized
 The worker is not disrupted by noise or movement of other em-
ployees
10. Highlight the disadvantages of an open office layout
 There is a lot of noise and disruption from other employees
 Contagious diseases may spread easily among the employees
 The top ranked workers may feel belittled being placed among
other workers
 It is not very conducive for work that is confidential or secretive in
nature
 Property within the office is not very safe
 Due to use by many people the office may not be very tidy
11. Outline the factors that have to be taken into consideration when de-
ciding on a type of office layout to use
 The cost of construction and maintenance
 The number of staff to be accommodated in the office
 The climatic condition of the area
 Government directive if any
 The nature of work to be carried out in that particular office
 The nature and rank of staff to be accommodated in that particular
office
 The floor space available for the office
 The need to maintain a good work flow among the workers
12. State the disadvantages of an enclosed office layout
 It can encourage absenteeism
 25

 It is not easy to supervise the employees

 It is expensive to construct and maintain
 Facilities and office equipment cannot be shared among the work-
ers
 Workers can misuse office equipment such as the telephone
 The office layout takes up more space
 A lot of time is wasted when moving from one office to another
 It may promote individualism as some employees are isolated from
others
13. Enumerate the factors you will advice Mr.Mwajuma to consider when
buying office machines for his company
 The effect of the machine on the workers
 The cost of the machine or equipment
 The suitability of the machine for the task that is intended for
 The availability of after sales services provide by the seller
 Presence of office staff with the skills required to operate the ma-
chine
 One has to consider space or room to keep the machine or equip-
ment
 The likelihood of the machine being outdated absolute or out of
date
 One has to consider whether that machine can adopt to future
changes
14. State the best type of machine one would use to perform the following
tasks:
Functions Type of machine
(a) To create postage im- Franking machine
pressions on envelopes
(b) To fold documents put Composite machine
them in envelope and
seal them
(c) To destroy sensitive but Paper shredder
unwanted documents
(d) To store large volumes Computer
of data
 26

(e) To run 300 copies of an Printing machine

exam for students in a
school
(f) To make exam copies Photocopier
of a certain original
document
(g) To trim papers to the re- Guillotine machine
quired sizes

15. Highlight the disadvantages of using office machine

 They can be very costly/expensive to buy and operate
 They occupy space which can be used for other tasks
 Machines may replace labour causing unemployment
 Some may require electricity which may be expensive
 Any breakdown of the machine may delay work
 The machine may become obsolete(out of date)
 They are subject to wear and tear(depreciation)
 Some may require specialized or trained personnel to operate
16. State the three categories of office staff
 Managerial staff
 Junior staff
 Subordinate staff
17. Outline the advantages of using office machines
 Machines are labour saving and can be cost effective in the long
run
 The output of machines is of good quality
 They can be used to minimize fraud or theft
 Machines can be very fast saving on time
 They can produce uniform work
 Machines can be very accurate as compared to human labour
 Some machines can be adapted to multiple task such as a computer
18. Highlight the role played by a good filing system in an organization
 Filing provides security/safety of documents
 It facilitates easy retrieval or access of documents
 27

 Good filing enhances orderliness and tidiness of an office

 It guarantees confidentiality of information since it cannot get to
the wrong hands
 Good filing promotes good communication
 Filing guarantees that documents are protected from damage
 Good filing guarantees good future reference in case the informa-
tion is required
19. Outline the various categories of office equipment giving exam-
ples in each case
Category Example
(a) Typing office machine (i)Typewriter
(ii)Dictating machine
(b) Mailing office machine (i)Franking machine
(ii)Composite machine
(iii)Folding machine
(c) Communication office (i)Telephone
machine (ii)Telex
(iii)Cell phone
(d) Duplicating/repro- (i)Photocopier
graphic machine (ii)Duplicator
(iii)Printing machine

20. Distinguish between centralized and decentralized filing system

In centralized system one department is given the responsibility of keep-
ing and managing all the files in the whole organization. This depart-
ment is referred to as a registry.Decentralised filing
21. State the characteristics of a good office worker with office eti-
quette
 Courtesy i.e dealing with people politely
 Punctuality-keeping time at all times
 Honesty-telling the truth
 Co-operation with other employees
 Tactical or being diplomatic when dealing with others
 Good judgement and coming up with the best decision
 Neatness and orderliness in terms of work arrangement
 28

 Dedication or loyalty towards the organization

22. Highlight personal attributes that Bakari should have as an of-
fice worker
 He should be presentable
 He should maintain high standard of morality
 He should have a good sitting posture
 He should maintain high standards of hygiene
 He should be neat and accurate in the organization of his work
 He should maintain good health and physical fitness through hav-
ing proper diet and exercising
23. Define the roles played by the following office workers
(a)Departmental manager
 Maintaining the books of accounts
 He/she may prepare the budget for his/her department
 Submitting reports to the senior manager about performance of the
department
 Monitoring and supervising workers in the department
 Assigning roles and duties to employees in the department
(b)Personal secretary
 Receiving and filing information
 Booking appointments for the boss
 Taking and writing minutes during meetings
 He/she can maintain small amount of money for making small
or petty purchases in the office
 He/she receives and makes calls for his seniors
24. Highlight trends in office management
 Use of modern computers enhances efficiency
 Introduction of customer care desks or offices to address customers
concerns
 Movement toward open and landscape office plan to enhance more
interaction among the workers
 Outsourcing for some task that can be done by other firms instead
of employing workers to do the same e.g. having external cleaners
or security
 29

 Use of the cell phone for communication

25. E-Commerce is a recent trend in business. Outline the advan-
tages of using this method in carrying out business activities.
Advantages
 One can have a wide variety of goods and services from all over
the world
 It reduces the cost of travelling to the market or in search of prod-
uct
 It is fast as deals can be made within a short period of time
 A seller can advertise goods to many consumers over a wide area
 Paper work and the many document used on other trade are re-
moved or reduced as selling and buying is on-line
 A lot of information about the market can be accessed on the inter-
net

HOME TRADE
TOPIC OBJECTIVES: By the end of the topic, the learners should be able
to:
i. Explain the meaning and importance of trade.
ii. Classify trade
iii. Explain the forms of home trade
iv. Discuss the types and functions of retailers
v. Discuss the types and functions of wholesalers
vi. Describe the documents used in home trade and the circumstances under
which they all used
vii. Explain the means of payment used in home trade and the circumstances
under which they are used
viii. Explain the terms of payment used in home trade and circumstances in
which they are used.
MEANING OF TRADE
This is the buying and selling of goods and services with the aim of making a
profit.
Importance of trade:
Trade plays a vital role in any economy. The various roles played by trade in
the economy include:
 30

i. Helps people to acquire what they cannot produce

ii. Avails a variety of goods and services thereby improving the peoples living
standards
iii. Creates an outlet for goods thereby enabling the producers to dispose of
their surplus produce
iv. Creates employment opportunities
v. Encourages specialization and division of labour
vi. Promotes peace, social relations and understanding the parties involved
since they depend on one another
vii. Provides revenue to the business and the government in form of taxes and
fees charged on the various trading activities
viii. Ensures steady supply of goods and services
ix. Exploitation of local resources as traders create goods and services using
locally available resources
x. Encourages economic growth and development
Classification of Trade
a) On the basis of geographical location of the portion involved, These
are:
i. Home trade-Also called internal, local or domestic trade.
-It refers to the buying and selling of goods and services within the boundaries
of a given country.
-It is further divided into retail trade and wholesale trade.
ii. International trade (foreign trade)
-This is trade that is carried out beyond the boundaries of a country
-This is trade carried out between individuals or government of different
countries e.g. trade between a citizen of Kenya and a citizen of Tanzania, or
trade between the government of Kenya and the government of Southern Su-
dan
-International trade carried out between two countries is referred to as bilat-
eral trade and international trade carried out among many countries (more
than two countries) is referred to as multilateral trade.
International trade is classified into the following;
i) Export Trade-Which is the sale of goods and services by a country to
another country or individuals in one country to another country or indi-
viduals in one country to individuals in another country.
 31

ii) Import Trade-Which is the buying of goods and services by one coun-
try from another country or by individuals in one country from individu-
als in another country.
Forms of Home Trade
i) Retail Trade
-Retail trade involves the buying of goods and selling them to the final con-
sumer. A retailer is the trader who buys goods with a view of selling them to
the final consumer.
Classification of Retail Traders
Retailers are classified/categorized according to the amount of capital they
need to start and operate their businesses and their sales volume. Thus retail-
ers can be classified as;
i) Small scale retailers
ii) Large scale retailers
i) Small-scale Retail businesses/small scale Retailers
These are retailers whose capital requirement is low and their sales volume
also low. They form the majority of retail traders and all found in all parts of
the country.
Small scale businesses are easy to start and in most cases they are operated as
one-man’s business.
A small scale trader serves the needs of people in the immediate neighbour-
hood and deal mainly in fast moving goods such as foodstuffs, detergents,
kerosene e.t.c
Categories and Types of small scale
These are two main categories of small-scale traders as shown below;
a) Small scale Traders without shops
-Itinerant Traders (Hawkers and peddlers)
-Roadside sellers
-Open air market Traders

b) Small scale retailers with shops

-Single shops -Tied shops -Kiosks -Mobile shops
-Market stalls -Canteens -Mail order stores
a) Small scale Retailers without shops
i) Itinerant Traders
 32

These are retailers who move from place to place selling their goods either on
foot, by bicycles or motor cycles
-They move from town to town, door to door and from village to village sell-
ing their goods. Their goods may include clothes, utensils and foodstuffs. Cus-
tomers can buy goods without having to travel to look for them
-Examples of itinerant traders are hawkers and peddlers (Hawkers move
around on bicycles, handcarts or motorcycles while peddlers walk around)
-The itinerant traders require a licence from the local authorities in order to
sell their goods.
Characteristics of itinerant Traders
i) Are found mainly in densely populated areas
ii) Move from place to place in search of customers
iii) They are very persuasive
iv) Their prices are not controlled.
Advantages of itinerant Traders
1. They require little capital to start
2. They are convenient because they bring goods closer to the people
3. The business is flexible in that they can move from place to place. They
can also change from line of business to another
4. Few legal formalities are required
5. They usually do not suffer bad debts because they sell in cash.
Disadvantages of itinerant Traders
1. The traders get tired because of moving from one place to another while
carrying goods.
2. The business is affected by bad weather conditions
3. The traders sale a limited range of goods
4. It is difficult to transport goods from one place to another.
5. Do not offer guarantee, in case items are to be found defective
6. They are constantly in conflict with the local government.
ii) Roadside sellers
These are traders who sell their goods at places where other people pass by
and at busy places such as along busy roads, bus stages, road junctions and en-
trances to public buildings.
They place their goods on trays, cardboards, empty sacks and mails
They sell items such as fruits, utensils, sweets, clothing and some hardware.
iii) Open-air market Traders
 33

Open air markets are places set aside by the government through the local au-
thorities where people meet to buy and sell goods. Traders selling similar
commodities are allocated a special area. Such markets are open on particular
days of the week.
The variety of goods sold here is wide and include agricultural produce, cloth-
ing, household items, animals, foodstuffs and even furniture.
The traders move from one market to another depending on the various mar-
ket days.
Advantages of small-scale retailers without shops
i) They require a small amount of capital to start and operate their busi-
nesses.
ii) They are convenient since they take goods to the customers within their
reach.
iii) They incur low costs of doing business
iv) Most of their goods are low-priced and hence more affordable to cus-
tomers.
v) The business is flexible. It is easy to change from one business to an-
other
vi) They require few legal requirements
vii) The financial risks involved in these businesses are minimal
viii) They do not suffer bad debts since they sell on cash bases
ix) They interact at personal level with the customers and can convince
them to buy their goods.
Disadvantages of small-scale retailers without shops
i) It is tiring for traders to move from place to place especially if the goods
are heavy and the distance covered are long
ii) The traders face stiff competition from other traders with more resources
iii) They offer a limited variety of goods
iv) They are affected by unfavorable weather condition
v) Lack of permanent operating premises denies them a chance to develop
permanent customers
vi) They face a lot of certainty, especially in terms of a steady flow of in-
come
vii) They sometimes sell defective or low quality goods because customers
expect to pay little money for them.
 34

b) Small scale Retailers with shops

These are small scale retailers with permanent locations to operate from. They
include;
i) Kiosks
These are small shops or structures found mostly in residential areas, busy
streets, highly populated areas or inside building where people pass by or
work
They deal in fast-moving items and groceries such as; sodas, cakes, sweets,
cigarettes, and newspapers e.t.c. some kiosks also sell food
ii) Market stalls
These are permanent stands found in market places, especially those operated
by the various local authorities
They are of different designs depending on the goods they sell or services they
offer.
They are rented or leased by individuals from local authorities
They deal in fast moving household goods though some may specialize in
other products such as clothing and shoes.
Examples are stalls at Muthurwa markets, Kariokor, and most municipal mar-
kets.
Advantages of kiosks and market stalls
 They are small, hence easy to start and operate
 They are conveniently located close to their customers
 They require little capital to start
 They tend to have a loyal group of customers since they have permanent
premises
 They incur relatively low running costs
 They give personal attention to their customers
 They are flexible since the owner can change from one business to another
easily.
Disadvantages of kiosks and market stalls
 They provide a limited range of products
 They usually do not have adequate higher capital for expansion
 They charge relatively higher prices than the retailers without shops
 They face stiff competition from more established retail businesses
 They sometimes suffer from bad debts
 35

 Due to their size, they do not enjoy economies of scale

 For market stalls the hours for operation are controlled by the local author-
ity concerned
iii) Single shops (unit shops)
-Single shops are mostly located in the trading or market centres in rural areas
or in the residential areas of high towns
-They are operated from fixed premises
-They are usually run by one person who may get assistance from him/her
family or employ attendance
-Some deal in one line of commodity such as houses, clothing, groceries or
electronics
Advantages of single shops
 Minimal capital is required
 Running costs are usually low as the owner may use the services of family
members
 They may offer credit facilities to some customers
 They are easy to start because only a licence is required
 They usually have a loyal group of customers
 Flexibility. The owner can change his or her line of business at will
 They are easy to start since the owner does not have to meet any manufac-
tures requirements
 Products prices are fixed by the shop owners
 The owner has the freedom of creativity and independence
 They are convenient since they ensure goods are within easy reach of their
customers.
Disadvantages of single shops
 Expansion is difficult due to limited funds
 They face stiff competition from large businesses
 The absence of the owner may result in closure and loss of business
 May suffer bad debts
 Provide limited variety of goods
 The operations of the business are affected by the owner’s commitment.
iv) Tied shops
 36

These are shops that mainly sell the products of one particular manufacture or
are owned by a specific supplier of certain goods. The shops are owned or
controlled by the manufacturer, and are thus tied to the manufacture.
The manufacture/supplier designs the organization of the shop and its appear-
ance e.g. painting hence they look alike. The supply closely supervises the
shops.
Examples of tide shops include; Bata shops which sell shoes made by Bata
Company, petrol station like National, Kobil, and total e.t.c
Advantages of Tied shops
 Availability of goods is assured at all times
 The supplier carries out promotion for the goods
 The manufacturer/supplier can easily give credit to the shops
 Customers can return or change faulty goods at any of the shops
 The shops are easily identifiable due to their similarity
 Traders are financed by the manufacture
 They get loyal customers who keep buying their branded products
 Advertisement expenses are met by the manufacture
 They get technical advice from the manufacture
 Some operate from permanent premises owned by the manufacture.
Disadvantages of Tied shops
 Decision making is slow because the manufacturer must be consulted
 The variety of goods is limited
 The shops cannot sell goods from any other manufactures even if cus-
tomers require them
 Prices are fixed by the manufacture and sometimes profit margins may be
low
 They inhibit the retailers creativity and innovations
 There is a likelihood of disagreements between the manufacture and the
tied shop owners.
Differences/Distinction between a tied shop and single shop
Single shop Tied shop
-Owner is free to stock whatever he/ -Dealership can be withdrawn if op-
she wishes erators stock competing products
-Owned by individual or a group of -The owner is normally the manufac-
people turer
 37

-Sells products from different manu- -Sells products from a single manu-
facturers facturer
-Design of shop according to owners -Shops usually have the same design
wish
-Prices of goods determined by shop -Prices of goods set by the manufac-
owner or different manufactures turer
-Operators not trained by manufac- -Operators are usually trained by
turers manufacturer
v) Canteens: These are retail shops found in institutions such as schools,
colleges, hospitals and army barracks.
-They stock a variety of consumable goods such as sodas, bread, tea, groceries
and other things used by the people in that institution.
-They are run by the institutions management or by individuals on retail busi-
ness
-Most of them operate without a license as they are considered to be part of
the institution. Their hours of operation are sometimes regulated by the insti-
tution
Advantages of canteens
-Some do not pay any rent, thus they incur low overhead costs
-They often require low capital to start
-Some offer credit facilities to their customers
-They are situated at ideal location which is convenient for their customers
-They are assured of a market as they cater for people in particular institution.
Disadvantages of canteens
-The market is limited to people in a particular institution
-They do not open throughout/they open for limited hours e.g. after classes in
schools
-They close down when the targeted customers are not available e.g. during
school holidays.
-They may suffer from bad debts
-They are difficult to expand due to insufficient funds
vi) Automatic vending machines; These are coin or card operated ma-
chines used to sell commodities like drinks, stamps, and snacks e.t.c. Ex-
amples are coffee shops, ATM’s e.t.c
Features
 38

-They dispense goods or services once a coin or a card is inserted and instruc-
tions keyed in.
-They operate without an attendant
-They are usually placed at strategic places such as busy streets, office build-
ings, shopping centres and hospitals.
Advantages of vending machines
 Commodities can be bought anytime because no attendant is required
 They save the owner the cost of employing a shop attendant
 They can be put strategically to boost sales e.g at institutions
 They are fast and accurate
 They are not affected by weather changes
 They provide goods and services on cash basis protecting the owner from
the burden of bad debts.
Disadvantages of vending machines
 They provide a limited range of products
 Break-downs or stock-outs may discourage customers
 Maintenance costs are high due to regular servicing, repairs and sometimes
vandalism
 The owner may incur losses through fraud and use of inappropriate coins
and cards by consumers.
 Customers are forced to carry coins and cards in order to obtain goods or
services
 Their use is limited to customers who are familiar with how the machine
works
 They are mainly found in urban areas, thereby locking out the people in ru-
ral areas.
vii) Mobile shops
Mobile shops, like itinerant traders move from town to town or village to vil-
lage selling their goods.
-They have vehicles that they have converted into a shop from which cus-
tomers can buy their goods
-They visit different towns at regular intervals.
Advantages of small scale Retailers
1. Easy to raise capital to start
 39

2. Retailers are in close contact with the consumers and may give credit to
credit worthy customers.
3. Are able to use free or cheap labour from family members
4. The risks involved in their businesses are small
5. The business is simple to start and manage
6. Few legal formalities required to start and run the business
7. The trader can easily change from one form of business to another i.e. the
business is flexible
Disadvantages of small-scale retailers
1. Traders have limited access to loan facilities
2. They may not afford to hire specialists or technical staff
3. May suffer bad debts if they give credit to customers without proper assess-
ment
4. Do not enjoy economies of scale
5. Have a low turnover because of the little capital invested

LARGE SCALE RETAILERS

Large-scale retailers have the following features/characteristics;
i) Require large amounts of capital to start and maintain
ii) They operate from larger fixed premises
iii) They operate mainly in urban areas
iv)They have a large labour force
v) Buy goods in large quantities from wholesalers or directly from producers
and are therefore allowed large trade and quantity discounts and other
favourable credit facilities
vi)Require the services of specialists such as salespersons and accountants
vii) May occupy one large premise or several premises in the same town or
in different towns
viii) They have large stocks and large sales volumes
TYPES OF LARGE SCALE RETAILERS
a) Supermarkets: A supermarket is a large-scale self-selection/self-service
store that deals mainly with household goods such as utensils, foodstuffs
and clothes. It has the following features;
Features of supermarkets
i) Requires large capital to start
ii) They stock a wide variety of goods
 40

iii) Offers self service facilities

iv) Goods have price tags or bar codes
v) Prices of goods are fixed
vi) No credit facilities are offered
vii) Sell at comparatively low prices
viii) Goods are systematically arranged for easy selection
ix) Shoppers are provided with baskets or trolleys for convenience
x) There is minimal interaction between buyer and seller
xi) There are employees who pack goods for customers at the pay points.
Advantages of supermarkets
i) Prices may be relatively low because they buy their goods in bulk and
are given discounts
ii) Saves time as customers are able to get most goods they require under
one roof
iii) Self-service saves the customers time
iv) Few attendants are employed thereby reducing the monthly wage bill
v) Impulse buying leads to more sales, hence high profits
vi) Bad debts are avoided because there are no credit sales.
vii) The price tags on goods help customers to monitor their spending.
Disadvantages of supermarkets
i) Do not offer credit facilities to customers
ii) Do not deliver goods to the customer’s premises
iii) Are found mainly in urban areas
iv) May incur losses due to pilferage of goods
v) Impulse buying may lead the customers to buying goods they may not
need.
vi) They are expensive to start and operate due to the large amount of capi-
tal required
vii) Prices are fixed and bargaining is not accepted, which discourages some
customers
viii) Minimal personal interaction limits chances for making more sales
b) Hypermarkets
A hypermarket is a large shopping complex/centre comprising a variety of
businesses managed by different people all housed in one building
Examples; village market, sarit centre, Tuskeys-Kisumu, Nakumatt mega
city-Kisumu e.t.c
 41

Features/Characteristics of Hypermarkets
i) Are served with good access roads
ii) They have ample parking space
iii) Many businesses in one building
iv) Located in the outskirts of town
v) Offer a variety of goods and services
vi) Occupy a large space.
Advantages of Hypermarkets
i) Offer ample and secure parking space to customers
ii) Customers can do all their shopping in one building
iii) They are usually open for long hours
iv) They may provide credit facilities by accepting credit cards
v) There is less traffic congestion as hypermarkets are located away from
urban centres
vi) Provide a wide variety of goods and services to customers under one
roof.
vii) They have fair prices that are customer friendly.

Disadvantages of Hypermarkets
i) Are only convenient to customers who have cars because they are situ-
ated away from city centres
ii) They serve limited number of people due to their location
iii) They require large amount of capital to establish
iv) They can easily exploit their customers since their prices are not con-
trolled
v) Require large amount of space which are not available in central busi-
ness district (CBD)
vi) They spend a lot of security to safeguard properties
c) Chain stores (Multiple shops); Are large scale businesses with separate
branches which are managed and organized centrally. The branch managers
are accountable to the head office. Examples; African Retail Traders
(ART), White Rose dry cleaners, Nakumatt, Tuskys, Uchumi e.t.c
Characteristics/features of chain stores
i) Are managed centrally from a head office
ii) Prices are standard for all their products in all their branches
iii) All branches deal in the same type of products
 42

iv) Sales are decentralized i.e. the various shops situated in different places
act as selling points or branches
v) Purchases of stock are centralized i.e. buy stock buy stock in bulk cen-
trally and distributed to the different branches
vi) Goods can be transferred from one shop to another where the need for
them is higher
vii) The shops operate under one name and are similar in appearance and in-
terior layout
Advantages of chain stores/multiple shops
i) They enjoy large trade discounts since they buy their goods in bulk cen-
trally and is passed to consumers in form of low prices
ii) Common costs such as those of advertising are shared
iii) Goods that do not have a high demand in one branch can be transferred
to another where their demand is high
iv) They are easily identified by their colour and design
v) They have low operational costs because of the centralized buying, stor-
age, advertising and accounting
vi) They serve a large number of customers because they are spread in
many towns and cities
vii) The similarity of the shops in appearance and services serves as an ad-
vertising tool
viii) Risks such as losses are spread among many shops
ix) It is possible to pay for goods in one branch and pick them up in another.
Disadvantages of chain stores/multiple shops
i) Large amount of capital is required to start and maintain the business
ii) They cater mainly for the urban areas as they are situated in those places
iii) Organizational problems may occur due to their large size
iv) No credit facilities are offered except those operating exclusively on hire
purchase schemes
v) Response to market changes is slow due to the slow decision making
vi) Decision making is slow as the head office must be consulted
vii) Lack of personal touch with customers
viii) Absence of personal touch between employer and employee may reduce
incentives for hard work among staff
ix) People tend to shy away from buying similar products such as clothes
and this may reduce sales.
 43

d) Departmental stores
This is a group of single shops operating under one roof with a centralized
management
Each shop/department specializes in a particular line of products and is
headed by its own department manager.
Characteristics of departmental stores
i) Each department has its own manager
ii) Each department sells only one line of products
iii) All departmental managers are answerable to a general manger
iv) They offer a wide variety of goods at relatively low prices
v) They sell goods strictly on cash basis
vi) They are usually in town centres
vii) Goods are not transferable from one department to another as each has
its own variety of goods.
Advantages of departmental stores
i) Customers can buy/access a wide variety of goods at fair prices under
one roof.
ii) They can afford to hire trained qualified experienced staff who provide
quality services
iii) They buy goods in large trade discounts. This enables them to sell at low
prices.
iv) Each department is able to make independent and quick decisions that
affect its operations.
v) The independence of departments ensures that the weakness of one de-
partment does not affect each other.
vi) Savings can be made on some activities such as product promotion by
centralizing them.
Disadvantages of Departmental stores
i) A large amount of capital is required to start and maintain the stores
ii) They require a large number of customers to operate profitably
iii) It is difficult to give personal attention to customers
iv) They cater mainly for the urban communities in which they are located
v) They strictly sell their goods on cash basis
vi) Operational costs are high due to the wide variety of services offered
vii) Their large size could encourage theft and pilferage of goods
viii) The independence of departments can make central control difficult.
 44

e) Mail order stores

This is a type of retail business where business is carried out through the post
office, telephone or email
-Ordering of the goods is done through the post office telephone or email and
delivering of goods is done by post or courier
-There is no personal contact between the seller and the buyer and buyers get
information from advertisements.
-Goods are dispatched on the basis of cash with order (CWD) or cash on de-
livery (COD).
Characteristics/features of Mail order stores
-They sell the goods through the post office
-They operate on cash with order (CWO) or cash on delivery (COD) terms
-Heavy advertisement are involved
-Customers do not visit the selling premises.
-There is no personal contact between the buyer or the seller
-All transactions are done through the post office
-They deal with goods that are less bulky, have high value, and are durable
and not too fragile
-May have large warehouses
Advantages of Mail order stores
 They reach customers who are far for away from the shopping centres
 Do not require the services of sales personnel or shop attendants for skilled
labour since selling is routine
 Total control of distribution is possible
 Payments is made with order or delivery so there is little chance of bad
debts
 Eliminates the loss associated with shop space, thus saving on rent
 Supply of goods is based on order thus a trader requires little working capi-
tal
 The method eliminates trips to congested stores and lengthy waits queues
 Do not require large storage space for goods.
Disadvantages of Mail order stores
 Advertising and postage costs may increases the price of goods
 There is lack of personal contact between the seller and the buyer
 There is limited variety of goods on offer
 45

 Customers do not have the opportunity of inspecting goods before buying

 There are no credit facilities
 The method is only suitable for those who can read and write
 Should there be a problem with the post office.e.g industrial action like
strikes, the business may be affected
 Difficult to operate in places where post office services are poor or unavail-
able
 Chances of being defrauded are high.
FUNCTIONS OF RETAILERS
These can be discussed as services rendered to consumers, wholesalers and
producers
Services Rendered to consumers
i) Offers credit facilities: Retailers are in close contact with the con-
sumers and some may give them credit facilities
ii) After-sales services: Retailers who sell technical goods e.g. cars, elec-
tronics e.t.c may offer after sale services to consumers e.g. transport, in-
stallation repair e.t.c
iii) Provision of variety of goods: Retailers stock a wide variety of goods
from different wholesalers and manufactures enabling the consumers to
have a wide choice.
iv) Advising consumers: Retailers may offer advice to consumers on
choice and use of products
v) Availing needed goods: Retailers make goods available to consumers at
the right time and place
vi) Breaking bulk: Retailers sell goods to consumers in convenient quanti-
ties
vii) Accumulating bulk
viii) Stabilizing prices: By ensuring that goods are continuously available to
consumers
Services Rendered to wholesalers
i) Retailers store goods and relieve the wholesalers the burden of storing
goods and the storage costs
ii) They relieve the wholesalers the burden of transportation
iii) Retailers advice wholesalers on market trends(on consumers
demand)and give valuable information
 46

iv) They help in distribution of goods to the consumers

v) They help in breaking bulk on behalf of the wholesaler
vi) They finance wholesalers to continue with their operations through pay-
ing for the goods
vii) They relieve the wholesaler of some risks that arise from the storage of
goods such as theft, fire and accidents.
Services Rendered to producers
i) Through wholesalers retailers provide very vital information to manu-
factures about market demand
ii) They advertise goods on behalf of producers
iii) They sell and market goods to consumers. This relieves the manufac-
tures the task and risk of retailing
iv) They store goods on behalf of the producers
v) They break bulk on behalf of producers to consumers
vi) They finance producers by buying and paying cash
WHOLESALE TRADE
Wholesaling involves selling goods in large quantities to traders for resale. A
wholesaler is a trader who buys goods in bulk from producers/manufactures
for resale to retailers at a profit.
-There are wholesalers who carry out retailing but that do not make them re-
tailers.
Classification of wholesalers/Types of wholesalers
Wholesalers may be classified depending on a number of factors. These fac-
tors include;
a) According to the range of goods they handle
b) According to the geographical area in which they operate
c) According to their method of operation.
i) According to the range of goods they handle
Under this classification, wholesalers may be any of the following;
a) General merchandise wholesalers
b) General line wholesalers
c) Specialized wholesalers
a) General merchandise wholesalers
The word merchandise means goods.
 47

-The general merchandise wholesalers stock and sell a wide variety of goods
e.g. hardware, clothes, cosmetics and foodstuffs. The retailers who buy from
these wholesalers are thus able to get a wide variety of goods for resale.
-They are also called general wholesalers or full-line wholesalers
b) General line wholesalers
-These are wholesalers who deal in a wide variety of goods within the same
line e.g. textbooks, duplicating papers and other types of stationary.
c) Specialized wholesalers
-These are wholesalers who deal in a particular good from a given line e.g. in
the line of grains, they may specialize in maize only.
ii) According to the geographical area in which they operate.
Under this category wholesalers may be;
a) Nationwide wholesalers
b) Regional wholesalers.
a) Nationwide wholesalers:
These are wholesalers who supply goods to traders in all parts of the country.
-They establish warehouses or depots in different areas from Kenya National
Trading Corporation (KNTC)
b) Regional Wholesalers
These are wholesalers who supply goods to certain parts of the country only.
They may cover a county, District, division e.t.c
iii) According to their method of operation
Under this classification, wholesalers can be:
a) Cash and carry wholesalers
b) Mobile wholesalers
c) Rack jobbers
a) Cash and carry wholesalers: These wholesalers sell goods on cash and
self-service basis like supermarkets
-They neither offer transport nor credit facilities to their customers.
b) Mobile wholesalers/Track distributors: These are wholesalers who use
vehicles to move from place to place supplying goods to retailers e.g. soda
distributors, bread distributors, beer distributors e.t.c.
c) Rack jobbers
These wholesalers specialize in selling certain/particular products to other
specialized wholesalers. They buy goods from producers or from other coun-
tries for reselling.
 48

E.g. some wholesalers buy horticultural products from producers and sell to
other wholesalers in urban areas
-Rack jobbers usually stock their goods in shelves or racks from which cus-
tomers select the goods to buy. Customers may be allowed to pay for the
goods after they have sold them.
d) Drop shippers
These are wholesalers who make orders for goods from manufactures/produc-
ers but do not take them from the producers premises. They then look for the
buyers for the goods and supply the goods directly from the producers
Alternate classification of wholesalers
An alternative classification of wholesalers is given below:
i) Those who buy goods store them in warehouses and sell them to traders
without having added anything to them.
ii) Wholesalers who act as wholesaler’s agents or brokers. These are mid-
dlemen who are paid a commission for their work e.g. commission
agents
iii) Those who after buying the goods and storing them prepare them for
sale. They break bulk, pack, brand, sort, grade and blend the goods
These terms are explained as below:
a) Breaking bulk- Reducing a commodity into smaller quantities for the con-
venience of the buyer e.g. buying sugar from the producer in sacks and sell-
ing it in packets.
b) Packing-Putting goods in packets and boxes ready for sale.
c) Branding-Giving a product a name by which it will be sold
d) Sorting-Selecting goods to desired sizes, weight, colour and qualities
e) Grading-Putting goods in groups of similar qualities to make it easier to
price them
f) Blending-It involves mixing different grades of a product to achieve quali-
ties like taste and colour.

Functions of a wholesaler
These can be discussed as services rendered to producers, retailers and to con-
sumers.
Services of wholesalers to the producers
i) They relieve the producers the problem of distribution by buying goods
from them and selling to retailers
 49

ii) They relieve the producers of some risks they would experience e.g.
damage, theft, fall in demand e.t.c
iii) Save the producers from the problem of storage by buying goods and
keeping in their warehouses
iv) They prepare goods for sale on behalf of the producers
v) They get feedback from consumers on behalf of producers
vi) They promote products through advertising, displays, trade fairs and ex-
hibitions
vii) They finance producers by buying goods from them and paying in cash.
Services of wholesalers to the Retailers
i) They stock a wide variety of goods in large quantities relieving the re-
tailer from buying from different producers
ii) They avail goods at places convenient to retailers
iii) They break bulk for the benefit of retailers
iv) They offer transport facilities to retailers
v) They offer advisory services to retailers regarding market trends
vi) They offer credit facilities to retailers
vii) They engage in product promotion on behalf of retailers
viii) They sort, blend, pack and brand goods saving retailers from having to
do it.
Services of wholesalers to consumers
i) They ensure a steady supply of goods to retailers hence consumers are
not faced with shortages
ii) They ensure a stable supply of goods hence there will be stability in
market prices
iii) They enable consumers to enjoy a wide variety of goods
iv) They break the bulk of goods thus enabling the consumer through the re-
tailer to get the goods in convenient quantities
v) They prepare goods for sale e.g. branding, blending and packaging
vi) Pass information to consumers through retailers about the goods e.g.
new products, new prices and their use.

DOCUMENTS USED IN HOME TRADE

A business document is a written record which gives evidence to a stage in
the transfer of goods or provision of services from one party or it is written
 50

record which gives evidence that trader or a business transaction has taken
place.
A business transaction is a deal between two or more people involving ex-
change of goods and services in terms of money.
Business transaction may take place on cash basis; in which case goods are
paid for before or on delivery or a short while after delivery
Business transaction may also take place on credit basis; which means pay-
ment is made after a specified period from the date of delivery of the goods or
the provision of the services
There are various business documents that are used in various stages of busi-
ness transactions as discussed below;
a) Documents used at the inquiry stage
This is the first stage in transaction. An inquiry is a request by a prospective
buyer for information on available goods and services. It is aimed at establish-
ing the following;
 Whether the goods or services required are available for sale
 The quality or nature of the products available
 The prices at which the goods or services are being sold
 The terms of sale in respect to payment and delivery of goods or services
Some of the documents used at this stage include;
i) Letter of inquiry;
This is a letter written by a potential buyer to the seller to find out the goods
and services offered by the seller.
A letter of inquiry can be general or specific. A specific letter of inquiry seeks
for information about a particular product.
Reply to an inquiry
The seller may reply to the letter of inquiry by sending any of the following
documents;
-Price list -A catalogue -Quotation -A tender
i) A price list
This is a list of items sold by the trader together with their prices. The infor-
mation contained in a price list is usually brief and not illustrated and may in-
clude;
-Name and address of the seller-List of the goods and services
-The recommended unit prices of the products -Any discounts offered
 51

Price list show the prices of the commodities at that time.

ii) A catalogue; A catalogue is a basket which briefly describes the goods a
seller stocks.
It is normally sent by the seller to the buyer when the buyer sends a general
letter of inquiry. It usually carries illustrations on the goods stocked, and could
be in the form of attractive and colorful pictures
The content of a catalogue includes the following;
 Name and address of the seller
 Details of the products to be sold; inform of pictures and illustrations
 The prices of the products
 After-sales services offered by the seller
 Packaging and posting expenses to be incurred
 Delivery services to be used
 Terms of sale
-Catalogues carry more information than the price list and they are more ex-
pensive to print.
iii) Quotation; This is a document sent by a seller to a buyer in response to
a specific letter of inquiry. It specifies the conditions and terms under
which the seller is willing to supply the specified goods and services to
the buyer.
The content of a quotation includes the following;
-Name and address of seller -Name and address of the buyer
-Description of goods to be supplied -Prices of the commodities
-Terms of sale i.e. discounts, time of supply, delivery
-Total of the goods to be supplied
Quotations are normally in form of letters, but many large-scale businesses
have pre-printed quotations forms which they readily send to the potential
customers.
iv) A Tender
This is a document of offer to sell sent by a seller to a buyer in response to an
advertised request
Tenders contain the following;
-Date when the tender advertisement was made -Mode of payment
-Date of making document -Discounts given
-Name and address of prospective seller called the tenderer
 52

-The prices at which the goods can be provided

-Period of delivery -Mode of delivery
-Tenders are delivered in sealed envelopes which are opened by the buyer on
a specified date
The winning tender is usually awarded on the of the lowest quoted price al-
though the buyer is not obliged to accept this especially if quality is likely to
be low
Tenders are not binding unless accepted by the buyer.
b) Documents used at the order stage
After receiving replies to inquiry in form of price list, catalogue or Quotation,
a prospective buyer will study the terms and conditions stated in them, and
then may decide to buy products or not.
i) An Order
If a prospective buyer decides to purchase an item(s), he or she then places an
order
An order is a document sent by a potential buyer to a seller requesting to be
provided with specified products under specified terms and conditions
-An order issued for goods is called a local purchase order (LPO)
An order issued for services is called a local service order (LSO)
Ways of making an order
i) Filling an order form. This is a pre-printed document that is used for
making orders
ii) Writing an order letter
iii) Sending an e-mail, faxing or sending a short text message
iv) Giving a verbal order. Verbal orders have the disadvantage in that they
can be misunderstood and there would be no record of items ordered
-Where written orders are made, the potential buyer keeps a copy of the order
for use in verifying the goods ordered when they are delivered.
-A written order may contain the following;
 Name and address of the buyer
 Name and address of the seller
 The number of the order
 Quantities ordered and total amount to be paid
 Description of the goods ordered
 Price per item
 53

 Special instructions on such matters as packaging and delivery

ii) Acknowledgement note
On receiving the order, the seller sends the buyer an acknowledgement note
An acknowledgement note is a document sent by the seller to the prospective
buyer to inform him/her that the order has been received and it is being acted
upon.
After sending the acknowledgement note, the seller has to decide whether to
extend credit to the buyer or not. At this stage, the seller has the following op-
tions;
i) If the seller is convinced that the buyer is credit worthy, arrangements
are made to deliver the ordered goods or services to the buyer.
ii) If the seller is not sure of credit worthiness of the buyer, a credit status
inquiry can be issued to the buyer’s bankers or to other suppliers who
deal with the buyer to ascertain the credit worthiness.
iii) If the buyer is not credit worthy then a polite note or a pro forma in-
voice can be sent to him/her
A proforma invoice
This is a document sent by the seller to the buyer requesting the buyer to make
payment for goods or services before they are delivered. It indicates that the
seller is not willing to grant the buyer credit
Functions of a proforma invoice
i) A polite way of asking for payment before the goods are delivered
ii) Sent when the seller does not want to give credit
iii) Used by importers to get customers clearance before goods are delivered
iv) Issued to an agent who sells goods on behalf of the seller
v) Show what the buyer would have to pay if the order is approved
vi) Can be used to serve as a quotation
Circumstances under which a pro-forma invoice may be used
 If the seller does not want to give credit
 If the seller wants to sell goods through an agent
 If the seller wants to get clearance for imported goods
 If the seller wants it to function as a quotation
 If the seller wants to inform the buyer what he/she pay if the order is ap-
proved e.t.c
Documents used at the Delivery stage
 54

After the seller has accepted the order sent an acknowledgement note and
where necessary the pro-forma invoice, the seller then prepares the goods for
delivery to the buyer. This can be done in the following ways;
 The seller can ask the buyer to collect the goods
 The seller can deliver the goods to the buyer using his/her own means of
transport
 The goods can be delivered to the buyer through public transport
 The services(s) can be rendered to the buyer at the sellers or the buyer’s
premises or at any convenient place.
The main documents that are used at this stage are;
i) Packing note; Before delivery goods are packed for dispatch. This is a
document prepared by the seller showing the goods contained/packed in
every container, box or carton being delivered to the buyer
-A copy of the packing note is packed with the goods to make/help the buyer
have a spot check.
The contents of a packing note include;
-Description of goods packed
-Quantities of goods packed
-The means of delivery
NOTE: A packing not does not contain prices of goods. This ensures that
those people involved in checking and transporting goods do not know the
value of goods. This is done as a precaution against theft.
ii) Advice note; This is a document sent by the seller to the buyer to inform
the buyer that the ordered goods have been dispatched. It is usually sent
through the fastest means possible.
-It contains the following;
-The means of delivery -A description of the goods
-The quantity dispatched -Date
-Name and address of buyer and seller
Functions of an advice note
a) Informing the buyer that the goods are on the way so that in case of any de-
lay in delivery, the buyer can make inquiries
b) Alerting the buyer so that necessary arrangements can be made for pay-
ments when the goods arrive
c) Can serve as an acknowledgement note, where one is not sent/
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iii) Delivery note; This is a document sent by the seller to the buyer to ac-
company the goods being delivered.
-A delivery note is always made in triplicate (3), one copy remains with the
seller and two sent to the buyer.
-When the goods reach the buyer, he/she confirms that the goods are the ones
ordered for and that they are in the right condition by comparing the delivery
note, the order and the goods. If the buyer is satisfied with the goods, he/she
signs the two copies, retains the original and send the copy back to the seller.
This serves as evidence that the goods have been received in the right condi-
tion and in the right quantities.
-Some businesses keep delivery books in which the buyer signs to indicate
that goods have been received in good condition. A delivery book is used by
the seller if he/she delivers goods by himself/herself as an alternative to a de-
livery note
The content of a delivery note includes the following;
a. Name and address of the seller
b. Name and address of the buyer
c. Date of delivery
d. Delivery note number
e. Description of the goods delivered
f. Quantities of the goods delivered
g. Space for the buyer to sign and comment on the condition of the goods re-
ceived.
iv) Consignment note
This is a document prepared by a transporter to show that he/she has been
hired to deliver specified goods to a particular buyer. This document is used
when goods are delivered to the buyer by public means of transport e.g. by
trains.
-The seller is the consignor, the buyer is the consignee and the goods the con-
signment
-The transporting company prepares the consignment note and gives the seller
to complete and sign. The seller then returns the note to the transporter (car-
rier) who takes it together with the goods to the buyer.
-On receiving the goods, the buyer signs the consignment note as evidence
that the goods were actually transported.
The content of a consignment note includes the following;
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 Details of the goods to the transported

 Name address of seller (consignor)
 Name and address of buyer (consignee)
 Terms of carriage and conditions of transporting the goods
 The transportation cost
 Handling information
 Destination of goods

v) Goods Received note; This is a document sent by the buyer to the seller
to inform him/her that goods sent have been received. It usually pre-
pared in duplicate, the original is sent to the seller and the copy retained
by the buyer.
The contents of the goods received note include;
 Date of the document
 Name and address of the buyer
 Name and address of the seller
 Corresponding purchase order
 Details of goods received
 Date the goods were received.
vi) Returned goods note/Damaged goods note; If goods are damaged on
the way, the buyer may return them to the seller. The buyer may also re-
turn goods for other reasons e.g.
 Wrong type of goods
 Excess goods
 Wrong quality goods
-When the goods are returned, the buyer informs the seller of the return by
sending a goods returned note.
-A goods returned note is a document sent by a buyer to a seller to inform
him/her that certain goods are being returned to the seller.
-Where the goods are returned because of damage, the note may be referred to
as the damaged goods note.
The contents of the goods returned note include;
 Details of goods that have been returned to the seller
 Date goods are returned
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 The number of (GRN)

 Order number
 Delivery number
 Name and address of both buyer and seller
-When the seller receives the note together with the goods, he issues a credit
note
d) Documents used at the invoicing stage
This stage involves the seller requesting or demanding for payment from the
buyer for the goods or services delivered.

Some of the documents used at this stage include:

a) Invoice
This is a document sent to the buyer by the seller to demand for payment for
goods delivered or services rendered.
There are two types of invoices namely:
a) Cash invoice-This is sent when payment is expected immediately after
delivery thus acting as a cash sale receipt
b) A credit invoice-This is sent when a buyer is allowed to pay at a later
date.
Functions of an invoice
i) It shows the details of goods sold i.e. quantity delivered, unit price, total
value of the goods and terms and conditions of sale.
ii) It is a request to the buyer to make payment
iii) It serves as an evidence that the buyer owes the seller a certain amount
of money
iv) It is used as a source document in recording the transaction in the book
of accounts.
The contents of an invoice include the following:
 Invoice number
 Name and address of the seller
 Name and address of the buyer
 Date document is prepared
 Details of goods repaired
 Unit prices of goods delivered
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 Total value of goods

 Discounts offered
 E and O.E printed at the bottom
The letters E and O.E (Errors and Omissions Excepted) means the seller re-
serves the right to correct any errors and omissions made in the invoice.
-On receiving the invoice, the buyer verifies the contents using the local pur-
chase order and the delivery note. If the invoice is in order, the buyer makes
arrangements to pay the amount stated.
Businesses which offer services issue a document called a bill, which serves
the purpose of an invoice.

Differences Between the invoice and pro-forma invoice

The invoice The pro-forma invoice
1) It is issued after goods and ser- 1) It is issued before goods and ser-
vices have been delivered vices have been delivered
2) It shows the total value of the 2)Shows the total value of goods and
goods or services on credit services to be bought
3) It is used to demand payment for 3)It is used to demand for payment in
products sold on credit advance for products to be bought
4) Used as a basis for making pay- 4)Used as a basis for preparing pay-
ment for products already bought ment for products not yet bought
5) Serves as a notice of payment for 5) Serves as a Quotation for products
products bought on credit to be bought.
b) Credit note
This is a document sent by the seller to the buyer (credit buyer) to correct an
overcharge. It is used to inform the buyer that the amount payable by him/her
has been reduced
An overcharge is an excess amount charged beyond the right price.
Causes of overcharge may include;
 Arithmetical errors like wrong addition
 Price overcharges
 Inclusion of wrong or unordered items in the invoice
 Failure to deduct the allowable discounts
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 Return of goods (damaged goods)

 Failure to note the return by the buyer of packing cases or containers used
to deliver goods to him/her
 Use of wrong price list.
-The purpose of the credit note is to reduce the total invoice amount by the
amount of the overcharge.
-A credit note is usually printed in red to distinguish it from other docu-
ments.
-Contents of a credit note include;
 Name and address of the seller and the buyer
 Credit note number
 Date document is prepared
 Description and value of goods returned by buyer (in case that was done)
 Total overcharge
Reasons why a seller would send a credit note to a buyer/circumstances
under which a credit note is sent to a buyer.
-When there is an overcharge in an invoice
-When the original invoice had indicated items that were not supplied
-When the buyer returns empty cases/crates that had been charged in the in-
voice.
-When the buyer returns some goods to the seller
-If the buyer was entitled to a discount which was not given or taken care of in
the invoice.
c) Debit note
This is a document sent by the seller to the buyer to correct an undercharge on
the original invoice. It is used to inform the buyer that the amount payable by
him has been increased.
-A debit note acts as an additional invoice.
-An undercharge arises when amount charged on products is less than their
right price.
Causes of undercharge include:
 Price undercharges on items
 Arithmetic errors/mistaken in calculation
 Omission of items in the invoice
 Retention of crates and containers that were not involved by the buyer
 60

 Deductions of more discount than what was give/intended

Circumstances under which a debit note will be sent to the buyer
a) When there is an undercharge in the invoice
b) If the buyer had been given a discount that was not due to him
c) If some items had been omitted in the original invoice
d) If the buyer decides to retain some empty containers or crates
Differences Between a debit note and a credit note
DEBIT NOTE CREDIT NOTE
1) Issued to correct an undercharge 1) Issued to correct an overcharge on
on the invoice. the invoive.
2) Written on blue or black. 2)Usually written in red
3) Issued when containers have not 3) Issued when containers have been
been returned returned.

Documents used at the payment stage

This is the final stage of a credit business transaction. It takes place after the
invoice has been received and ascertained to be correct or where necessary,
corrections made.
The documents used at the payment stage include;
i) Receipt
This is a document issued to the buyer by the seller as proof that payment has
been made.
-Payment can be done in cash, cheque, other forms of money or in kind
-The receipt also serves as a source document for making entries in books of
accounts.
Contents of the receipt include;
 Date of payment
 Name of the person making payment
 Name of person/institution receiving payment
 Amount paid in words and figures
 Means of payment
 Receipt number
 Signature of person issuing the receipt.
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-The issuance of a receipt by the seller to the buyer after receiving payment
marks the end of the credit transaction between the seller and the buyer
(where payment has been done in full)
-A receipt serves the same purpose as the cash sale slip
ii) Statement of Account
This is a document prepared by the seller and sent to the buyer, giving a sum-
mary of all the dealings/transactions between them during a particular period
of time, usually a month. It has the following details;
 Date when it was prepared
 Name and address of the seller
 Name and address of the buyer
 Account number
 Date column-where the date of each transaction is recorded
 Particulars (Details)column-where the explanation of each transaction is
shown
 Money column
-Debit column-increases in the amounts payable due to credit sales or under
charge correction.
-Credit column-Decrease in the amounts payable due to overcharges corrected
or payments recorded.
-Balance column-Amount owing after each transaction (Balance outstanding)
 Any discounts allowed to the buyer
 Date when the buyer is expected to clear the balance
 Terms of credit e.t.c.
-The statement of account enables the buyer to ascertain the correctness of the
transactions which have taken place with the seller over the stated period.
iii) IOU
An IOU (I owe you) is a document written by the buyer and sent to the seller
to acknowledge a debt.
-It does not specify date when settlement will be made.
-It acts as evidence that a debt exists.
Summary of documents used in home trade
Document sent by buyer Document sent by seller
-Letter of inquiry -Price list
-Order -Catalogue
 62

-Goods received note -Quotation

-Goods returned note -Tender
-IOU -Acknowledgement
-Advice note
-Packaging note
-Delivery note
-Consignment note
-Invoice
-Pro forma invoice
-Credit note
-Debit note
-Receipt
-Statement of account
MEANS OF PAYMENTS
These are the methods or ways the buyer may use to settle debts arising from
a business transaction. These are various means of payments that can be used.
These means of payments can be put into the following groups;
i) Cash
ii) Means of payment provided by the post office
iii) Means of payments provided by the commercial banks
iv) Means of payments which arise from private arrangements between sell-
ers and buyers
v) Other means of payment.
i) Cash
This refers to the use of notes and coins to make payments. Currency notes
and coins are issued by the central Bank of Kenya and are therefore legal ten-
der
-Legal tender means everyone is obliged by law to accept them as a means of
payment i.e. no one can refuse to accept them as they are backed by the
law.Notes and coins are available in different denominations as follows;
Coins; 5cents, 50cents, sh.1, sh.5, sh.10 and sh.40
Notes; sh.10.sh.20,sh.50,sh.100, sh.200,sh.500 and sh.1000.
-Coins are suitable for settling small debts and are acceptable as legal tender
up to a certain maximum e.g. 50cents coins the maximum is sh20 and sh.1 the
maximum is ksh.100.
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Advantages of cash as a means of payment:

i) It is the only means of payment which is a legal tender
ii) Convenient for settlement of small debts
iii) Convenient to people with or without bank accounts
iv) Cash is readily usable
Disadvantages of cash as a means of payment
i) Not convenient to carry around
ii) Cash can be lost or stolen easily as it is readily usable
iii) Payment is difficult to prove unless a receipt is issued
Circumstances under which cash payment is appropriate
i) Where the amounts involved are small
ii) Where the payee (receiver) does not accept other means of payment
iii) Where cash is the only means available
iv) Where the payee requires cash(money) urgently
v) Where there is need to avoid expenses associated with other means of
payments
ii) Means of payments provided by the banks
Commercial banks are financial institutions that accept deposits to and with-
drawals from them.
They also lend money to customers. Examples of commercial banks include:
Commercial bank of Kenya, National bank of Kenya, Barclays bank, and
Co-operative bank e.t.c
-There are various means of payments provided by the commercial banks.
They are:
a. Cheques
b. Bank drafts/bankers cheques
c. Credit transfers
d. Standing orders
e. Travellers cheques
f. Telegraphic transfers
g. Debit cards
h. Electronic fund Transfer(E.F.T)
a) Cheques
This is a written order by an account holder with the bank (drawer) to the
bank (drawee) to pay on demand a specified amount of money to the named
person (payee) or the bearer
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Parties to a cheque
i) Drawer-This is the person or institution who writes and issues the
cheque.He is usually a current account holder with the bank
ii) Payee-The person or institution to be paid
iii) Drawee-The bank(where the drawer has an account)
Details on a cheque; they include:
 Date when it is issued
 Name of the drawer
 The name of the payee, except in bearer cheques
 The name of the drawee(bank)and branch from where it is issued
 Amount to be paid in figures and in words
 The account number of the drawer
 The signature of the drawer
 The cheque number and bank code
 The appropriate revenue stamps
Types of cheques
i) Open cheques
ii) Crossed cheques
iii) Bearer cheques
iv) Order cheques
i) Open cheques
This is acheque that can be presented for payment over the counter. You
present it and cash is paid to you.

ii) Crossed cheques

This is acheque that bears two parallel lines on the face. This means the
cheque cannot be cashed over the counter. The cheque is deposited in an ac-
count (payee’s account)
The payee then withdraws the money from his/her account
A crossed cheque can be opened by the drawer signing twice on its face.
-A crossing can be general or special
-General crossing-general crossings only contains the two parallel lines. This
implies that the cheque will be paid through any bank in which it is deposited.
-Special crossings-Has other instructions included in the crossing i.e;
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 Not negotiable-Means the cheque can be transferred by the payee to a

third party, but he third cannot transfer the cheque (only the original
payee can transfer the cheque)
 Account payee only-Means the cheque should be deposited in the ac-
count of the payee.
 Not transferable-Means there is no negotiation or transfer of the cheque
iii) Bearer cheques-This cheque does not have the name of the payee writ-
ten on it. The person presenting it to the bank is the one who is paid.
iv) Order cheque-The cheque bears the name of the payee. The bank pays
this particular payee the amount stated in the cheque after proper identi-
fication
Dishonouring a cheque
A cheque is dishonored if the bank refuses to pay and returns the cheque to
the drawer.
-A cheque can be dishonored due to the following reasons:
i. Insufficient funds in the account
ii. If the signature on the cheque differs from the drawers specimen signature
in the bank.
iii. If the cheque is stalc i.e. presented for payment after six months from the
date of issue.
iv. If the cheque is post dated-meaning the cheque is presented for payment
earlier than the date on the cheque
v. If the amount in figures is different from the amount in words
vi. If there are alterations on the cheque which are not countersigned by the
drawer
vii. If the cheque is torn, dirty or defauld making it illegible
viii. If the account holder(drawer) is dead and the bank is aware of the fact
ix. If the drawer instructs the bank not to pay the particular cheque
x. If the cheque contains errors which need to be corrected
xi. If the drawer becomes bankrupt or insane
xii. If the drawer has closed his/her account.
Advantages of using cheques
i) They are more secure than notes and coins because if they are lost or
stolen, they can be traced to the person who cashed them.
ii) They are convenient to carry and can be used to pay large sum of money
which would be otherwise inconvenient to pay using cash
 66

iii) They can be transferred to a third party to make payment/cheques are

negotiable
iv) Payment can be made by cheque without the need to travel to make pay-
ment
v) They provide a record of payment because of the counterfaits.The coun-
terfaits acts as proof that payment has been made.
vi) Under special circumstances, they can be cashed or discounted before
maturity.
Disadvantages of using cheques
i) Cheques can be dishonored
ii) Requires the payee to go to the bank and in some cases to have an ac-
count
iii) The drawer pays some charges e.g. charges for the cheque book
iv) Can only be issued by an account holder/the drawer must have an ac-
count
v) They are not readily acceptable by everybody
vi) They do not provide immediate cash.
Circumstances under which a cheque is appropriate as a means of pay-
ment
 Where the amount of money involved is large
 Where the policy of the business demands so
 Where a cheque is the only means available
 Where there is need to avoid other risks associated with other means of
payments
b) Bank drafts/Banker’s cheques
-This is a cheque drawn on a bank i.e. a cheque drawn by one bank to another
requesting the latter bank to pay a named person or institution a specified sum
of money and charge it to the drawing bank
-It can also be drawn by a bank on the request of a customer. The customer
fills in an application form obtained from a bank and hands it over to the bank
together with the money she wants to transfer and a commission for the ser-
vice.
-The bank then prepares the cheque and gives it to the applicant who can then
send it to the payee
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-A bank draft has the drawing bank’s guarantee for payment. It is therefore
more readily acceptable than personal cheques.
-It is suitable when urgency is desired in the payment as it is more readily ac-
ceptable.
c) Credit transfer
This is a means of payment provided by commercial banks to their current ac-
counts holders who want to pay many people using one cheque/at the same
time
-One cheque is drawn and is usually accompanied by a list of the people to be
paid, the amount to be paid to each person and the addresses of the bank
branches where the payment is to be made.
-The bank then ensures that a credit transfer is affected to the various bank
branches and each payee is paid
-A credit transfer is usually used by employers to pay salaries to their staff
members.
d) Standing order
This is an instruction to a bank by an account holder to pay a named person or
an organization a fixed amount of money at regular intervals over a specified
period of time or until stopped
-It is a very useful means of payment for business people as it enables them to
regularly pay their recurrent bills e.g. water, insurance, electricity, loan pay-
ment, hire purchase payment e.t.c
e) Traveler’s cheques
This is a cheque drawn by one bank to another requesting the latter to pay a
specified sum of money to a named bearer, who usually would have bought
that cheque from issuing bank. The cheque holder pays the value of the
cheque plus the charges for the services to the issuing bank.
-Travellers cheques are usually issued in fixed denominations and are very
convenient for travel purposes, hence their name. They enable a person to
travel without having to carry a lot of cash. The cheques are also readily ac-
ceptable as a means of payment.
f) Telegraphic Transfers
This is a method /means of transferring money offered by commercial banks
to anybody who wants to send money to another
The sender is required to fill an application form and provide the following in-
formation among others:
 68

-His/her name -The amount of money to be remitted

-Name of the payee -The bank where the money would be paid
The applicant is charged a commission and telegraph fee. The paying bank
sends a telegram to the payee who has to identify himself/herself before the
payment is made
The method is fast and safe.
g) Debit cards
These are plastic cards issued by financial institutions e.g. banks that enables a
person to purchase goods and services from any business that accepts them.
Debit cards are used to make payments from money held in ones accounts and
are therefore an alternative to cash payments. Examples are ATM cards.
h) Electronic Fund Transfer (E.F.T)
EFT is a method of transferring money from one account to another where
computers are used. The sender is required to fill an electronic fund transfer
form provided by the bank which instructs the bank to transfer money from
his/her account to a named account.
Information is then sent to the payee’s bank electronically and the amount in
the account is increased accordingly. The method is very fast.
iii. Means of payments provided by the post office
The post office provides means of payments that can be used to transfer
money from one person to another
The means of payments provided by the post office to facilitate payments in-
cludes,
a. Money orders
b. Posta pay
c. Postal orders
d. Postage stamps
e. Premium bonds
a) Money orders
A money order facilitates the transfer of money from one person to another
through the post office (and/or bank)
A money order is usually for a specified sum of money usually purchased
with cash from the post office
A person wishing to send money using this method visits a post office and
completes an application form. Some of the details contained/given in the
form include:
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 The amount of money to be remitted

 Name of the payee
 The name of the post office where the money order will be cashed
 Name and address of the sender
 Whether the money order is to be ordinary or sent by telegraph
 Whether the sender wishes to be informed if the money has been paid
 Whether the money is to be paid through a bank account or at the post of-
fice counter.
The application form, money to be remitted and commission for the service is
handed to the post office cleark who prepares the money order and gives it to
the sender who may post it or send it to the payee.
-Telegraphic money orders, the post office sends a telegram to the payee in-
forming him/her to go to the post office and claim the money.
-Before payment is made, the payee must;
 Identify himself/herself by producing an ID card
 Identify the person who sent the money.
-The sender of the money is left with a counterfoil which serves as evidence
that money was sent and it can be used to reclaim the money if it did not reach
the payee
-Money order may be open or crossed. A crossed money order bears two par-
allel lines drawn diagonally on its face and must be deposited in the bank ac-
count of the payee. It cannot be cashed over the counter at the post office.
-An open money order can be presented for payment at the post office
counter.
Circumstances under which money order is appropriate
a) Where it is the only means available
b) Where other means are not acceptable
c) Where there is need to avoid inconveniences or risks associated with other
means
b) Posta pay
This is an Electronic Fund Transfer (EFT) service offered by the postal corpo-
ration of Kenya, for sending and receiving money instantly from various desti-
nations both locally and internationally.
-The person sending money fills in a form called ‘send form’ giving the fol-
lowing details;
 70

 Name, address and telephone number of sender

 Name, address and telephone number of receiver
 Pay city, town and location of the receiver
 Signature of the sender
 Amount to be sent
-The sender hands over the form, the amount of money to be sent and the
commission to the post office clerk for processing
-The transfer is done via the internet through a machine that gives a twelve-
digit number for the transaction called the ‘Transaction control
number’(TCN).The sender then conveys this number, amount sent and pay
location to the recipient and instructions to the recipient to visit the named
post office for payment. This message is usually conveyed through the quick-
est means possible such as a telephone call
-The sender is given a copy of the processed ‘send form’ as proof that money
has been sent. The post office retains the original for record purposes.
-When the receiver visits the post office, he/she will fill a ‘receiver form’ giv-
ing the following details;
i) The transaction number(i.e. the twelve-digit number)
ii) The expected amount
iii) The name, address and telephone number of the sender
iv)The city town or location of the sender
v) Signature of the receiver
The receiver then identifies himself or herself by producing an ID card or
passport before receiving the money.
-The recipient/payee is then given the money, a copy of the receive form as
proof of having received the money. The paying post office retains a copy as
proof of payment.
Advantages of using Posta pay as a means of payment
i) Accessibility-Posta pay outlets (post offices) are located countrywide to
eliminate movement over long distances to get money
ii) Ease of use-Sending or receiving money is easy as one only needs to fill a
form which is processed immediately
iii) Speed-the transfer of money is instant (fast)
iv)Security-Confidentiality in the transmission of money is provided and
money is only paid to the person intended
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v) Convenience-Posta pay services are offered for long hours during the day
and pay locations are conveniently located
vi)Affordability-Posta pay services are relatively affordable as large amounts
can be sent at reasonable costs.

c) Postal orders
-Postal orders are sold by the post office for the purpose of remitting money
-They are available in fixed denominations of sh.5, 10.20,40,60,80,100 and
200
-On buying a postal order, the sender pays for both the face value of the postal
order and a commission charged for the service
-Postal orders just like money orders are issued with counterfoils that the
sender will keep as evidence of remittance in case the person to whom he/she
remits the money does not receive it.
The sender writes the name of the payee on the postal order as a safety mea-
sure.
Payment to the bearer can be made in any post office with postal order facili-
ties
Postal orders may also be crossed or open (see crossed and ordinary money
orders)
Circumstances under which postal orders are appropriate
i) Where the amounts involved are small
ii) Where it is the only means available
iii) Where there is need to avoid inconveniences and risks associated with
the other means of payment.
Differences between postal orders and money orders
Postal orders Money orders
a) It can be cashed at any post office a) Can only be cashed at a specific
post office
b) Are in fixed denominations b)Varies according to the needs of
the remitter
c) Does not require any application c)Requires the filling of an applica-
form to make a remittance tion form in making remittance
d) Can be cashed by the bearer d)Can only be cashed by the payee
e) Value can be increased by affixing e)Value cannot be increased by af-
 72

revenue stamps fixing revenue stamps

d) Postage stamps
Postage stamps may be used to pay small amounts of money. The person to
whom the stamps are sent can then use them for sending mail and/or to pay
someone else.

e) Premium Bonds
Premium bonds are issued by the post office in denominations of sh.10 and
sh.20.They mature after a given period, after which one can cash them.
-Bearers can also enter into draws so as to win money.
-Premium bonds can be used to settle debts, but it is not a safe method be-
cause they can be cashed by anybody i.e. by the bearer.
Circumstances under which postage stamps and premium bonds are used
i) Where the amounts involved are small
ii) Where they are the only means available.
Means and payments which arise from private arrangements between
the sellers and the buyers
There are various business documents that originate from private agreements
between buyers and sellers. The buyer acknowledges the credit and accepts to
pay at specified future dates by signing some documents. These documents in-
clude;
a. I Owe you(IOU)
b. Bill of exchange
c. Promissory note.
a) Bill of Exchange
This is unconditional order, in writing, addressed by one person to another, re-
quiring the person to whom it is addressed by one person to another, requiring
the person to whom it is addressed to pay on demand, or at a stated future
date, the sum of money on the bill to the drawer, or a named person or to a
bearer.
i) Order-is a command not a request
ii) Unconditional-Without condition i.e. no use of such words as ‘if’ or
‘whom’
iii) The bill must be in writing
iv)Amount of money must be clearly stated
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v) Payee must be named. He/she can be the drawer or someone else or the
bearer
vi)Date of payment must be stated or can be determined e.g. ‘Two months
from the date of today’ or Three days after 31st January 2012’
-A bill of exchange is prepared by a creditor to a debtor when a creditor wants
to be assured of payment by a debtor on a given future date or when asked to
do so by the creditor
-If the buyer/debtor signs the bill “accepted” then he/she cannot deny respon-
sibility for the debt since he/she has acknowledged responsibility for the date.
Procedure for preparing a bill of exchange
A bill of exchange is written by a person (creditor) to his debtor to seek assur-
ance that the debtor would pay the debt.
Step 1.The creditor prepares the draft and sends to the debtor.
Step 2.The draft and after accepting the conditions laid therein, he/she signs
on it and write the words “accepted”. He/she then sends it back to the credi-
tor. At this point the draft becomes a bill of exchange.
Step 3.The creditor receives the bill and may:
i) Keep it until maturity when he would present it to the debtor(accepted) for
payment
ii) Discount it with a bank. This is presenting to a bank or any financial insti-
tution and receiving cash against it before the maturity date. One is how-
ever charged(discounting charge) for the service
iii) Negotiate it-Using it to pay someone else apart from the payee.
Parties to a bill of Exchange
i) Drawer-This is the person who gives the debtor the written order to pay
the value of the bill of exchange(the creditor)
ii) Drawee-This is the person to whom the order to pay is given (Debtor).He
or she accepts the bill.
iii) Payee-This is the person to whom the payment is to be made. The payee
may be the drawer, or
Essentials of a bill of Exchange
i) It must be signed by the drawer(creditor)
ii) It must be accepted by the drawee(debtor)
iii) It must be accepted unconditionally
iv)It must bear appropriate revenue stamps
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NOTE: A bill of exchange becomes a means of payment when it is presented

(discounted) to the banks or negotiated.
Advantages of using a Bill of exchange
i) The holder may pass rights on the bill to another person
ii) Date of payment is determined
iii) Acceptance by the debtor makes it legally binding
iv)The payee may receive money before due dates by discounting
Disadvantages of using a Bill of Exchange
i) It may be dishonoured on maturity
ii) Cash may not be readily available as banks may be reluctant to cash bills
from debtors of doubtful financial backgrounds
iii) It is an expensive form of credit as the creditor may lose part of the face
value of bill in form of discount
Circumstances under which a Bill of exchange is appropriate.
-When the creditor wants to be assured that the payment would be done
-Where the creditor wants money while the debtor is not able to raise it before
the end of the credit period
-Where the creditor wants to use the debt to pay another debt.
b) Promissory note; This is a document in which a debtor promised to pay a
creditor a specified sum of money at a specified time/date.
Features of a promissory note
i) There are two parties i.e. the drawer(debtor) and the payee(creditor)
ii) There is a promise to pay
iii) It is written by the debtor to the creditor
iv)It does not require acceptance since it is signed by the person committing to
pay the money
v) The writer/maker is liable on the note as he/she is the debtor.
-After drawing and signing the promissory note, the debtor (borrower) sends it
to the seller. (Lender)
-The seller/lender may keep it until maturity and then present it for payment
or may discount it with the banks before maturity.
Similarities between a Bill of Exchange and a promissory note:
i) Both act as evidence of the acknowledgement of a debt
ii) Both may be discounted or endorsed before maturity
iii) Both are negotiable i.e. can be transferred from one person to another
iv)Both are legally binding
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v) Both allow for adequate time within which to organize for the payment of
the value of the bill or note.
Differences between a promissory note and a bill of exchange:
Promissory note Bill of Exchange
-Drawn and signed by the debtor -Drawn and signed by the creditor
-It does not need to be accepted -It must be accepted by the debtor
for it to be valid
-The drawer and drawee are one per- -The drawer is the creditor and the
son drawee is the debtor
c) The IOU
-IOU is an abbreviation of ‘I owe you’
-It is a written acknowledgement by a buyer of a debt arising from the pur-
chase of goods and services on credit. It is written and signed by the buyer and
sent to the seller
-If the seller accepts it, then the buyer can receive goods and services on
credit.
Though the IOU does not usually indicate the specific date of payment, the
buyer acknowledges the debt and accepts responsibility to pay at a suitable fu-
ture date
NOTE: The use of IOU is restricted to commercial transactions involving
parties who have dealt with each other for a long time; hence they know each
other well.
iv) Other means of payment
a) Credit cards
b) Mobile money transfer services e.g. M-pesa.
a) Credit cards(plastic money)
-These are plastic cards that enable a person to purchase goods or services on
credit from any business willing to accept the card
-They are both a means of payment and a term of payment
b) Mobile money transfer services e.g. M-pesa
-This is a means of money transfer services provided by mobile phone service
providers to their customers (subscribers)
-It can only be used to transfer money between people subscribed to the same
mobile phone network e.g. from one safaricom subscriber to another safari-
com subscriber, Airtel to Airtel e.t.c
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-The sender must register for the money transfer service and is issued with a
PIN (personal identification number)
-When money is sent, both the sender and the receiver will receive a message
confirming the transfer.
-A person can send money anytime anywhere so long as he/she has value in
his/her m-pesa, pesa pap account.
-Each mobile service provider has a range of value that can be transferred us-
ing this method.
-A small transaction fee is charges for the transfer i.e. for sending and with-
drawing

Benefits of mobile money transfer services

i. Confidentiality-The secret PIN protects the value in the customer’s ac-
count
ii. Ease of use-The service is easy to use as the agents assists to carry out
transaction
iii. Speed-Money transfer is an instant service conveyed to the receiver via the
short message service(SMS)
iv. Convenience-The service is convenient to both the sender and the receiver,
as they only need to go to the nearest agent(money can be sent/deposited or
received anywhere)
v. Accessibility-The agents e.g. m-pesa agents are located in most parts of
towns and also in rural areas. Money can hence be sent and received any-
where and anytime.
vi. Affordability-The service charges are very low for registered users and
very affordable for non registered users
vii. Security-Relatively secure when the sender uses the correct phone number
of the receiver.
TERMS OF PAYMENTS
These are the various agreements/conditions agreed upon between sellers and
buyers regarding how debts arising from their transactions should be settled.
These conditions include;
-How payment is expected
-When payment is expected
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-What is included in the quoted price e.t.c.

Terms of payments are broadly categorized into two;
A. Cash payments
B. Deferred payments(credit payments)
-This classification depends on whether the agreement is to pay for the prod-
ucts immediately or at a later date.
A. Cash Terms of payments
Cash terms of payment apply when a buyer is required to pay for goods or ser-
vices immediately before or after delivery. They include the following:
a) Spot cash-This is where payment is done at the point of purchase.
-Mainly used in retail businesses where customers are required to pay as
they get the goods or receive the service.
b) Cash on Delivery (C.O.D)
-This is where the buyer pays for the goods (or services) as soon as they are
delivered to his or her premises.
c) Cash with order (C.W.O)
-This is where the buyer is required to pay for the goods when making the or-
der for the goods or the services.
Circumstances under which C.O.D and C.W.O are appropriate
i. When the buyer is new to the seller
ii. Where the buyer’s credit worthiness is in doubt
iii. Where the seller is operating mail order stores(C.W.O only)
iv. Where C.W.O or C.O.D is the policy of the business
v. If the cost of collecting debts is considered high by the seller
vi. When a seller is to make goods based on unique specification provided by a
particular buyer(C.W.O only)
vii. Where the seller wants to avoid tying up business capital in debts.
d) Prompt cash; This is where payment should be made within a few days
(normally seven days) after delivery.
-Prompt cash period allows them to examine the goods and check the invoice
to certify its corrections
ii) Deferred payments
This means that goods or service are not paid for in full on delivery. They are
instead paid in future in a lump sum or in several instalments.
The period within which a buyer is supposed to pay the seller is referred to as
credit period and is expressed in terms of days.
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-Terms of payments in credit transactions are usually agreed upon by the

seller and the buyer depending on;
 Capital base/financial stability of the seller
 The nature of the goods supplied
 The relationship between the buyer and the seller
 The credit worthiness of the buyer
-In determining the credit worthiness of a buyer, the seller will consider;
a) Character-The behavior of the buyer in terms of honesty, which deter-
mines the probability of the buyer honoring his /her debt obligations
b) Capacity-The buyer’s ability to pay as indicated by past business perfor-
mance records or the profitability and the value of his/her assets.
c) Capital-The financial position of the buyers business or how much the
buyer’s business is worth.
d) Collateral-These are the properties of value pledged by the buyer as secu-
rity for the credit
e) Condition-The effect of the existing economic conditions on the buyer’s
ability to pay his/her debts.
Forms of Deferred payments (credit payments)
a) Open trade credit/open credit
-Under these forms, goods and services are sold to the buyer who is expected
to pay for them at a future date or within a given period
-The buyer may also be required to pay for goods or services on installments.
-Discounts may be allowed to encourage the buyer to pay on time.
-The ownership of the goods passes to the buyer immediately after entering
the contract. The seller should however ensure the buyer will pay by:
 Ascertaining the credit worthiness of the buyer
 Asking the buyer to guarantee payment by signing some documents e.g.
bill of exchange
 Asking the buyer to have someone else to guarantee the payment
 Asking the buyer to pledge (mortgage) some of his/her property as security
Factors to consider when giving credit
a. Credit worthiness of the buyer
b. Repayment period
c. Amount of goods the customer wants
d. Availability of adequate stock
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e. Honesty i.e. reliability of the customer

f. Frequency at which the customer buys from the seller
g. Seller’s intention to attract and retain customers
NOTE: No interest is usually charged on open trade credit.
Examples of open trade credit
i) Simple credit(prompt cash/personal credit)
-Is a form of credit extended to a trader or a customer for a very short time,
usually not more than a week
-It is a common form of credit between retailers and their customers.
-It is also referred to as prompt cash because payment is made within a short
time.
ii) Monthly credit
-A form of credit extended when a seller allows the buyer to pay/settle his/her
debt after one month
-The buyer can continue taking goods from the seller up to the end of the
month.
-It is a form of credit usually allowed by retailers to salaried workers for
goods such as food items and newspapers
iii) Budget Accounts
-Are usually operated by large scale retailers to approved customers
-The retailer keeps an account of the customer in his/her books
-To operate budget accounts;
 A deposit is required
 Regular payments are to be made
 There is a maximum amount of credit to be allowed
 The customer may be charged for any special services given by the seller
called “after sale services”
iv)Trade credit
-This is credit given by a trader to another trader when goods are bought for
selling
-Payments for the goods is made after selling the goods or within an agreed
period of time
v) Credit card facilities
-Plastic money (credit cards) enables the holder to obtain goods and services
on credit form specific suppliers (people willing to accept the cards)
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-They also enable the holders to obtain money from specific banks and other
specified financial institutions
-They are available to adults of approved credit worthiness
-Some credit cards can only be used locally while others like visa cards can
be used both locally and internationally.
-When a customer makes a purchase using the card, the seller electronically
verifies the validity of the card and whether the credit-card holder/customer
has sufficient credit to cover the purchase. If all is well, the credit card cus-
tomer signs a specific form that have been filled by the trader. Such forms are
usually provided by the card company to the trader. The trader and the card
holder retain a copy each and the other copies are sent either to the credit card
company or to the trader’s bank.
-There are therefore 3 parties to a credit card;
 The company that issues the cards
 The card holder
 The trader
-At regular intervals, the credit card company sends a statement of account to
each card holder showing the outstanding balance at that time. The outstand-
ing balance should not be greater than the allowed credit limit.
-Examples of companies that issue credit cards include; Barclays card,
American Express, Access cards and Visa cards.

Advantages of credit card

 They are safer to carry around than cash
 Convenient to carry around
 Enables the holder to get goods and services from specified sellers without
paying immediately
 Some are acceptable both locally and internationally
 Enables the holder to get money from specified banks
 Increases credit rating of an individual
Disadvantages of credit cards
 To acquire the credit card, the applicant is required to have an established
credit record
 The holder is charged high interest rate by the card company
 It is prone to abuse through fraud
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 Interest is charged if there is delay in payment

 Can only be used by those who are 18 years and above
 Holder may be tempted to overspend
 Their use is limited to only specific areas(urban areas)
 Faces stiff competition from other means of payment such as cheques,
money orders and postal orders.
 Only few businesses accept the cards
 Long procedures are involved in getting the cards
 The cards can only be affected by people with high income.
b) Hire purchase
To Hire: Means to use someone else’s property for a payment
Hire purchase: Is a method of hiring property with an option to buy.
-The term of payment for a hire purchase are;
 The buyer pays an initial deposit(down payment)
 The remaining amount(balanced is paid in equal monthly installment
spread over an agreed period of time
 The installments paid include interest which usually makes the overall price
paid relatively higher than would be the case if the goods were obtained on
cash terms.
-Goods sold on higher purchase are durable and expensive such as; vehicles,
furniture, electronics e.t.c
-The buyer can only posses the commodity but not own it.Therefore’the buyer
cannot sell the goods to another person before all installments are paid
-Ownership of the goods remains with the seller. The goods are ‘on hire’ to
the buyer.
-After completing the payment (after the last installment has been made), a
certificate is issued to the buyer as proof of transfer of ownership
-Incase the buyer fails to make payment/defaults in payment; the seller can re-
possess the goods. However if the buyer has paid two thirds of the total/hire
purchase price at the time of defaulting, the seller has no legal right to repos-
sess the goods.
-The seller can only recover the remaining amount of money through a court
action
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-The seller must display both the cash price and the hire-purchase price on the
items to enable the buyers to decide under what terms they want to buy the
goods.
-A written agreement has to be entered into by both the seller and the buyer.
The agreement safe-guards the intervals of all of them
-Examples of hire purchase businesses operating in Kenya include; Africa Re-
tail Traders (ART), Kukopesha, Singer and Amedo.
-For salaried people, the hire purchase has introduced a system where the in-
stallments are deducted directly from the buyer’s salary every month. This is
called the check-off system. In this system, no deposits/down payments are
required. The buyer’s employer takes up the duty of remitting the deposits to
the seller on a monthly basis.
Advantages of Hire purchase
To the buyer
a. The buyer acquires possession and use of goods immediately after entering
into the contract
b. Installments to be paid are pre-determined, so the buyer knows and is able
to budget for this amount
c. One can acquire expensive goods/items which are difficult to get on cash
terms
d. Payment is spread over a long duration of time making it convenient/suits
the buyer’s income
e. Raises standards of living despite limited resources
To the seller
a. The goods belongs to the seller until the last installment is paid
b. He/she can repossess the goods in case the buyer defaults in payments
c. The seller is able to make more profit due to higher prices in the long run
d. The sales volume increase due to greater ability by customers to pay/more
buyers are attracted to hire purchase terms leading to more sales
e. No refund is payable to a buyer for goods repossessed from him/her
f. Due to the check-off system, chances of non-payment are minimized.
Disadvantages of Hire purchase
To the buyer
a. The hire purchase price is higher than the cash price.
b. The goods belong to the seller until the last installment is made
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c. Because of the easy payment terms, the buyer may be tempted to overspend
which might lead to financial problems
d. The variety of goods sold on hire purchase terms is limited to those goods
that are durable
e. If the buyer defaults in payment, the already paid ones are treated as hire
charges and are not refunded.
f. Goods may be repossessed if the buyer defaults in payment
To the seller
a. Goods repossessed can only be sold as second hand
b. There is a lot of documentation and filing of information/records
c. The cost of operating the business is usually very high
d. The risks of loss on hire purchase sales are normally high as some buyers
may default in payment
e. High amount of capital is needed to finance a hire purchase business
f. A lot of money is spent on repair of damaged goods
g. A lot of capital is tied and held in stock and debts.
c) Installment Buying/credit sale(deferred payment)
-In this form of credit selling, the buyer is not required to pay a down pay-
ment. Payment for the goods is made in equal installments spread over a pe-
riod of time. These installments cover interest and related costs of selling.
Other features of installment buying
a. The ownership and possession of goods passes on to the buyer immediately
the first installment is paid
b. Once the goods have been sold, they cannot be repossessed by the seller
even if the buyer defaults in payment.
c. In case the buyer defaults in payment, the seller can obtain compensation
through court action.
d. There is a written agreement between the buyer and the seller(creditor)
e. The buyer may dispose of the goods before paying for them fully
f. Can be used for non-durable goods
BUSINESS STUDIES FORM TWO NOTES

FORMS OF BUSINESS UNITS

TOPIC OBJECTIVES
By the end of the topic, the learner should be able to:
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1. Identify the various forms of business units.

2. Explain the characteristics of each form of business unit.
3. Discuss the formation and management of each form of business unit.
4. Discuss the sources of capital of each form of business unit.
5. Discuss the role of stock exchange as a market for securities.
6. Explain the advantages and disadvantages of each form of business unit.
7. Recognize the circumstances under which each form of business units may
be dissolved.
8. Discuss trends in business ownership.
BUSINESS UNITS
A business unit is an organization formed by one or more people with a view
of engaging in a profitable activity.
Business units are generally classified into private or public sector business
units’ i.e.
Note: Private sector comprises of business organizations owned by private
individuals while the public sector comprises business organizations owned
by the government.
1. SOLE PROPRIETORSHIP
This is a business enterprise owned by one person who is called a sole trader
or a sole proprietor. It is the most common form of business unit and usually
found in retail trade e.g. in small shops, kiosks, agriculture e.t.c and for direct
services e.g. cobblers saloons e.t.c
Characteristics/Features
 The business is owned by one person
 The capital is contributed by the owner and is usually small. The main
source is from his savings and other sources can be from friends, bank or
getting an inheritance
 The owner enjoys all the profits alone and also suffers the losses alone
 The owner is personally responsible for the management of the business
and sometimes he is assisted by members of his family or a few employees.
He remains responsible for the success or failure of his/her business.
 The sole proprietor has unlimited liability meaning that incase of failure to
meet debts, his creditor can claim his personal property
 There are very few legal requirements to start the business unit.
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 Sole proprietorship is flexible; it is very easy to change the location or the

nature of business.
Formation
The formation of a sole proprietorship is very simple. Few legal formalities
are required i.e. to start a sole proprietorship, one need only to raise the capital
required and then apply for a trading license to operate the business small fee
is paid and the trade license issued.
Sources of capital
The amount of capital required to start a sole proprietorship is small compared
to other forms of business organizations. The main source of capital is the
Owners savings. Additional capital may however be raised from the follow-
ing;
 Borrowing from friends, banks and other money lending institutions such
as industries and commercial Development corporation(ICDC)and Kenya
industrial estates
 Inheritance
 Personal savings
 Getting goods on credit
 Getting goods on hire purchase
 Leasing or renting out one’s properties
 Donations from friends and relatives
 Ploughing back profit.
Management
The management of this kind of a business is under one person. The owner
may however employ other people or get assistance from family members to
run the business.
Some sole proprietorship may be big business organizations with several de-
partments and quite a number of employees. However, the sole proprietor re-
mains solely responsible for the success of failure of the business
Advantages of sole proprietorship
1. The capital required to start the business is small hence anybody who can
spare small amounts of money can start one.
2. Few formal/legal procedures are required to set up this business
3. Decision making and implementation is fast because the proprietor does not
have to consult anybody
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4. The trader has close and personal contact with customers. This helps them
in knowing exactly what the customers need and hence satisfying those
needs
5. A sole proprietor is able to assess the credit-worthiness of his or her cus-
tomers because of close personal relationship. Extending credit to a few
carefully selected customers reduce the probability of bad debts.
6. The trader is accountable to him/herself
7. A sole trader is able to keep the top secrets of the business operations
8. He/she enjoys all the profit
9. A sole proprietorship is flexible. One can change the nature or even the lo-
cation of business as need arises.
Disadvantages of sole proprietorship
1. Has unlimited liability. This means that if the assets available in the busi-
ness are not enough to pay all the business debts the personal property of
the owner such as house will be sold to meet the debts
2. There is insufficient capital for expansion because of scarce resources and
lack of access to other sources
3. He/she is overworked and has no time for recreation.
4. There is lack of continuity in the sole proprietorship i.e. the business is af-
fected by sickness or death of the owner.
5. A sole proprietorship may not benefit from advantages realized by large
scale enterprises (economies of large scale) such as access to loan facilities
and large trade discounts.
6. Lack of specialization in the running of the business may lead to poor per-
formance. This is because one person cannot manage all aspects of the
business effectively. One maybe a good salesman for examples but a poor
accountant.
7. Due to the size of the business, sole proprietorships do not attract and retain
highly qualified and trained personnel.
Dissolution of sole proprietorships
Dissolution refers to the termination of the legal life of a business. The follow-
ing circumstances may lead to the dissolution of a sole proprietorship:
 Death or insanity of the owner
 Transfer of the business to another person- this transfers the rights and obli-
gations of the business to the new owner.
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 Bankruptcy of the owner- this means that the owner lacks the financial ca-
pability to run the business.
 The owner voluntarily decides to dissolve the business e.g due to continued
loss making.
 Passing of a law which renders the activities of the business illegal.
 The expiry of the period during which the business was meant to operate.
2. PARTNERSHIP:
This is a relationship between persons who engage in a business with an aim
of making profits/ an association of two or more persons who run a business
as co-owners. The owners are called Partners.
It is owned by a minimum of 2 and a maximum of 20 except for partnership
who provide professional services e.g medicine and law which have a maxi-
mum of 50 persons.
Characteristics of partnership
 Capital is contributed by the partners themselves
 Partnership has limited life that is it may end anytime because of the death,
bankruptcy or withdrawal of partners.
 Each partner acts as an agent of the firm with authority to enter into con-
tracts.
 Partners are co owners of a business, having an interest or claim in the
business.
 Responsibility, profit and losses are shared on an agreed basis.
 All partners have equal right to participate in the management of the busi-
ness. This right arises from the interest or claim of the partner as a co
owner of the business.
Types of partnership
Partnerships can be classified/ categorized in either of the following ways:
(a)According to the type/liability of partners
(b) According to the period of operation
(c)According to their activities
(a) According to the type or liability of partners
Under this classification, partnerships can either be:
i) General/ordinary partnership- Here all members have unlimited lia-
bility which means in case a partnership is unable to pay its debts, the
personal properties of the partner will be sold off to pay the debts.
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ii) Limited partnerships- In limited partnership members have limited lia-

bilities where liability or responsibility is restricted to the capital con-
tributed.
This means that incase the partnership cannot pay its debts; the partners only
lose the amount of capital each has contributed to the business and not their
personal property. However, there must be one partner whose liabilities are
unlimited.
(b) According to the period/duration of operation
When partnerships are classified according to duration of operation, they
can either be;
i) Temporary partnership-These are partnerships that are formed to carry
out a specific task for a specific time after which the business automati-
cally dissolves.
ii) Permanent partnerships- These are partnerships formed to operate in-
definitely. They are also called a partnership at will.
c) According to their Activity- Under this mode of classification, partner-
ships can either be:
i) Trading partnerships
This is a partnership whose main activity is processing, manufacturing, con-
struction or purchase and sale of goods.
ii) Non – trading partnerships
This is a partnership whose main activity is to offer services such as legal,
medical or accounting services to members of the public.
Types of partners
Partners may be classified according to;
i) Role played by the partners
a) Active partner: He is also known as acting partner as he plays an active
part in the day-to-day running of the business.
b) Sleeping/dormant partner: He does not participate in the management of
the partnership business. Although he invests his capital in the partnership,
his profit is lower as he is not active. He is also referred to as passive or
silent partner.
ii) Liabilities of the partners for the business debts:
a) General partner: He/she has unlimited liabilities.
b) Limited partner: He/she has limited liabilities
iii) Ages of partners
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a) Major partner: This is a partner who is 18 years and above. He is respon-

sible for all debts of the business.
b) Minor partner: This is a partner who has not attained the age of 18 years
but has been admitted with the consent of other partners. Once he reaches
18 years, he then decides if he wants to be a partner or not. Before he at-
tains the age of 18, he takes part in the sharing of profits but does not take
part in the management of the business.
iv) Capital contribution
a) Nominal/Quasi partner: He does not contribute capital but allows the
business to use his/ her name as a partner; for the purpose of influencing
customers or for prestige.
-He/she can also be a person who was once a partner and has retired in form
of a loan. This loan carries interest at an agreed rate.
-The quasi partner shares the profit of the business as a reward for using his/
her name.
b) Real partner: He/she is one who contributes capital to the business.
-Other types of partners include secret partners, retiring partners and incoming
partners
i) A secret partner: is one who actively participates in the management of the
firm but is not disclosed to the public. In most cases secret partners are also
limited partners.
ii) A retiring partner: Also known as outgoing partner is one who is leaving
a partnership
-He may retire with the consent of all the other partners or according to a pre-
vious agreement.
iii) Incoming partner: Is one who is admitted to an existing partnership.
Formation
-People who want to form a partnership must come together and agree on how
the proposed business will be run to avoid future misunderstanding.
-The agreement can either be oral (by use of mouth) or within down. A writ-
ten agreement is called a partnership deed.
-The contents of the partnership deed vary from one partnership to another de-
pending on the nature of the business, but generally it contains:
a) Name, location and address of the business
b) Name, address and occupation of the partners
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c) The purpose of the business

d) Capital to be contributed by cash partner
e) Rate of interest on capital
f) Drawings by partners and rate of interest on drawings
g) Salaries and commissions to partners
h) Rate of interests on loans from partners to the business
i) Procedures of dissolving the partnership
j) Profit and loss sharing ratio
k) How to admit a new partner
l) What to do when a partner retires dies or is expelled
m)The rights to inspect books of accounts
n) Who has the authority to act on behalf of other partners.
Once the partnership deed is ready, the business may be registered with the
registrar of firms on payment of a registration fee.
In case a partnership deed is not drawn, the provisions of partnership act of
1963 (Kenya) applies. The act contains the following rights and duties of a
partner:
i) All partners are entitled to equal contribution of capital
ii) No salary is to be allowed to any partner
iii) No interest is to be allowed on capital
iv) No interest is to be charged on drawings
v) All profits and losses are to be shared equally
vi) Every partner has the right to inspect the books of accounts
vii) Every partner has the right to take part in decision making
viii) Interest is to paid on any loans borrowed by partners (The % rate varies
from one country to another)
ix) During dissolution the debts from outside people are paid first then loans
from partners and lastly partners capital.
x) No partner should carry out a competing business
xi) Any change in business such as admission of new partners must be
through the agreement of all existing partners.
xii) Compensation must be given to a partner who incurs any loss when exe-
cuting the duties of the business.
Sources of capital
i) Partners contribution
ii) Loans from banks and other financial institutions
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iii) Getting items on hire purchase

iv) Trade credit
v) Ploughing back profit
vi) Leasing and renting.

Advantages of partnership
i) Unlike sole proprietorship, partnership can raise more capital.
ii) Work is distributed among the partners. This reduces the workload for
each partner
iii) Varied professional/skilled labour; various partners are professionals in
various different areas leading to specialization
iv) They can undertake any form of business agreed upon by all the partners
v) There are few legal requirements in the formation of a partnership com-
pared to a limited liability company.
vi) Losses and liabilities are shared among partners
vii) Continuity of business is not affected by death or absence of a partner as
would be in the case of a sole proprietorship
viii) Members of partnership enjoy more free days and are flexible than own-
ers of a company
ix) A Partnership just like sole proprietorship is exempted from payment of
certain taxes paid by large business organizations.
Disadvantages of partnership
i) A mistake made by one of the partners may result in losses which are
shared by all the partners
ii) Continued disagreement among the partners can lead to termination of
the partnership
iii) Decision-making is slow since all the partners must agree
iv) A partnership that relies heavily on one partner may be adversely af-
fected on retirement or death of the partner
v) A hard working partner may not be rewarded in proportion to his/her ef-
fort because the profits are shared among all the partners
vi) There is sharing of profits by the partners hence less is received by each
partner
vii) Few sources of capital, due to uncertainty in the continuity of the busi-
ness few financial institutions will be willing to give long-term loans to
the firm.
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Dissolution of partnership
A partnership may be dissolved under any of the following circumstances:
i) A mutual agreement by all the partners to dissolve the business
ii) Death insanity or bankrupting of a partner
iii) A temporary partnership on completion of the intended purpose or at
the end of the agreed time.
iv) A court order to dissolve the partnership
v) Written request for dissolution by a partner
vi) If the business engages in unlawful practices
vii) Retirement or admission of a new partner may lead to a permanent or
temporary dissolution
viii) Continued disagreements among the partners

INCORPORATED FORMS OF BUSINESS UNITS

These are businesses that have separate legal entities from that of their own-
ers. They include:
CO-OPERATIVES
-A co-operative society is a form of business organization that is owned by
and run for the economic welfare of its members
-It is a body of persons who have joined together to do collectively what they
were previously doing individually for mutual benefit.
Example
In Kenya the co-operative movement was started by white settlers in 1908 to
market their agricultural produce. In this case, they knew that they could sell
their produce better if they were as a group and not alone
Principles of co-operatives
i) Open and voluntary membership
Membership is open and voluntary to any person who has attained the age
of 18 years. No one should be denied membership due to social, political,
tribal or religious differences. A member is also free to leave the society at
will
ii) Democratic Administration
The principle is one man one vote. Each member of the co-operative has
only one vote irrespective of the number of shares held by him or how
much he buys or sells to the society
iii) Dividend or repayment
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-Any profit/surplus made at the end of every financial year should be dis-
tributed to the members in relations to their contribution.
-Part of the profit may be retained/reserved/put in to strengthen the finan-
cial position of the society.
iv) Limited interest on share capital
-A little or no interest is paid on share capital contributed (co-operatives do
not encourage financial investment habits but to enhance production, to en-
courage savings and serve the members)
v) Promotion of Education
Co-operative societies should endeavor to educate their members and staff
on the ideas of the society in order to enhance/improve quality of decisions
made by the concerned parties.
Education is conducted through seminars, study tours, open days
vi) Co-operation with other co-operatives
C-operatives must learn from each other’s experience since they have a lot in
common.
-Their co-operation should be extended to local national and international.
Features of co-operatives
 Membership is open to all persons so long as they have a common interest.
Members are also free to discontinue their membership when they desire so
 Co-operative societies have a perpetual existence; death, bankruptcy or re-
tirement of a member does not affect its operations
 They are managed in a democratic manner. Every member has one vote
when electing the managerial committee irrespective of the number of
shares held.
 The main aim is to serve the interest of the members where profit is not the
overriding factor.
 Co-operative societies have limited liabilities
 There must be a minimum of 10 people with no maximum membership.
 Co-operatives have a separate legal entity from the members who formed it
i.e they can own property sue and be sued
 Any profit made by the society is distributed to the members on the basis of
the services rendered by each member but not according to the capital con-
tributed.
Formation
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-Co-operative societies can be formed by people who are over eighteen years
regardless of their economic, political or social background.
-There must be a minimum of 10 persons and no maximum no.
-The members draft rules and regulations to govern the operations of the pro-
posed society i.e. by-laws, which are then submitted to the commissioner of
co-operatives for approval
-The registrar then approves the by-laws and issues a certificate of registration
-If the members are unable to draw up their own by-laws, the co-operative so-
cieties Act of 1966 can be adopted in part or whole

Management
-A co-perative society is composed/run by a committee usually of nine mem-
bers elected by the members in a general meeting
-The management committee elects the chairman, secretary and treasurer as
the executive committee members, who act on behalf of all the members and
can enter into contracts borrow money institute and depend suits and other le-
gal proceedings for the society
-The committee members can be voted out in an A.G.M if they don’t perform
as expected.
TYPES OF CO-OPERATIVES SOCIETIES IN KENYA
May be grouped according to;
i) Nature of their activities
a) Producer co-operatives
b) Consumer co-operatives
c) Savings and credit co-operatives
ii) Level of operations
a) Primary co-operatives
b) Secondary co-operatives
a) Producer co-operatives
This is an association of producers who have come together to improve the
production and marketing of their products.
Functions
 Obtaining better prices for their members products
 Providing better storage facilities for their products
 95

 Providing better and reliable transport means for moving the products
from the sources to the market and building feeder roads
 Providing loans to members
 Providing services of grading, packing and processing to the members
 Providing farm inputs e.g. fertilizers, seeds, insecticides e.t.c on credit to
members
 Educating and advising members on better methods of farming through
seminars, field trips, films and demonstration
-In this type of co-operative members are paid according to the quantity of
the produce a member has delivered to the society.
Examples,
KCC-Kenya Co-operative Creameries
K.P.C.U-Kenya Planters Co-operatives Union
K.G.G.C.U-Kenya Grain Growers Co-operative Union
b) Consumer Co-operatives
-These are formed by a group of consumers to buy goods on wholesome and
sell them to the members at existing market prices.
-Their aim is to eliminate the wholesalers and retailers and hence obtain goods
more cheaply
-The co-operatives allow their members to buy goods on credit or in cash
-Members of the public are also allowed to buy from the society at normal
prices thereby enabling the society to make more profits
-The profits realized is shared among the members in proportion to their pur-
chases i.ethe more a member buys, the buyer his/her share of profit
Examples;-Nairobi consumer co-operative union, Bee-hive consumer co-oper-
ative society and City-chicken consumer co-operative society
Advantages
 Sell goods of high quality
 Sell goods to members at fair prices
 Sell goods to other people at normal prices thereby making more profit
 Buy goods directly from the producers thereby eliminating middle-
men. They are therefore able to make more profit
 Can give credit facilities to the members
 Can pay interest on capital to the members
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 Sell a variety of goods to the members at a place where they can easily
get them
Disadvantages
Consumer co-operatives are not popular in Kenya because of the follow-
ing
i. They face stiff competition from large scale retailers such as supermarkets
and multiple shops who buy goods directly from the producers and sell-
them to consumers at low prices
ii. Cannot offer to employ qualified staff
iii. Majority of their members have low income, so raising off capital is a prob-
lem
iv. Kenya, being an agricultural country, produces enough subsistence goods
for itself. It therefore does not require consumer co-operatives
v. Reluctance of non-members to buy from the shops lowers the turn-over
vi. Mismanagement of the shops is rampant

Savings and credit co-operatives societies (SACCO’S)

-They are usually formed by employed persons who save part of their monthly
salary with their co-operative society, through check-off system
-Their money earns goods interest and when one has a significant amount
saved, he/she become entitled to borrow money from the society for any per-
sonal project e.g. improving their farms, constructing houses, paying school
fees e.t.c
-The SACCOS charge lower interest on loans given to members than ordinary
banks and other financial institutions.
-The societies have few formalities or requirements to be completed before
giving a loan. These are:
i. Membership
ii. Members salary
iii. Members saving
iv. Guarantee from fellow members
-Profits earned by the SACCO’S maybe shared among the members inform of
dividends.
-Most SACCO’S have insured their members savings and loans with co-oper-
ative insurance services (CIS).This means if a member dies his/her beneficia-
 97

ries are not called upon to repay the loan and the members savings/shares is
given to the beneficiaries.
-They are the main institutions that provide loans to most people who do not
qualify for loans from commercial banks because they do not ask for securi-
ties such as title deeds required by the bank.
d) Primary co-operative societies
-These are co-operative societies composed of individuals who are either ac-
tual producers, consumers or people who join up together to save and obtain
credit most conveniently
-Consumer co-operative societies and most SACCO’S are primary co-opera-
tive societies because they are composed of individuals.
-Most primary co-operative societies operate at the village level, others at dis-
trict levels and a few at national levels.
e) Secondary co-operative societies
-They are usually referred to as unions
-They are generally composed of primary co-operative societies as their mem-
bers
-They are either found at district levels or at national levels.

Advantages of co-operative societies:

 Since the properties of co-operatives are owned collectively, they are able
to serve the interest of the members affectively
 They have limited liability
 Membership is free and voluntary
 Members share profits of a co-operative through dividend that are given
 They have improved the standards of living of their members through in-
creased income from their produce and through savings from incomes.
 Co-operatives benefit their members through giving them credit facilities
and financial loans which they could not have got from local banks
 They are run on a democratic basis i.e. all members have an equal chance
of being elected to the management committee.
 Many co-operatives are large scale organizations hence able to get the ben-
efits of large scale organizations e.g low production costs leading to low
prices of products
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 Co-operative enjoy a lot of support from the government and when they are
in financial and managerial problems, the government steps in to assist
them
Disadvantages
 Majority of the co-operatives are small in size and therefore cannot benefit
from economies of scale.
 Members have a right to withdraw from the society and when they do, co-
operatives refunds the capital back which might create financial problems
to the society.
 Corruption and embezzlement of funds is a problem for many co-opera-
tives.
 Most co-operatives are not able to attract qualified managerial staff hence
leading to mismanagement.
 Many suffer from political interference. Sometimes; the election of the
management committee is interceded with by some people with personal
interest in certain candidates hence the best person may not be elected to
run the affairs of the society. This leads to poor management and ineffi-
ciency.
 Members may not take keen interest in the affairs of a co-operative society
because their capital contribution is small.
Dissolution of co-operative societies
-A co-operative society may be dissolved under any of the following circum-
stances.
i. Order from commissioner of co-operatives
ii. Voluntary dissolution by members
iii. Withdrawal of members from the society leaving less than ten members
iv. If the society is declared bankrupt
LIMITED LIABILITY COMPANIES (JOINT STOCK COMPANIES)
Defination: A company; Is an association of persons registered under the
companies act who contribute capital in order to carry out business with a
view of making a profit.
The act of registering a company is referred to as incorporation. Incorpora-
tion creates an organization that is separate and distinct from the person form-
ing it.
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-A company is a legal entity that has the status of an ‘’artificial person”. It

therefore has most of the rights and obligations of a human being. A company
can therefore do the following;
 Own property
 Enter into contracts in its own name.
 Borrow money.
 Hire and fire employees.
 Sue and be sued on its own right.
 Form subordinate agencies, ie, agencies under its authority.
 Disseminate or spread information.
-The owners (members) of a company are referred to as shareholders
FEATURES OF COMPANIES (LIMITED LIABILITY COMPANIES)
-A company in an artificial person and has the same rights as a natural person.
It can therefore sue and be sued in a court of law, own property and enter into
contracts in its own name.
-The members have limited liabilities.
-Companies have perpetual life which is independent of the lives of its own-
ers. Death, insanity or bankruptcy of a member does not affect the existence
of the company. (this is referred to as perpetual existence or perpetual suc-
cession)
- A company is created for a particular purpose or purposes.
Formation
-People who wish to form company are referred to as promoters
-The promoters submit the following documents to the registrar of companies:
i) Memorandum of Association
-This is a document that defines the relationship between the company and the
outsiders. It contains the following:
a) Name of the company/Name clause; -The name of the company must
be started and should end with the word “Limited” (Ltd).This indicates that
the liability of the company is limited.
-Some companies end their names with “PLC” which stands for “Public lim-
ited company” which makes the public aware that although it is a limited lia-
bility company it is a public not private.
b) The objects of the company/objective clause;-This set out the activities
that the company should engage in
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-The activities listed in this clause serve as a warning to outsiders that the
company is authorized in these activities only.
c) Situation clause;-Every company must have a registered office where offi-
cial notices and other communication can be received and sent
d) Capital clause;-It also states that the amount of capital which the business
can raise and the divisions of this capital into units of equal value called
shares i.e. authorized share capital also called registered or nominal share cap-
ital.
-It also specifies the types of shares and the value of each share
e) Declaration clause:-This is a declaration signed by the promoters stat-
ing that they wish to form the company and undertake to buy shares in the
proposed firm
-The declaration is signed by a minimum of seven promoters for public lim-
ited company and a minimum of two for private company.
-The memorandum of association also contains the names of the promoters
-The promoters signs against the memorandum showing details of their
names, addresses, occupation and shares they intend to buy. Each signatory
should agree to take at least one share.
i) Articles of Association
-This is a document that governs the internal operations of the company
-It also contains rules and regulations affecting the shareholders in relation to
the company and in relation to the shareholders themselves.
-It contains the following;
 Rights of each type of shareholder e.g. voting rights
 Methods of calling meeting and procedures
 Rules governing election of officials such as chairman of the company, di-
rectors and auditors
 Rules regarding preparation and auditing of accounts
 Powers, duties and rights of directors
 Methods dealing with any alterations on the capital.
ii) A list of directors with details of their names, addresses, occupations,
shares subscribed and statements of agreement to serve as directors
iii) Declaration that registration requirements as laid down by law (by the
companies act) have been met. The declaration must be signed by the
secretary or a director or a lawyer.
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iv) A statement signed by the directors stating that they have agreed to act
as directors.
v) A statement of share capital- this statement gives the amount of capital
that the company wishes to raise and its subdivision into shares.
-Once the above documents are ready, they are submitted by the promoters to
the registrar of companies. On approval by the Registrar and on payment of a
registration fee, a certificate of incorporation (certificate of registration) is is-
sued
-The certificate of incorporation gives the company a separate legal entity.
Sources of capital
1. Shares; The main source of capital for any company is the sale of shares.
-A share is a unit of capital in a company e.g. if a company states that its
capital is ksh.100,000 divided into equal shares of ksh.10 each.
-Each shareholder is entitled to the company’s profit proportionate to the
number of shares he/she holds in the company.
Types of shares:
a) Ordinary shares
b) Preference shares
a) Ordinary shares;-Ordinary shares have the following rights:
 Have voting rights
 Have no fixed rate of dividends. The dividends on them vary according to
the amounts of profit made
 They have a claim to dividends after the preference shares
 If the company is being liquidated, they are paid last after the preference
shares
b) Preference shares;-They have the following characteristics;
 Have a fixed rate of sharing profits(dividends)
 Have a prior claim to dividends over the ordinary shares
 Have no voting rights
 Can be redeemable or irredeemable. Redeemable shares are the ones that
can be bought back by the company at a future date while irredeemable
ones are ones that cannot be bought back
 Can be cumulative or non-cumulative. Cumulative shares are the ones that
are entitled to dividends whether the company makes profit or not. This
means if the company makes a loss or a profit which is not enough for divi-
 102

dends in a certain year, the dividends to cumulative shares are carried for-
ward to the next year(s) when enough profit are made
-Non- cumulative shares are the ones whose dividends are not carried forward
to the following year(s)
2. Debentures
This refers to loans from the public to a company or an acknowledgement of a
debt by a company
They carry fixed rate of interest which is payable whether profit are made or
not.
They are issued to the public in the same way as shares.
They can be redeemable or irredeemable.
Redeemable debentures are usually secured against the company’s assets in
which case they termed as secured debentures or mortgaged debentures.
NB: Where no security is given, the debentures are called unsecured /naked
debentures.
3. Loans from bank and other financial institutions;-A company can borrow
long term or short term loans from banks and other money lending institu-
tions such as Industrial and Commercial Development Corporation
[I.C.D.C]
These loans are repayable with interest of the agreed rates.
4. Profits ploughed back;-A company may decide to set aside part of the
profit made to be used for specified or general purposes instead of sharing
out all the profit as dividends. This money is referred to as a reserve.
5. Bank overdraft;-A customer to a bank may make arrangements with the
bank to be allowed to withdraw more money than he/she has in the ac-
count.
6. Leasing and renting of property.
7. Goods brought on credit.
8. Acquiring property through hire purchase

TYPES OF COMPANIES
I. PRIVATE LIMITED COMPANY
Private limited company has the following characteristics;
 Can be formed by a minimum of 2 and a maximum of 50 shareholders, ex-
cluding the employees,
 103

 Does not advertise its shares to the public, but sells them privately to spe-
cific people
 Restricts transfer of shares i.e. a shareholder cannot sell his/her shares
freely without the consent of other shareholders.
 Can be managed by one or two directors. A big private company may how-
ever, require a board of directors
 Can start business immediately after receiving the certificate of incorpora-
tion without necessarily having to wait for a certificate of trading.
 It does not have an authorized minimum share capital figure.
 Has a separate legal entity and can own property, enter into contracts, sue
or be sued.
 Has limited liability.
 Has a perpetual existence.
Formation
-It must have a memorandum of association, article of association list of direc-
tors, declaration signed by a director or lawyer and certificate of incorpora-
tion.
Advantages of private limited company
i) Formation: The Company can be formed more easily than a public
company. The cost of information is less than that of a public company
ii) Legal personality: A private company is a separate legal entity from its
owners. Like a person, it can own property, sue or be Sued and enter into
contacts
iii) Limited liability: Shareholders have limited liability meaning that they
are not responsible for the company’s debts beyond the amount due on
the shares
iv) Capital: They have access to a large pool of capital than sole proprietor-
ship or a partnership. They can borrow money more easily from finan-
cial institutions because it owns assets which can be pledge as security
v) Management: A private company has a larger pool of professional
managers than a sole proprietorship or a partnership. These managers
bring in professional skills in their own areas which are of great advan-
tage to a private company
vi) Assured continuity of the business: Death, bankrupty or withdrawal of
a shareholder does not affect the continuity of the company
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vii) Trading: Unlike a public company a private company can commence

trading immediately upon receiving a registration certificate.

Disadvantages of a private company

i) Returns: A private company, unlike sole proprietorship or a partnership,
must submit annual returns on prescribed forms to the registrar of com-
panies immediately after the annual general meeting
ii) Capital: A private company cannot invite the public to subscribe to its
shares like a public limited company. It therefore limited access to a
wide source of capital.
iii) Share transfer: The law restricts the transfer of shares to its members/
shareholders are not free to transfer their shares
II) PUBLIC LIMITED COMPANY; - Public limited companies
have the following characteristics:
a) Can be formed by a minimum of 7 (seven) shareholders and no set maxi-
mum.
b) Cannot start business before it is issued with a certificate of trading. This is
issued after the certificate of incorporation and after the company has
raised a minimum amount of capital
c) It’s managed by a board of directors
d) The shares and debentures are freely transferable from one person to an-
other.
e) It advertises its shares to the public/ invites the public to subscribe for/buy
its shares and debentures.
f) Must publish their end of year accounts and balance sheets
g) Must have an authorized minimum share capital figure
h) Has a separate legal entity and can own property, enter into contracts, sue
or be sued.
i) Has limited liability.
j) Has a perpetual existence.
Advantages of public limited company
i) Wide range of sources of capital :It has access to wide range of sources
of capital especially through the sale of shares and debentures
-They can also borrow money from financial institutions in large sums and
have good security to offer to the lenders.
 105

ii) Limited liability: Like private companies, public limited company’s share-
holders have limited liability i.e. the shareholders are not liable for the
company’s debts beyond the shareholders capital contribution.
iii) Specialized management: PLC’S are able to hire qualified and experie-
nced professional staff.
iv)Wide choice of business opportunities: Due to large amount of capital a
public company may be suitable for any type of investment
v) Share transferability: Shares are freely transferable from one person to
another and affects neither the company’s capital nor its continuity.
vi)Continuity: PLC has a continuous life as it is not affected by the share-
holders death, insanity, bankruptcy or transfer of shares
vii) Economies of scale: Their large size enables them to enjoy economies
of scale operations. This leads to reduced costs of production which raises
the levels of profit
viii) Employee’s motivation: They have schemes which enable employees
to be part owners of the company which encourages them to work harder in
anticipation of higher dividends and growth in the value of the company’s
shares.
ix)Share of loss: Large membership and the fact that capital is divided into
different classes’ means that the risk of loss is shared and spread.
x) Shareholders are safe guarded; Publicity of company accounts safeguard
against frauds.
Disadvantages of public limited companies
i) High costs of formation: The process of registering a public company
is expensive and lengthy. Some of the costs of information are legal
costs, registration fees and taxes
ii) Legal restrictions: A public company must comply with many legal re-
quirements making its operations inflexible and rigid
iii) Alienation of owners: Shareholders non-participation in management is
a disadvantage to them
iv) Lack of secrecy: The public limited companies are required by law to
submit annual returns and accounts to the registrar of companies deny-
ing the company the benefit of keeping its affairs secret. They are also
required to publish their end of year accounts and balance sheets.
v) Conflicts of interests: Directors may have personal interests that may
conflict with those of the company. This may lead to mismanagement.
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vi) Decision making; Important decision are made by the directors and
shareholders. The directors and shareholders meet after long periods
which make decision making slow/delayed and expensive.
vii) Diseconomies of scale: The large size and nature of business operations
of public limited companies may result in high running/operation costs
and inefficiency
viii) Double taxation: There is double taxation since the company is fixed
and dividends distributed to the shareholders are also taxed
ix) Inflexibility: Public limited companies cannot easily change its nature
of business in response to the changing circumstances in the market. All
shareholders must be consulted and agree.
DISSOLUTION OF A COMPANY
The following are the circumstances that may lead to the dissolution of a com-
pany:
 Failure to commence business within one year- If a company does not com-
mence business within one year from the date of registration, it may be
wound up by a court order on application of a member of the company.
 Insolvency – when a company is not able to pay its debts, it can be declared
insolvent and wound up.
 Ultra- vires – this means a company is acting contrary to what is in its ob-
jective clause. In such a case, it may be wound up by a court order.
 Amalgamation – two or more companies may join up to form one large
company completely different from the original ones.
 Court order – the court of law can order a company to wind up especially
following complaints from creditors.
 Decision by shareholders – the shareholders may decide to dissolve a com-
pany in a general meeting.
 Accomplishment of purpose or expiry of period of operation – a company
may be dissolved on accomplishment of its objects, or on expiry of period
fixed for its existence.
THE ROLE OF STOCK EXCHANGE AS A MARKET FOR SECURI-
TIES
DEFINATIONS
(1) Stock: a group of shares in a public limited company
-Stocks are formed when all the authorized shares in a particular category
have been issued and fully paid for.
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(2) Stock exchange market: is a market where stocks from Quoted compa-
nies are bought and sold
-Stock exchange markets enable share holders in public companies to sell
their shares to other people, usually members of the public interested in buy-
ing them.
(3) A Quoted Company: is a company that has been registered (listed) as a
member of the stock exchange market.
-Companies that are not quoted cannot have their shares traded in the stock
exchange market.
(4) Securities: this could either refer shares or documents used in support of
share ownership.
(5) Initial Public Offer (I. P. O): refers to situations in which a company has
floated new shares for public subscription ( Has advertised new shares and
has invited members of the public to buy them.
(6) Secondary market: The market that deals in second hand shares i.e. the
transfer of shares from one person or organization to another.
There is only one stock exchange market in Kenya i.e. The Nairobi Stock
Exchange.
A person wishing to acquire shares will do so either at an IPO or in the sec-
ondary market. However, an investor cannot buy or sell stocks directly in the
stock exchange market. They can only do so through stock brokers.
ROLES OF THE STOCK EXCHANGE MARKET
(a)Facilitates buying of shares- it provides a conducive environment to in-
vestors who want to buy shares in different companies.
(b) Facilitates selling of shares- it creates a market for those who wish to
sell their shares.
(c)Safeguarding investors’ interests- it monitors the performance of the al-
ready quoted companies and those found not meeting expectations are
struck off. Companies who want to be quoted must also attain a certain
standard of performance.
(d) Provides useful information- it provides timely, accurate and reliable
information to investors which enable them to make decisions on the in-
vestments to make. The information is passed on through mass media and
stock brokers.
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(e)Assist companies to raise capital- it assists companies to raise capital by

creating an environment through which companies issue new shares to
members of the public in an IPO.
(f) Creation of employment- it creates employment for those who facilitate
the buying and selling of shares eg stock brokers, stock agents etc.
(g) Raising revenue for the government- the government earns revenue by
collecting fees and other levies/ dues from activities carried out in the stock
exchange market.
(h) Availing a variety of securities- it avails a variety of securities from
which an investor can choose from. The market therefore satisfies needs of
various investors eg investors who wish to buy from different companies
can do so in the market.
(i) Fixing of prices- the stock exchange market is in a position to determine
the true market value of the securities through the forces of demand and
supply. This is of great importance to both the buyer and the seller.
(j) Measures a country’s economic progress- the performance of securities
in the stock exchange market may be an indicator of a country’s economic
progress e.g a constant rise in prices and volumes of securities traded
within a given period of time would indicate that the country’s economy is
positively growing.
(k) Promotes the culture of saving- it provides investors with opportunities
to channel their excess funds. Such people act as role models to other mem-
bers of the society who may emulate them thereby promoting a saving cul-
ture.
PUBLIC CORPORATIONS (STATE CORPORATIONS)
These are organizations formed by and/or controlled by the government (the
government has a controlling interest). This means that the government owns
more than 50% shares in the corporation. Where the government has full own-
ership, the organization is known as a parastatal
 Public corporations are formed to perform certain/specific functions on be-
half of the government.
 They are formed to provide essential services that are generally in the pub-
lic interest, and that may require heavy initial capital investment which few
private investors can afford
 They are formed by the act of parliament.
Examples
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 Kenya Railways corporation- provides railway transport

 Telkom Kenya-provides telecommunication services
 Postal corporation of Kenya
 Industrial and commercial Development corporation (ICDC)- financial and
management services
 Mumias and Chemelil sugar companies.
 Kenya air ways- provide air transport services. etc
Characteristics/features of public corporations
 They are formed by the government under the existing laws i.e formed by
an act of parliament eg education act
 Initial capital is provided by the government
 They are jointly owned by the government and members of public/private
investors
 They are set up to perform certain specific functions on behalf of the gov-
ernment
 They are managed by a board of directors appointed by the government or
appointed by the government and the joint owners
 They have an entity of their own and can own property, enter contracts, sue
and be sued
 They have limited liability
 Some operate without a profit motive while others have a profit motive
Formation
-Some are formed by an act of parliament while others are formed under the
existing laws.
-When formed by an act of parliament, the Act defines its status obligations
and areas of operation. The Act outlines the following;
 Proposed name of the corporation
 Aims and objectives
 Goods or services to be produced and provided
 Location(Area of operation)
 The appointment of top executives
 The powers of the Board of directors
 The ministry under which it will operate
Management
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-The public corporations are managed by a board of directors appointed by the

president or the relevant minister
-The chairman and the board of directors are responsible for the implementa-
tion of the aims and objectives of the corporations.
-The chairman of the board of directors reports to the government (president)
through the relevant minister.
-The managing director who is usually the secretary of the board of directors
in the chief executive officer of the corporation
Sources of capital
-The initial capital is usually provided by the government as a vote of expen-
diture for the ministry concerned
-Those corporations jointly owned by the government and the public raise
capital through the sale of shares
-financial institutions in form of loans
-Retained profits/profits ploughed back.
-Hire purchase
Advantages of public corporations
 Initial capital is readily available because it is provided by the govern-
ment
 Can afford to provide goods and services at low prices which would oth-
erwise be expensive if they were left to the private sector.
 Most of them produce goods and services in large quantities thereby
reaping the benefits of large scale production
 Some are monopolies. They hence enjoy the benefits of being a monop-
oly e.g. they do not have to incur costs advertising since there is no com-
petition
 They can be bailed out/assisted by the government when in financial
problems
 They have limited liability
 Money for research and development can be made readily available by
the government
 Through corporations the government is able to remove foreign domina-
tion in the country
 They can afford to hire qualified personnel.
Disadvantages of public corporations
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 They are managed by political appointees who may not have the neces-
sary managerial know how.
 When they make losses, they are assisted by the government and this
could lead to higher taxation of individuals
 Lack of competition due to monopoly leads to inefficiency and insensi-
tivity to customers feelings.
 Political interference may hamper efficiency in the achievement of set
goals and objectives.
 Decision-making is slow and difficult because the organizations are
large.
 They may lack close supervision because of their large sizes.
 There is embezzlement of large sums of money leading to loss of public
funds
 The government is forced to provide goods and services to its citizens in
all parts of the country where at times its uneconomical to provide them
because the costs of providing them may surpass the returns
 Public funds are wasted by keeping poorly managed public corporations.
 Diseconomies of scale apply in these business units because they are
usually very large scale organizations e.g. decision making may take
long.
Dissolution of public corporations
They can only be dissolved by the government due to:
1. Persistent loss making
2. Bankruptcy- where the corporation cannot pay its debts
3. Change in the act of parliament that formed the corporation
4. Privatization
5. Mismanagement, resulting in poor management of the corporation
TRENDS IN FORMS OF BUSINESS UNITS
(1) Globalizations:
This refers to the sharing of worlds resources among all regions i.e where
there are no boundaries in business transactions
Some companies referred to as multinationals, have branches in many parts of
the world e.g coca-cola company
Globalization has been made possible and effective through the development
and improvement of information and technology organization i.e
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 World website (internet); one can acquire and order for goods through the
internet. This is referred to as Electronic Commerce (E- Commerce) and E-
Banking.
 Mobile phones technology has revolutionized ways of life and business
and even remote areas have been opened up.
(2) Business Amalgamations/combinations
This occurs when two independent business enterprises combine to form one
large organization
Levels of combinations
i) Vertical combination; This is when businesses engaged in different but
successive levels of production combine e.g. primary(extractive) level com-
bines with secondary(manufacturing)level or secondary level combining with
tertiary level.
Example; A company producing cotton (raw materials) combining with a tex-
tile industry.
ii) Horizontal combination; This is where business enterprises of the same
level combine e.g. secondary and secondary levels e.t.c

Types of Amalgamation/combination
Amalgamations whether vertical or horizontal can be achieved in these ways;
a) Holding companies
-A holding company is one that acquires 51 percent or more shares in one or
more other companies.
-The various companies entering into such a combination are brought under a
single control.
-These companies are controlled by the holding company and are called Sub-
sidiaries.
-The subsidiary companies are however allowed to retain their original names
and status, but the holding company appoints some members to be on the
board of directors of these subsidiaries, so as to control their activities.
-Holding companies are usually financial institutions because they are able to
buy controlling shares in subsidiary companies
b) Absorptions (takeovers)
This refers to a business taking over another business by buying all the assets
of the other business which then ceases to exist.
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Example; Kenya Breweries took over the castle company in Kenya

c) Mergers( Amalgamation):
This is where two or more business organizations combine and form one new
business organizations.
-The merging companies cease to exist altogether.
d) Cartels
This is a group of related firms/ companies that agree to work together in or-
der to control output, prices and markets of their products – O. P. E. C (orga-
nization of petroleum exporting countries) is an example.
(3) Privatization: this is the process of transferring / selling state owned
corporations to public limited companies or private investors. This is done by
the Government selling their shareholding to members of the public. The main
aim is to:
 Improve efficiency
 Generate revenue for the government.
 Reduce government control
 To break monopolistic practices
 To reduce government expenditure on corporations that relies on govern-
ment subsidy.
(4) Check off system- this is a method of remitting money especially to
SACCOS where the employer deducts the contribution from the source
and submits it to the SACCO on behalf of the employee who is a member
of the SACCO.
(5) Burial Benevolent Funds (B. B. F): some SACCOS have started sys-
tems/ funds to assist their members financially in burials through creation
of BBF.
(6) Front Office Savings Account (FOSA); SACCOS have expanded their
services to members by introducing FOSA. The account enables members
to convinientlydeposit and withdraws money. A member may also be pro-
vided with an ATM card which enables him/her to withdraw money at vari-
ous pesa points/ ATM’s.
(7) Franchising: this is where one business grants another the rights to
manufacture, distribute or produce its branded products using the name of
the business that has granted the rights eg General motors’ has been granted
franchise to deal in Toyota, Isuzu and Nissan vehicles.
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(8) Trusts: This is where a group of Companies work together to reduce

competition. Trusts may also be formed where a company buys more than
50% of shares in a competing company so as to reduce competition.
(9) Performance contracts: Employees in state corporations are expected
to sign performance contracts in order to improve their efficiency. Other
private institutions are also adopting the same practice.

GOVERNMENT AND BUSINESS

BY THE END OF THE TOPIC, THE LEARNER SHOULD BE ABLE TO:

i. Explain reasons for government involvement in business.
ii. Explain how the government gets involved in business.
iii. Discuss the merits and demerits of government involvement in business.
iv. Discuss the importance of consumer protection.
INTRODUCTION
Government involvement in business activities is one of the commercial du-
ties it owes its citizens. It is the one that provides the necessary environment
for investments to be undertaken by itself, or by the local and foreign in-
vestors. This, the government may do in various ways, these include;
a) Producing goods and services
b) Distributing goods and services
c) Advising producers and traders
d) Promoting trade and economic development
e) Protecting consumers against exploitation by producers and traders
f) As a consumer of goods and services
Reasons for Government involvement in business
The following are the major reasons for the government’s involvement and
participation in business activities;
1) To prevent exploitation of the public by private businesspersons especially
in the provision of essential goods and services such as sugar, transport,
communication etc. the Kenya Bureau of standards (KEBS) regulates the
quality of goods consumed in Kenya.
2) To provide essential goods and services in areas where private individuals
and organizations are unwilling to venture because of low profits/ high
risks involved.
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3) To provide essential goods and services which private organizations and in-
dividuals are unable to provide due to the large amount of initial capital re-
quired b e.g. generation of electricity, establishment of airlines etc.
4) To attract foreign investment by initiating major business projects
5) To stimulate economic development in the country e.g. by providing social
services
6) To provide goods and services which are too sensitive to be left in the
hands of the private sector e.g. provision of firearms.
7) To create employment opportunities by initiating projects such as genera-
tion of electricity.
8) To prevent foreign dominance of the economy by investing in areas where
the locals are not able to
9) To redistribute wealth where returns are very high
10) To prevent establishment of monopolies
METHODS OF GOVERNMENT INVOLVEMENT IN BUSINESS
The government gets involved in business activities through the following
methods:
(i) Regulation
This refers to Rules and restrictions the government requires business units to
follow in their business activities. Through this method, the government en-
sures high quality goods and services and puts in control measures to protect
consumers from exploitation. The government regulation measures include;
a) Licensing
A license is a document that shows that a business has been permitted by the
government to operate. It is usually issued upon payment of a small fee.
Licensing is the process of issuing licenses to businesses. Some of the reasons
why the government issues licenses include;
 Regulating the number of businesses in a given place at any given time to
avoid unhealthy competition.
 To control the type of goods entering and leaving the country.
 To ensure there are no illegal businesses.
 To ensure that traders engage only in trade activities that they have been li-
censed for.
 To ensure that those who engage in professional activities meet the require-
ments of the profession.
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 To raise revenue for the government.

b) Ensuring standards/ enforcing standards; The government regulates
business activities by setting standards that businesses should and ensuring
that the standards are adhered to. To achieve this purpose, the government
has established bodies such as;
 Kenya bureau of standards (KEBS) whose main responsibility is to set
standards especially for the manufactured goods and see to it that the set
standards are adhered to/ met. Goods that meet such standards are given a
diamond mark of quality, to show that they are of good quality.
 The ministry of public health to ensure that businesses meet certain stan-
dards as concerning facilities before such businesses can be allowed to op-
erate. Such standards may include clean toilets, clean water and well aer-
ated buildings.
c) Legislation; The Government may come up with rules and regulations
(laws) that regulate business activities e.g. banning hawking in certain ar-
eas, matatus required to carry certain number of passengers e.t.c.
(ii) Training
The government takes keen interest in training and advising people in busi-
ness about business management strategies and better ways of producing
goods and services. The government offers these services through seminars
and courses. This is mainly done by the Kenya Business Training Institute
(K.B.T.I). Reasons for government training include;
 To expose businesspersons to modern developments in management
 Introduce modern technology and skills in management
 Educate the business people on efficient methods of operating a business
e.g., effective methods of advertising and keeping books of accounts.
 Expose business people to problems/ challenges facing them and their pos-
sible solutions for example, problems of raising capital and identifying in-
vestment opportunities.
 Impart proper business ethics e.g. good customer relations and honesty.
 Creating awareness of the available profitable business opportunities in
their environment
 Expose business people to government policies regarding business activi-
ties in the country.
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 Educate business people on how to use available resources to minimize

costs and maximize profits.
 Expose people to other opportunities that exist in the import and export
market.
(iii) Trade promotion
This is a government initiated and supported policy to encourage local busi-
ness people to enter into business. This is aimed at increasing the volume and
variety of goods and services traded in.
Trade promotion is classified as either external trade promotion or internal
trade promotion.
(a) External trade promotion
 The purpose of external trade promotion is to encourage local business peo-
ple to enter into the export market.
 It also intended to attract foreign investors into the country.
 In Kenya, external trade promotion is done through the department of ex-
ternal trade in the ministry of trade and industry.
 External trade promotion may also be done by Commercial attaches.
Commercial attaches are officers sent by the country’s government to work
with the embassies in foreign countries as support staff in the field of com-
merce. Their main duty is to look at the interests of their home countries’ ex-
ports e.g. cash crops and manufactured goods.
Duties of commercial attaches
 Explore and identify new markets for more export opportunities.
 Research and analyze markets for exports from their home countries.
 Keep statistics of products such as volumes, packaging size and method of
manufacturing.
 Attend meetings, seminars and workshops on trade patterns of the countries
and keep data for new markets of exports.
 Publish and advertise their country’s exports in business journals and mag-
azines.
 Select buyers, agents and distributors of the home country’s exports.
 Inform traders in their home countries of the standards required for exports.
 Assist sales missions from their home countries by organizing educational
tours for them.
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 Organize visits to trade fairs and exhibitions for business people from their
home country.
 Make detailed reports on commercial activities that may help improve the
exports of their countries.
To perform these duties, the commercial attaché needs to:
 Keep information on prices paid for exports and terms of payments( condi-
tions to be filled before the payment is made)
 Be aware of the rules that govern payment in international trade.
 Be aware of the working of the regional organizations that operate in devel-
oping countries such as the East African Community (E. A. C), Inter-
Governmental Authority for Development (I.G.A.D), Common Market
for Eastern and Southern Africa (COMESA), Economic Commission
for Africa (E.C.A) and African Growth Opportunity Act (A.G.O.A).
(b) Internal trade promotion
This is done by the government through the ministry of trade. The ministry
carries out various activities

TRANSPORT

TOPIC OBJECTIVES
By the end of the lesson, the learner should be able to:
1. Explain the meaning and importance of transport to business.
2. Explain the essential elements of transport.
3. Describe the modes and means of transport.
4. Discuss the advantages and disadvantages of each means of transport.
5. Discuss the factors that influence choice of appropriate means of trans-
port.
6. Discuss trends of transport.

MEANING OF TRANSPORT
Transport is the physical movement of people and goods from one place to an-
other. It helps bridge the gap between producers and consumers hence creat-
ing place utility.
Importance of Transport to Business
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a) Bridging the gap between producers and consumers/ linking consumers

to producers-Transport links consumers to producers which enable the con-
sumers to obtain the goods they need.
b) Employment creation-Transport helps in solving unemployment problem by
creating job opportunities. For example, people may be employed as drivers,
pilots, mechanics and road constructors.
c) Promotes specialization-Transport enables people to specialize in jobs they
are best at. For example; producers would concentrate in production only
while other people carry out distribution.
d) Making goods and services more useful-Through transport goods are moved
from a place where they are least required to a place where they are most re-
quired thereby making them more useful.
e) Improving people’s standard of living-It enables consumers to get a variety
of goods and services thereby improving the standards of living.
f) Availing a wide market for products-It helps producers to widen the mar-
kets for their products by enabling them access to areas they would otherwise
not have accessed
g) Increased production/ facilitates mass production-Due to the wider market
created through transport, producers are able to increase the volume of goods
produced.
h) Avoiding wastage-Transport makes it possible for surplus goods to be dis-
posed of by taking them to areas where they are required. Perishable goods
such as flowers, fruits and vegetables can also be transported fast hence mini-
mizing/ avoiding wastage.
i) Promoting development of industries-Through transport, raw materials can
be taken to manufacturing industries and also finished goods to the market.
Similarly, it promotes development of service industries such as tourism.
j) Adds value to goods and services- creates utility in goods by moving them
from the point of production to where they are needed thereby adding their
value.
k) Leads to the opening of new markets- Goods and services can be taken to
new areas with ease.
l) It facilitates the movement of labour- people can easily move from where
they stay to where they work.

ESSENTIAL ELEMENTS OF TRANSPORT

 120

In order for a transport system to function efficiently it should have certain ba-
sic elements. These elements are:
a) Unit(S) of carriage
b) Methods of propulsion
c) Ways
d) Terminals(terminus)
A. Unit(S) of carriage
This refers to anything i.e. vessel that is used to transport goods and people
from one place to another. Units of carriage include: ships, trains, aeroplanes,
motor vehicles, bicycles and carts. Units of carriage are also referred to as
means of transport.
B. Methods of propulsion
This is the driving force (source of power) that makes a unit of carriage to
move.The power for most vessels may be petroleum products, electricity, hu-
man force or animal power.
C. Ways
It refers to either the route or path passes by the vessel. The route can be on
land, on water or through air. Examples of ways are roads, railways, paths,
canals, seaways and airways. The ways can be classified into either natural
ways or manmade ways.
I. Natural ways-As the name suggests, natural ways are the ways that are
provided by nature. They are therefore free to acquire. They include airways
and seaways.
II. Man-made ways-These are ways that are made available by human being.
They include roads, canals and railways. Manmade ways are usually expen-
sive to construct and maintain.
D. Terminals (terminuses)
The vessel used to carry goods and people starts from one destination and
ends up at another. At these destinations the loading and off-loading take
place respectively. The loading and off-loading places are referred to as termi-
nals or terminus. Examples of terminuses are bus stations, airports and sea-
ports.
MODES OF TRANSPORT
Mode refers to the manner in which transport is carried out. There are three
modes of transport namely:
i. Land transport
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ii. Water transport

iii. Air transport
1) Land transport
This mode of transport involves movement of goods and people using units of
carriage that move on dry land. The various means under this mode includes:
a) Human Porterage
This involves human beings carrying goods on their heads, shoulders or
backs. Human Porterage as a means of transport is the oldest kind of transport
and is still very common in our society. The means is suitable for transporting
light luggage over short distances. It is also appropriate where other means of
transport are not available or convenient.
Advantages of Human Porterage
i. Could be the only means of transport available
ii. Compliments other means of transport
iii. Flexible as it has no fixed time table or routes
iv. May be a cheap means compared to other means of transport
v. Readily available when required
vi. Convenient over short distances
Disadvantages of human Porterage
i. Not suitable for long distances
ii. They add onto congestion on roads
iii. Not suitable for transporting heavy and bulky goods
iv. It is relatively slow
v.Relies on human energy which is exhaustible
b) Carts
Carts are open vessels usually on two or four wheels that are pushed or pulled
by either human being or animals such as oxen and donkeys. The carts pushed
or pulled by human beings are referred to as hand carts or mikokoteni. The
ones pulled by animals, on the other hand, are called animal driven carts.
Carts are used to carry relatively large quantities compared to human porter-
age. Like human porterage, they are not suitable for long distances. Types of
goods that are transported using this means include, agricultural produce, wa-
ter and animal feeds.
Advantages of carts
i. Compliments other means of transport
ii. Relatively cheap to hire
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iii. Initial buying and maintenance cost is low

iv. Appropriate in remote areas where other means are not available
v. Readily available for hire
vi. Can carry fairly heavier and bulky goods
vii. Convenient for transporting goods over short distances
i. Disadvantages of carts
i. May not be suitable for transporting heavy and bulky goods
ii. Cause traffic jams on roads leading to congestion and accidents
iii. Not suitable for transporting goods over long distances
c) Vehicles
These are means (units of carriage) of transport that ferry goods and people on
roads. Vehicles are the most commonly used means of transport.
Vehicles are either passenger or goods carriers. Passenger carriers may be
buses, matatus, taxis and private cars while goods are transported using Lor-
ries, pick-ups, tankers and trailers. Vehicles are expensive to acquire and
maintain. The convenience of vehicles may depend on the nature of the road
on which they travel.
Some roads are impassible especially when it rains while others are usable
throughout the year (all weather roads).Of special concern in road transport is
the matatus. These are privately owned passenger vehicles which were intro-
duced to supplement the existing mainstream transport companies that were
inadequate at independence. They got their name from the amount of fare they
used to charge originally, that is, mapeni matatu. The operators have to obtain
the relevant documents such as insurance cover in order to be allowed to oper-
ate. Their owners may form associations which take care of their interests
along given routes or in certain areas.
Advantages of matatus
i. They supplement regular bus companies, especially in remote areas where
they are the only means.
ii. They fill up faster than buses hence save time
iii. They are more flexible since they can change routes easily depending on
demand
iv. They reach out into the interior of rural areas where big buses cannot ac-
cess
v. They are more flexible with the fares they charge
vi. They are easier to hire as most of them are readily available
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vii. They are cheaper to acquire as compared to buses

Disadvantages of matatus
i. Some matatus are poorly maintained to the extent of being unroadworthy
ii. Most drivers are reckless as they rush to compete for customers. They pick
or drop passengers anywhere
iii. In some cases, touts use impolite language when dealing with passengers
iv. They may cause noise pollution such as unnecessary hooting and loud mu-
sic
v. They may cause congestion in towns unnecessarily because of careless
driving and parking
vi. Uncalled for sudden increase in fares at peak hours, during the night and
on public holidays
vii. Their operation is concentrated on peak hours, rarely operating at night.
viii. They at times unexpectedly change their route hence causing breach of
contract.
Advantages of vehicles
i. Most readily available means of transport
ii. Relatively fast compared to carts and human Porterage
iii. Relatively cheaper over short distances
iv. Flexible as it can offer door to door service
v. Vehicles may be available for transporting special goods
vi. Roads are widely spread thereby making many areas accessible.
Disadvantages of vehicles
i. Acquisition and maintenance costs are high
ii. May not be suitable for transporting heavy and bulky goods over long dis-
tances as compared to railways
iii. Traffic jams in roads may cause delays
iv. Vehicle transport is prone to accidents which may lead to loss of goods and
life
v.Some roads may be impassible especially during the rainy seasons.
d) Trains
Trains are vessels that transport goods and people on rails hence the term rail-
ways.
The terminuses of trains are the railways stations. Therefore; the goods to be
transported by trains have to be taken to the railway station. Railway transport
 124

is suitable for heavy and bulky goods as well as passengers. There are two
types of trains: cargo and passenger train.
Advantages of Trains
-Relatively secure as cases of theft and accidents are rare
-Enables a transporter to plan for the transport of his/her goods as trains fol-
low a fixed timetable
-Economical for transporting heavy and bulky goods over a long distance
-Trains may have facilities for carrying special types of goods e.g. gas, petrol
and vehicles
-Where shunting facilities are available trains may deliver goods up to or from
the owner’s premises
Disadvantages of Trains
-Not flexible as trains follow a strict time table
-Railway lines are expensive to construct and to maintain
-Not all areas are served by railway lines
-Not suitable for transporting urgently required or perishable goods as it is
slow
-Unsuitable for transporting goods over short distances
-Trains are expensive to acquire and maintain
e) Pipeline Transport
This is the movement of liquids and gases from one place to another through a
pipe. Products transported through pipes include water, gases, petrol and
diesel. Solids that cannot be dissolved or damaged by water may also be trans-
ported through pipes as suspension. Examples coffee berries from machines to
drying places. The pipeline is both a vessel and a way.
Products flow by the force of gravity or pressure from an original station. If
the original terminal is at a higher level than the receiving terminal, the force
of gravity is adequate to move the product. But if the receiving terminal is at a
higher level than the original than the originating terminal, then power is re-
quired to pump the product uphill. For example, petroleum from Mombasa
which is at sea level needs pressure to pump it to all the receiving stations.
Advantages of pipeline Transport
-It is labour saving as it requires minimal manpower
-It is environmentally friendly since it is free of noise or smoke
-It may be constructed in areas where it is difficult to construct roads or rail-
way lines. For example, over rugged terrain
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-Pipelines allow continuous flow of the goods being transported

-It ensures that road damage is reduced as the number of tankers is reduced on
roads
-It helps to reduce accidents that may be caused by tankers on roads
-It reduces delays arising from congestion on roads
-Maintenance costs are reduced as it relies on gravitational force and booster
stations along the way
-It may not be affected by adverse weather conditions
Disadvantages of pipeline Transport
-A leakage not detected in good time may lead to high losses
-Initial construction cost is high
-Accidents leakages may lead to environmental pollution
-It is unidirectional that is, travels only in one direction
-It can transport only one product at a time
-It is not flexible since once a line is laid, it cannot be adjusted according to
transport patterns or demands
-Generates comparatively fewer job opportunities as it is capital intensive
-It is vulnerable to sabotage by enemies.
-Once laid, it is difficult to re route or re locate.
2) Water Transport
It is a mode of transport where the units of carriage transport goods and peo-
ple on water. Water in this case includes; navigable rivers, lakes, seas and
oceans. The means of transport which are the units of carriage or vessels using
this mode include; ships, dhows, boats, steamers and ferries. Water transport
can be divided into inland waterways and sea transport.
(a) Inland waterways
This is transport carried out on lakes, rivers and inland canals. The Lake Vic-
toria facilitates transport among the three east African countries i.e. Kenya,
Uganda and Tanzania. Ferries also connect the mainland to islands such as
Rusinga Islands, found in Lake Victoria.
Water hyacinth has however been a threat to transport on the lake. Most rivers
in Kenya are not navigable due to reasons such as:
 Too small
 Presence of rapids and waterfalls
 Too shallow
 Most are seasonal
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 High gradient
(b) Sea Transport
This is where goods and people are transported in seas and oceans. All types
of water vessels may be used in sea transport. Sea transport is important as it
connects continents of the world thereby facilitating international trade. Kilin-
dini in Mombasa provides a good natural harbor facilitating sea transport be-
tween Kenya and other countries of the world. Ferries also connect the island
of Mombasa and the mainland.
Types of Water vessels
a) Ships
A ship is a large vessel that transports people or goods through water. Their
sizes however vary depending on quantity of goods and passengers they carry.
Ships help in connecting countries or places which borders the sea. They load
and offload in terminals referred to as harbors found at sea ports. For example,
the Kilindini harbor is found in the port of Mombasa.
Ships that transport people are referred to as passenger ship while those that
transport goods are referred to as cargo ships. Cargo ships are c are convenient
for carrying heavy and bulky goods.
Ships may also be classified as either liners or tramps.
Liners
These are ships that are owned and operated by shipping companies called
conferences. Each conference is responsible for specifying the route on which
each liner would operate the rates to be charged and setting the rules and regu-
lations to be followed by the members.
Characteristics of liners
-Have fixed routes
-Follow a fixed timetable
-Charges are fixed
-Call at specified ports along the route at specified intervals
-Travel at regular intervals.
Tramps
These are ships that do not follow a regular route or time table. Their routes
therefore depend on demand. During times when demand is high, they charge
higher rates and when demand is low they lower their rates. Tramps can there-
fore be likened to matatus. Tramps may be owned by either individuals or
firms.
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Characteristics of tramps
-Do not have a fixed rate. They therefore move to wherever there are goods or
passengers to carry.
-Have no set timetables. They therefore move according to demand
-Their fares change according to demand.
-Their travelling patterns are irregular and therefore cannot be relied upon
NB: Liners and tramps owners are in constant competition business. Traders
therefore need to choose the type of ships to hire. Liners are however more
popular than tramps among traders because of their reliability.
When a trader hires an entire ship to transport goods to a given destination,
he/she and the ship owner signs a document called a charter party. This doc-
ument shows the terms and conditions under which the goods would be trans-
ported.
Other information included in the agreement are destination, nature of the
goods and freight charges. When the ship is hired to carry goods for a given
journey the document signed is referred to as voyage charter. On the other
hand, if the ship is hired to transport goods for a given period of time, the doc-
ument signed is called time charter.
Ships may be specially built to carry special commodities. These may include
tankers specially built to transport petroleum products and other liquids. Re-
frigerated ships may also be available to transport perishable commodities
such as meat, fish and fruits.
b) Boats and Ferries
These are water vessels used in transporting goods and people over short dis-
tances. They are therefore found in both inland water transport and also the
sea transport.e.g the Likoni ferry in Mombasa carries people from and to the
island of Mombasa and the main land.
Advantages of water transport
-Sea transport is economical to the owner as the number of employees to car-
riage volume ratio is less compared to road transport
-Suited for transporting heavy and bulky goods
-It is cheap as the way is natural and free
-Connects countries of the world which border the sea
-Special types of ships are available for transporting goods
-Large volume can be carried thereby reducing cost per unit
-Not affected by traffic congestion
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-Some ships can be very luxurious for passengers and may even provide
swimming pools.
-At the port/dock, there are many depots for storage of goods.
Disadvantages of water transport-
Sea-sickness, sea-pirates and storms may occur
-They are slow therefore not suitable for transporting perishable and urgently
required goods
-It is expensive to construct and maintain artificial harbors
-Unfavorable weather conditions may affect water transport
-Sea transport is not accessible to land locked countries
-Lack of loading and off-loading facilities may lead to delay
-Cost of acquiring and maintaining ships is high.
-Theft of cargo and other valuables may occur during loading and offloading.
3) Air Transport
This refers to the movement of goods, people and documents by aircrafts. Air-
crafts/ aeroplanes are the units of carriage and air the way. The terminals in-
clude airports and airstrips.
Aeroplanes are fast compared to other means of transport i.e. they are the
fastest means of transport. They are therefore suitable for transporting ur-
gently required goods like drugs and perishable goods Such as flowers over
long distances.
Aircrafts may be classified as either passenger planes or cargo planes. Pas-
senger planes transport people from one place to another. On the other hand,
cargo planes transport light cargo to the required destinations. Aeroplanes
may be fitted with special facilities for handling special goods. Aeroplanes are
expensive to acquire and to maintain. Their operations may also be affected
by weather conditions.
Advantages of Air Transport
-There is less handling of goods on the way since aeroplanes may move direct
to the final destinations.
-The way does not require construction or maintenance as it is natural and
free.
-Planes can move through places where other means cannot, such as over the
earth poles and across high mountains/ planes are not hampered by physical
barriers.
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-Have efficient interconnections between airlines all over the world which
makes it convenient
-Suitable for long distance travelers especially from one continent to another
-Very fast therefore suitable for transporting perishable and urgently required
goods.
-Chartered planes can be used to reach remote areas.
-The movement of aircrafts is smooth therefore suitable for transporting frag-
ile goods such as glassware and eggs.
-Passengers are given the highest degree of comfort and personal attention
making it the most comfortable means of transport.
Disadvantages of Air Transport
-Causes noise pollution
-Air fields are not available in all places
-Cannot be conveniently used to carry heavy and bulky goods
-Expensive to acquire and maintain aircrafts
-Requires highly trained manpower e.g. air traffic controllers, pilots e. t. c
-Unfavorable weather conditions such as fog, mist and heavy rains may cause
delay
-It is an expensive means of transport in terms of freight charges
-Not suitable for transporting inflammable goods such as cooking gas and
petrol
-In case of accidents results are catastrophic/ accidents are rare but fatal.
-Has limited carrying capacity that should not be exceeded.
-It is not flexible.
-Most airfields/ terminals are located some distance away from town/ city cen-
ters and therefore require transport or railway links that are affected by jams
occasionally causing delays.
-Recent hijackings by terrorists have made air transport an insecure means es-
pecially for transporting valuables.
4) Containerization
This is a recent development in transport. It refers to the packaging of goods
in standardized ‘box like’ containers designed for use in transporting cargo.
The containers are mainly made of metal though a few are made of wood.
They can either be hired or bought from firms that provide them. The hired
containers are returnable to the owner after the goods have been transported.
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Containers are designed in a way appropriate to transport goods by ships,

train, lorry or by air. To safeguard the goods against risks such as theft and
unfavorable weather conditions the containers are sealed immediately after
goods have been packed. The sealed containers are then transported up to the
final destination where they are off-loaded. The consignee can then break the
seal.
Goods can be transported in containers as Full Container Load (F.C.L) or as
Less Container Load (L.C.L).Full container load applies where the container
is filled with goods belonging to one person. In FCL, goods are delivered to
the consignee intact. On the other hand, less than container load applies
where a container is filled with goods belonging to several consignors. This
may be the case where a single consigner does not have enough goods to fill a
container. When such a container reaches the destination, it is opened and the
various consignees take their goods.
There are special handling facilities for loading and offloading containers onto
and from the units of carriage.
Apart from the container depot at Mombasa, Kenya Ports Authority (K.P.A)
has established inland container depots referred dry ports. An example of a
dry port is found at Embakasi in Nairobi. The establishment of dry ports aims
at relieving congestion at the sea port. It also aims at making handling of
cargo easier and efficient for inland importers and exporters.
When containers are off loaded from ships at Mombasa, they are loaded into
special container trains called railtainer which transports them by railway to
the inland container depot at Embakasi. Containers can also be transported by
specially designed trucks between the ports or from the port to consumer’s
destination.
Advantages of containerization
-Minimizes the risks of loss or damage of goods as containers are sealed at
source
-Containers are lifted with devices which make movement and handling easy
-Saves time and labour in loading and off-loading due to use of machines
-Containers sealed at source in presence of customs officials may not be
opened until they reach their final destination. This reduces delay.
-Special containers are available for goods requiring special attention like
chemicals.
-Insurance costs are relatively low as risks are less
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-Space is saved when containers are used as opposed to when individual items
are packed in the carrier.
-Can carry large quantities of cargo if packed well.
-Containers are tough structure, which offer protection to sensitive and fragile
goods.
Disadvantages of containerization
-They are expensive and this increases the cost of transporting goods
-Contributes to unemployment since it is capital intensive
-Not suitable for transporting small quantities of goods.
-Requires special handling equipment which may be expensive
-May not be suitable for goods with irregular shapes.
-Training labour force is long and expensive.
-They may be used to smuggle illegal goods.
-The large trucks used on the road increase road damage and may increase ac-
cidents.
Factors that influence the choice of appropriate means of transport
i. Cost; The cost of transporting a good should be reasonable; except where
other factors should be considered such as need for quick delivery. Otherwise
should be proportional to the value of goods transported.
ii. Nature of goods; The nature of goods should be considered when choosing
a means of transport. For example, perishable goods require a fast means.
Similarly, heavy and bulky goods require a means of transport convenient for
such goods e.g. trains and ship.
iii. Reliability; The means chosen should be able to deliver the goods to the
required place at the right time and in the right form.
iv. Urgency; For goods that are urgently required, the fastest means available
should be chosen.
v. Safety and Security: The means chosen should ensure that the goods on
transit are secure against loss, theft or physical damages.
vi.Distance; Some means of transport are suitable for long distances while
others are suitable for short distances. If goods are to be transported for long
distances, air, sea or railway transport would be appropriate, otherwise roads
would be suitable for short distances.
vii.Availability of means; The means of transport to be selected should be
based on its availability. For example, where there is only one means of trans-
port, it would be the only one to be chosen.
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viii.Flexibility; This is the ability of means of transport to be manipulated to

suit the convenience of the transporter. Where flexibility is required, then the
means that would provide such should be chosen. For example a matatu is
usually more flexible than an aeroplane.
ix.Terminals; Some means of transport may have their terminals near the
transporter than others. In this case, the transporter should choose the means
whose terminals are conveniently accessible to facilitate loading and offload-
ing of goods.
x.Value of goods to be transported- goods of high value require special han-
dling and high security during transportation.
Trends in transport
 Pipeline and containerization
 Electric trains are replacing diesel engines
 Underground tunnels for trains are being used to ease congestion on the sur-
face
 Dual-carriage roads are being developed in various parts to ease congestion
and minimize accidents
 Development of planes with larger carrying capacity and speed is a major fea-
ture in the transport industry
 Use of bicycles commonly known as boda boda are a common feature in
towns, bus terminals and rural areas, supplementing other means of transport
to ferry people and cargo to their destinations. The bicycles are being modi-
fied to make them more convenient. It is not unusual to find a bicycle (boda
boda) which has been fitted with facilities such as:
 Motors to increase their speed and reduce energy applied by the cyclist.
 Music systems to entertain passengers and More comfortable seats.
Motor cycles are also being used as bodabodas in various areas. Similarly, the
three wheeled vehicles commonly known as ‘Tuk Tuk’ is a major feature in
cities and most towns.
 Private personal vehicles with less carrying capacity e.g. four-seater vehicles
are being used as matatus. The vehicles are convenient to the passengers as
they:
 Fill up within a shorter time compared to larger vehicles
 May accommodate each of the customers interests.
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 Passenger vehicles are being fitted with radios, music systems and
videos to entertain customers as they travel. However, some forms of en-
tertainment may not be conducive to all.

REVISION QUESTIONS ON TRANSPORT

KCSE PAST PAER 1
1. 1996 State four circumstances under which a businessman would choose to
transport goods by air? (4mks).
2. 1997 Outline four reasons why a school in Kisumu may prefer to transport
its sixty students to a music festival in Nairobi by train rather than by bus.
(4mks).
3. 1999 Give five reasons why a manufacturing firm would be located in an
area well served by good road network.(4mks).
4. 1999 Outline four limitations of containerization. (4mks).
5. 2000 State four reasons why road transport is popular in Kenya.(4mks).
6. 2001 State four ways in which the nature of goods would influence the
choice of transport.
7. 2002 Outline four reasons why a transporter of goods from Mombassa to
Nairobi may prefer rail transport to road transport. (4mks).
8. 2003 State the unit of carriage for each of the following modes of transport.
(5mks)

Mode of transport Units of carriage

i. Portage
ii. Sea
iii. Road
iv. Cartage
v. Air
9. 2004 list four ways in which transport promotes growth of trade.(4mks)
10. 2000 State four reasons why road transport is popular in Kenya.
(4mks)
11. 1995 Give 3 disadvantages of railway transport in Kenya.
(4mks)
12. 1998 List 4 disadvantages of using containers to transport goods.
(4mks)
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KCSE PAST QUESTIONS PAPER 2

1. 1995 Explain five reasons that may account for continued use of hand carts
as a mode of transport in Kenya. (12mks)
2. 1996 The oil pipeline has recently been extended from Nairobi to western
Kenya.
3. Explain five benefits that may be accounted to the country from the exten-
sion. (10mks).
4. 1997 Explain five ways in which an efficient road transport system may
promote trade within a country.(10mks).
5. 1998 Discuss five factors that have hindered the expansion of railway
transport in Kenya.
6. 1999 Explain five features of an efficient transport system (8mks).
7. 2000 Explain the advantages of pipeline as a mode of transporting oil prod-
ucts. (12mks).
8. 2002 Outline five factors that should be considered when choosing a means
of transport.
9. 2003 Explain six advantages of containerization as a mode of transport.
(10mks)
10. 2004 Discuss six factors that may discourage the use of pipeline as a
means of transporting petroleum products in a country.(12mks).
11. 2005 Discuss 5 circumstances under which a trader may choose to trans-
port goods by rail.

COMMUNICATION

Meaning of communication
1. Communication is the transfer or conveyance of messages or information
from one person to another.
2. Communication is the process of sending and receiving meaningful mes-
sages, information and ideas between two or more people located at differ-
ent points in space.
Note: The space between the sender (s) and the receiver (s) maybe as narrow
as when people are talking to each other or as wide as between the North Pole
and the South Pole.
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Effective communication is vital/important for business in that it serves the

following purposes.
Importance of communication (purposes)
i. To give and obtain information
For an organization to run smoothly there should be proper flow of informa-
tion within the business and also between the firm and outsiders e.g. the man-
ager may inform members of staff about a planned meeting. Similarly the
business may receive a letter of inquiry from a customer
ii. To clarify issues and points
Through proper communication the organization is able to clarify confusing
issues from within and without the firm for example in cases where there are
many managers. It would be necessary to clarify the responsibilities of each
manager.
iii. To enhance public relations
Good/efficient communication enables the business to create a more positive
image and a favorable reputation of itself to outsiders and overcome preju-
dices and negative attitudes that people may have against the business.
iv. To start and influence Action
Proper communication enables the business to get new ideas make plans and
ensure that they are implemented in the desired way.
v. Improving customer service; Good communication helps in reducing
errors providing customers with desired feedback and assisting in handling in-
quiries more efficiently
vi. Giving instructions; Through proper communication management is
able to get work done by issuing instructions (procedures and orders)e.g. a
supplier may be instructed when and where to deliver the goods ordered.
vii. To give Reassurance; Information is needed to reassure people that
their performance is good e.g. an employee may feel better is he/she is served
with a “will done”memo or a “customer of the year” award.
viii. Confirming arrangements; Through communication arrangements are
confirmed for example confirmation of meetings conferences or details of
transactions
ix. Co-ordinating departments of the firm; Charges in one department
are communicated to other departments that have a direct bearing to those
changes e.g. when sales increase the sales department informs the production
department so as to increase production proportionality
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x. Modifying behavior of persons within or outside the organization;

Through effective communication persons are trained and counseled and as a
result their behavior knowledge and attitudes change
Communication process
Communication is a process that involves interchange of information and
ideas between two or more people. Communication therefore is a circular
process i.e communication may lead to some reaction which in turn may gen-
erate further communications or feedback. This flow can be illustrated as be-
low:

(2) Message
Message (3) Receiver 3
Receiver-
cdddd

(1)Sender
Sender
(4) Feed back Feedback

I. Sender –this is the person who writes, speaks or sends signs (symbols or
signals) and is the source of the information.
II. Receiver - this is the person to whom the information or the message is
sent.
III. Message – this is the information that is transmitted from the sender to
the receiver. It may be spoken, written or in the form of symbols.
IV. Feed back – this is the response to the sender’s message. A message is
said to have been understood if the receiver provides the desired feed-
back.

Lines of communication
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Communication can be classified according to either the levels of the commu-

nicating parties or according to the nature of the message.
a) According to levels-This can either be:
I) Vertical
ii) Horizontal
iii) Diagonal
i) Vertical communication
This is where messages are passed between a senior and her/his juniors in the
same organizations
Vertical communication can be divided into two parts
-Downward communication
-Upward communication
-Downward communication-This is a communication process which starts
from the top manager to her/his juniors. This can be informed of:
 Training juniors
 Evaluating performance
 Delegating duties
 Solving the problems facing workers
 Inspiring and motivating the juniors(giving rewards)
-Upward communication-This is a communication process that starts from
the juniors to the seniors and maybe in the form of:
 Submitting reports
 Giving suggestion
 Submitting complaints a grievances
 Making inquiries
ii) Horizontal communication (lateral communication)
This is communication between people of the same level (rank) in the same
organization e.g. departmental heads in an organization may communicate to
achieve the following:
 Co-ordination and harmonization of different activities.
 To create teamwork within the department.
 To exchange ideas in order to develop human resources.
 To reduce goal blindness among different departments.
 To create a sense of belonging among department heads thus acting as a
motivating factor.
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One of the major characteristics of this type of communication is that there are
less inhibitions. The people involved are more open and free with each other
than in the case of people with different ranks.
iii) Diagonal communication
This is communication between people of different levels in different depart-
ments or different organizations e.g. an accounts clerk may communicate with
a sales manager of the same organization or of different organizations. Diago-
nal communication enhances team work.
b) According to nature of message
This can either be;
i) Formal communication
ii) Informal communication
Formal communication
This is the passing of messages or information using the approved and recog-
nized way in an organization such as official meetings, memos and letters.
This means that messages are passed to the right people following the right
channels and in the right form.
Formal communication is also known as official communication as it is the
passing of information meant for office purposes.
Formal systems of communication are consciously and deliberately estab-
lished.
Informal communication
This is communication without following either the right channels or in the
right form i.e. takes place when information is passed unofficially. It is usu-
ally used when passing information between friends and relatives hence it
lacks the formality.
Informal communication may also take the form of gossips and rumor-mon-
gering.
Informal communication usually suppliments formal communication as is
based on social relations within the organization.
Note: Both formal and informal communication is necessary for effective
communication in an organization.
Essentials of Effective communication
For communication to be effective it must be originated produced transmitted
received understood and acted upon. The following are the main essentials to
effective communications.
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i) The sender/communicator
This is the person from whom the message originates. He/she encodes the
message i.e. puts the message in the communicative form.
ii) Message
This is the information to be sent. It is the subject matter of communication
and may contain words, symbols, pictures or some other forms which will
make the receiver understand the message
iii) Encoding; This is the process of expressing ones ideas in form of words,
symbols, gestures and signs to convey a message
iv)Medium/channel; This refers to the means used in communicating. This
could be in the form of letters, telephones and emails among others.
v)The receiver; This is the person for whom the message is intended. The re-
ceiver decodes the message for proper understanding.
vi)Decoding; This is the process of interpreting or translating the encoded
message to derive the meaning from the message
vii) Feed-back; This refers to the reaction of the receiver of the message. This
maybe a reply /response which the receiver sends back to the sender.
The above can be represented in a diagram as shown below;
Message Encoding (3) Channel (4) Receiver
(2) (5)

Sender (1) Feedback (7) Decoding

(6)
FORMS AND MEANS OF COMMUNICATION
Forms; These are channels or ways of passing on messages. The four main
forms are:
i) Oral communication
ii) Written communication
iii )Audio –visual communication
iv) Visual communication
Means; This is the device used to pass on information e.g. messages, letters,
telephones e.t.c
(a) Oral communication
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This is where information is conveyed by talking (word of mouth)

It is also known as verbal communication

Means of communication
i) Face-to-face conversation
This involves two or more people talking to each other. The parties are usually
near each other as much as possible to ensure effective communication.
It is suitable where subject matter of discussion require convincing persuasion
and immediate feed-back.
It may be used during meetings, interviews, seminars, private discussions,
classrooms e.t.c
It is the most common means of oral communication
Advantages of face-to-face communication
 Provides for immediate feedback
 Has personal appeal
 Body language can be easily expressed
 One can persuade or convince another
 It is the simplest communication to use
 It is direct i.e. does not pass through intermediaries
 Convenient for confidential messages
Disadvantages of face-to-face communication
 No record for future reference
 Can be time consuming
 Messages can be distracted
 Not suitable when people are far apart
 Unsuitable for the dumb and deaf
ii)Telephone
This form of communication is commonly used in offices and homes. It is
useful in sending messages quickly over short and long distances.
It is however not suitable for sending;
 Confidential messages
 Long and detailed reports, charts and graphs
 Messages that would require reference or evidence
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In Kenya telephone services are mainly provided by Telkom Kenya Limited.

The subscriber is required to purchase the telephone equipment from the post
office or other authorized dealers before installation.
Installation is done on application by the subscriber (applicant).He/she pays
the installation fee in addition; the subscriber is sent a monthly bill with the
charges for all the calls made during the month.
The charges for calls depend on the time spent time of the day of the week and
distance of the recipient from the caller e.g. it is cheaper to call at night than
during the day. It is also cheap to make calls during public holidays and week-
ends than on weekdays.
There are also mobile phones which have no physical line connection to ex-
change and may be fixed to a vehicle or carried in pockets. In Kenya these
services are provided by safaricom, Airtel, orange and Yu mobile communica-
tions.
Advantages of Telephones
 Relatively fast
 Has personal appeal
 Provides for immediate feedback
 One can persuade or convince another
 Suitable for long distance communication
Disadvantages of Telephone
 Can be expensive especially over long distances
 No record for future reference
 Lacks confidentiality
 Not convenient for dumb and deaf
 Can be time consuming
Reasons why mobile phones have become popular
 They are portable and can be conveniently carried around.
 It is not very expensive especially when making local calls.
 Relatively cheap to acquire.
 Some mobile phones can record conversations / calls thereby acting as
evidence.
 Can be used to send short text messages (sms)
 Can be used anywhere since they are portable.
iii)Radio calls
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This involves transmitting information by use of radio waves i.e. without con-
necting wires between the sender and the receiver
The device used is called a radio telephone. It is commonly used in remote ar-
eas where normal telephone services are lacking or where telephone services
are available but cannot be conveniently used e.g. policemen on patrol in dif-
ferent parts of a town
Radio transmission is a one way communication system i.e. only one person
can speak at a time. It is therefore necessary for the speaker to say’over’ to
signal the recipient that the communication is through so that the recipient can
start talking. To end the conversation, the speaker says ‘over and out’
The radio calls are commonly used by the police, game rangers, researchers,
foresters, ship owners and hotels situated in remote areas. They are also used
for sending urgent messages such as calling for an ambulance and fire brigade
Note; Radio calls are not confidential since they use sound frequencies that
can be tapped by any radio equipment that is tuned to that frequency
Advantages of Radio calls
 Relatively fast
 Has immediate feedback
 Has personal appeal
 Provide room for one to persuade and convince another
 Suitable for remote areas
 Convenient for long distances
Disadvantages of Radio calls
 No record for future reference
 Lacks confidentiality
 Messages are sent one way at a time
 Can be expensive
 Cannot be used by dumb and deaf
 Can be time consuming.
iv) Paging
This is a means of communication used to locate staff or employers who are
scattered in an organization or who are outside and need to be located urgently
When within the organization portable receivers, lighted signals, bells, loud-
speakers etc are used
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When outside the organization employees are contacted using portable re-
ceivers (pocket-size) used to send messages through sms (short message ser-
vices)
The paying system can only be used within a certain radius. When using a
portable receiver, the caller will contact the subscriber by calling the post of-
fice which will then activate the pager.
The subscriber is then informed to contact the originator of the message.
Paging is mostly used in emerging cases
v)Radio
Usually messages intended for a wide audience can be transmitted through a
radio more quickly and economically than by using other forms of communi-
cation.;`
Radio is used for different reasons apart from advertising e.g for formal no-
tices, and venue for activities
Advantages of oral/verbal communication
 Very effective method of communication since the recipient can be per-
suaded/convinced
 It is relatively faster method of communication
 The sender can get immediate feedback
 It indicates some sence of regard hence more appealing.
Disadvantages of oral/verbal communication
 Has no records for future reference
 Is an expensive method especially if the two parties are far apart
 Is not good for confidential messages
 It is not suitable for confidential messages
 It may be time wasting especially where one needs to be convinced
Written Communication
This involves transmission of messages through writing. It is the most formal
way of communication because the information is in recorded form and can be
used for reference
Means of written communication
(i)Letters
Letters are the most commonly used means of communication.
There are two categories of letters;
a)Formal letters
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b) Informal letters
a)Formal letters; These include business letters and official letters.
Business letters are written to pass messages and information from business-
men to customers and vice versa e.g. letters of inquiry and acknowledgement
notes.
It can also be used between employees and employers in an organization e.g. a
complimentary note.
Official letters are letters between people in authority and others that touch on
the activities of the organization e.g. an application letter for an advertised va-
cancy in an organization.
Formal letters have a salutation clause which usually starts with “Dear Madam
“or “Dear Sir”. It also bears the addresses of both the sender and the recipient,
a subject heading and a complimentary clause ending with “Yours faithfully”.
b) Informal Letters; These are letters between friends and relatives
They are also known as Personal letters
ii) Telegrams
This is a means of communication provided by the post office. The sender ob-
tains the telegram form from the post office and fills the message on it in capi-
tal letters and hand it over to the post office employees at the counter. Alterna-
tively the sender may use a telephone to read the message to the post office.
The post office then transmits the message to the recipient post office.
The charges of a telegram are based on the number of words used, the more
the words used the higher the charges. However there is a standing charge.
Telegrams are used for sending urgent messages.
Note; Due to changing technology telegrams have lost popularity. Short mes-
sages can now be sent by cell phones (mobile phones) using the short mes-
sages services (sms)
iii) Telex
This is a means of communication used to send short or detailed messages
quickly by use of a teleprinter. The service is provided by the post office on
application.
A message is sent by use of two teleprinters one on the senders end and an-
other on the recipients end. When sending information through a teleprinter
which is a form of electric typewriter producing different electric signals, its
keys are pressed and automatically the message is printed at the recipient’s
machine.
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Telex saves time for both the sender and recipient as the messages are brief
precise and received immediately. However, it’s an expensive means of com-
munication
iv) Facsimile (Fax)
This involves transmission of information through a fax machine. Both the
sender and the receiver must have a fax machine. These machines are con-
nected using telephone lines
Fax is used to transmit printed messages such as letters, maps, diagrams and
photographs. To send the information, one dials a fax number of the required
destination and then the document is fed into the sender’s machine. The re-
ceiving machine reproduces the document immediately. It is used for long dis-
tance photocopying service.
v)Memorandum (Memo)
This is printed information for internal messages within an orgaanisation. It is
normally used to pass information between departments or offices in an orga-
nization.
Memoranda have no salutation or complimentary clause. They are suitable for
informing the officers within an organization of matters related to the firm.
A memo is pinned on the notice board of an organization if it is meant for ev-
erybody otherwise passed to the relevant staff.
vi) Notice
This is a written communication used to inform a group or the public about
past current or future events. It is usually brief and to the point. It can be
placed on walls, in public places, on trees, in newspapers or on notice boards.
viii) Reports
These are statements/within records of findings recommendations and conclu-
sion of an investigation/research. A report is usually sent to someone who has
asked for it for a specific purpose.
viii) Circulars
These are many copies of a single letter addressed to very many people when
the message intended for each is the same.
ix) Agenda
This is an outline of the items to be discussed in a meeting. It is usually con-
tained in a notice to a meeting sent in advance to all the participants of the
meeting. The notice of the meeting contains;
 The date of the meeting
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 The venue of the meeting

 Time of the meeting
 Items to be discussed
x) Minutes
These are records of the proceedings of a meeting. Keeping minutes of certain
meetings is a legal requirements e.g. companies
Keeping minutes for other meetings are for management purposes to ensure
that decisions made at the meetings are implemented
Advantages of written communication
 It can be retained for future reference
 Some like letters are relatively cheap(can produce many copies)
 It is suitable for confidential messages
 Allows for inclusion of fine details
 It is not prone to distortion of messages
 Can be used as evidence
 Can be addressed to many people.
Disadvantages of written communication
 It lacks personal appeal
 It takes time to prepare and reach the recipient
 Suitable for the literate only
 Immediate feedback may not be possible
 Does not offer room for persuasion and convincing
 It may be expensive because it involves a lot of paperwork and
time.
 Not suitable if the sender and the receiver do not share a com-
mon language.
3) Visual Communication
This is the process of passing information by use of diagrams, drawings pic-
tures, signs, and gestures e.t.c
a) Photographs
A photograph is an image (visual representation of an object as it appeared
at the time when the photograph was taken
Photographs are self-explanatory and may not be accompanied by any nar-
ration or explanation. The recipient is able to get the message at a glance.
b) Signs
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Refer to marks, symbols, drawings or gestures whose purpose is to inform

the public about such things as directions, distances, dangers and ideas.
Examples; road signs, traffic lights and danger signs on electricity poles
This means of communication can only be effective if the meaning of the
sign used is understood.
Graphs; These are used to show and illustrate statistical information

Charts; These are diagrams which show or illustrate the flow of an idea
e.g. an organization chart illustrates the whole organization structure in-
dicating the chain of command
Advantages of visual communication
i) It can be used to pass confidential information
The information may be obtained at once

Disadvantages of visual communication

i) Can only be used by people who can see
ii) The information may be wrongly interpreted
iii) It may be an expensive method of communication
iv) Cannot be used for long distances
4) Audio-Visual communication
This is a form of communication in which messages are sent through sounds
and signs.
This form of communication ensures that the receiver gets the message in-
stantly.
It is suitable where both the sender and the receiver know the meaning of spe-
cific sounds and signs.
Means of Audio-visual communication
i) Television (TV): This is a device that transmits information inform of a
series of images on a screen accompanied by sound. It is a very effective
method of communication since it combines the advantages of image and
sound
A television can be a very suitable means of sending urgent messages espe-
cially when it gives live coverage of events.
ii. Siren: This is a device used to produce a loud shrill sound accompanied
by a flashing light. It is commonly used by the police, ambulances, and the
fire brigade and security firms to alert the public of the danger involved e.g.
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the ambulance siren conveys the message that somebody is seriously sick and
therefore other motorists should give way.
Advantages of Audio-visual communication
i) It reaches many people
ii) It is more appealing than other means of communication
iii) Reinforces verbal communication
iv) May have a lasting effect on the receiver
v) Suitable where receivers are illiterate.
Disadvantages of Audio-visual communication
i) It is suitable to those people who can interpret the messages correctly
ii) It is not suitable for confidential messages
iii) Preparation may take long.

5) Audio Communication
This is when the message is transmitted through sounds. Examples include
i) A whistle; This is a device which is blown to produce a sharp
shrill sound to alert or warn the public or employees in an institution. It is nor-
mally used by security guards when there is danger. In some organization, a
whistle is used to announce change in shifts
ii) Horn; This is also an instrument that is used to produce sound
which passes different information depending on the way it is blown.
Other methods of audio communication include drums, alarms, and bells
among others
Advantages of Audio communication
i) Is a faster method of communication
ii) It can reach several people at once
iii) The message is received instantly
Disadvantages of Audio communication
i) The message may be interpreted wrongly
ii) It can only be used within a certain radius at a time
iii) It distracts people’s attention
FACTORS TO CONSIDER WHEN CHOOSING MEANS OF COMMU-
NICATION
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i) Speed: Speed is an important factor when the message is urgent. In such

a case telex, fax, telephone, telegram or e-mail would be the most suit-
able means of communication. Otherwise ordinary mail would be used
ii) Cost: The cost incurred in using a means of communication vary from
one means to another e.g. it is cheaper to send messages by ordinary
mail than by telegram or telex
iii) Confidentiality: Some messages are quite confidential and are intended
for certain person only. Where confidential messages are involved, ap-
propriate means should be used e.g. registered mail or internal memo en-
closed in an envelope
iv) Distance: The geographical gap between the sender and recipient is very
important in determining the means of communication to be used. Some
means are suitable for long distances while others are not.
Paging and sirens are suitable for short distances. For long distances, fax let-
ters, telephone, e-mail may be appropriate
v) Evidence: Some means of communication do not provide record of the
message communicated while others do. All means of written communi-
cation provide evidence of messages communicated.
vi) Reliability: This is the assurance (certainty) that the message will reach
the intended person at the right time in the right form. Face-to-face com-
munication is more reliable than other forms of communication because
one can ask for clearly and get answers immediately. For some written
information, courier service may be preferred
vii) Accuracy: This refers to the exactness of the message communicated as
intended by the sender. Written messages are generally more accurate
than other means of communication.
viii) Desired impression: The impression created upon the recipient of a
message is very important e.g. a telegram or speed post mail will carry
some sence of urgency, registered mail will create an impression of con-
fidentiality while use of colourful and attractive letterheads would con-
vey a good image of the business.
ix) Availability: One may want to telephone, for example, but the services
are not there so the person would be forced to use alternative means e.g.
letters or radio call.
BARRIERS TO EFFECTIVE COMMUNICATION
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Communication is said to be complete only when the recipient gets the mes-
sage the way the sender intends it to be. When information is not received the
way it was intended then it has been distorted. Distortion of a message is
brought about by some communication barriers which may exists in the path
of the message between the sender and the recipient. Some of these barriers
are:
I. Language used: the language used by the sender should be known (un-
derstood) by the recipient so that communication can take place
II. Poor Listening: the effectiveness of communication will depend on the
willingness of the recipient to listen keenly .listening require careful atten-
tion and concentration. It may however be the task of the sender of the
message to attempt to gain the attention of the listener. Through his/her
choice of words and expression among others.
III. Negative Attitude: Attitude refers to the feelings of the communicat-
ing parties towards each other. It is important that there exists a mutual
feeling of trust and respect between the parties concerned in order to avoid
bias .If there is mistrust and prejudice then there may be deliberate or unin-
tentional misunderstanding of the message involved.
IV. Poor Timing: poor timing leads to breakdown in communication ,
therefore for effective communication to take place the message must be
sent and received at an appropriate time, eg a message sent when one is in
a hurry may not be properly received or delivered
V. Wrong medium: the medium used to communicate must be appropri-
ate for the message being conveyed otherwise there may breakdown in
communication e.g. one may not convey a confidential message over the
telephone effectively
VI. Prejudgment: our understanding of the message is often conditional
by our earlier experiences and knowledge this may make one individual
draw premature conclusion e.g. a student who always fail in a subject and
this time round has improve may be failed by the teacher because he has
always failed in the past .
VII. Ambiguities: it occurs when the sender express in a manner which
leads to wrong interpretation. When the receiver interprets the message dif-
ferently it automatically leads to communication breakdown.
VIII. Emotional responses: emotional responses such as those resulting
from hunger or excitement may lead to distortion of message.
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IX. Unclear System within the organization: if the channels of passing

information in an organization are not clear then the message will not get to
the right people for whom the messages intended
X. Noise: it refers to any disturbing sounds which interfere with concentra-
tion or listening ability of the recipient of the message the presence of noise
may make it impossible for any message to be received in the right way.
XI. Unfamiliar Non-verbal signals: lack of understanding of non-verbal
sign may be a barrier to effective communication.
SERVICE THAT FACILITATE COMMUNICATION
Services that facilitate communication include:
i) Mailing services
ii) Telephone services
iii) Broadcasting services
Mailing services
This refers to handling of letters and parcels. They are offered by organiza-
tions such as postal corporation of Kenya (P.C.K) securicorl courier and Doc-
ument handling Limited (D.H.L)
Some of the services offered by the postal corporation include:
a) Speed post: This is service offered by the post office to send correspon-
dence and parcels to a destination in the shortest time possible. The post office
uses the quickest means of transport available to deliver the mail.
The sender pays the normal postage fee plus a fee for special service. An ex-
ample of such a service is Expedited Mail Service (EMS) speed post
b) Ordinary Mail
These include surface mail and airmail.
Surface Mail: These include letters and parcels delivered by road, rail, water
and hand.
AirMail: This consists of letters and light parcels delivered by air.
c) Express Mail;
An express mail is/must be presented at the post office counter by the sender
and the envelope clearly addressed and a label with the word “express” af-
fixed. Normal postage plus an extra fee (commission) is charged
The mail is delivered to the receivers nearest post office from where the post
office makeS arrangements to deliver the mail to the receiver within the short-
est time possible.
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NOTE: For speed post special arrangements to deliver the mail start at the
sender’s post office whereas express mail, the arrangements start at the ad-
dressers post office.
d) Poste Restante;This is a service offered by the post office to travelers
who may wish to receive correspondence right away from their post office
box. The addressee has to inform those who may wish to correspond with
him/her of the nearest post office he is likely to use at a particular time
Under this arrangement when addressing the letter, the words poste Restante
must be written on the envelope clearly. The addressee must identify
himself/herself when collecting the correspondence from the post office.
There is no additional charge made apart from normal postage charges. This
service can only be offered for three months in the same town
e) Registered Mail;
This service is offered by the post office for sending articles of value for
which security handling is required. A registration fee and a commission is
paid. The commission depends on the weight of the article and the nature of
registration. The sender is required to draw a horizontal and a vertical line
across the faces of the envelope.
A certificate of registration is given to the sender. In case of loss, the sender
may be paid compensation on production of the certificate of registration.
A green card is sent to the recipient. The card bears his name and the post of-
fice at which the mail was registered. The recipient will be required to iden-
tify himself before being allowed to posses the mail.
Items that may be registered include jewels, certificate, land title deeds e.t.c.
f) Business Reply Service; This is a service offered by the post office to
business firms on request. The firm pays some amount to the post office and
an account is then opened from which posted charges are deducted.
The service is useful/more common with firms which would like to encourage
their customers to reply their letters. Customers are issued with reply card en-
velopes (or envelopes marked ‘postage paid’)
They can send letters to the business by using these envelopes/the card. The
customers then place the card/envelope in the post box and the firms post of-
fice branch will deduct postage charges from the lump sum amount.
Courier Services
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These are services where a service provider receives transports and delivers
parcels or important documents to destinations specified by customers in re-
turn for payment of fees or charges.
Examples; Akamba bus service, Securicor courier services e.t.c
ii)Telephone services
 Landline/fixed line services
 Cellular (mobile)phone services
i) Land(Fixed)line services
Telkom Kenya, through the post office, provides telephone services which
offer direct contact between people who are far apart. It makes conversa-
tion between people at any distance possible, as long as there are transmis-
sion facilities between them. Urgent matters can be discussed and consulta-
tions can take place so that instant decision or actions are taken. The tele-
phone assists organizations to establish a fast and convenient machinery for
its internal and external communication network.
ii) Cellular(mobile)phone services
These are hand held telephones with digital links that use radio waves.
They are sometimes called cell-phones since they use power stored in a dry
cell
In Kenya mobile phone services are provided by safaricom Ltd.(a sub-
sidiary of Telkom Kenya)and Airtel communications Ltd(formally Kencel
Communication Ltd)which is a joint venture between a French company
and a Kenyan company, yu mobile services and Orange mobile services .
This sector therefore greatly benefits from foreign investment to improve
services.
The use of this service is popular. Apart from the provision of telecommu-
nication service, cell phones have different attractive features or services
such as short messages service (sms) whereby a caller can send a written
message. Recent models of mobile phones enable the user to access the in-
ternet and send e-mail messages
Advantages
 They are portable
 Written messages can be transmitted easily and cheaply through the
short message service(sms)
 Enables both local and international communication
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 The cost of acquiring the equipment is relatively affordable

 Direct feedback is possible
 Has memory for storing written messages
 Has got e-mail capability
Disadvantages
 Some kinds of mobile phones are expensive to buy
 Maintenance expenses of a mobile phone are high. They are also suscep-
tible to damage and repair can be very costly
 Users are greatly inconvenienced in case there is no network coverage
 A special facility where the callers identity is known(displayed on
screen)can be abused where recipient does not wish to answer the call
 Mobile phones are a security problem. They are easy targets for thieves
 There is a danger of the radioactive rays or emissions negatively affect-
ing the users health, if such emissions are not adequately controlled
iii) Broadcasting services
Communication commission of Kenya is a regulatory body that receives ap-
plications and issues licences for radio and television broadcasting stations.
a) Radio stations
Radio broadcasting is a very important mode of giving news and information
to people in the whole world.
The liberalization of the communications sector in Kenya in 1999, Kenya has
witnessed a mushrooming of F.m. Stations which are owned by private sector
operators e.g. Kiss Radio, Easy fm,Classic fm,Family fm,Kameme e.t.c
They have helped to spread news and information countrywide. Before liber-
alization, Kenya Broadcasting corperation (KBC) radio was operating as a
state owned monopoly.
b) Television Stations
Television broadcasting (telecasting) does not reach as wide an audience as
radio broadcasting in Kenya. It however serves the same purpose of relaying
news and information to Kenyans. Both radio and television stations are
widely used for advertising purposes.
The T.V subsector has been liberalized since 1999 and a number of privately
owned stations have emerged e.g. Kenya Television Network (KTN) Nation
Television, Family T.V etc. Prior to that time KBC television was in operation
as a state owned monopoly.
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Other services that facilitate communication

i) Telex
ii) Facsimile
iii) Paging
iv) E-mail
Current trends and Emerging issues in communication
With the advancement of information technology (I.T) there has been a lot of
revolution in communication.
The following are some of the current trends and emerging issues in commu-
nication;
i) Telephone Bureaux(Bureaus)
These are privately owned kiosks where telephone services are sold. The
owner of the kiosk must get authority from the service provider in order to run
the bureau. The individual wishing to use the services of the bureau makes
payments to the owner of the service. Other services offered by the bureau in-
clude selling of scratch cards for mobile telephones and credit cards for land-
line telephone services.
ii) Mobile phones (cell phones)
These are hand held telephones with digital links that use radio waves. They
have become an important business and social tool. This is because most peo-
ple and traders want some flexibility to be able to communicate whenever
they are.
Other reasons that have led to the popularity of cell phones include:
 Pre paid services which enable the owners to control communication
costs.
 Most cellular phones now allow the owners to browse the internet, check
and send mail. This allows business people to communicate research and
even place orders.
 Cellular phones have short message services (sms) which enables the
owners to send written messages.
iii) E- mail ( Electronic Mail)
This is a service provided through the internet for sending messages.
It is similar to sending a letter through the postal system only that it is done
electronically.
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-Messages can be sent to anyone on the network, anywhere in the world. For
this to take place, computers have to be connected to each other to form a net-
work.
-To communicate, one is required to have an email address e.g. raeform2@
yahoo.com. Messages arrive at the e – mail address immediately they are sent.
-It is only the addressee of the message who can retrieve the message since a
password is required to access the mailbox.
-E – mail can also be used to send documents and photographs like certificates
by scanning and attaching.
- More and more businesses are using e- Mail to communicate with other
businesses, their customers and suppliers.
* QUESTION: OUTLINE THE ADVANTAGES OF USING E- MAIL
AS A MEANS OF COMMUNICATION.
iv) Internet
The internet links computers all over the world. Written and oral information
is transmitted on the internet through the use of telephone wires, fibre- optic
cables and wireless devices.
The internet has changed the way people communicate in the following ways;
 Increased use of electronic mail (e-mail)
 Quick access to information from all over the world.
 Development of home offices and remote offices.
 Use of teleconferencing and video conferencing.
 Development of e-commerce.
v) Move towards a paperless office
The future office will rely largely on computers. Most of the communication
will be done through computers. This may result in less use of paper, hence
the use of the term “the paperless office”.

Vi ) Decline in the use of postal services

Decline in the use of postal services is a result of the impact of the internet. E-
mail has become a popular and preferred mode of communication since it is
fast and cheap. However, ordinary mail/ use of postal services may not be
completely phased out since the government, businesses and people do not re-
gard an e-mail as a binding or formal communication.
Vii) Transformation of language
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The language used to pass and receive messages has evolved through time.e.g
the youth have adopted the use of “sheng” in exchanging messages. such lan-
guage is largely understood by its youthful users. There is also the use of cell
phones to send short text messages; which are highly abbreviated and may use
slang whose meaning is only known to the users e.g ‘av a gr8 day’.
COMMUNICATION REVESION QUESTIONS
1. Define the term communication
-Communication is the process by which information is passed from one per-
son or place to another.
2. Outline the role played by communication in any given organization
a) It is used to give instructions on what should be done at work and during
work.
b) It enhances good relations among workers thereby promoting and en-
hancing their efficiency.
c) Through communication most organizations have been able to improve
their image, for example through advertising.
d) It used to improve the relationship between the organization and the cus-
tomer or clients.
e) For co-ordinating purposes, communication is used to ensure all depart-
ments work in harmony.
f) The feedback got from the clients or customers helps to improve an or-
ganization’s reliability and quality of goods and services offered.
g) Communication is used as a tool for management.
h) Good decisions are made as communication helps one understand all the
necessary matters.
3. Briefly explain the following levels of communication
(a) Vertical communication
Involves the flow of information either downwards or upwards, for example,
from a senior employee to a junior employee

(b) Horizontal communication

Is also referred to as lateral communication which is passing of information
between people of the same rank or status, for example from one departmental
manager to another departmental manager
(c) Diagonal communication
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Is communication of different people in different levels of management or de-

partments for example a receptionist communicating to a production manager.
4. Distinguish between formal and informal communication
Formal communication is official and documented and follows certain rules
for example a worker writing an official letter to an organization’s seniors. In-
formal communication does not conform to any time, for example communi-
cating to friends and relatives.
5. State the essential elements in communication.
a) The sender who is the source of the information being communicated
b) The receiver(or recipient) of information
c) The message being communicated
d) The channel (or medium) through which the message is passed on
e) Feedback which is the response or reaction of the recipient.
6. Highlight the various types of verbal communication
a) Face-to-face communication
b) Telephone conversation
c) Radio calls conversation.
7. State the advantages and disadvantages of verbal communication
Advantages
a) A large number of people can receive the information at once for exam-
ple when addressing in a meeting.
b) There is immediate feedback
c) Clarification can be made easily and immediately
d) This is personal appeal
e) It can be very convenient and persuasive
f) It is fast since the intended information reaches the recipient immedi-
ately.
Disadvantages
a) It is not easy to know if the message or information has been received
particularly if the receivers are many
b) It is prone to outside interference due to noise and other forms of disrup-
tions
c) In case of incorrect pronunciation of words, there could be distortion of
the information
d) There is no record for future reference.
e) The method is not effective for recipients with learning problems.
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f) Can take a lot of time to pass intended information.

8. Outline the various barriers to effective communication
a) Noise may hinder effective communication
b) The emotional state of both the sender and the recipient
c) Use of the wrong channel to communicate
d) Breakdown of a channel used to communicate
e) Illiteracy of the recipient particularly for written communication.
f) The attitude of the recipient towards the sender and the information be-
ing communicated
g) Use of difficult vocabulary or words by the sender
h) Lack of concentration on the part of the recipient may affect communi-
cation
i) Poor timing by the sender.
9. Highlight reasons that would make an organization use cell phones for
communication within and outside the organization.
a) One gets immediate feedback
b) It is fast and can be used to send urgent messages
c) There is personal appeal
d) The sender has a great opportunity to convince and persuade the recipi-
ent.
e) It is not very expensive particularly for making calls for a short duration
of time
f) It can be used even when both the sender and the recipient are far apart
10. State the various types of written communication.
a) Written
b) Memorandum(memos)
c) Reports
d) Notices
e) Telegrams
f) Circulars
g) Minutes
11. State the reasons why an organization would use written communica-
tion instead of verbal communication.
a) Written communication provides evidence which may not be there in
verbal communication
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b) Written information can be stored for future reference unlike verbal

which cannot be stored and depends on the recipients memory
c) It is not prone to distortions and therefore more accurate than verbal
communication
d) Written communication can be in form of diagrams, illustration and
maps which is not possible for verbal communication
e) Some written communication such as letters would be cheaper and time
saving than verbal communication, for example making long telephone
calls.
f) Written communication can be used for confidential messages, for ex-
ample registered mails.
12. State the disadvantages of written communication
a) Written is not very persuasive or convincing
b) There is no personal touch
c) It can only be used by literate
d) It can be slow where letters take time to reach the recipient
e) It takes time to get a feedback from the recipient
f) Messages cannot be enhanced by gestures, that is, body language or face
expressions
g) It can be expense to file all the written communication
13. Outline the various means of visual communication
a) Charts
b) Photographs
c) Gestures, which may include signs and symbols
d) Slides
14. State the advantages and disadvantages of audio-visual of communi-
cation
Advantages
a) Information is more attractive and appealing
b) Can reach many people at once
c) It can be used even for those who cannot read and write
d) Immediate feedback is received from the way the recipient behave
e) Can be entertaining
Disadvantages
a) Can be misinterpreted, for example if the receiver does not understand
the signs or gesture
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b) Not suitable for passing confidential information

c) It is not possible for the recipient to give a feedback
d) Gesture and signs are only suitable to those who can understand them
e) The initial cost of preparing these forms of communication may be high
for the sender
f) It may take a lot of time to prepare these forms of communication
15. Outline the various service that facilitate communication
a) Registered mail, for sending valuable or confidential information.
b) Speed post services offered by the post office to send letters parcels us-
ing the quickest means possible
c) Poste restante, usually used by those without postal addresses
d) Business reply service which enables customers and clients to reply to a
business without having to pay for postage stamps
e) Broadcasting services through various radio stations
f) Print media such as the various newspapers, magazines and journals
g) Internet services which connect one to the world wide website
h) Telephone services
16. State the various trends in communication
a) Mobile or cell phone use
b) Internet which uses inter linked computers to the world wide website
c) Fax, which can be used to send written messages very fast
d) Information and telephone bureaus where one can make local and inter-
national calls
e) Move towards a paperless office.
f) Transformation of language.
17. Highlight the factors to be considered when choosing a means of com-
munication.
a) The cost because some are more expensive than others
b) Availability of the means
c) Reliability or assurance that the message will reach the recipient
d) The distance between the sender and the recipient
e) The literacy level of both the receiver and the recipient
f) The confidential nature of the information being sent
g) The urgency of the message
h) If there is need for evidence or need for future reference
i) The desired impact of the means upon the recipient
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18. Advice Mary Wakio why she should not use telex to communicate to
her friends
a) Her friends may be illiterate and may be unable to read the message re-
ceived
b) Her friends may not have a receiving machine and will be unable to get
the information
c) It can be expensive to use as the sender pays a subscription fee and
rental fee while he and the recipient pays for the sent message
d) It can be expensive to buy the teleprinters used in receiving and sending
information
e) Telex may only send written messages but cannot be used to send maps,
diagrams and charts
19. State circumstances when sign language can be the most appropriate
form of communication
a) When communicating to someone who has a hearing problem
b) If one wishes to pass a secret or coded message
c) If both the receiver and the sender are far apart but can see each other
d) It can be used in case there is a language barrier
e) In an environmental where there is a lot of noise or physical interference
to other forms of communication, sign language may be used
f) It can be appropriate where both the recipient and the sender understand
the signs.
20. Explain four factors that have led to the popularity of mobile phones
as a means of communication.
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WAREHOUSING
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Warehouse: This is a building or a part of a building where goods are re-

ceived and stored until need arises for them.
-Other terms used to refer to a warehouse are depot, a godown or a silo.
Warehousing; This is the process of receiving goods into a warehouse, pro-
tecting such goods against all types of hazards and releasing them to users
when need arises for them
-There are three distinct stages in warehousing process namely:
i. Receiving goods into a warehouse
ii. Storing them
iii. Releasing them to users
Importance of warehousing to Business
i. Steady/continuous flow of goods: Producers can produce and store
goods awaiting demand through warehousing e.g. agricultural products
that are produced seasonally are made available throughout the year
ii. Stability in prices: Warehousing ensures that there is no surplus or
shortage of goods. It ensures that goods are stored when in plenty and
released to the market as their need arises. This helps to keep their prices
fairly stable
iii. Security: Warehousing ensures that goods are protected against physical
damage and adverse weather conditions. This also ensures that the qual-
ity of the goods is maintained until they are demanded. Goods are also
protected from loss through pilferage and theft.
iv. Bridging the time lay/difference between production and consump-
tion: many goods are produced in anticipation of demand. Such goods
must be stored until their demand arises e.g. gumboots, umbrellas and
sports equipment are needed seasonally but are manufactured in advance
and stored in a warehouse so as to be released to the users when need
arises for them.
v. Continuous/uninterrupted production schedules: Manufactures are
able to buy raw materials in large quantities and store them awaiting
their need to arise. This prevents interruption of the production process
because of lack of raw materials
vi. Preparation of goods for sale: While in the warehouse, goods can be
prepared for sale e.g. they can be blended, packed, graded or sorted out.
vii. Sale of goods: Goods may be sold while still in the warehouse. If sold
while still in a bonded warehouse, duty passes to the buyer
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viii. Specialisation: Warehousing encourages specialization in production

and distribution. Producers concentrate on producing while distributors
store the goods for sale to the customers.
ix. Unexpected demand can be met: The government collects agricultural
goods e.g. cereals and stores them as buffer stocks to be used in times of
disaster or serious shortages.
x. Clearance of goods: Warehousing helps in clearance of goods i.e.
goods entering the country can be inspected by the customs officials.
xi. Warehousing helps to improve the quality of goods e.g. goods like to-
bacco and wine mature with time.
xii. Warehousing enables buyers to inspect the goods before they buy them.
xiii. Wholesale warehouses may also operate as showrooms for traders.
Essentials of a warehouse
These are the features and resources a warehouse should have in order for it to
function effectively.
These include:
i. Ideal location: A warehouse should be located at a suitable place to fa-
cilitate receipt and issue of goods e.g. a manufactures warehouse should
be located near his/her factory.
ii. Proper building: A warehouse should have proper buildings which are
suitable for different types of goods to be stored.
iii. Equipment: A warehouse should be equipped with appropriate facilities
for handling goods such as fork-lifts conveyer belts e.t.c. It should also
be well equipped with necessary storage facilities e.g. provision of re-
frigerated or cold storage for perishable goods such as meat and fruits.
iv. Accessibility: A warehouse should be accessible to its users. It should
therefore be linked with good and appropriate transport system to facili-
tate movement of goods in and out of the warehouse.
v. Safety and security: It should have/be fitted with safety equipment or
facilities necessary for protection of goods against damaged caused by
such things like water, fire or sunshine as well as for the protection of
the personnel.
vi. Communication: A warehouse should have a good communication net-
work or system for easy contact with its clients and suppliers
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vii. Qualified personnel: A warehouse should have well trained and effi-
cient staff/personnel for proper management and efficient functioning of
the warehouse.
viii. Recording system: There should be a proper recording system in a
warehouse to ensure that all movement of goods is properly monitored.
ix. A warehouse should be spacious enough to allow easy movement and
accumulation of goods and personnel.
Types of warehouses
-Warehouses can be broadly classified into three namely:
a. Private warehouses
b. Public warehouses
c. Bonded warehoused
i) Private warehouses
These are warehouses that are owned by private individuals/organizations for
the purpose of storing their own goods only. They include:
a) Wholesalers warehouses
b) Producers warehouses
c) Retailers warehouses.
a) Wholesalers warehouses
These are warehouses for storing the wholesalers’ goods as they await distri-
bution or sale. They need warehouses because they buy goods in bulk from
producers and store them until they are needed by retailers.
-The wholesalers warehouses also act as showrooms i.e. they display their
goods in the warehouse.
-These warehouses also enable the wholesalers to prepare their goods for sale
e.g. branding, blending, packing and sorting may be carried out in the ware-
house
b) Producers warehouses;
-These warehouses are owned by producers and they are for storing goods
prior to their demand.
-The producers may be manufactures of finished goods or farmers
-Such warehouses are built near the manufactures factories or the farmers pro-
duction points.
-Manufactures who export may locate some warehouses near ports through
which they export e.g Mumias sugar warehouse, Bamburi Portland cement
warehouse e.t.c
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C) Retailers warehouses
Some large-retailers such as chain stores and supermarkets own warehouses
for storing their large stores
-It becomes necessary for such business to have warehousing facilities due to
their large and bulky purchases dictated by the nature of their business
-Goods are distributed from their warehouses to the retail outlets or to the
branches

Advantages of private warehouses

i. The owner has full control over its operation and may make major deci-
sions without having to consult anyone.
ii. The warehouse is designed to suit the specific needs of the organizations
iii. It enables special handling, storage and protection of goods by having
special facilities which may not be available in a public warehouse
iv. The owner is not tied down by procedures of receiving and issuing
goods unlike in public warehouse.
v. The owner does not incur the cost of hiring space unlike with a public
warehouse
vi. The operation can be easily automated because the goods to be received
stored and dispatched are already known.
Disadvantages of private warehouses
i. The initial construction cost of a warehouse is high
ii. Under-utilization of personnel and facilities may occur especially in
times of low volumes
iii. They may not employ qualified management personnel and are conse-
quently disadvantaged in dealing with management problem.
iv. Risks arising from dangers such as fire, pests, theft or damage are not
spread
ii) Public warehouses
These are warehouses owned by individuals or organizations who do business
by renting space. To those traders who are in need of storage facilities to store
goods temporarily. They have the following characteristics;
 Are owned and operated by individuals or companies who do not use
them for storing their own goods.
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 Are open to any member of the public who wish to rent storing space for
their goods
 The customers pay on the basis of space rented and the period of time
required to store the goods.
 They are often situated near terminals as airports, sea-ports and railway
station and industrial areas. This facilitates the movement of goods in
and out of the warehouse.
 The rent paid includes charges for insurance and other services i.e.
goods are insured against loss or damage as a result of fire or theft while
they are still in the warehouse.
 They provide other services apart from storing the goods e.g.
grading,packaging,preparing export samples, preparing market reports
and clerical documents
 Imported goods can be sold while they are still in the public warehouse.
If such a transaction takes place the goods may change ownership with-
out being physically moved out of the warehouse. This becomes possible
if the importer has signed a document called ‘a warehouse-warrant’
(which is a negotiable instrument out of order), it is issued by the new
owner after the transaction has taken place.
Advantages of a public warehouses
i. A public warehouse serves a number of customers that deal with the
same product. It assembles the small orders from these customers and
places one order for all of them. This enables them to enjoy economies
of large scale buying and delivery of goods to a warehouse.
ii. Goods stored in a public warehouse may be sold without their physical
movement from the warehouse.
iii. Traders can rent space to store their goods
iv. Traders do not have to construct their own warehouses/do not have to tie
up capital in storage buildings and handling equipment.
v. Goods are insured against risks such as damage by fire and theft
vi. A trader may get a short term loan from the warehousing firm by using
the goods held as collateral security.
vii. Apart from the handling, sorting and documentation of goods additional
services such as bottling, bagging and repairs of damaged goods can be
offered by public warehouses.
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viii. Sharing equipment and machinery enables the users to reduce handling
costs
ix. Inspection, re-packaging and labeling services provide users of public
warehouses the expertise they themselves may not have.
Disadvantages of public warehouses
i. The hirer is denied the opportunity to physically handle the goods and is
forced to compete for attention with other hirers of the warehouse. If the
hirer had his/her own warehouse, he/she would have absolute authority
on the goods and therefore enjoy individual attention.
ii. The hirer may lose contact with his/her customers since they get goods
from a rented warehouse, away from the hirers premises
iii. The hirer may get poor services or miss space altogether during peak
seasons due to stiff competition for the same facility.
iv. Documentation involving receipt and release of goods in a public ware-
house is likely to be a long and complicated procedure due to the large
number of clients involved.
v. Continued renting of space can even be more expensive than construct-
ing one’s own warehouse in the long run
vi. Public warehouses are sometimes situated far away from the hirer’s
premises unlike private ones which are usually within the vicinity of the
owner’s premises.
vii. The operations of a general merchandise public warehouse are difficult
to automatic because different kinds of goods need different methods
and equipment to handle them.
iii) Bonded warehouses
These are public warehouses for keeping imported goods until customs duties
have been paid against them. They are mainly located at the points through
which goods enter a country
-Imported goods are kept in this type of warehouses if the owner has not paid
customs duties. Such goods are said to be “goods under bond”or “goods in
bond”
-Bonded warehouses are so called because the owners of such warehouses
give a ‘bond’ to the customs authorities i.e. a sum of money as guarantee that
they will not release goods from the warehouses until customs duties have
been paid.
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-The importer may withdraw the goods either in part or in full after the cus-
toms duties have been paid for the goods he/she intends to collect.
-If the goods are sold while still in a bonded warehouse, the new owner of the
goods pays the duty before taking them out of the warehouse.
-If the goods re-exported to another country while still in a bonded warehouse,
the importer does not have to pay the customs duties e.g an importer may im-
port some goods and further prepare them for sale inside a bonded warehouse
and can then re-export them without having paid the customs duties
-When the importer pays the duties to the customs officials, a “release war-
rant” is issued. This is a document that enables the importer to have his/her
goods released from a bonded warehouse
-Bonded warehouses have resident customs officials who monitor the move-
ment of goods in and out of a bonded warehouse.

Features of a bonded warehouse

i. Goods are bonded until customs duty is paid
ii. Goods can be re-exported while in the warehouse
iii. Storage charges are made on all goods stored in the warehouse
iv. Goods can be sold while still under bond
v. Goods can be inspected and prepared for sale i.e. they can be repacked,
branded and blended while in the warehouse
vi. Goods are released only on the production of a release warrant
Advantages of bonded warehouse to the importer
 While in bond, goods can be prepared for sale
 The owner can look for the market for the goods before paying the duty
 Some goods lose weight while in the warehouse so the duty paid be-
comes lower if based on weight.
 If goods are sold while still in the bonded warehouse, the duty passes to
the buyer
 The importer has more time to arrange for payment of customs duty.
 Security is provided for the goods, so the importer is relived of the task
of providing security for his/her goods
 Some goods improve in quality while in a warehouse for example, wine
and tobacco.
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Advantages of Bonded warehouse to the Government

i. The government gets revenue by levying duty on the goods
ii. The government is able to control the entry of harmful goods
iii. The government is able to verify the documents for goods in transit
iv. The government is able to check on the quantity, quality and the nature/
type of goods imported.
v. The government is able to check on illegal goods entering the country.
Disadvantages of a bonded warehouse
i. The importer may eventually fail to pay customs duties. This forces the
customs authorities to auction the bonded goods in order to recover the
duties.
ii. When the importer withdraws goods from a bonded warehouse he/she
ends up paying a higher duty if he/she had paid the duty at once.
iii. The importer incurs costs in hiring a bonded warehouse as opposed to if
he/she had a private warehouse

Free warehouses
These are warehouses in which tax-free goods are kept awaiting sale or collec-
tion by owners
-Goods stored in these warehouses can be either locally produced, requiring
no taxation or imported goods for which customs duties have already been
paid.
NOTE: i) All warehouses apart from bonded warehouses are free warehouses
since goods held in them are not subject to control by customs authorities.
This includes all private and public warehouses
ii) Locally produced goods are stored in free warehouses since no custom du-
ties are paid for them.
Advantages of free warehouses
 Owners of goods stored need not to pay any taxes, thus the goods cannot
be auctioned for failure to pay customs duties
 It is cheaper to store goods in free warehouses as compared to bonded
warehouses since there are no customs duties levied.
 Clearence of the goods from the warehouse is simple since a “release
warrant” to prove payments of duties is necessary
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 These warehouses are located at places that are convenient to users

Disadvantages of free warehouses
 The Government does not benefit since no customs duty is levied on the
goods stored
 Some unscrupulous traders might use them to store durable goods so as
to evade tax.
 Checking and security of goods is more relaxed hence the possibility of
storing illegal goods.
Current trends and emerging issues in warehousing
Warehousing technology is undergoing important changes in both building
design and handling in storage equipment. These may include;
i) Warehousing design-In modern times, there is an increasing emphasis
on high ceiling warehouses to permit storage of more goods and to make it
possible for the movement of fork lift trucks and stuck-cranes
ii) Handling of goods-Handling includes the steps involved in moving of
goods to and from storage. There is widespread use of modern machines in
most warehouses such as conveyer belts, tracks, forklifts and stuck cranes.
The use of automated stucker cranes which more by remote control in a fixed
path on guide rails, is a new development in warehousing
-Computerization has also greatly helped in monitoring the movement of
stock in and out of storage. This has eased the handling, especially in loading
and unloading of goods.
iii) Storage of goods-Storage is the condition of the goods at rest in
their assigned areas of the warehouse. Most warehouses are currently using
storage racks that permit replacement or retrieval of goods without disturbing
neighbouring goods.
iii) Environmental pollution-Goods that expired or spoilt while in
the warehouse are sometimes discarded in a manner or in areas that may cause
pollution to the environment e.g. expired chemicals are sometimes thrown into
rivers and oceans thereby endangering the marine life.
-Other times they are burned causing air pollution with toxic gases. Some
goods when thrown on land are dangerous to human life
-To avoid the effects of improper disposal of expired or spoilt goods the ware-
house owners should come up with methods that are environmentally friendly
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such as recycling of these goods. They should also be socially responsible for
whatever goes out from their warehouses.

INSURANCE

Insurance-This is an undertaking or contract between an individual or busi-

ness and an insurance an occurrence of risk(s) (i.e. against events whose oc-
currences are unforeseen but causes financial losses or suffering to the af-
fected parties.
Risks are also referred to as contingencies, hazards or perils and include:
-Fire outbreak
-Accidents
-Thefts
-Deaths
-Disabilities
-Risks are real and unforseen. Methods to eliminate such risks has achieved
very little and thus has necessitated the need for insurance.
Importance of insurance
1. Continuity of business
Every business enterprise is exposed to a variety of risks e.g. fire, theft
e.t.c.The occurrence of such risks often result in financial losses to the busi-
ness. Insurance provides adequate protection against such risks in that, if a
trader suffers losses as a result of insured risk, she/he is compensated, thus
he/she is able to continue with business operations.
2. Investment projects
Insurance enables investors to invest in profitable yet risky business projects
that would otherwise avoided.
Not all the money received as premiums (by the insurance companies) is used
up for compensation to those who have been exposed to risk and suffered
losses. The rest of the money is invested in other businesses to earn profits.
3. Creation of employment
Insurance does provide employment opportunities to members of the public.
4. Government policy
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The profits earned are a source of revenue for the government i.e. insurance
companies are profit-making organizations which generate revenue to the
government through payments of taxes
5. Credit facilities
The insurance industry have also established credit or lending facilities which
the business community uses by borrowing. Loans are made available to the
public for different investment projects in different sectors of the economy
and also for personal requirements.
6. Development of infrastructures
The insurance industry plays a crucial role in the development of urban facili-
ties in major towns. Both residential and office buildings have been developed
by insurance firms. The firms also participate in development projects in the
areas where they operate. They contribute to development of a region by con-
structing and infrastructural facilities
7. Life policies can be used as security for loans from either the insurance
company or other financial institutions.
8. Provision of life and general insurance policies encourages Kenyans to
plan ahead for their dependants thereby reducing the number of needy
future students.
9. Loss prevention-The insurance companies encourage the insured not to
cause accidents thus channeling the unclaimed resources into the econ-
omy.
THE THEORY OF INSURANCE
The insurance business relies on the law of large numbers in its operations.
According to this law, there should be a large group of people faced with sim-
ilar risks and these risks spread over a certain given geographical area.
Every person in the group contributes at regular intervals, small amounts of
money called premium into a “common pool”. The pool is administered and
controlled by the insurance company.
i) The fact that risks are geographically spread ensures that insurance
does not have a concentration of risks in one particular area.
ii) The law of large numbers enables the insurance to accurately estimate
the future probably losses and the number of people who are likely to
apply for insurance. This is done in order to determine the appropriate
premiums to be paid by the person taking out insurance.
Pooling of risks
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The insurance operation is based on the theory that just a few people out of a
given lot may suffer a loss. There is therefore a “pooling of risks” i.e the loss
of the unfortunate few is spread over all the contributors of the group, each
bearing a small portion of the total loss. This is why the burden of loss is not
felt by the individuals because it is “shared” by a large group.
Benefits of the “pooling of Risks” to insurance company
i) Pooling of risks enables an insurance company to create a common pool
of funds from the regular premiums from different risks.
ii) It enables the insurance company to compensate those who suffer loss
when the risks occur
iii) The insurance company is able to spread risks over a large number
of insured people
iv)Surplus funds can be invested in for example, giving out loans or buying
shares in real estates
v) It enables the insurance company to meet its operating costs by using the
pool funds
vi)It enables the insurance company to calculate to be paid by each client
vii) It enables the company to re-insure itself with another insurance
company.
Terms used in Insurance
Insurance
This is a written contract that transfers to an insurer the financial responsibil-
ity for losses arising from insured risk.
Premium
This is the specified amount of money paid at regular intervals by the insured
to the insurer for coverage against losses arising from a particular risk.

Risk
These are perils or events against which an insurance cover is taken. It is the
calamity or problem a person or business faces and results into losses.
Note: The calculation of premiums depends upon the type of risk insured
against. The higher the probability of the risk occurring, the higher the pre-
mium. The more the risks the business or person is exposed to the more the
premiums payable.
Pure risk
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This is a risk which results in a loss if it occurs and results in no gains if it

does not occur. For example, if a car is involved in an accident, there will be a
loss and if the accident does not occur there will be no gain or loss
Speculative risk
This is a risk which when it occurs, may result in a loss or a profit. For exam-
ple, a person may buy shares at ksh.50 each, one year later the shares may be
valued at ksh40 each meaning a loss of ksh.10
Alternatively, their value might not have changed or might have increased to
ksh.45 each. Speculative risk lures people to venture into business in the first
place.
Insured
This is the individual or the business that takes out the insurance cover and
therefore becomes the policy holder
The insured pays premiums to the insurance company to be compensated
should the risk insured against occur or cause loss.
Insurer
This is the business company that undertakes to provide cover or protection to
the people who suffer loss as a result of occurrence of risks
Actuaries
These are people employed by an insurance company to complete expected
losses and calculate the value of premiums.
Claim
This is a demand by the insured for payment from the insurer due to some loss
arising from an insured risk.
Policy
This is a document that contains the terms and conditions of the contract be-
tween the insurer and the insured. Its issued upon payment of the first pre-
mium.
Information contained in a policy includes;
 Name, address and occupation
 Policy number of the insured
 Details of risks insured
 Value of property insured
 Premiums payable
 Other special conditions of the insurance, for example nominees
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Actual value
This is the true value of the property insured
Sum insured
This is the value for which property is insured, as stated by the insured at the
time of taking the policy.
Surrender value
This is the amount of money that is refunded to the insured by the insurer in
case the former (i.e. the insured) terminates payment of the premiums before
the insurance contract matures. The policyholder is paid an amount less than
the total amount of the premium paid.
Grace period
This is term allowed between the date of signing the contract and the date of
payment of the first premium. During this period the insurance contract re-
mains valid. This period is usually a maximum of thirty (30) days.
Proposer
This is a person wishing to take out an insurance cover (prospective insured)
Cover note (Binder)
This is a document given by the insurance company to an insured on payment
of the first premium while awaiting for the policy to be processed. It is proof
of evidence that the insurer has accepted to cover a proposed risk.
Annuity
This is a fixed amount of money that an insurer agrees to pay the insured an-
nually until the latter’s death. It occurs when a person saves a lumpsum
amount of money with an insurer in return for a guaranteed payment which
will continue until he/she dies.
Consequential loss
This is loss incurred by a business as a result of disruption of business in the
event of the insured risk occurring.
Assignment
This is the transfer of an insurance policy by an insured to another person.
Any claims arising from the transferred policy passes to the new policy holder
called an assignee

Beneficiaries
These are people named in a life assurance policy who are to be paid by the
insurer in the event of the insured
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Nomination
This is the act of designing one or more people who would be the beneficia-
ries in the event of death of the insured. These people are called nominees
Average clause
This clause is usually included in policies to discourage under-insurance. The
clause provides that the insured can only recover such proportions of the loss
as the value of the policy bears on the property insured. It is usually included
in marine or fire insurance policies.
The amounts recoverable are arrived at using the following formulae:
Compensation=value of the policy loss
Value of property
Example:
If a house worth kshs.800,000 and insured against fire for kshs.600,000 was
damaged by fire to the tune of kshs.400,000,the insured would be compen-
sated;
Compensation= (600,000 x 400,000)
800,000 (value insured x Actual loss)

Double insurance
This is taking of insurance policies with more than one company in respect to
the same subject matter and the risk. It is significant because if one of the in-
surers is insolvent at the time the claim arises the insured can enforce his/her
claim against the solvent insurer or if both insurers are solvent then they share
compensation.
(Insolvency is a state where a business is not able to pay all its liabilities from
its existing assets)
Co-insurance
This is an undertaking by more than one insurance company to provide insur-
ance cover for the same risk for an insured. This will usually occur for proper-
ties that have great value and face great risk exposures that an insurer cannot
successfully make compensation for e.g. value of aeroplanes, ships e.t.c
Co-insurance help spread risks to several insurers, each insurer covering only
a certain proportion of the total value. The insurance company with the largest
share is called the “leader” and acts on behalf of all the participating insurance
companies’ e.g. in collecting premiums from the insured and carrying out doc-
 178

umentation work, making claim after collecting each insurers premium contri-
bution e.t.c
Note: Co-insurance is different from double-insurance in that in co-insurance
company approaches another insurance company to help in covering the in-
sured property while in double-insurance; it’s the insured who decides to ap-
proach different insurance companies to insure the same property against the
same risk.
Re-insurance
‘Re-insurance’ means insuring again. This is a situation where an insurance
company insures itself with a bigger insurance company called le-insurer for
all or part of the risks insured with it by members of the public
Re-insurance indirectly insure an individuals risks.Re-insurance helps to re-
duce the burden on an insurance company when the loss is too high for a sin-
gle insurer. When such losses occurs, the claim is met by both the insurer and
re-insurer(s) proportionately (according to agreed percentages)
Note:
Re-insurance deal with the protection of insurance companies only, while in-
surance companies protect individuals and business organizations.
Factors that may make it necessary for an insurance company to Re-in-
sure
i. Value of property-When the value of property is great, such as ship, the
risk is too high to be borne by a single insurer
ii. High risk of loss-When chances of loss through the insured risks are
high, it becomes necessary to re-insure.
iii. Number of risks covered-When the insurance company has insured
many different risks, it would be too costly to compensate many claims
at once, hence the need for re-insurance
iv. Need to spread the risk-When the insurance company wishes to share
liability in the event of a major loss occurring
v. Government policy-The government may make a legal requirement for
an insurance company to re-insure
Under-insurance
This occurs when the sum insured as contained in the policy is less than the
actual value of the property e.g. A property of shs.500, 000 can be offered for
insurance as having a value of shs.400, 000
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Over-insurance
This is a situation where the sum insured is more than the correct value of
property e.g. a person insures property of shs.300,000 for shs.600,000.If total
loss occurs, he is compensated the correct value of the property i.e. that which
he has lost
Agents
These are people who sell insurance policies on behalf of the insurance com-
pany. They are paid on commission that is dependent upon the total value of
policies sold
Insurance Brokers
These are professional middlemen in the insurance process. They connect the
people wishing to take insurance with the insurers. They act on behalf of
many different insurance firms, unlike agents. Their activities include:
 Examination of insurance market trends
 Correspondence between the insured and his clients
 Advising the insured and would be policyholders on the best policies for
their property e.t.c.
He receives a commission (reward) known as brokerage.
PRINCIPLES OF INSURANCE
Principles of insurance provide guidance to the insurance firms at the time
they are entering into a contract with the person taking the cover. These insur-
ance principles include:
i. Help to determine whether a valid insurance contract exists between the
two parties at the time claims are made.
ii. Provide checks and controls to ensure successful operations of insurance
for the benefit of both the parties
It is therefore important that a prospective insured (person wishing to take in-
surance policy) has basic knowledge of these principles as stated in the insur-
ance law.
The insurance principles include;
i) Insurable Interest
This principle states that an insurance claim cannot be valid unless the insured
person can prove that he has directly suffered a financial loss and not just be-
cause the insured risk has occurred.
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Going by this principle one cannot insure his parents or friends or other peo-
ple’s property since he/she has no insurable interest in them. If such properties
are damaged or completely destroyed, he/she will not suffer any financial loss.
For example, Mr.x has no insurable interest in the property of his neigh-
bours.He does not suffer any financial loss should they be destroyed. This
principle ensures that people are not deliberately destroying other people’s
properties/life in order for them to receive compensation.
In life insurance (life assurance) it is assumed that a person has unlimited in-
terest in his/her own life. Similarly it is assumed that one has insurable in the
life of spouse and children e.g. a wife may insure the life of her husband, a fa-
ther the life of his child because there is sufficient insurable interest.
ii) Indemnity
The essence of this principle is that the insurer will only pay the “replacement
value” of the property when the insured suffers loss as a result of an insured
risk.
This principle thus puts the insured back to the financial position he enjoyed
immediately before the loss occurred.
It is therefore not possible, then, for anybody to gain from a misfortune by
getting compensation exceeding the actual financial loss suffered as this will
make him gain from a misfortune.
This principle does not apply in life assurance since it is not possible to value
one’s life or a part of the body in terms of money. Instead, the insurance pol-
icy states the amount of money the insured can claim in the event of death.
iii) Utmost good faith (uberrima fides)
In this principle the person taking out a policy is supposed to disclose the re-
quired relevant material facts concerning the property or life to be insured
with all honesty. Failure to comply to this may render the contract null and
void hence no compensation.
e.g.
-A person suffering from a terminal illness should reveal this information to
the insurer.
-One should not under-insure or over-insure his/her property.
iv) Subrogation
This principle compliments the principle of indemnity. It does so by ensuring
that a person does not benefit from the occurrence of loss.
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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 insure.

Example
Assuming that Daisy’s car is completely damaged in an accident and the in-
surance compensates for the full value of the loss, whatever remains of the old
car (now scrap), belongs to the insurance company
Scrap metal can be sold for some values and should Daisy take the amount she
would end up getting more amount than the value of the car which will be
against the principle of indemnity.
Note: This principle cannot be applicable to life assurance since there is noth-
ing to subrogate.
v) Proximate cause
This principle states that for the insured to be compensated there must be a
very close relationship between the loss suffered and risk insured i.e. the loss
must arise directly from the risk insured or be connected to the risk insured.
Example
i) If a property is insured against fire then fire occurs and looters take ad-
vantage of the situation and steal some of the property, the insured will suffer
loss from ‘theft’ which is a different risk from the one insured against, so he/
she will not be compensated.
However if the property burns down as a result of sparks from the fire-place,
the proximate cause of the loss is sparks which are directly related to fire. So
the insured is entitled for compensation.
CLASSES OF INSURANCE
Insurance covers are mainly classified into two,
1. Property (non-life) general insurance
2. Life assurance
1. Life Assurance
The term assurance is used in respect of life contracts. It is used to mean that
life contracts are not contracts of indemnity as life cannot be indemnified i.e.
put back to the same financial position he was in before the occurrence of
loss.(life has no money value, no amount of money can give back a lost or in-
jured life)
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Life insurance (assurance) is entered by the two parties in utmost good faith
and the premiums payable in such life contracts depend on:
i) Age: The higher the age the higher the premiums as the age factor in-
crease the chances of occurrence of death.
ii) Health condition: A person with poor health i.e. sickly person pays
higher premiums as opposed to one in good health.
iii) Exposure to health risks: The nature of a person’s occupation can
make him susceptible to health problems and death.
Types of policies
i) Whole life assurance-In whole life assurance, the assured pays regular
premiums until he/she dies. The sum assured is payable to the beneficiaries
upon the death of the assured.
-Whole life assurance covers disabilities due to illness or accidents i.e. if the
insured is disabled during the life of the policy due to illness or accidents, the
insurer will pay him/her for the income lost.
ii) Endownment policy/insurance
This is whereby the insured pays regular premiums over a specified period of
time. The sum assured is payable either at the expiry of the period (maturity of
policy) or on death of the insured, whichever comes first.
The insured, at expiry of policy is given the total sum assured to use for activi-
ties of his own choice.(ordinary endownment policy)
-Where the insured dies before maturity of contract, the beneficiaries are
given these amounts.
Note; The assured person may be paid a certain percentage of the sum assured
at intervals until the expiry of the policy according to the terms of contract.
Such an arrangement is known as Anticipated Endownment policy.
Advantages of Endownment policies
i. They are a form of saving by the insured, for future investments
ii. Premiums are payable over a specified period of time which can be de-
termined to suit his/her needs e.g. retirement time
iii. Where the assured lives and time policy matures, he receives the value
of sum assured.
iv. Policy can be used as security for loans from financial institutions.
Differences Between a whole life policy and an Endownment policy
Whole life Endownment
i) Compensation is paid after i) Compensation is paid after
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the death of the assured the expiry of an agreed pe-

riod
ii) Premiums are paid through- Premiums are paid only dur-
out the life of the assured ing an agreed period
iii) Benefits go to the depen- The assured benefits unless
dants rather than the assured death proceeds the expiry of
the agreed period
iv) Aims at financial security of Aims at financial security of
dependants the assured and dependants
iii)Term insurance
The insured here covers his life against death for a given time period e.g. 1yr,
5yrs e.t.c.
If the policyholder dies within this period, his/her dependants are compen-
sated.
If the insured does not die within this specified period, there is no compensa-
tion. However, a renewal can be taken.
IV) Education plan/policies
This policy is normally taken by parents for their children’s future educational
needs.
The policy gives details of when the payments are due.
v) Statutory schemes
The Government offers some types of insurance schemes which are aimed at
improving/providing welfare to the members of the scheme such as medical
services and retirement benefits.
A member and the employer contribute, at regular intervals, certain amounts
of money towards the scheme.
Examples
1. N.S.S.F
2. N.H.I.F
3. Widows and children pension scheme (W.C.P.S)
Annuity
Characteristics of life Assurance
 It is a cover for life until death or for a specified period of time
 It may be a saving plan
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 It is normally a long term contract and does not require an annual re-
newal
 It has a surrender value
 It has a maturity date when the assured is paid the sum assured bonuses
and interests.
 A life assurance policy can be assigned to beneficiaries
 The policy can be any amount depending on the assureds’ financial abil-
ity to pay premiums
 The policy can be used as security for a loan
2.General insurance (property insurance)
This type of insurance covers any form of property against the risks of loss or
damage. A person can insure any property he has an insurable interest in
General insurance is usually divided into:
i. Fire insurance/department
ii. Accident insurance/department
iii. Marine insurance/department
i) Accident insurance
This department covers all sorts of risks which occur by accident and includes
the following;
a) Motor policies
-These provide compensation for partial or total loss to a vehicle if the loss re-
sults from an accident.
-The policy could either be third party or comprehensive.
-Third party policies cover all damages caused by the vehicle to people and
property other than the owner and his/her vehicle. This includes pedestrians,
fare-paying passengers, cows, fences and other vehicles
In Kenya, a motor-vehicle owner is required by law to have this policy before
the vehicle is allowed on the roads. One can also take a third party, fire and
theft policy.
Comprehensive policy covers damages caused not only to the third party but
also to the vehicle itself and injuries suffered by the owner. Comprehensive
policies include full third party, fire, theft and malicious damage to the vehi-
cle.
b) Personal accident policy
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-These policies are issued by insurance companies to protect the insured

against personal accidents causing;
 Injury to the person
 Partial or total physical disability as a result of the injury
 Loss of income as a result of death
-If death occurs due to an accident, the insured’s beneficiaries are paid the to-
tal sum assured.
In case of a partial or total disability as a result of accident, the insured can be
paid on regular periods, e.gmonthly as stipulated in the policy.
Compensation for injuries where one loses a part of his/her body can be done
on a lumpsum basis.
The insured is also paid the value of hospital expenses incurred if hospitalized
as a result of an accident.

c) Cash and / or Goods in Transit policies

These are policies that specifically provide cover for loss of cash and goods in
transit between any two locations.
E.g. Goods and cash moved from business to the markets, from suppliers to
business e.t.c
d) Burglary and Theft policies
These policies cover losses caused by robbers and thieves
Burglary policies are enforceable only if the insured has met the specified
safety and precautionary measures for protection of the insured items.
E.g.-How much money should be maintained in different kinds of safety
boxes
-Positioning of each of the cash boxes is also an important precautionary mea-
sure.
NB: The control measures are aimed at reducing both the extent and probabil-
ity of loss occurring
e) Fidelity Guarantee policies
These policies cover the employers against loss of money and/or goods caused
by their employees in the cause of duty.
-The losses may be as a result of embezzlement, fraud, arithmetical errors e.t.c
-The policies may cover specified employees or all the employees
7) Workmen’s compensation (Employer’s Accident liability)
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These policies provide compensation for employees who suffer injuries in the
course of carrying out their duties.
The employer insures his employee against industrial injuries i.e the employer
is only liable for the compensation of workers who suffer injuries at work.
f) Public liability
This insurance covers injury, damages or losses which the business or its em-
ployees cause to the public through accidents.
The insurer pays all claims from the public upto an agreed maximum
g) Bad debts
This policy covers firms against losses that might result from debtor’s failure
to pay their debts.
iii)Marine Insurance
This type of insurance covers ships and cargo against the risk of damage or
destruction at the sea. The main risks sea vessels are exposed to include; fire,
theft, collision with others, stormy weather, sinking e.t.c

Types of Marine Insurance policies

The marine insurance covers are classified as Hull, cargo, freight and ship
owners’ liability.
a) Marine Hull
This policy covers the body of the ship against loss or damage that might be
caused by sea perils.
Included here are any equipment, furniture or machinery on the ship.
A special type of marine hull is the part policy, which is for a specified period
when the ship is loading, unloading or at service.
b) Marine Cargo
This type of policy covers the cargo or goods carried by the ship
The policy is taken by the owners of the sea vessels to cover the cargo being
transported. It has the following sub-divisions.
i. Voyage policy-Here cargo and ship are insured for a specific voyage/
journey. The policy terminates automatically once the ship reaches the
destination.
ii. Time policy-Here insurance is taken to cover losses that may occur
within a specified period of time, irrespective of the voyage taken
iii. Fleet policy-This covers a fleet of ships,i.e several ships belonging to
one person, under one policy.
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iv. Floating policy-This policy covers losses that may occur on a particular
route, covering all the ships insured along that route for a specified pe-
riod
v. Mixed policy-This policy provides insurance for the ship and cargo on
specified voyages and for a particular period of time. No compensation
can be made if the ship was on a voyage different from the ones speci-
fied even if time has not expired
vi. Composite policy-This is where several insurance companies have in-
sured one policy of a particular ship especially when the sum insured is
too large to be adequately covered by one insurer.
vii. Construction policy/builders policy-This covers risks that a ship is ex-
posed to while it is either being constructed, tested or being delivered.
c) Freight policy-This is an insurance cover taken by the owner of the ship
for compensation against failure to pay hiring charges by a hirer of the
ship.
d) Third parties liability-This is an insurance policy taken by the owner of
the ship to cover claims that might arise from damage caused to other
people’s property.
Description of marine losses
The following are some of the losses encountered in marine insurance.
i. Total loss,
This occurs where there is complete loss or damage to the ship and cargo in-
sured. Total loss can be constructive or actual.
In Actual total loss, the claims are as a result of the ships and/or cargos com-
plete destruction. It could also occur;
-When a ship and its cargo are so damaged that what is salvaged is of no mar-
ket value to both the insurer and the insured.
-When a ship is missing for a considerable period of time enough to assume
that it has sunk.
-Constructive total loss occurs when the ship and/or cargo are totally dam-
aged but retrieved. It may also occur;
-Where a ship and its cargo are damaged but of market value. This could be as
a result of decision to abandon the ship and cargo as the probability of total
loss appears imminent.
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-If the cost of preventing total loss may be higher than that of the ship and its
cargo when retrieved e.g. many lives may be lost in the process of trying to
prevent total loss.
ii) General average-This is a loss that occurs as a result of some of the
cargo being thrown into the sea deliberately to save the ship and the rest of the
cargo from sinking. The losses made are shared by the ship owners and the
cargo owners proportionately as the effort was in the interest of both.
iii) Particular average-This occurs where there is a partial but acci-
dental loss to either the ship or the cargo. When this happens each of the af-
fected party is soldy responsible for the loss that has occurred to his property.
A claim can, however be made if the loss incurred amounts to more than 3%
of the value insured.
Fire insurance-This type of insurance covers property damage or loss caused
by accidental fire. Cover is offered to domestic commercial and industrial
premises, plant and machinery, equipment, furniture fittings stock e.t.c
-In order to claim for compensation as a result of loss by fire, the following
conditions must be fulfilled;
 Fire must be accidental
 Fire must be immediate cause of loss
 There must be actual fire.
There are several types of types of fire insurance policies. These include:

a) Consequential loss policy;(profit interruption policy)

This covers or compensates the insured for the loss of profit suffered when
business operations have
It is offered to protect future earnings of an enterprice after fire damage.
b) Sprinkler leakage policy-This provides cover against loss or damage
caused to goods or premises by accidental leakages from fire fighting sprin-
klers
c) Fire and Related perils policy-This covers buildings which include fac-
tories, warehouses, shops, offices and their contents. The policy does not
cover loss of profit arising from fire damage.
CHARACTERISTICS OF GENERAL INSURANCE
 It’s a contract of indemnity
 It cannot be assigned even to ones relatives
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 The insured must have an insurable interest in the property to be

insured
 Premiums charged depends on the degree of risk, the higher the
premium charged.
 Compensation for loss can only be upto a maximum of the value of
the insured property or the sum insured in case of under insurance.
 It has no surrender value
 It’s normally a short term contract which can be renewed periodi-
cally, usually after one year.
Factors to be considered when Determining Premiums to be charged
 Health of the person
 Frequency of occurrence of previous losses
 Extent of the previous losses
 Value of the property insured
 Occupation of the insured
 Age of the person or of the property in question
 Location of the insured(address and geographical location)
 Period to be covered by the policy
 Residence of the insured
Procedure for taking a policy
i) Filling a proposal form
ii) Calculation of the premium to be paid
iii) Issuing of cover note (Binder)
iv)Issuing of the policy
Procedure of claiming compensation
i) Notification to the insurer-The insurer has to be notified about the oc-
currence of any incident immediately.
ii) Filling a claim form-The insurer provides the insured with a claim form
which he fills to give details of the risk that has occurred
iii) Investigation of the claim-The insurer arranges to investigate the
cause of the incident and to assess the extent of the loss incurred. The in-
surer is then able to establish whether the insured is to be compensated
and if so, for how much.
iv)Payment of claim-On receipt of the report of the assessor, the insurer
pays the due compensation to the insured. (Payment of the compensation
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shows that both the insurer and the insured have agreed on the extent of
the loss and the payment is the settlement of the claim)
INSURANCE AND GAMBLING
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 just a few people. They are however different and their differ-
ences include;
Insurance Gambling
-The insured must have insurable in- -A gambler has no insurable interest
terest
-Reinstates the insured back to the fi- -Aims at improving the winners fi-
nancial position just before loss nancial position
-The insured is expected to pay regu- -Gambling money is paid only once
lar premiums for the insurance cover
to remain in force
-Insurance involves pure risks -Gambling involves speculative risks
-The event of loss might never occur -The event of bet must happen to de-
termine the winner and the loser.

PAST KCSE QUESTONS

1. 1995 Describe the procedures that should be followed when taking an insurance
policy.(10mks)
2. 1996 explain four ways in which the insurance industry promotes the growth of
business enterprises. (5mks)
3. 1997 Explain four ways in which the insurance industry contributes to the devel
opment of Kenya’s economy. (10mks)
4. 1998 Discuss various insurance policies under which an insurance company
would not compensate the insured in the event of the loss. (10mk
 191

5. 1999 Discuss various insurance policies that the owner of a supermarket may
find it useful for the business. (12mk
6. 2000 Explain four benefits of the ‘pooling of risks’ to an insurance company.
(8mks)
7. 2001 Explain the factors that may make it necessary for an insurance company
re-ensure.
8. 2002 Explain the meaning of the following terms as used in insurance (10mk
i) Uberrimae fidei
ii) Indemnity
i) Third party motor vehicle insurance
iv) Contribution.
v) Subrogation
9. 2003 Discuss four circumstances under which an insurance contract may be ter-
minated. (8mks)
10. 2004 Explain five benefits that could be enjoyed by a person who de-
cided to take out an endowment policy. (10mks

PRODUCT PROMOTION
Product is an item or service offered to the consumers at a price. Therefore,
product promotion is the communication or any activity undertaken to inform
the consumers, persuade and remind them to buy the product from the market.
The purpose/Importance of product promotion
 It informs the customer of the availability, price, and where to obtain the
product to satisfy their wants
 It persuade the buyer to buy their products a head of their competitors
products in the market
 It reminds the customers of the continued existence of a given product in
the market
 It educate the consumers of the usage of the product to satisfy their
needs fully
 It informs them on any improvement that has been made on the product
 It stimulates the demand of the product being promoted in the market
 It brings out the positive features of the product
 It opens new market for the product in the environment
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Methods of product promotion

Product promotion may be carried out in the following ways:
I. Personal selling
II. Advertising
III. Sales promotion
IV. Publicity
i. Personal selling
This is a method of promotion where there is an oral presentation in the con-
versation with the prospective customer. It is done by with the use of salesmen
who informs the prospective buyer of all the aspects of the product
Methods of personal selling
Personal selling can be carried out in the following ways;
 Through sales person approaching the customers
A case where the sales person approaches the prospective customers after
drawing their attention, explaining details of the product and even demonstrat-
ing how the product works in order to persuade the customer to buy.
Steps involved in personal selling through sales person
i. Identify prospective customers who could possibly require the product
ii. Preparing the presentation by gathering all the possible information
about the product , as well as designing an appropriate methods that he
will be used to present to the customer
iii. Establishing the customers contact, as well as choosing an appropriate
time to meet the customer to be. That is the time when the customer may
receive him
iv. Arousing the consumers interest in the product by attracting his/her at-
tention through approach and languages, as well as making the prospec-
tive customer develop interest in the product
v. Dealing with the objections on the product which may have been
brought about by the customer to be
vi. Closing the sale by inquiring whether the prospective customer will be
interested in the product or not. This should be done in a polite manner
vii. Offering after sale service to the customer on the product that has been
sold
 Shows, trade fairs and exhibitions
This is where the manufacturer of a given product gets a chance to display
publicly to the prospective customer to inform them about the product. The
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prospective customers’ attention is then drawn to the product and more infor-
mation is given to him about the product at the point where it is displayed.
Advantages of shows, trade fair and exhibitions
 It gives the customer an opportunity to compare various products before
making a decision on what to buy
 It gives the sales person an opportunity to explain in fine details the fea-
tures of the product to the prospective customers
 The manufacturers of the product gets a chance to receive immediate
feed back from their customers through interactions during the shows
 The number of people visiting their stall to asses their products will help
them determine their potential market size for the product
Disadvantages of shows, trade fairs and exhibitions
 It is expensive to hire a stall for the exhibition of the product
 The sales person may have to explain over and over again for the
prospective customers as they may not enter into the stall at the same
time
 The trade fairs are not frequently organized, therefore an organization
rely on it as the only means of product promotion may not succeed
 Showrooms
These are large rooms where goods are displayed, especially bulky and
durable goods like cars, furniture’s, etc for the customer to see and be in-
formed about them to stimulate their interest in them
The room allows the customer to get more information about the product from
the sales person in the showroom
Advantages of showrooms
 They enables the seller to get immediate feed back on the product
 They enable the customers to get clarification on the product they need
to purchase
 It is a cheap method of production
 It provides an opportunity for the usage of goods to be demonstrated
 The information the prospective customer get from the show room is
more reliable
Disadvantages of showrooms
 They are usually located away from the town centers, making them not
be accessible by many
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 It is expensive to hire showrooms

 They require security to protect the goods inside them which may be
very expensive
 Some prospective customers may tamper with goods in the room while
trying to operate them
 Free Gifts
A gift is an item given to the customer free of charge after buying a product
which it is pegged on or buying products of a given value. The gift may not
necessarily be the same as the product bought, but they are meant to encour-
age the customer to buy more or give the customer opportunity to explore the
product given as a gift.
Advantages of free gifts
 It enable the customer to enjoy the product given as a gift without pay-
ing for it
 It persuades the customer to buy more of the product in order to get the
gift
 It is an additional product, and therefore increases the customers satis-
faction
 It may help in creating loyalty in the product being promoted
Disadvantages of free gifts
 It makes the customer buy including products they didn’t require in or-
der to the said gift
 The cost of the product may be very expensive for he customer
 Some middlemen may remove the gift and keep or even sell to the cus-
tomer to maximize profit
 Free Sample
This is a product on trial given to the customers freely to influence their de-
mand towards the product. It mainly used when the product is new and the
customer may have not known about the existence of the product

Advantages of free sample

 It enables the customer try the product before making a decision to buy
it
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 The customer is able to enjoy the product that otherwise he may have
not enjoyed
 The organization is able to get immediate feedback from the customer
about their new product
 It enables the organization to acquire more customers for their product
Disadvantages of free sample
 Some of those receiving the sample may not come back to buy
 It may be an expensive method of promotion especially where many
samples are to be given
 Goods given for free may reduce the value of goods that may have been
sold to earn profit
 It is not suitable for expensive products
Circumstances under which personal selling is appropriate
i. When launching a new product in the market which requires a lot of
awareness to the prospective customers to enable them make a choice
ii. When a product is tailored to meet the customer’s needs, as different
consumers have different needs, taste and preferences to be addressed.
iii. When demonstration is required on how the product works, especially
the technical products
iv. When the organization has the capacity to finance the sales force carry-
ing out the personal selling
v. Where the market is concentrated within a given region that can easily
be accessible by the task force
Advantages of personal selling
 It is more flexible than any other method for the marketer is able to meet
the needs of different people
 It enable the prospective customer to know more details about the prod-
uct before making a decision
 The sales person is able to demonstrate the use of the product
 The seller is able to get immediate feedback on the product
 The seller is able to obtain the personal contact of the prospective buyer
 It gives the buyer an opportunity to negotiate the terms of purchase
 It takes care of both literate and illiterate prospective customer
 The seller is able to persuade the prospective buyer to buy the product
Disadvantages of personal
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 It is labour intensive and therefore very expensive when the area to be

covered is wide method
 It is time consuming as it involves explanation and demonstration
 It may only target a particular group of people
 The seller has to meet the travelling and other expenses involved which
may be very expensive
 Salespersons may misuse the resources allocated for them, making the
target not to be achieved
 The process may inconvenience the prospective buyer’s program
 It may only cover a given region which may not be wide enough
ii. Advertising
This is the presentation of information about a product through public media
such as newspapers, radios, billboards, etc
Types of Advertising
 Product advertising: - this is a form of advertisement meant to promote a
given product or a particular brand of product
 Institutional advertising: - this is a form of advertisement meant to im-
prove the image of the institution or organization and not a particular
product. It is meant to create confidence in the customers about the insti-
tution
 Primary demand advertising: - a form of advertisement meant to a new
product that has been introduced in the market for the first time. It is
mainly to create awareness of the existence of that particular product
 Celebrity advertising: - a form of advertisement where a famous/popular
person is used to promote a particular product. It is meant to convince
those who identify themselves with that personality to buy the product
 Informative advertising: - a form of advertisement meant to give the cus-
tomer more information about the product to enable them make an in-
formed decision
 Competitive/persuasive advertising: - a form of advertisement carried
out with organizations producing similar product to persuade the cus-
tomers to buy their products ahead of their competitors
 Corrective advertising: - a form of advertising meant to correct a mis-
leading information that may have been given out about the product
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 Reminder advertising: - a form of advertising meant to remind the cus-

tomers that the product still exists in the market and is still capable of
satisfying their needs.
Advantages/Importance of advertising to the business
i. It maintain the sales of an already existing product
ii. It create awareness in the customers about a new product in the market
iii. It informs the customers about the changes that may have been made in
the product
iv. It helps in building image or reputation of the selling organization
v. It may increase the volume of the existing sales of a product
vi. It reaches peoples who may have not been reached by the sales person
vii. It complements the effort of the sales person to enable them achieve
their sales objectives
viii. It clears the customers misconception and prejudice about the product
ix. It opens up new markets for the products.
Disadvantages of advertising to the business
 It may be costly to the business in terms of money and other resources
 It leads to increase in cost of production if at all it has to be done fre-
quently
 The cost of the advertisement will always reduce the profit margin of the
business
 Poorly planned advertisement may negatively affect the business
 Misleading advertisement may reduce the level of business operation
Advantages of advertising to the customer
 They educate them on the usage of the product
 They inform them on the products availability
 They guide them on where to get the product
 The outlines all the features about the product including prices to the
customer
 Competitive advertisement may lead to improved quality of goods to
benefit the customer
 Information on different prices through competitive advertisement
makes the customer to benefit from the reduced prices
Disadvantages of advertising to the consumer
 The advertisement may not disclose the side effect of the product
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 The advertising cost may be passed to the consumers through increased

price
 Some advertisement may persuade customers to buy what they do not
require leading to impulse buying
 Some customers may buy substandard goods due to misleading adver-
tisement
Advertising media
These are channels or agents through which an advertisement message is con-
veyed to the target group. They includes both the print and electronic media
which includes; newspapers, journals, magazines, posters, bill-boards,
brochures’, radio, television, neon signs, etc
a) Newspaper
These are daily or regularly publications which contains advertisement. They
includes, Daily nation, Standard, Taifa Leo, citizen, star, etc
Advantages of newspaper
 The can reach areas that other means may not reach
 Many people can afford them as they are relatively cheap
 They cover a wider geographical area, leading to a wider market
 The message on the news paper can last for a longer period of time,
making it to reach more customers
 The advertisement appearing in the newspaper is readily acceptable by
the reader
 Colored print makes the advertisement to be more attractive to the reader
who in turn gets the information
Disadvantages of the newspaper
 Many of them are written in English or Kiswahili, making them to only
target those who can read and understand the language
 It discriminate against the illiterate group who cannot read the informa-
tion
 They have short lifespan as they may be read only on the day it is circu-
lated
 It cannot be used to focus on a specific target as they are read by almost
everybody
 Some of the prospective customers are always in a hurry to read the
newspaper and may not pay attention to the advertisement
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b) Magazines and Journals

These are periodic publications meant to target a particular class or group of
people. They may be published monthly, quarterly, annually, etc. The infor-
mation reaches the targeted group as they read them
Advantages of magazines and Journals
 The specific information for the targeted people can be published
 They can be read and re-read before the next publication may the infor-
mation to last longer and plead with the prospective customer
 Their publication is of high quality and colourful, making them to draw
the attention of their targeted group easier and passing the information to
them
 The quality material they are made of makes them to last longer and can
be accessed even by those who may have not been around during their
publication
Disadvantages of magazines and journals
 If the time gap between the publication time and circulation time is
wide, the advertisement may fail
 They are a bit expensive which makes some of the potential customers
not to afford them
 The cost of advertising on them may be expensive for the organization
 Their circulations may be limited to a small geographical region
 The publications may not be available in the vernacular language to
reach those who are not able to read either English or Kiswahili
c) Posters and Billboards
A form of advertising that may contain the information about the product ei-
ther in words, pictures or both for the customer to see and read.
Advantages of posters and billboards
 They are able to convey the information to the large audience, as they
are placed in strategic position
 Posters are cheap and easy to prepare
 The use of different colors makes them to be more attractive and appeal-
ing to more audience
 It can be used by both literate and illiterate group
 The message may last for a longer period of time
 Billboards are conspicuous and hence attractive to the audience
 200

Disadvantages of posters and billboards

 May be affected by adverse weather condition, especially rain
 If not placed strategically, it may not reach the targeted group
 Incase destroyed by the passersby, the information may not meet the tar-
geted group
 Bill boards are expensive to make and maintain
d) Transit/transport advertising
A form of advertisement whereby vehicles such as trailers, matatus, buses, etc
are used to carry and convey the advertisement message
Advantages of transit advertisement
 The message reaches most of the people in the environment
 They message last long as the paints always last on the vehicle
 Transit vehicles may carry the message a long way to their final destina-
tion
 It is captivating to the members of the public especially the promotion
convoy, hence can easily reach the target
Disadvantages of transit advertisement
 During the rush hour, the crowd may hinder some from getting the infor-
mation
 It mainly relay the information to those served by the vehicles
 The noise produced by the promotion convoy may be a nuisance to some
members of the public
e) Brochures
These are small pamphlets carrying message and pictures about product being
advertised.
Advantages of Brochures
 They are easy to carry around as they are small in size
 They are effective in meeting the targeted group
 Their cost of production is not very high
 They can be distributed at different places to meet the targeted group
 Can be made attractive by the use of different colours
 They have a long life and therefore can be used repeatedly
 They can be used to direct others on where to get the product
Disadvantages of Brochures
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 The information may not reach the illiterate group

 They may be ignored by the intended users
 They may require frequent updating if many changes are made on the
product making it expensive
f) Radio
This is a channel that allows for the advertised messages to be conveyed
through sound to the listeners, with some background music accompanying
the message
Advantages of Radio
 Different languages may be used to reach different people
 It is accessible even to the remote areas that is not covered by other me-
dia
 One can choose the time to advertise to reach the targeted group
 Able to serve many people at the same time
 It can be used for both literate and illiterate members of the group
 The advertisement can be repeated over and over again according to the
advertisers needs
 The music accompaniment may attract many people to listen to the in-
formation
 Can reach even the blind as they are able to hear
 The message can be conveyed in different languages
Disadvantages of Radio
 Their advertisement does not have any reference
 It may be more expensive than the print media
 Poor timing may make the message no to reach the targeted group
 It may interrupt some programmes to the annoyance of the listener
 It short and brief advertisement may be missed by the listeners
 It is difficult for the listener to visualize the product
g) Television (T.V) and Cinema
Television is a form of media advertisement where the written words are com-
bined with motion pictures and sound to pass the information
Cinema is where the advertised messaged is conveyed during film shows in
the cinema halls. It may be before or after the movie.
Advantages of Television (T.V) and Cinema
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 It appeals to most people as it is entertaining

 It makes it possible for the demonstration of the use of the product
 It is able to reach both the literate and illiterate viewers
 The advertisement can be aired over and over again to meet the targeted
group
 The advertisement may be modified when need arise
 It has wide appeal to many people
 The message can be conveyed in different languages
Disadvantages of Television (T.V) and Cinema
 The cost of advertising through this media is high
 The television sets are expensive to acquire, hence many people may not
have them
 Their uses are limited to places with electricity
 The advertisement may not last longer
 The time for airing the information may not suit the targeted audience
h) Neon Signs
This is a form of advertisement where the message is passed to the public
through the use of electrical signals transmitted through neon lights. They are
usually common in the banks, airlines, jewel shops, etc
Advantages of Neon Signs
 The use of different colours makes them very attractive and catch atten-
tion of different people
 They can be put strategically making them to be visible to many people
 Can be used both at night and day
 They direct the customer on where the goods are to be found
Disadvantages of Neon Signs
 Can only be used where there is electricity
 They are expensive to buy and maintain
 The message may not easily reach the illiterate
Advertising Agencies
These are businesses that specialize in advertising work and are hired to carry
out the functions for other businesses. They are paid a commission for this
Functions of Advertising Agencies
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iii. They help the organizations in designing their trademarks, logos and
advertising materials
iv. They book space and airtime for their clients in various media
v. They offer advisory services to their client on selling techniques
vi. They advertise on behalf of their clients
vii. They choose on behalf of their clients the appropriate media to be
used
iii. Publicity
This is the mentioning of the product or the organization in the mass media to
make it be known to many people. There two types of publicity, that is free
publicity (where the payment is not required) and Special featured publicity
(where there is payment, for example sponsoring an event in the public)
Advantages of Publicity
 It saves the organization money incase of free publicity
 It is likely to cover a wider region as the publicity is in the media
 The organization may earn credibility due to positive publicity
 The information may be received positively by the customers as the
message is likely to be more objective
 It may improve the competitiveness of the firm
Disadvantages of Publicity
 Unfavourable information about the organization may reach the public
especially in free publicity
 It is irregular and short lived
 Might require special occasion or event in order to attract the mass me-
dia
 The firm does not have control on how the information will appear in the
media and the extend of the coverage
iv. Public relations
A process of passing information with an intention of creating, promoting, or
maintaining good will and a favourable image of the organization in the pub-
lic. It involves informing the public about the firm’s achievement and how it
is contributing to the community welfare and development, to get more ap-
proval of the public
Advantages of public relations
 May be used to correct the dented image of the firm
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 It informs the public about the activities of the firm

 Assist in upholding the good image of the firm
 It improves the relationship between the firm and its customers
Disadvantages of public relations
 It is costly in terms of time and finance involved
 The customer may make premature buying arising from the picture cre-
ated by the firm
 Effects may take long before they are actually realized
 It may be difficult to evaluate the impact of the message, since the cus-
tomers are not obliged to respond to it
v. Point of purchase (Window) display
This is where the items are arranged in the shops strategically, allowing the
customers to see them easily. The arrangement is meant to attract the cus-
tomer’s attention and induce them to buy goods as they pass close to the shop
Advantages of Point of purchase display
 May induce the customer to buy the product due to their arrangement
 As the customers get in to the shop, they are likely to buy including the
other goods that were not being displayed
 The customers are able to determine the features of the product with
ease
 It is relatively a cheaper method of promotion
Disadvantages of point of purchase
 The method only work well with the potential customers who are near
the shop and not far away
 They may also attract thieves especially if the product displayed is of
high value
 In case the arrangement does not appeal so much to the customers, they
may not get into the shop
 It may be expensive setting up the display area
vi. Direct mail Advertisement
A form of advertisement which is sent to the potential customers directly in
the form of a mail, for example the pricelist being sent to the potential cus-
tomers
Advantages of direct mail advertisement
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 It is able to reach the targeted group as they are sent to the potential cus-
tomer directly
 The message may be made to suit the requirement of the specific cus-
tomer to be
 There may be an immediate respond on the message
 The potential customers incurs no cost to acquire the information
Disadvantages of direct mail advertisement
 Some mails may not get to the intended customers in time
 The prospective customer may ignore the advertisement
 May not be effective where the customer needs to examine the product
 This method may be expensive especially in terms of material and
money
 It may only appeal to the literate group only
vii. Catalogue
A booklet that gives information about the product that the organization deals
in. It gives the description about the product, the picture as well as the prices
of the product.
Advantages of catalogue
 It may be used to advertise all the products in the organization
 The owner/organization has the total control over the catalogue
 It gives detailed information about the product
 Its colourful nature makes it an attractive promotion tool
Disadvantages of catalogue
 It is expensive to produce increasing the cost of production
 Change in price may affect the whole catalogue
viii. Guarantee (warranty issue)
An assurance given to the customer that the product will serve as expected if
used according to the instructions given by the manufacturer. For the guaran-
teed period the seller will be willing to maintain repair or replace the product
for the customer
Advantages Guarantee
 The confidence built in the customer by the guarantee to the customers
makes them to buy more products.
 It may create the customers loyalty to the product of the firm
 The fact that the product can be replaced if it gets spoilt within the pe-
riod is an advantage to the customer
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Disadvantages of guarantee
 Repairing or replacing the product may be very costly to the organiza-
tion
 The method may only be suitable for the durable goods
 The customer may be tempted to mishandle the good during this period
ix. Discount
This is a reduction in price of the commodity, allowing the buyer to pay less
than what he would have paid the goods.
Types of discount
 Quantity discount: - Allowed by trader to encourage him/her to buy
more quantity of the product being offer
 Trade discount: - Allowed to another trader who is buying products for
resale to the consumers
 Cash discount: - Allowed to the customer to enable him pay promptly
for the goods bought
x. Loss leader: - Selling the price below the market price to entice the cus-
tomer to buy
xi. Psychological selling: - Playing with the customers psychology in terms
of pricing by quoting odd prices such as 999, 199, 99, etc to convince
the customer that the price has been reduced
xii. Credit facilities: - where the customer is allowed to take a product for his
consumption and pay for it later. This entices the customer to buy more
of the product
xiii. After sales service: - these are services offered to the buyer after the
goods have been bought. They may be in terms of packaging, transporta-
tion or installation which may be offered to the customers free of charge.
This makes the customer to buy more goods with confidence
Sales promotion
These are activities carried out to increase the sales volume of a business.
They are activities out of the ordinary routine of business that is carried out by
the seller to increase his sales volume.
The methods of carrying out sales promotion includes all the methods of car-
rying out product promotion as discussed earlier, that is, shows and trade fair,
showrooms, free gifts, free sample, personal selling, advertisement, window
display, credit facilities, after sales services, etc
Factors to consider when choosing a promotion method
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i. The cost of the promotion that is whether the company can afford it or
not, for some promotion methods are very expensive that may not be
easily affordable to the company.
ii. The nature of the product being promoted especially whether it requires
demonstration or not. Products which requires demonstration are best
promoted through personal selling
iii.The targeted group for the advertisement, on whether they can be
reached by that method or not. The promotion method must reach the
targeted group, if it has to be effective
iv.The objective that the firm would like to achieve with the promotion,
and whether the method is helping them to achieve that particular objec-
tive
v. The method used by the competitor in the market to enable them choose
a method that will enable them compete favourably
vi.The requirement of the law concerning product promotion, to enable
them not use what the law does not allow
Ethical issues in product promotion
These are rules and regulations to be followed when carrying out promotion to
avoid violating other people or businesses right. They include;
 Cheating on performance of the product to attract more customers by
given them wrong and enticing information about what the product can
do.
 Cheating on the ingredients of the product by telling them that the prod-
uct contains a suitable type of ingredient which does not exist just to lure
them to buy the product
 Not telling them the side effects of the product which may affect them
should they continuously use the product due to fear of losing customer
 False pricing, especially a case where they overprice their and later on
reduce them slightly just to lure the customer, yet exploit them
 Not caring about the negative effect of the product on the environment,
which may includes littering of the environment by the posters used for
advertisement
 Social cultural conflict, especially putting up some forms of advertise-
ment which are considered a taboo buy the community leaving around,
such as hanging a billboard of a female advertising inner wears next to a
church
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Trends in product promotion

The following are some changes that have taken place to improve the product
promotion activities
 Use of website/internet to advertise product worldwide, which has in-
creased the coverage
 Encouraging gender sensitivity and awareness in product promotion to
bring about gender balance
 Use of electronic billboards in advertisement to increase their visibility
even at night
 Intensifying personal selling by the business to reach more customers
 Development of promotion convoys to move from one place to the other
with music and dancers to attract more prospective customers
 Catering for the rights of the youths when carrying out product promo-
tion and even involving them in carrying out the promotion
 Catering for the interest of those with special needs when carrying out
advertisement
 Advertisement through mobile phones by sending them s.m.s about the
product

BUSINESS STUDIES FORM THREE NOTES

THEORY OF THE FIRM

Defination:
(i) A firm; This is a single unit of business organization that brings to-
gether the factors of production to produce any given commodity.
-A firm may also be defined as a business enterprise under one management
and control.
Example; Mumias sugar factory, Bata Shoe Company e.t.c
-Firms may be sole proprietorship, partnerships or companies. They may
therefore be small e.g. an artisan or mechanic working in her/his garage or
large like a multinational limited company producing many different products
e.g. coca-cola company.
-A firm even though under one management and control may have several
branches/plants.
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(ii) An industry; This refers to all those firms producing the same
product for a specific market/a group of related firms that compete with one
another i.e.
a) Firms that produce the same product e.g. the firms operating as
sugar manufactures as Mumias Sugar Company, Sony Sugar Company and
Miwani Sugar Company.
b) Firms that extract the same raw materials e.g. the salt mining firms,
Magadi Soda Company and other firms which mine salt at the North coast
Region near Malindi.
c) Firms that provide similar services e.g. the transport industry such
as Akamba Bus service, coast Bus Company and Easy Coach Company.
NOTE: In the definition of the firm, we assume that a firm in a unit that
makes decision with respect to the production and sale of goods and services
in the regard, we assume that
-All firms are profit-maximisers i.e. they seek to make as much profit as pos-
sible.
-Each firm can be regarded as a single consistent decision making unit.
The life of all business enterprises/firms are therefore characterized by several
decision-making processes which are all aimed at facilitating realization of the
objectives(profit maximization) such decisions may include; what to produce
and how much, where and when to produce, how much to invest and how
much to price goods/services e.t.c
DECISION ON WHAT GOODS AND SERVICES TO PRODUCE
A firm makes a number of important production decisions. Some of the deci-
sion may involve;
i. What to produce
ii. How production is to take place e.g. what raw materials
and machinery should be utilized
iii. Where a production plant should be located
iv. When to produce
v. The scale of production e.g. how big should the factory

vi. When and where to invest

vii. How the production can be improved and controlled
viii. What type of business activity to engage in
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NOTE: One production decision may lead to a series of decisions requiring to

be made e.g.
-for a firm to decide on what goods and services to produce, market research
to evaluate the likely success of the product is necessary.
-after establishing the viability of the product in the market, other activities
like product design are carried out (the firm may consider redesigning existing
products, introducing a product similar to the one in the market or developing
a completely new product.
-production may then follow
Factors that influence decisions on what goods and services to produce
Certain factors have to be considered before committing a firm into produc-
tion of either a new product, adopting or redesigning the existing product.
These factors include;
i. Whether the firm is product-oriented or market-oriented
Product oriented firms: This is when the nature of the product itself (its
functions and unique qualities) are enough to make sure that the product sells
e.g. when cars were first developed, its uniqueness sold it
Market oriented firms; These are firms that produce products that are meant
to meet the consumer needs e.g. over time cars are being developed to suit
consumer needs.
ii. Level of competition
In order to survive in a competitive market, firms must come up with products
that consumers prefer.
Firms may therefore develop products which are not currently available or
copy rivals ideas and improve on them
iii. Level of available technology
The level of technology has a strong influence on the product that a firm pro-
duces
New inventions and innovations often result in new products or improved
products
-Improved technology may also reduce the costs of production. This means
the same output maybe produced using less factors of production or more out-
put may be produced using the same factors of production.

iv. Management role

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Senior management have the sole responsibility of deciding on what product

to produce. A wrong decision may ruin rather than bailed the enterprise. The
manager’s ability to design a viable product is therefore a vital factor in prod-
uct development
v. Financial viability
In order to determine whether a product will be viable or not, the cost of pro-
duction and the expected returns should be considered. Funds may only be ap-
proved for the product that promises long term benefits to the firm. So if the
benefits of the product outweigh the costs, then such product will be devel-
oped and if not so, it will be dropped.
vi. Amount and type of capital in the firm
Capital refers to machines, equipment, factories, plants and other human made
aids to production.
Both financial and physical capital facilitates the production process. The
amount of capital in a business will therefore influence what goods it can pro-
duce and in what qualities i.e. a firm with physical capital that is very specific
may not be able to produce other type of products e.g. a clothing factory may
not be able to produce any other goods such as cement.
Other factors may include;
-Need of the consumers
-Need for better quality or more fashionable product
-Need for an easier to market product
-Unmet needs
-Need for a product for which factors of production and technology are easily
available

COST OF PRODUCTION
Def: Cost: This is a payment made to the factors of production for their ser-
vices.
Production costs thus refers to the expenses incurred in acquiring factors of
production (inputs) The sum total of all payments to the factors of production
engaged in its production.
Types of production costs:
I. Opportunity costs; These are values of any alternatives forgone.
The cost forgone when the choice of one thing requires the next best alterna-
tive to be abandoned
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Example: A student with only sh.50 may have to decide on whether to buy a
text book or a pair of shoes. If she decides to buy a text book, the pair of shoes
will have to be forgone because it’s not possible to buy both with only sh.500.
The opportunity cost of buying a text book in this case is the cost of the pair
of shoes which was abandoned.
II. Fixed and variable costs
Costs may be classified according to their behavior in relation to various lev-
els of output as follows:
a) Fixed costs
b) Variable costs
c) Semi-variable costs
a) Fixed costs
These are expenses which do not change with changes in levels of output/
quantity of output. These costs therefore remain the same whether the firm is
producing anything or not i.e. whether production is maximum or zero.
Examples:
a) Rent for premises/buildings
b) Depreciation charge on physical facilities
c) Salary of administrative staff
d) Interest paid on loans (borrowed capital)
e) Liance fees e.t.c
Output (units FC (sh)
100 200
200 200
300 200
400 200
500 200
This may be represented graphically as:
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b) Variable costs
These are costs that vary proportionately with changes in levels of output.
This means that when output decreases the variable costs decrease in the same
proportion and when output increases, they also increase in the same propor-
tion. If nothing is produced VC=0
Examples;
a) Payments on raw materials
b) Wages paid to casual labour
c) Water, transport and electricity bills
Output (units) variable cost (shs)
0 0
100 200
200 400
300 600
400 800
500 1000
This can be represented graphically as;
c) Semi-variable costs
These are costs that vary in relation to changes in output but not proportion-
ately e.g. if output doubles, the semi-variable costs might increase by half.
Those production costs that do not fit in either fixed or variable costs are
semi-variable costs.
Example
(i) Labour (permanent employees); No matter what level of output,
their salary is fixed. However if one is asked to work extra time and on
weekends to cope with extra production levels, then the extra cost is vari-
able. Thus because labour is not totally fixed nor totally variable, it be-
comes semi-variable.
(ii) Cost of telephone charges. This is because there is often a fixed
or standing charge plus an extra rate which varies according to the num-
ber of calls made.
-Thus semi-variable (semi-fixed) costs have both fixed and variable com-
ponent.
Output (units) cost (sh)
0 4
1 10
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2 18
3 24
4 27
5 32
(iii) Total costs
Total cost is the sum of all costs incurred in the production at a given level of
output i.e. the sum of fixed and variable costs
Total cost=Fixed costs+ variable costs.
-As output increases total costs will also increase.
Illustration
NOTE: It has been assumed that semi-variable costs are part of fixed and
variable costs.
(iv) Direct and indirect costs
Costs can be classified according to the way they affect the product. They can
either be direct or indirect costs.
a) Direct costs
These are costs that can be physically traced to the final product/process.
Examples
i) Raw materials i.e. all the materials that can be physically traced to the
final product
ii) Direct labour i.e. wages for those factory employees directly en-
gaged in the manufacture of the product e.g. wages for machine oper-
ators,packers,mixers,assemblers e.t.c
iii) Packing materials used.
iv) Direct expenses i.e. expenses which are directly allocated to a particu-
lar unit of goods being made.e.g maintenance costs of machines and
equipment, designs and drawings, hire for special tools or equipment
for a particular production.
-These costs are also known as prime costs. They are usually variable
costs.
Indirect costs (factory overheads)
These are costs which cannot be traced or directly identified in the final prod-
uct i.e. they cannot be attributed to any specific output.
They also include the costs that appear in such small quantities that their ef-
fects are negligible.
Examples:
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i) Payment for stationary and other items such as lubricating

oil, small tools, telephone use, cleaning and transport for employees.
ii) Wages and salaries for managers, supervisers, store keepers,
clerks and watchmen.
iii) Payment for rent, land lease, insurance, advertising, ware-
housing and audit fees.
iv)Payment for the power used in the production process
Indirect costs are also known as overheads. They are usually
fixed costs.
Average costs
-Average costs refer to costs per unit output
-It is determined by dividing the total of a particular cost by the total output at
each level of output.(They are also known as unit costs)
Types of Average costs
i) Average fixed costs
ii) Average variable costs
iii) Average total costs
a) Average fixed costs; (AFC)
Average fixed cost (AFC) is the total fixed cost at each level of output divided
by the total output at that level.
AFC=Total fixed costs
Total units produced
Output (units) Fixed costs (sh) Average fixed costs
(AFC)
200 200
100 200 2
200 200 1
300 200 0.66
400 200
500 200

b) Average variable costs (AVC)

AVC refers to total variable costs at each level divided by the total units of
output produced at that level.
Average variable costs (AVC)=Total variable costs
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Total units produced

Output (units) Variable costs (sh) AVC
100 200 2
200 400 2
300 600 2
400 800 2
500 1000 2

c) Average Total Costs (ATC/AC)

Average total cost (ATC) is divided by;
i) Dividing the sum of fixed and variable costs (total costs) by the total
units produced.i.e
ATC=fixed costs variable costs
Total units produced
ii) Adding average fixed costs (AFC) and average variable cost (AVC)
i.e
ATC/AC=AFC+AVC Thus
Output (units) Total cost ATC
100 400 4
200 600 3
300 800
400 1000 2.5
500 1200 2.4

OR
Output (units) Average fixed Average v costs ATC=AFC+AVC
costs (AFC) (sh)
100 2 2 4
200 1 2 3
300 0.66 2 2.66
400 0.5 2 2.5
500 0.4 2 2.4

(V) MARGINAL COSTS MC

The marginal cost is the change in total cost (ATC) which results from a unit
change in output
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Marginal cost is the cost of producing one extra unit of output

E.g. when total costs increase from sh.300 to sh.350 when an additional unit is
produced, then MC=sh.50

LOCATION OF THE FIRM

Location; is the site or place from which the business operations/firm would
be established.
The management has to make appropriate decisions concerning the location of
the firm since a good location would lead to success while a bad location
would lead to failure of the business enterprise.
Factors determining the location of the firm
a. Raw materials
The availability of raw materials is one of the factors that determine the lo-
cation of firms. Firms should be located near the source of raw materials
when:
(i) The raw materials are heavy and bulky so that costs of transporting
them to far distances would be too high.
(ii) The raw materials are perishable
Advantages of locating firm near source of raw materials:
-Transport cost of raw materials is minimized
-production process can run uninterrupted because of constant supply of raw
materials thus continuous production
-storage cost of the raw material will be minimized
-It is easier for the firm to select the quality of raw materials required.
-Easier to get fresh raw materials/undamaged raw materials
b. Labour (Human Resources)
This is divided into 3 categories; semi-skilled and unskilled labour
-Labour intensive firms must be located in areas where there is both abundant
labour force and appropriate labour force.
-Firms requiring labour of any kind maybe located in the urban centres be-
cause in such areas labour is in plentiful supply
-Agricultural processing firms are found in the rural areas
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-Location of the firms near the source of labour reduces the cost of transport-
ing labour force to factories and also reduces time wasting in transporting
labour from far.
c. Market
A firm may be located near the market for its products to cut down on produc-
tion costs .i.e to avoid the costs involved in transportation of the finished
products.
Reasons locating near markets
-where the finished product is more bulky or more difficult than the raw mate-
rials, then the industry would be located near the market e.g. blocks and bricks
used in building will be manufactured near the place where they are required
than the source of raw materials because the finished product is more delicate
to transport and is susceptible to damage.
-it reduces the cost of transporting the products to the market.
-To minimize the damage of the final product
-where the finished product is perishable or fragile, the industry should be lo-
cated near the market to avoid breackages or spoilage. Examples are com-
modities like milk or bread which usually go bad very quickly and therefore
need to be consumed immediately they are produced.
d. Transport and Communication
Efficient transport is the lifeline of modern businesses. Firms will choose
those locations that have well-developed transport facilities such as roads,
railway lines, seaports and airports because;
i) They require constant supplies of raw materials
ii) They need to distribute/send out finished products to different desti-
nations
iii) They need to be in contact with other business associates like suppli-
ers, customers and competitors.
Poorly developed transport facilities may lead to:
-High transportation costs especially where raw materials or the finished prod-
ucts are bulky
-Delays in receiving the raw materials and distributing the finished products
-Where communication network is poor, business people will not be able to
give or get information in time.
e. Power and Water Supply
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Fuel and power are required to run machines and ensures smooth operations
for the business.
Water is required for cleaning, cooling and even as a raw material. They are
therefore strong factors in determining the location of a firm i.e. firms that re-
quire a lot of power and water need to be located where there is adequate sup-
ply of these factors.
f. Government policy
The government may formulate policies that may have implications on the lo-
cation of the firms, especially with regard to physical planning. Such planning
may be aimed at checking rural-urban migration, environmental degradation
or for strategic concerns.
The government may therefore encourage the development of firms in some
areas by offering concessions to industrialists such as:
a) Offering free or cheap land
b) Reduction of taxes
c) Offering subsidies
d) Offering direct financial assistance
e) Improvement of infrastructure
Other factors:
Proximity to source of credit: Some firms that need credit to finance their
operations from time to time might require locating near a reliable source for
such funds
Availability of security services: This is an important consideration when de-
ciding where a firm will be located as this has implications in almost all fac-
tors of production. Firms will tend to avoid locations that do not have ade-
quate security.
Social amenities: Some firms take into account various activities and institu-
tions that will benefit their employees. Such will include hospitals, schools,
social halls or studios.
Availability for ample room for expansion: Businesses will tend to prefer
locations that can provide ample room for expansion in future. This will elimi-
nate the need for relocation when the firm experiences expansion
Climate: This is an important factor for agro-based businesses (such as flori-
culture, horticulture, dairy farming e.t.c) which have to seek locations with
suitable climatic conditions
LOCALISATION AND DELOCALIZATION OF FIRMS
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LOCALISATION OF FIRMS
Localisation of firms means the concentration of similar firms in one par-
ticular area/region.
Subsidiary industries usually develop around the main industries, either to use
the by-products of the main industries or to supply them with component
parts.
The factors which encourage localization of firms include:
i) A well developed infrastructure in an area which attracts firms into
that area
ii) Availability of large population which may provide both labour and
market
iii) Interdependence among various firms in areas such as training of per-
sonnel
iv) Government policy requiring firms to be located in a certain area
v) Availability of raw materials in a certain area
vi) Availability of ancillary services such as banking, insurance and
warehousing
Advantages of localization
Service industries/Ancillary services: It encourages the establishment of
support business enterprises e.g. if many firms are located in one region, insti-
tutions such as banks, insurance companies and distributors are likely to set up
businesses in the area to offer services required
Creation of pool of labour:When industries are concentrated in one area,
people tend to migrate to that region in search of employment thus encourag-
ing creation of a pool of labour force. This enables firms to meet their labour
force requirements.
Creation of subsidiary industries:Localised firms are likely to attract others
which use the finished products of the established firms as raw materials or
selling raw materials to the existing firms.
Disposal of waste: Localised firms are able to easily dispose off their waste
by either selling them to other firms for recycling or by jointly undertaking
waste disposal projects.
Creation of employment: It encourages creation of employment opportuni-
ties in the region (it creates interests in the type of labour required thereby
leading to creation of employment opportunities.
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Development of infrastructure: Concentration of firms in one area encour-

ages development of the necessary infrastructure such as water systems, roads,
communication network, health and education facilities in the region
Economies of scale: Firms can combine to employ benefits of large-scale
production for the benefits of consumers.
Reduction in costs: Firms that depend on each other for inputs or disposal of
outputs are able to save on transport costs when they are located near each
other.
Disadvantages of localization
Adverse environmental problems: Concentration of firms in one region may
have a negative impact on environment in that region e.g. emissions from fac-
tories may cause both air and water pollution; there may also be noise pollu-
tion and poor disposal of refuse.
Unbalanced regional development: Localisation of firms may lead to re-
gional imbalance in development. For instance, areas of industrial concentra-
tion tend to enjoy provision of social amenities in terms of roads, schools,
hospitals and other facilities while other regions suffer. This may cause dissat-
isfaction among the citizens and disturb national cohesion and unity.
Rural-urban migration:Localisation of industries contributes to rural-urban
migration. People migrate from rural to urban regions in search of employ-
ment and better living conditions. Such movements may cause;
i) Open unemployment in towns while in rural areas they may cause
labour deficiency
ii) Increased population in the areas of industrial concentration sparking
a series of problems such as congestion, increased rate of crime, poor
living conditions, spread of diseases e.g. HIV and housing problems.
Possible massive unemployment: A fall in demand of products produced by
localized firms would result into a widespread unemployment in the affected
area.
Strategic reasons: The concentration of firms in one area is risky for a coun-
try especially in times of war or terrorism activities as such are easy targets for
attack. This may destroy the country’s industrial base/capability which may
take many years to rebuild.
Dependence: Localisation of firms in one area creates an over-dependence on
the products of a single industry. In case of a calamity, the supply of the prod-
uct from the firms may be disrupted, resulting in serious shortages.
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Delocalization of firms
Delocalization refers to establishment of firms in different parts of the country
as opposed to localization where firms are concentrated in one area.
Delocalization is usually a deliberate government policy of encouraging estab-
lishment of firms in various parts of the country, and is applicable under the
following circumstances:
-where there is need to curb migration to certain towns
-Due to need to reduce the rate of urban unemployment
-In order to achieve balanced economic development
-As a measure of reducing pollution and social evils in certain urban areas
Advantages of delocalization
Employment creation in many parts of the country: it provides employ-
ment opportunities to people living in rural areas thereby improving the peo-
ples living standards and reducing rural-urban migration.
Balanced economic development/balanced regional development: eco-
nomic development is initiated for many, if not all parts of the country. This
promotes national cohesion and unity; and also reduces rural-urban migration.
Market for raw materials: delocalisation creates market for locally produced
raw materials thereby creating employment and earning producers income.
Urbanization: This accelerates the rate of urbanizing in many parts of the
country, especially to the rural areas.
Service delivery to rural areas/Development of social amenities: It encour-
ages the growth of both social amenities such as hospitals, schools and secu-
rity firms and infrastructure.
Reduces the effects caused by occurrence of war, terrorism attacks or earth-
quakes.
Disadvantages
a) Difficulty of attracting requisite personnel; This is mainly in the re-
mote or rural areas where the delocalisation may be done. These areas do not
usually have the comfort of social amenities of the urban areas, hence are less
appealing to highly qualified personnel.
b) Difficulty of accessing certain assential services; These are services
that may not be in the rural areas where delocalisation is done e.g. banks, in-
surance co’s e.t.c
c) Spread of pollution, congestion and social evils; These vices spread to
various parts of the country.
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d) Tax burden; The incentives which are provided by the government to

promote smooth relocation are expensive and are an extra burden to the tax
payer.
e) Security; This maybe a problem in some areas.
f) Substandard goods; Continued protection from foreign competition by
the government may make the firm to continue producing substandard prod-
ucts.
ECONOMIES OF SCALE
Economies of scale are the benefits the firm or industry derives from expand-
ing its scale of production/the advantages of operating on large scale.
There are two types of economies of scale;
i) Internal economies of scale
ii) External economies of scale
i) Internal economies of scale
These are advantages that accrue to a single firm as its production increases,
independent of what happens in the other firms in the industry.
Internal economies of scale result from an increase in the level of output and
cannot be realized unless output increases.
The internal economies of scale may be achieved by a single plant of the firm
or they may arise from an increase in the number of plants.
The internal economies of scale include:
i) Marketing economies (Buying and selling economies)
These are the benefits which a firm derives from large purchases of inputs or
factors of production due to the discounts offered in the process e.g. trade and
quantity discounts
The firms may also incur less cost per unit in transportation of the goods
bought
Selling economies of scale arise from the distribution and sale of the finished
product as the scale of production increases, i.e. it is likely to incur less cost
per unit in areas such as advertising, distribution e.t.c
ii) Financial economies; As a firm grows, its assets also increase. These
assets can be used as security to borrow money/loan from financial institu-
tions at low interest rates.
Large firms can also raise more funds through selling and buying of shares
and debentures.
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iii) Risk bearing economies; Large firms can reduce risks involved in
the market failure through diversification of products or markets.
Diversification of markets or products can be done so that:
a) Failure of one product is offset by the success of other products
b) A failure of a product in one part of the market may be offset by the suc-
cess of the same product in another part of the market
-Large scale firms are also able to obtain supplies from alternative sources so
that failure in one does not significantly affect the activities of the firm.
iv) Managerial economies/staff economies
Large firms are able to hire/employ specialized staff and management. This
increases the firms efficiency and productivity i.e.
a) The staff is able to make viable decisions that can go along way in in-
creasing the firms output.
b) The firm/management is also able to put in place better organizational
structures which allow for departmentalization and subsequent division
of labour.Division of labour leads to specialization and hence the overall
increase in the firms output.
-the costs of hiring/employing the specialized staff/management are spread
over a large number of units of output of variable cost of production.Thus,the
cost of labour is minimized when production increases leading to increased
profits.
v) Technical economies:
These are benefits that accrue to a firm from the use of specialized labour and
machinery. Large firms have access to large capital which they utilize to ob-
tain those machines and hire the specialized labour.The machines use the lat-
est technology and are put to full use, making the firm production more effi-
cient i.e. cost of the machines and labour are spread over many units of output
hence less costly but giving higher profits.
vi) Research economies:
Large firms can afford to carry out research into better methods of production
and marketing.(Research is necessary because of the increased competition in
the business world today) This improves the quality of the products and in-
creases the sales and profits made by the firm.
vii) Staff welfare economies:
Large firms can easily provide social amenities to their employees including
recreations, housing, education, canteens and wide range of allowances. These
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amenities work as incentives to boost the morale of the employees to work

harder and increase the quality and quantity of output. This leads to higher
sales and profits.
viii) Inventory economies
A large sized firm can establish warehouses to stock raw materials and there-
fore enjoy large stocks of raw materials for use when the raw materials are in
short supply.Thus, the firm can avoid production stoppages that can be occa-
sioned by shortages of the raw materials. The suppliers of such material may
be sold at a higher price to realize profit.
External economies of scale:
External economies of scale are those benefits which accrue to a firm as a re-
sult of growth of the whole industry. They are realized by a firm due to its lo-
cation near other firms. They include;
a) Easier access to labour: Where many firms are located in one area a
pool of labour of various skills is usually available. Therefore firms relo-
cating to the area find it easy to obtain.
b) Improved/efficient infrastructure: Usually where many firms are lo-
cated, infrastructure would be highly developed e.g. roads, power, water
and communication facilities. Firms relocating in that area thus enjoy the
services of infrastructure already in place.
c) Firms may be able to dispose off their waste product easily
d) Ready market may be available from the surrounding firms
e) Readily available services such as banking, insurance and medical care
f) Adequate supply of power due to large volume of consumption e.t.c
Diseconomies of scale
A firm cannot continue to expand indefinitely or without a limit.As a firm
grows or industry expands, the benefits the firm can reap or get from such
growth or expansion have a limit.
Any further expansion in the scale of production beyond the limit will actually
create negative which would increase the cost of production.
The negative effects to a firm due to its size or scale of production are referred
to as diseconomies of scale.
Diseconomies of scale are therefore the problems a firm experiences due to
expansion.
Sources of diseconomies of scale
Diseconomies of scale may arise from:
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a) Managerial functions which become increasingly difficult to perform as

the firm expands. Communication and consultations take more time than
before.
b) Changing consumer tastes which may not be fulfilled immediately be-
cause decision-making may take too long.
c) Increase in the costs of transporting raw materials, components and fin-
ished products.
d) Labour unrest or disputes and lack of commitment from the employees
because they are not involved in decision making
e) Stoppage of production process when disputes arise since all production
stages are interdependent and labour specialized.
f) Lack of adequate finances for further expansion of the firm.
There are two forms of diseconomies of scale fiz internal diseconomies and
external diseconomies of scale.
Internal diseconomies of scale
These are the problems a firm experiences as a result of large scale production
due to its persistent growth. They include;
i) Managerial diseconomies of scale
These are the losses which may arise due to the failure of management to su-
pervise and control the operations properly. This may be because the firm is
large resulting into;
a) Difficulties in controlling and coordinating the departments leading to
laxity among employees.
b) Difficult in decision making and communication and co-ordination be-
tween management and workers. Delays in decision making means lost
opportunities.
c) Impersonal relationship between management and workers, and staff
problems not easily established which could lead to low morale, dis-
putes, unrests/skills.
d) An increase in management tasks leading to increase in number and im-
pact of risks i.e. any error in judgement on the part of management may
lead to big losses.
ii) Marketing diseconomies of scale
These are losses which may arise due to changes in consumer tastes. These
may be as a result of;
 227

a) A change in tastes leading to fall in demand for the firms products. A

large firm may find it difficult to immediately adjust to the changes in
the tastes of consumers, hence it will experience fall in its scale.
b) An increase in the scale of production, which leads to higher demand for
factor of production such as labour, raw materials and capital. This will
result into higher prices for them. This will push up the prices of the
goods and services produced, which will cause a fall in sales.
iii) High overhead costs
When the output of a firm increases beyond a certain limit, some factors
may set in to increase the average costs.e.g the overhead costs incurred in
production and marketing activities may increase. This is because firms
may intensify their promotional campaign, incur heavy transport expenses
and be forced to offer generous discounts in an effort to attract more
clients. All these are factors that may increase overheads without any corre-
sponding increase in real benefits to the firm.
iv) Financial diseconomies of scale
These are losses which may arise due to a firm’s inability to acquire ade-
quate finances for its expansion. This will prevent the firm from expanding
further thereby limiting its capacity to increase the volume of its output.
External diseconomies of scale
These are demerits that affirm experiences as a result of growth of the entire
industry. These include;
-scramble for raw materials
-unavailability of land for expansion
-scramble for available labour
-competition for available market
-easy targets especially in times of war
Existence of small firms in an economy
As the firm grows in size, its scale of production increases.However, many
firms remain small even though they face stiff competition from larger firms.
Some of the reasons for existence of small scale firms include;
a) Size of the market
Large-scale production can only be sustained by a high demand for a product.
If the demand for a product is low, it may not be advisable for a firm to pro-
duce on a large scale, hence it will remain small.
b) Nature of the product;
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The nature of the product sometimes makes it impossible to produce in large

quantities e.g. personal services e.g. hairdressing, painting or nursing can only
be provided by an individual or a small firm.
c) Simplicity of organization
Small firms have the considerable advantage of simplicity in organization.
They avoid bureaucracy, wastage and managerial complexity associated with
large scale organizations.
Where a firm intends to take advantage of simplicity, the proprietor may
maintain its small firm.
d) Flexibility of small firms
Small firms are flexible i.e. one can easily switch from one business to an-
other where an owner of a business wishes to maintain flexibility so as to take
advantage of any new opportunity, he/she may have to maintain a small firm.
e) Quick decision making
In a situation where proprietors want to avoid delay in decision-making, they
may opt to maintain a small business as this would involve less consultation.
f) Belief that a small firm is more manageable
Many small businesses have the potential of expansion, yet their owners pre-
fer to have them remain small believing that big businesses are difficult to run.
g) Rising costs of production
In situations where production costs rise too fast, such that diseconomies of
scale set is very early, the firm has to remain small.
h) Need to retain control
In order to retain control and independence, the owners of the firm may wish
to keep it small.
i) Legal constraints/Government policy
In some situations, the laws may restrict the growth of a firm. In such circum-
stances the existing firms remain small.
j) Small capital requirements
As opposed to large scale firms, small firms require little amounts of capital to
start and operate.
Implication of production activities on environmental and community
health
As production activities take place in a given area, the environment and the
health of the community around may be adversely affected by these activities.
Some of these effects include:
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a) Air pollution
This is caused by waste which is discharged into the atmosphere leading to
contamination of the air. Such waste may be in funs of industrial emissions
and toxic chemicals from the firms. These pollutants cause air-borne diseases.
Acid rain due to such emission may also affect plants.
PRODUCT MARKET
The term ‘market’ is usually used to mean the place where buyers and sellers
meet to transact business. In Business studies, however, the term ‘market’ is
used to refer to the interaction of buyers and sellers where there is an ex-
change of goods and services for a consideration.
NOTE: The contact between sellers and buyers may be physical or otherwise
hence a market is not necessarily a place, but any situation in which buying
and selling takes place. A market exists whenever opportunities for exchange
of goods and services are available, made known and used regularly.
Definition:
i) Product market; Is a particular market in which specific goods and ser-
vices are sold and with particular features that distinguish it from the
other markets.
-The features are mainly in terms of the number of sellers and buyers and
whether the goods sold are homogeneous or heterogeneous
-Product market is also referred to as market structure.
-Markets may be classified according to the number of firms in the industry or
the type of products sold in them.
TYPES OF PRODUCT MARKET
The number of firms operating in a particular market will determine the de-
gree of competition that will exist in a given industry. In some markets there
are many sellers meaning that the degree of competition is very high, where as
in other markets there is no competition because only one firm exists.
When markets are classified according to the degree of competition, there are
four main types, these are;
i) Perfect competition
ii) Pure monopoly(monopoly)
iii) Monopolistic competition
iv)Oligopoly
i) Perfect competition
The word ‘perfect’ connotes an ideal situation.
 230

This kind of situation is however very rare in real life; a perfect competition is
therefore a hypothetical situation.
This is a market structure in which there are many small buyers and many
sellers who produce a homogeneous product. The action of any firm in this
market has no effect on the price and output levels in the market since its pro-
duction is negligible.
Features of Perfect Competition
a) Large number of buyers and sellers: The buyers and sellers are so many
that separate actions of each one of them have no effect on the market. This
implies that no single buyer or seller can influence the price of the commod-
ity. This is because a single firms (sellers) supply of the product is so small in
relation to the total supply in the industry. Similarly, the demand of one buyer
is so small compared to the total demand of one buyer is so small compared to
the total demand in the market that he/she cannot influence the price.
Firms (suppliers) in such a market structure are therefore price takers i.e. they
accept the prevailing market price for their products.
b) Identical or homogeneous products: Commodities from different producers
are identical in all aspects e.g. size; brand and quality such that one cannot
distinguish them. Buyers cannot therefore show preference for the products
of one firm over those of the other.
c) Perfect knowledge of the market: Each buyer and seller has perfect knowl-
edge about the market and therefore no one would affect business at any
price other than the equilibrium price (market price).If one firm raises the
price of its commodity above the prevailing market price, the firm will
make no sale since consumers are aware of other firms that are offering a
lower price i.e. market price. All firms (sellers) are also assumed to know
the profits being made by other firms in the industry (in selling the product)
d) Freedom of entry or exit in the industry; The buyers and sellers have the
freedom to enter and leave the market at will i.e. firms are free to join the
market and start production so long as the prevailing market price for the
commodity guarantees profit. However if conditions change the firms are
free to leave in order to avoid making loss.
In this market structure, it is assumed that no barrier exists in entering or
leaving the industry.
e) Uniformity of buyers and sellers; All buyers are identical in the eyes of the
seller. There are therefore, no advantages or disadvantages of selling to par-
 231

ticular buyers. Similarly, all the sellers are identical and hence there would
be no special benefit derived from buying from a certain supplier.
f) No government interference; The government plays no part in the opera-
tions of the industry. The price prevailing in the market is determined
strictly by the interplay of demand and supply. There should be no govern-
ment intervention in form of taxes and subsidies, quotas, price controls and
other regulations.
g) No excess supply or demand; The sellers are able to sell all what they sup-
ply into the market. This means that there is no excess supply. Similarly,
the buyers are able to buy all what they require with the result that there is
no difficult in supply.
h) Perfect mobility of factors of production; The assumption here is that pro-
ducers are able to switch factors of production from producing one com-
modity to another depending on which commodity is more profitable to
sell. Factors of production are also freely movable from one geographical
area to another.
i) No transport costs; The assumption here is that all sellers are located in one
area, therefore none of them incurs extra transport costs or carriage of
goods. The sellers cannot hence charge higher prices to cover the cost of
transport. Buyers, on the other hand, would not prefer some sellers to oth-
ers in an attempt to cut down on transport costs.
NOTE: The market (perfect competition) has normal demand and supply
curves. The individual buyers demand curve is however; perfectly elastic
since one can buy all what he/she wants at the equilibrium price. Similarly,
the individual sellers supply curve is also perfectly elastic because one can sell
all what he/she produces at the equilibrium price.
Perfect competition market hold on the following assumptions;
i) There are no transport costs in the industry
ii) Buyers and sellers have perfect knowledge of the market
iii) Factors of production are perfectly mobile
iv)There is no government interference
Examples of perfect competitions are very difficult to get in the real life but
some transactions e.g. on the stock exchange market, are very close to this.
Criticism of the concept of perfect competition
In reality, there is no market in which perfect competition exists. This is due
to the following factors:
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i) Very few firms produce homogenous products. Even if the products were
fairly identical, consumers are unlikely to view them as such.
ii) In real situations, consumers prefer variety for fuller satisfaction of their
wants; hence homogenous products may not be very popular in these cir-
cumstances.
iii) There is a common tendency towards large-scale operation. This
tendency works against the assumption of having many small firms in an
industry.
iv)Firms are not found in one place to cut down on transport costs as this mar-
ket structure requires.
v) Governments usually interfere in business activities in a variety of ways in
the interest of their citizens. The assumption of non-interference by the
state is therefore unrealistic in real world situations.
vi)Information does not freely flow in real markets so as to make both sellers
and buyers fully knowledgeable of happenings in all parts of a given mar-
ket.
MONOPOLY
A monopoly is a market structure in which only one firm produces a commod-
ity which has no close substitutes.
Some of the features in this market structure are:
a) One seller or producer; supplying the entire market with a product that has
no close substitute consumers therefore have no option but to use the com-
modity from the monopolist to satisfy their need.
b) Many unorganized buyers; in the market the buyers compete for the com-
modity supplied by the monopoly firm.
c) The monopoly firm is the industry; because it supplies the entire market,
the firms supply curve is also the market supply curve, and the demand
curve of the firm is also the market demand curve.
d) Entry into the market is closed; such barriers are either put by the firm or
they result from advantages enjoyed by the monopoly firm e.g. protection
by the government.
e) Huge promotional and selling costs; are incurred in order to expand the
market base and to maintain the existing market. This also helps to keep
away potential competitors.
f) The monopoly firm is a price maker or a price giver; the firm determines
the price at which it will sell its output in the market. It can therefore in-
 233

crease or reduce the price of its commodity, depending on the profit it de-
sires to make.
g) Price Discrimination is may be possible; This is a situation where the firm
charges different prices for same commodity in different markets.
Price discrimination may be facilitated by conditions such as;
 Consumers being in different markets such that it is difficult for one to
buy the product in the market where it is cheaper.
 The production of the commodity is in the hands of a monopolist.
 Market separation.
Market separation may be based on the following factors;
 Geographical; Goods may be sold at different prices in different mar-
kets.
 Income; Seller may charge different prices for his/her products to differ-
ent categories of consumers depending on their income.
 Time; a firm may sell the same commodity at a higher price during the
peak period and lower the price during the off peak period.
Sources of monopoly power
i) Control of an important input in production; A firm may control a strategic
input or the entire raw materials used in the production of a commodity.
Such a firm will easily acquire monopoly by not selling the raw materials
to potential competitors.
ii) Ownership of production rights; where the right to production or ownership
of commodity i.e. patent rights, copyrights and royalties belong to one per-
son or firm, then, that creates a monopoly. Similarly, if the government
gives licence to produce a commodity to one firm, then this will constitute
a monopoly.
iii) Internal economies of scale; The existence of internal economies of
scale that enable a firm to reduce its production costs to the level that other
firms cannot will force these other firms out of business leaving the firm as
a monopoly.
iv)Size of the market; where the market is rather small and can only be sup-
plied profitably by one firm.
v) Additional costs by other firms; A firm may enjoy monopoly position in a
particular area if other firms have to incur additional costs such as transport
in order to sell in the area. These additional costs may increase the prices of
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the commodity to the level that it becomes less attractive hence giving the
local firm monopoly status.
vi)Where a group of firms combine to act as one; Some firms may voluntarily
combine/amalgamate or work together for the purpose of controlling the
market of their product. Examples are cartels
vii) Restrictive practices; A firm may engage in restrictive practices in
order to force other firms of business and therefore be left as a monopoly.
Such practices may include limit pricing i.e. where a firm sells its products
at a very low price to drive away competitors.
viii) Financial factors; where the initial capital outlay required is very
large, thereby preventing other firms from entering the market.
ix)Where the government establishes a firm and gives it monopoly power to
produce and sell ‘cheaply’(Government Policy)
Advantages of monopoly
i. A monopoly is able to provide better working conditions to employees be-
cause of the high profits realised
ii. In some monopolies, high standards of services/goods are offered
iii. Monopolies always enjoy economies of scale. This may help the consumer
in that the goods supplied by a monopoly will bear lower prices.
iv. A monopolist may use the extra profit earned to carry out research and thus
produce higher quality goods and services.
v. The consumer is protected in that essential services such as water and
power supply is not left to private businesses who would exploit the con-
sumers.
Disadvantages of monopoly
i. A monopolist can control output so as to charge high prices
ii. Consumers lack freedom of choice in that the product produced by a mo-
nopoly has no substitute
iii. Low quality products may be availed to consumers due to lack of competi-
tion.
MONOPOLISTIC COMPETITION
Monopolistic competition is a market structure that falls within the range of
imperfect competition i.e. falls between perfect competition and pure monop-
oly. It is therefore a market structure that combines the aspects of perfect com-
petition and those of a monopoly.
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Since it is not possible to have a market that is perfectly competitive or a mar-

ket that is pure monopoly in real world, all market structures in real world lie
between the two and are thus known as imperfect market structures.
In a monopolistic market, there are many sellers of a similar product which is
made to look different. This is known as product differentiation. These similar
products are made different through packaging, design, colour, branding e.t.c
The following are the assumptions of a monopolistic competition.
i. A large number of sellers; Who operate independently.
ii. Differentiated products; Each firm manufactures a product which is differ-
entiated from that of its competitors, yet they are relatively good substitutes
of each other. The differences may be real in that different materials are
used to make the product or may be imaginary i.e. created through advertis-
ing,branding,colour,packaging e.t.c
iii. No barriers to entry or exit from industry; There is freedom of entry into
the industry for new firms and for existing firms to leave the industry.
iv. Firms set their own prices; The prices are set depending on the costs in-
curred in production and the demand in the market.
v. No firm has control over the factors of production; Each firm acquires the
factors at the prevailing market prices.
vi. Presence of non-price competitions; Since products are close substitutes of
each other, heavy advertising and other methods of product promotion are
major characteristics of firms in monopolistic competition.
vii. Buyers and sellers have perfect knowledge of the market.
OLIGOPOLY
This is a market structure where there are few firms. The firms are relatively
large and command a substantial part of the market. It is a market structure
between the monopolistic competition and monopoly.
Types of Oligopoly
Oligopoly may be classified according to the number of firms or the type of
products they sell. They include:
a) Duopoly; This refers to an oligopoly market structure which comprises
of two firms. Mastermind Tobacco and British American Tobacco
(BAT) are examples of duopoly in Kenya.
b) Perfect/Pure oligopoly refers to an oligopolistic market that deals in
products which are identical. Examples of pure oligopoly are companies
dealing with petroleum products such as oil Libya, Caltex, Total, Shell,
 236

National Oil, Kenol and Kobil. These firm sell products which are iden-
tical such as kerosene, petrol and diesel.
c) Imperfect/Differentiated Oligopoly; this is an oligopolistic market
structure where firm have products which are the same but are made to
appear different through methods such as packaging, advertising and
branding.
Features of oligopoly
i) Has few large sellers and many buyers.
ii) The firms are interdependent among themselves especially in their out-
put and pricing.
iii) Non-price competition, firms are in a position to influence the
prices. However, they try to avoid price competition for the fear of price
war.
iv)There is barriers to entry of firms due to reasons such as; requirement of
large capital, Ownership of production rights, control over crucial raw
materials, Restrictive practices etc
v) High cost of selling through methods of advertisement due to severe
competition.
vi)Products produced are either homogeneous or differentiated.
vii) Uncertain demand curve due to the inter-dependence among the
firms. Hence the shifting of the demand curve is not definite.
viii) There is price rigidity i.e. once a price has been arrived at in an
oligopolistic market, it tends to remain stable.
This feature explains why a firm in oligopolistic market faces two sets of de-
mand curves resulting to a Kinked Demand Curve. One curve, for prices
above the determined one, which is fairly gentle and the other curve for prices
below the determined one which is fairly steep.

CHAIN/CHANNELS OF DISTRIBUTION
Introduction
 Channels of distribution are the paths that goods and or services follow
from the producers to the final users.
 The persons involved in the distribution of goods from the producer to
consumer are called middlemen or intermediaries.
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 There are different channels that different products follow. Some of the
channels include the following:
(i) Producer to agent to wholesaler to retailer to consumer.
(ii) Producer to co – operative society to marketing board to wholesaler to
retailer to consumer.
(iii) Producer to marketing board to wholesaler to retailer to consumer.
(iv) Producer to wholesaler to retailer to consumer.
(v) Producer to wholesaler to consumer
(vi) Producer to retailer to consumer
(vii) Producer to consumer
Costs incurred by middlemen while distributing goods
a) Buying costs. They incur this cost by paying for them from the produc-
ers or other middlemen.
b) Transport cost. Some middlemen do transport goods from the producer
to other middlemen or to the final users.
c) Storage costs. Middlemen do keep the goods until their demand arises.
This will therefore require them to hire or construct their own warehouses.
d) Advertising or marketing costs. Some middlemen do carry out market-
ing of goods on behalf of the producers and other middlemen. In the process,
they pay for such services.
e) Insurance costs. Middlemen do insure the goods they are trading in to
ensure compensation in the event of loss.
f) Operation costs. Middlemen just like other businesses do incur operat-
ing costs such as salaries to employees, electricity, maintenance among others.
g) Preparation costs. Some middlemen to prepare goods before they are
sold to the consumers. Such activities include packing, assembling and blend-
ing. They have to meet such costs on behalf the producer, other middlemen
and consumers.
CHANNELS OF DISTRIBUTING VARIOUS PRODUCTS (refer to In-
ventor book three pages 50 to 53)
ROLES OF MIDDLEMEN
The following are some the roles performed by middlemen in the chain of
distribution
(i) Bulk accumulation (assembling). They similar goods from different
producers in small quantities and then offering the large amount gathered to
buyers who may want to buy in large volumes.
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(ii) Reducing transactions. The interactions between the producers

and the consumers will be reduced since the middlemen are the ones who will
be communicating to the consumers.
(iii) Bulk breaking. They buy in large quantities and then sell in small
quantities as desired by the consumers.
(iv) Risk taking. They assume all the risks related with the movement
of goods from the producers to the consumers. Such risks include theft, dam-
ages, loss due to bad debts.
(v) Finance provision. Middlemen provide finance to the producers
by buying goods in large quantities and paying for them in time.
(vi) Provision of information. Middlemen gather market information
from the consumers then pass to the producers who in turn produce goods in
line with the tastes of consumers.
(vii) Marketing/product promotion. Middlemen are involved in mar-
keting of goods hence stimulating the interest of consumers.
(viii) Provision of transport. Middlemen do transport goods from the
producers up to the where the consumers can access them. Both the producers
and consumers are hence relieved of transport costs.
(ix) Storage
(x) Variety provision
(xi) Availing goods to consumers
FACTORS TO CONSIDER BEFORE SELECTING A DISTRIBUTION
CHANNEL
Factors that influence the choice of a distribution channel include the fol-
lowing:
(i) Product nature. Perishable products should be sold directly to the
consumers because delays may result to losses since they go bad fast. In addi-
tion, bulky products need direct selling in order to reduce transportation and
stock handling costs.
(ii) Nature of the market. Where the market is concentrated in one
area, direct selling is appropriate. A longer channel of distribution is preferred
where the market is widely spread.
(iii) Role of intermediary. The channel chosen should be able to per-
form the services related to the product being sold e.g. for technical goods, the
middleman should be able to offer technical support to the customers.
 239

(iv) Resources and size of the firm/producer. If the producer is

small, then direct selling would be appropriate. Large firms with sufficient fi-
nancial resources can opt for long channels of distribution.
(v) Channels used by competitors. If a firm wants its products to
compete with those of the competitors, then is it prudent to use similar chan-
nels. A firm that wants to avoid competition should use a different channel of
distribution.
(vi) Government policy. The channel chosen should be able to meet
government regulations such as all middlemen distributing pharmaceutical
products must be recognized by the relevant government bodies (Pharmacy
and Poisons Board).
(vii) Marketing risks. In the event the firm wants to avoid risks related
to distribution, it will opt for middlemen.
Questions
1. State four channels for distributing imported goods.
2. Explain five factors that can influence the choice of a channel of distri-
bution.
3. Outline five costs incurred by middlemen in the distribution process.
4. Describe the roles played by middlemen in the distribution chain.
5. Outline the circumstances under which a producer would sell directly to
consumers.

NATIONAL INCOME

This is the total income received by the providers/owners of the factors of pro-
duction in a given country over a given time period.
Terms used in national income
(i) Gross Domestic Product (GDP). This is the total monetary value of
all goods and services produced in a country during a particular year.
Such goods and services must have been produced within the country.
(ii) Net Domestic Product (NDP). This is the GDP less depreciation.
Depreciation is the loss in value of the assets such as machines used
in the production of goods and services.
(iii) Gross National Product (GNP). This measures the total monetary
value of all the goods and services produced by the people of a coun-
 240

try regardless of whether they in or outside the country. It takes into

account exports and imports. The difference between exports and im-
ports is called net Factor Income from abroad. GNP therefore is the
sum of GDP and net factor income from abroad.
(iv) Net National Product (NNP). This recognizes the loss in value of
the capital used in the production of goods. Capital here refers to cap-
ital goods. NNP is the difference between GNP and the depreciation.
(v) Per capita income. This is the average income per head per year in a
given country. It is also the national income divided by the population
of the country.
CIRCULAR FLOW OF INCOME
 This is the continuous movement of income between the households
(providers of factors of production) and the firms (producers of goods
and services).
 The factors of production are received from households.
 The firms pay the rewards of such factors to the households (expenditure
to the firms and income to the households).
 The households in turn use the income to buy the goods and services
produced by the firms (expenditure to households and income to firms).
Assumptions/features of circular flow of income
(i) Existence of two sectors only. It is assumed that the economy has
only two sectors that is households and firms. The households pro-
vide the factors of production while firms are involved in the produc-
tion of goods and services.
(ii) Total spending by households. It is assumed that the households
spend all their income on the goods and services produced by the
firms i.e. no savings.
(iii) Total spending by the firms. It is assumed that the firms spend the
money received from the sale of goods and services to pay for the re-
wards of production factors.
(iv) Lack of government intervention. The government does not influ-
ence how the firms and households carry out their activities. Such in-
terventions are in the form of taxes, price controls among others.
(v) Closed economy. Exports and imports do not exist in such an econ-
omy.
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Factors affecting the circular flow of income

 The factors can either lead to increase in income and expenditure (injec-
tions) or lead to a reduction in the volume of flow (withdrawals).
The factors include the following:
(i) Savings. This takes place when the households do not spend all their
income on the purchase of goods and services. This reduces the in-
come to be received by firms hence savings is a withdrawal from the
circular flow of income.
(ii) Taxation. Taxation reduces the amount of money available for
spending therefore it is a withdrawal/leakage from the circular flow of
income.
(iii) Government expenditure. The government may buy goods from the
firms or provide subsidies. This will translate in to an injection into
the circular flow of income.
(iv) Investments. When firms put more capital into the production, output
will increase hence an increase in income (injection).
(v) Imports. When goods and services are bought from other countries,
money will be spent hence a reduction in the circular flow of income
(withdrawal).
(vi) Exports. Through exports, a country is able to receive money from
other countries (injections)
Injections
(i) Investments
(ii) Government spending
(iii) Exports
Withdrawals
(i) Savings
(ii) Taxation
(iii) Imports
APPROACHES USED IN MEASURING NATIONAL INCOME
(i) Expenditure Approach
National income is arrived at summing expenditure on all final goods and ser-
vices (that have reached the final stage of production). Such expenditure is di-
vided into:
a) Expenditure on consumer goods ( C)
b) Expenditure on capital goods (I)
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c) Expenditure by government (G)

d) Expenditure on net exports (X – M)
Therefore national income = C+I+G+(X – M)
Problems associated with expenditure approach
 Lack of accurate records particularly in the private sector
 Approximation of expenditure of the subsistence sector
 Difficulty in differentiating between final expenditure and intermediate
expenditure
 Double counting may exist
 Fluctuating exchange rates may cause problems in the valuation of im-
ports and exports.
(ii) Income approach
 In this method, the national income is arrived at by summing all the
money received by those who participate in the production of goods and
services.
 Such incomes are in the form of rewards to the production factors
(wages, rent, interest and profits).
 Public income is also taken into account i.e. it is the income received by
the government from its investments (Parastatals, joint ventures).
 Transfer payments are excluded since they represent a redistribution of
incomes from those who have earned them to the recipient’s e.g. Na-
tional insurance schemes.
Problems related to this method
a) Determination of what proportion of transfer payments constitute in the
income of a country.
b) Inaccurate data may exist since business people may not tell the truth
about their income in order to evade tax.
c) Price fluctuations may make national income determination difficult.
d) Income from illegal activities is not captured.
e) Valuation of income from subsistence economy may be difficult e.g.
housewives.
Assignment: Read and make short notes on Output approach (refer to In-
ventor book three pages 65 – 66).
USES OF NATIONAL INCOME STATISTICS
 243

 Indicators of standards of living. If the national income is equitably

distributed, then the standards of living will be high.
 Measuring economic growth. The statistics of one year are compared
with previous year to show whether there is improvement or not.
 Inter country comparison. They are used to compare the economic
welfare among countries hence knowing which country is better off and
by how much. However, the following challenges may be faced when
carrying the comparisons: different in currencies, different goods and
services, disparity in income distribution and difference in tastes and
preferences.
 Investment decisions. They assist the government and other investors to
know the sectors to
put their money. The statistics provide relevant information concerning
the performance of each sector.
 Basis of equitable distribution of income. The statistics can be used to
spread income to the hands of majority of the citizens incase a few indi-
viduals control the economy.
 Planning purposes. The statistics will show the contribution of each
sector thus helping the government in allocating the funds to the various
sectors.
Factors which influences the level of national income.
 Quantity and quality of production. If the factors are more in terms of
quantity of good quality, the output will be high hence increasing in na-
tional income.
 State of technology. A country with high level of technology will pro-
duce goods in large volumes hence high national income.
 Political stability. Countries which are relatively stable politically expe-
rience high production hence high national income level.
 Accuracy of accounting systems. If the methods used to gather data are
accurate, then the overall statistical figures will the accurate hence reli-
able.
 Proportion of the subsistence sector. Subsistence sector’s output is not
normally included in the statistical figures. If it represents a large pro-
portion, therefore the national income level will be low.
NB. For other factors refer to Inventor book three pages 68 – 69.
 244

Reasons why high per capita income is not an indicator of a better living stan-
dard in a country
 Statistical problems. The collection of the national income data may be
inaccurate meaning that the national income figures might be incorrect
hence wrong per capita income.
 Changes in money value. If the currency has been devalued, there can
be change in the value of money without necessarily representing any
changes in the welfare of the people.
 Income distribution. The per capita may be high even though the in-
come is in the hands of very few people thus it is not a representative of
the majority.
 Nature of products. If the products are not meant to satisfy immediate
wants of the people, then an increase in per capita income may not lead
to a higher economic welfare.
 Peoples’ hard work and attitude. Increased national income may mean
less sleep and more worries. People have no time to enjoy what they
produce and their welfare may be low despite the rise in national in-
come.
 Social costs. People may migrate from rural areas to urban areas strain-
ing family relationships while an increase in industries may create pollu-
tion, congestion and other environmental disruptions.
Questions
1. State four problems encountered in comparing standards of living in dif-
ferent countries using national income statistics
2. Using a diagram, describe the circular flow of income.
3. Explain five factors that may influence the level of national income of a
country
4. Outline four limitations of expenditure approach used in measuring na-
tional income.
5. Explain five reasons why high per capita income may not translate to
better living standards in a country.
6. Describe five factors that affect the circular flow of income.

THE CASHBOOKS AND THE LEDGER

 245

The cash book

This is a special ledger which is used to record cash and cheque transactions.
It contains only the cash in hand and cash at bank (i.e. cash and bank) ac-
counts
i) Nominal ledger
This ledger is used to record business expenses and incomes (gains). It con-
tains all the nominal accounts.
ii) Private ledger
This ledger is used in recording private accounts i.e. confidential and valuable
fixed assets and the personal accounts of the proprietors such as capital ac-
counts and drawing accounts.
iii) The general ledger
The general ledger contains all other accounts that are not kept in any other
ledger e.g. buildings, furniture and stock accounts.
-Personal accounts of debtors or creditors who do not arise out of sale or pur-
chase of goods on credit are found in the general ledger e.g. debtors as a result
of sale of fixed asset on credit and expense creditors.
C) Private accounts
These are accounts that the business considers to be confidential and are not
availed to everybody except the management and the owners.
-These accounts may be personal or impersonal.
-They include capital account, drawings accounts, trading, profit and loss ac-
counts.
Types of ledgers
The following are the main types of ledgers that are used to keep the various
accounts
i. The sales ledger (Debtors ledger)
This is the ledger in which accounts of individual debtors are kept.
-It is used to record the value of goods sold on credit and the customers to
whom the credit sales are made, hence contains the personal names of the
debtors.
-It is called a sales ledger because the accounts of debtors kept herein are as a
result of sale of goods on credit. An account is kept for each customer to
which is debited the value of credit sale. Payment made by the debtor are
credited to the account and debited in the cash book.
ii. Purchases ledger(creditors ledger)
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The purchases ledger contains accounts of creditors i.e. contains the records of
the value of goods bought on credit and the suppliers of such goods.
It is a record of the debts payable by the business due to credit purchases.
An account is kept for each creditor to the credit side of which is posted the
value of.
b) Impersonal accounts
This category of ledger accounts includes all other accounts that are not per-
sonal in nature e.g. buildings, purchases, rent, sales and discounts received.
Impersonal accounts fall into two types
1) Real accounts
2) Nominal accounts
1) Real accounts: These are accounts of tangible assets or property e.g.
buildings, land, furniture, fittings, machinery, stock, cash (at bank and in
hand) e.t.c
These accounts are also used to draw up the balance sheet.
2) Nominal account: These are accounts of items that relate to gains
and losses and whose balances at the end of the accounting period.
-All expenses, revenues, sales and purchases are hence nominal accounts.
-The main business expenses include purchases,sales,returns,insurance,sta-
tionary,repairs,depreciation,heating,discount allowed, lighting interests,print-
ing,wages,rent,rates and advertising.
The value of losses is included in the same side as the expenses when drawing
up the final accounts though it is not an expense.
-The income (revenues) include sales,returns,claims out, interest receivable,
dividends receivable and commission receivable. Profit is usually categorised
together with these incomes when drawing up the final accounts.
Classification of ledger accounts
Many businesses handle few transactions, hence they have few records to
keep. Their accounts can thus be kept in a single ledger referred to as the gen-
eral ledger
As a business grows the volume of transactions increases. This single ledger,
therefore, becomes very bulky with accounts and it becomes difficult to make
reference to it.
In order to simplify the recording of transactions and facilitate reference to the
accounts, ledger accounts are usually classified and each category kept in a
special ledger.
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NOTE (i) Since many transactions are cash transactions which are normally
recorded in the bank and cash accounts a need arises to remove them from the
main/general ledger to a separate ledger called the cash book.
(ii) The number of ledgers kept depends on the size of the business.
Classes of accounts
All accounts can be classified into either personal or impersonal accounts.
a) Personal accounts
-These are account of persons
-They relate to personal, companies or associations.
-They are mainly accounts of debtors and creditors.
NOTE: capital account is the proprietors personal account, showing the net
worth of the business hence it is a personal account.
-The account balances of these accounts are used to draw up the balance sheet.
-In the ledger, the trial balance total is not affected.
Purpose of a trial balance
The purpose of a trial balance include:
a) Checking the accuracy in the ledger accounts as to whether;
i-The rule of double entry has been adhered to or observed/ complied with.
ii-There are arithmetical errors in the ledger accounts
b) Gives a summary of the ledger i.e. summary of the transactions which
have taken place during a given period
c) Provide information (account balances) for preparing final accounts
such as the trading account, profit and loss account and the balance
sheet.
d) Test whether the ledger account balances have been posted to the
right side of the trial balance.
Limitations of a trial balance
Even when the trial balance totals are equal, it does not mean that there are no
errors made in the ledgers. This is because there are some errors that do not
affect the trial balance.
A trial balance only assures the book keeper that the total of debit entries is
equal to total credit entries. The errors that do not affect the trial balances are:
i. Error of total omission; This occurs when a transaction takes
place and nothing about it is recorded in the books of accounts i.e. it is com-
pletely omitted such that neither a credit nor a debit entry is made in the
ledgers.
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ii. Error of original entry; this occurs where both the debit and
credit entries are made using similar but erroneous figures. As the wrong
amount is recorded in the two accounts.
iii. Error of commission; This occurs where double entry is completed
but in the wrong persons accounts especially due to a confusion in names e.g.
a debit entry of shs.2000 was made in Otieno’s account instead of Atieno’s ac-
count.
iv. Compensating errors; These are errors whose effects cancel out e.g.
over debiting debtors account by sh.300 and under debiting cash account by
sh.300.
v. Complete reversal of entries; This occurs where the account to be
debited is credited and the account to be credited is debited e.g. the sale of
goods to Lydia on credit may be recorded as follows;
Dr.sales a/c
Cr.Lydius a/c instead of

Dr.Lydius a/c
Cr.sales a/c

iv) Error of principle; This is where a transaction is recorded in the

wrong account of a different class from the correct one e.g. repairs of machin-
ery was debited in the machinery instead of debiting the repairs account.
TRIAL BALANCE
-A trial balance is a statement prepared at a particular date showing all the
debit balances on one column and all the credit balances on another column.
NOTE: A trial balance is not an account but merely a list of assets, expenses
and losses on the left and capital liabilities and incomes (including profits) on
the right.
-The totals of a trial balance should agree if the double entry has been carried
out correctly and there are no arithmetic errors both in the ledger as well as in
the trial balance itself.
-If the two sides of a trial balance are not equal, it means there is an error or
errors either in the trial balance or in the ledger accounts or in both.
Errors that may cause a trial balance not to balance
 249

i. Partial omission: A transaction was recorded on only one account i.e. a

debit or a credit entry might have been omitted in one of the affected ac-
counts.
ii. Transferring (posting): a wrong balance to a trial balance.
iii. Different amounts for the same transaction might have been entered in the
accounts(Amount Dr.different from amount cr)
iv. Failure to post a balance to the trial balance (omission of a balance from the
trial balance
v. Posting a balance to the wrong side of the trial balance
vi. Recording a transaction on the same side of the affected accounts(partial
reversal entry)
vii. Arithmetic mistakes might have been made when balancing the ledger ac-
counts
viii. Arithmetic errors in balancing the trial balance

BUSINESS STUDIES FORM FOUR NOTES

FINANCIAL STATEMENTS
These are prepared at the end of a given trading period to determine the profit
and losses of the business, and also to show the financial position of the busi-
ness at a given time.
They includes; trading account, profit and loss account, trading profit and loss
account and the balance sheet.
They are also referred to as the final statements.
The trading period is the duration through which the trading activities are car-
ried out in the business before it decides to determines it performances in
terms of profit or loss. It may be one week, month, six months or even a year
depending on what the owner wants.
 250

Most of the business use one year as their trading period. It is also referred to
as the accounting period.
At the end of the accounting period, the following takes place;
 All the accounts are balanced off
 A trial balance is extracted
 Profit or loss is determined
 The balance sheet is prepared
Determining the profit or loss of a business
When a business sells its stock above the buying price/cost of acquiring the
stock, it makes a profit, while if it sells below it makes a loss. The profit real-
ized when the business sell it stock beyond the cost is what is referred to as
the gross profit, while if it is a loss then it is referred to as a gross loss.
It is referred to as the gross profit /loss because it has not been used to cater
for the expenses that may have been incurred in selling that stock, such as the
salary of the salesman, rent for the premises, water bills, etc. it therefore im-
plies that the businessman cannot take the whole gross profit for its personal
use but must first deduct the total cost of all other expenses that may have
been incurred.
The profit realized after the cost of all the expenses incurred has been de-
ducted is what becomes the real profit for the owner of the business, and is re-
ferred to as Net profit. The net profit can be determined through calculation or
preparation of profit and loss account.
In calculating the gross profit, the following adjustments are put in place
 Return inwards/Sales return: - these are goods that had been sold to the cus-
tomers, but they have returned them to the business for one reason or the
other. It therefore reduces the value of sales, and is therefore subtracted
from sales to obtain the net sales
Therefore Net sales = Sales – Return inwards
 Return outwards/purchases return: - these are goods that had been bought
from the suppliers to the business and have been returned to them for one
reason or the other. It reduces the purchases and is therefore subtracted
from the purchases to obtain the net purchases.
 Drawings: - this refers to goods that the owner of the business has taken
from the business for his own use. It reduces the value of purchases, and is
 251

therefore subtracted from purchases when determining the net purchases. It

is different from the other drawing in that it is purely goods and not money
 Carriage inwards/Carriage on purchases: - this is the cost incurred by the
suppliers in transporting the goods from his premises to the customers busi-
ness. It is treated as part of the purchases, and therefore increases the value
of purchases. It is added to purchases to determine the actual value of pur-
chases/Net purchases.
Therefore Net Purchases = Purchases + Carriage inwards – Return Out-
wards - Drawings
 Carriage outwards/Carriage on sales: - this is the cost that the business has
incurred in transporting goods from its premises to the customer’s
premises. The cost reduces the business profit that would have been real-
ized as a result of the sale, and is therefore treated as an expense and is sub-
tracted from the gross profit, before determining the net profit.
 Opening stock is the stock of goods at the beginning of the trading period,
while the closing stock is the stock of the goods at the end of the trading
period
Gross profit is therefore calculated as follows;
Gross Profit = Sales – Return inwards – (Opening stock + Purchases
+ carriage inwards – Return outwards – Closing stock)
Or
Gross profit = Net sales – Cost of Goods Sold (COGS)

COGS = Opening Stock + Net Purchases – Closing stock

Net Profit = Gross profit – Total expenses

Trading Account
This is prepared by the business to determine the gross profit/loss during that
trading period
It takes the following format:
Name of the business
Trading Account
Dr For the period (date) Cr
Shs Shs Shs Shs
Opening stock xxxxxx Sales xxxxxx
 252

add Purchases xxxxx Less Return inwards xxx

add Carriage inwards xxx Net sales xxxxxx
less Return Outwards xxx
less Drawings xx xxxxx
Goods available for sale xxxxxx
Less Closing Stock xxx xxxxxx
Cost Of Goods Sold (COGS) xxxxxx Gross profit b/d
Gross profit c/d xxxx xxxx
xxxxxx
The trading account is completed by the time the gross profit b/d is deter-
mined
For example
The following balances were obtained from the books of Ramera Traders for
the year ending may 31st 2010
Sales 670 000
Purchases 380 000
Return inwards 40 000
Carriage outwards 18 000
Return outwards 20 000
Carriage inwards 10 000
Additional information:
 During the year the owner took goods worth sh 5 000 for his family use
 The stock as at 1st June 2009 was shs 60 000, while the stock as at 31st
May 2011 was shs 70 000
Required; Prepare Ramera Traders trading account for the period ending
31st May
2010

Ramera Traders
Trading Account
Dr For the period ending 31/5/2010
Cr
Shs Shs Shs Shs
Opening stock 60 000 Sales 670 000
add Purchases 380 000 Less Return inwards40 000
 253

add Carriage inwards 10 000 Net sales 630 000

less Return Outwards 20 000
less Drawings 5 000 365 000
Goods available for sale 425 000
Less Closing Stock 70 000
Cost Of Goods Sold (COGS)355,000 630 000
Gross profit c/d 275,000 Gross profit b/d 275 000
630,000
NB:Carriage outwards is not an item of Trading account, but profit and loss
account as an expense.
Importance of Trading account
i. It is used to determine the gross profit/loss for a given trading period for
appropriate decision making by the management.
ii. It is used in determining the cost of goods that was sold during that particu-
lar accounting period.
iii. It is used to reveal the volume of turnover i.e net sales
iv. May be used to compare the performance of the business in the current ac-
counting period and the previous periods. It can also compare its perfor-
mance with other similar businesses
v. It facilitates the preparation of profit and loss account, since the gross profit
is carried forward to the profit and loss account.
Profit and Loss account
In preparation of this account, the gross profit is brought down on the credit
sides, with all other revenues/income of the business being credited and the
expenses together with the net profit being debited. Net profit = Total Rev-
enues (including Gross Profit) – Total expenses

Name of the business

Profit and Loss Account
Dr For the period (date) Cr
Shs Shs
Expenses Gross profit b/d
 254

Insurance xxx xxxxxx

Electricity xxx Discount received xxx
Water bills xxx Rent income
Carriage Outwards xxx xxx
General expenses xxx Commission received xxx
Provision for Depreciation xxxx Any other income received
Discount allowed xxx xxx
Commission allowed xxxx
Rent paid xxxx
Any other expense xxxx
Net profit c/d xxxx
xxxxxx
xxxxxx
Net profit b/d xxxx
The Profit and Loss Account is complete when net profit b/d is obtained. In
the trial balance, the revenues/incomes are always credited, while the ex-
penses are debited, and the same treatment is found in the Profit and Loss Ac-
count. (Any item that is taken to the Profit and Loss Account with a balance
appearing in the Debit (Dr) side of a trial balance is treated as an expense,
while those appearing in the Credit (Cr) side are revenue e.g. discount balance
appearing in the Dr Side is Discount Allowed, while the one on Cr side is Dis-
count Received)
For example
The following information relates to Akinyi’s Traders for the period ending
March 28th 2010. Use it to prepare profit and loss account.
Gross profit 100 000 Discount received 12 000
Salaries and wages 20 000 Power and lighting 10 000
Opening stock 150 000 Rent income 10 000
Commission allowed 15 000 Commission received 16 000
Repairs 10 000 Discount allowed 8 000
Provision for depreciation 6 000 Carriage outwards 4 000

Akinyi Traders
Profit and Loss Account
 255

Dr For the period ending 28th March 2010 Cr

Shs Shs
Expenses Gross profit b/d 100 000
Power and lighting 10 000 Discount received 12 000
Carriage Outwards 4 Rent income 10
000 000
Salaries and wages 20 Commission received 16 000
000
Provision for Depreciation 6 000
Discount allowed 8 000
Commission allowed 15 000 138 000
Repairs 10 000 Net profit b/d 65 000
Net profit c/d 65 000
138 000
In case the expenses are more than the income, then the business shall have
made a net loss, and the loss will be credited.
Net profit/loss can also be found through calculation as follows;
Net profit/loss = Gross profit + Total other revenues – Total expenses
For the above example;
Total other revenues = 12 000 + 10 000 + 16 000= 38 000
Total expenses = 10 000 + 4 000 + 20 000 + 6 000 + 8 000 + 15 000 + 10 000
= 73 000
Therefore; Net profit = Gross profit + Total other revenues – Total expenses
= 100 000 + 38 000 – 73 000= 65 000
Importance of Profit and Loss account
 It shows the revenue earned, and all the expenses incurred during the ac-
counting period
 It used to determine the net profit/net loss of a given trading period
 It is a requirement by the government for the purpose of taxation
 May be used by the employees to gauge the strength of the business, in
terms of its ability to pay them well
 It is vital for the prospective investor in the business, in terms of determin-
ing the viability of the business
 The creditors or loaners may use it to assess the business ability to pay
back their debts
 256

 It is used by the management to make a decision on the future of their busi-

ness.
Trading, Profit and Loss Account
This is the combination of trading account and trading profit and loss account
to form a single document. It ends when the net profit/loss brought down has
been determined. That is;
Name of the business
Trading, Profit and Loss Account
Dr For the period (date)
Cr
Shs Shs Shs Shs
Opening stock xxxxxx Sales xxxxxx
add Purchases xxxxx Less Return inwards xxx
add Carriage inwards xxx Net sales xxxxxx
less Return Outwards xxx
less Drawings xx xxxxx
Goods available for sale xxxxxx
Less Closing Stock xxx
Cost Of Goods Sold (COGS) xxxxxx xxxxxx
Gross profit c/d xxxx Gross profit b/d
Xxxxxx xxxx
Expenses
Discount received xxx
Insurance xxx
Rent income
Electricity xxx
xxx
Water bills xxx
Commission received xxx
Carriage Outwards
Any other income received
xxx
xxx
General expenses xxx
Provision for Depreciation xxxx
Discount allowed xxx
Commission allowed xxxx
Rent paid
xxxx
Any other expense xxxx xxxxxx
Net profit c/d xxxx Net profit b/d xxxx
 257

xxxxxx
End Year Adjustments
The following items may require to be adjusted at the end of the trading pe-
riod
 Revenues/Income
 Expenses
 Fixed assets
Adjustment on revenues
The revenue may have been paid in advance in part or whole (prepaid rev-
enue) or may be paid later after the trading period (accrued revenue).
Prepaid revenue is subtracted from the revenue/income to be received and the
difference is what is treated in the profit and loss account or trading profit and
loss account as an income, while the accrued revenue is added to the revenue/
income to be received and the sum is what is treated in the above accounts as
the actual revenue.
Only the prepaid amount and the accrued amounts are what are then taken to
the balance sheet.
Adjustment on the expenses
The expenses may have been paid for in advance in part or whole (prepaid ex-
penses) or may be paid for later after the trading period (accrued expenses).
Prepaid expenses is subtracted from the expenses to be paid for and the differ-
ence is what is treated in the profit and loss account or trading profit and loss
account as an expense, while the accrued expenses is added to the expenses to
be paid for and the sum is what is treated in the above accounts as the actual
expenses.
NB: Only the prepaid amount and the accrued amounts are what are then
taken to the balance sheet.
Adjustment on fixed assets
The fixed assets may decrease in value, due to tear and wear. This makes the
value to go down over time, what is referred to as depreciation. The amount of
depreciation is always estimated as a percentage of cost.
The amount that shall have depreciated is treated in the profit and loss account
or T,P&L as an expense, while the value of the asset is recorded in the balance
sheet, less depreciation.
For example;
 258

1. 1997 The following Trial balance was prepared from the books of Paka
Traders as at 31st December 1995. Trial balance December 31st 1995
Dr. (shs) Cr. (shs)
Sales 980,000
Purchases 600,000
Returns 80,000 20 000
Carriage in 40,000
Carriage out 3,000
Stock (Jan 1st 1999) 120,000
Rent 60,000 45 000
Discount 15,000 25 000
Motor vehicle 150 000
Machinery 250 000
Debtors 120,000
Salaries 18,000
Commission 7,000 12 000
Capital 178,000
Insurance 15 000
Creditors 240,000
Cash 122 000
1 540 000 1 540 000
Additional information
i. Stock as at 31st December was 100,000
ii. the provision for depreciation was 10% on the cost of Motor vehicle, and
5% on the cost of Machinery
Required: Prepare trading profit and loss account for the period ending 31st Decembe
1999
Adjustments: Provision for depreciation;

Machinery = = 7 500
(New balance of machinery = 250 000 – 7 500 = 242 500. The 242 500 is
taken to the balance as Machinery (fixed asset), while 7 500 is taken to the
trading profit and loss account as expenses)

Motor vehicle = = 15 000

 259

(New balance of Motor Vehicle = 150 000 – 15 000 = 135 000. The 135 000
is taken to the balance as Motor Vehicle (fixed asset), while 15 000 is taken to
the trading profit and loss account as expenses)
Paka Traders
Trading, Profit and Loss Account
Dr For the period 31/12/1995 Cr
Shs Shs Shs Shs
Opening stock 120 000 Sales 980 000
add Purchases 600 000 Less Return inwards 80 000
add Carriage inwards40 000 Net sales 900 000
less Return Outwards20 000 620
000
Goods available for sale 740 00
Less Closing Stock 100 000 900 000
Cost Of Goods Sold (COGS)640 000 Gross profit b/d 260 000
Gross profit c/d 260 000 Discount received 25 000
900 000 Rent income 45
Expenses 000
Insurance 15000 Commission received 12 000
Carriage Outwards
30000
Salaries 18 000
Provision for Depreciation 342 000
Motor vehicle 15 000 Net profit b/d 174 500
Machinery 7 500 22500
Discount allowed 15 000
Commission allowed 7 000
Rent paid 60 000
Net profit c/d 174 500
342 000
The net profit/loss may be taken to the balance sheet.
The items that have been adjusted will be recorded in the balance sheet less
the adjustment.
The Balance Sheet
 260

The balance sheet will show the business financial position in relation to as-
sets, capital and liabilities. The adjustment that can be made will be on Fixed
assets and capital only. That is;
Fixed assets are recorded less their depreciation value (should there be provi-
sion for depreciation) as the actual value.
Actual value of assets = Old value – depreciation.
Capital is adjusted with the following; Net capital, Drawings and additional
investment. i.e.
Closing Capital/Net capital (C.C) = Opening/initial capital (O.C) + Additional
Investment (I) + Net profit (N.P) or (less Net Loss) – Drawings
CC = OC + I + NP – D
Where:
Opening Capital: - the capital at the beginning of the trading period
Closing capital: - the capital as at the end of the trading period
Additional Investment: - any amount or asset that the owner adds to
the business during the trading period
Net profit: - the profit obtained from the trading activities during the period. In
case of a loss, it is subtracted.
Types of Capital
The capital in the business can be classified as follows:
 Capital Owned/Owner’s Equity/Capital invested; - this is the capital that
the owner of the business has contributed to the business. It is the Net capi-
tal/Closing capital of the business (C = A – L)
 Borrowed capital: - the resources brought into the business from the outside
sources. They are the long term liabilities of the business.
 Working capital: - these are resources in the business that can be used to
meet the immediate obligation of the business. It is the difference between
the total current assets and total current liabilities
Working Capital = Total Current Assets – Total Current Liabilities
 Capital employed: - these are the resources that has been put in the business
for a long term. i.e.
Capital Employed = Total Fixed assets + Working Capital
Or
Capital employed = Capital Invested + Long term liabilities
Name of the business
Balance Sheet
 261

As at (date)
Shs shs Shs shs
Fixed Assets
Land xxxxx Capital xxxxx
Buildings xxxxx Add Net profit xxxx
Motor Vehicle xxxxx Add additional investt xxx
Any other fixed assets xxxxx Less drawings xxx
xxxxxx Net Capital xxxxx
Current Assets Long term liabilities
Stock xxxx Long term loan xxxx
Debtors xxxx Any other xxxx xxxx
Bank xxxx Current liabilities
Cash xxxx Creditors xxxx
Prepaid Expenses xxxx Short term loan xxxx
Accrued revenues xxxx Accrued expenses xxxx
Any other current assets xxxx Prepaid revenues xxxx
xxxxxx Any other xxxx
xxxxx

xxxxxx
xxxxxx
Example 00A: The following information were extracted from the trial bal-
ance of Mwema traders on 31st December 2010
Sales 750 000 Furniture 288 000
Purchases 540 000 Electricity expenses 16 000
Sales return 24 000 Motor vehicle 720 000
Return outwards 30 000 Rent expenses 2 500
General expenses72 000 Capital 842 500
Commission received 24 000 Bank Loan 250 000
Cash 156 000 Creditors 216 000
Debtors 244 000
Additional Information
a) Stock as at 31/12/2010 was ksh 72 000
b) Electricity prepaid was shs 4 000
c) Rent expenses accrued shs 3500
d) Depreciation was provided for as follows
 262

-Motor Vehicle 15% p.a. on cost -Furniture 6% p.a. on cost

Required
(i) Prepare Trading, profit and loss account for the year
(ii) Prepare a balance sheet as at 31st December 2012
(iii) Determine the following:
-Owner’s equity -Borrowed capital -Working capital -Capital employed
Adjustments:

Motor Vehicle = = 108 000

Therefore Motor vehicle = 612 000

Furniture = = 17 280
Therefore furniture = 270 720

Mwema Traders
Trading, Profit and Loss Account
Dr For the period 31/12/2010 Cr
Shs Shs Shs Shs
Purchases 540 000 Sales 750 000
less Return Outwards30 000 510 Less Return inwards 24 000
000 Net sales
Goods available for sale 510 000 726 000
Less Closing Stock 72 000
Cost Of Goods Sold (COGS)438 000
Gross profit c/d 288 000 726 000
726 000 Gross profit b/d 288 000
Expenses Commission received 24 000
General expenses
72 000
Electricity expenses 16 000
Less Electricity prepaid 4 000
 263

12 000
Rent expenses 2 500
Accrued rent exp 3 500 6 000 312 000
Net profit b/d 96 720
Provision for Depreciation
Motor vehicle 108 000
Furniture 17 280 125 280
Net profit c/d 96 720
312 000
Mwema Traders
Balance Sheet
As at 31/12/2010
Shs Shs
shs shs
Fixed Assets Capital 842 500
Motor Vehicle 612 000 Add Net profit 96 720
Furniture 270 720 882 Net Capital 939
720 220

Current Assets Long term liabilities

Stock 72 000 Bank Loan 250
Debtors 244 000 000
Electricity prepaid 4 000
Bank 50 000 Current liabilities
Cash 156 000 526 000 Creditors 216 000
Accrued rent 3 500 219 500
1 408 720
1 408 720
Basic Financial Ratios
A ratio is an expression of one item in relation to the other. It is used to com-
pare the groups of related items in the business, for the purpose of assessing
the performance of the business. They include:
a) Mark-up
This is the comparison of gross profit as a percentage of cost of goods sold.
i.e.
 264

Mark-up =
= 100
For example: in (example OOA) above, determine the mark-up of the busi-
ness.

Mark-up =
Gross profit = 288 000
COGS = 438 000
Mark-up = 100
= 65.75%
(This implies that the Gross profit of the business is 65.75% of its cost of
goods sold)
b) Margin
This is the expression of the gross profit as a percentage of net sales. That is:

Margin =
= 100
For example: in (example OOA) above, determine the margin of the business

Margin =
Gross profit = 288 000
Net sales = 726 000
= 100
= 39.67%
(This implies that the gross profit of the business is 39.67% of the net sales)
Relationship between margin and mark-up
Since margin and mark-up are all the expression of Gross profit, it is possible
to change one to the other.
 Changing mark-up to margin
Mark-up can be changed to margin as follows:
(i) Convert the mark-up percentage as a fraction in its simplest form.
(ii) Add the value of the numerator of the fraction to the denominator to
come up with the new fraction (margin fraction) that is
 265

If the mark-up fraction =

Margin fraction =
(iii) Convert the margin fraction as a percentage to obtain margin
For example: in the above example,
Mark –up = 65.75%

Margin fraction =

= x 100
= 39.67%
 Changing margin to mark-up
(i) Convert the margin percentage as a fraction in its simplest form
(ii) Subtract the value of the numerator of the fraction from the denomi-
nator to come up with the new fraction (mark-up fraction) that is
If the margin fraction =
Mark-up fraction =
(iii) Convert the mark-up fraction as a percentage to obtain mark-up
For example: in the above example,
Margin = 39.67%

Mark-up fraction =

= x 100
= 65.75%
c) Current ratio/working capital ratio
 266

This is the ratio of the current assets to current liabilities. It can also be ex-
pressed as a percentage. That is:

Current ratio =
= current assets: current liabilities
Or

Current ratio = x 100

For examples: in (example OOA) above, determine the current ratio;
Current assets = 526 000
Current liabilities = 219 500

Current ratio =

= = 1052: 439
Or

= x 100
239.64%
d) Rate of stock turnover
This is the rate at which the stock is bought or sold within a given period of
time. It is obtained by;

Rate of stock turnover (ROST) =

Average stock =

In (example OOA) above, determine the rate of stock turnover;

The cost of goods sold = 438 000
The closing stock = 72 000
The opening stock = 0
Therefore
 267

The average stock =

= = 36 000

Rate of stock turnover (ROST) =

=
= 12.17 Times
e) Return on capital
This is the expression of net profit as a percentage of the capital invested. That
is;

Return on capital = x 100

It can be given as a ratio or a percentage.
For example: in (example OOA) above, determine the return on capital of the
business
Net Profit = 96 720
Capital invested/owner’s equity = 939 220

Return on capital = x 100

= x 100

= 10.33%
f) Acid test ratio/quick ratio
This shows how fast the business can convert its current assets excluding
stock to settle its current liabilities. That is;

Quick ratio =

It is given in ratio form.

For example: in above (example OOA), determine the quick ratio;
 268

Current assets = 526 000

Stock = 72 000
Current liabilities = 219 500

Quick ratio =

=
= 2.07 (or 207 : 100)
Importance of Financial Ratios
 Mark up and margin helps in the following; setting the selling price, cal-
culating profit or losses and determining the sales for a given period of
time
 Working capital and acid test ratio help in showing whether the business
is in a position to meet its short term obligations and checking whether
the business is utilizing its resources properly. That is high working cap-
ital ratio shows that most of the resources are idle
 Return on capital shows the following;
- The performance of the business in relation to other similar busi-
nesses
- Comparison of the performance of the business over different periods
- Whether the business finances have been invested or not
- Help the potential investors on the decision on where to invest
 Rate of stock turnover also help in determining how fast or slow the
stock is moving. It also helps in computing the gross profit or loss.

MONEY AND BANKING

Barter trade
This is a form of trade where goods and services are exchanged for other
goods and services.
Benefits
1. Satisfaction of wants: And individual is able to get what he or she needs.
 269

2. Surplus disposal: an individual or country is able to dispose off its sur-

pluses.
3. Social relations: it promotes social links since the communities trade to-
gether.
4. Specialization: some communities shall specialize in a particular commod-
ity.
5. Improved living standards: this is enhanced by receiving what one is un-
able to produce.
Limitations of Barter trade
(i) Lack of double coincidence of wants: - it is difficult to find two people
with the need for each other’s product at the same time.
(ii) Lack of store of value/ perishability of some commodities: - some
goods are perishable thus their value cannot be stored for a long time for
future purposes e.g. one cannot store vegetables for exchange purposes in
future.
(iii) Indivisibility of some commodities: -it is difficult to divide some prod-
ucts like livestock into smaller units to be exchanged with other commodi-
ties.
(iv) Lack of standard measure of value: - It is not easy to determine how
much one commodity can be exchanged for a given quantity of another
commodity.
(v) Transportation problem: It is difficult to transport bulky goods espe-
cially when there is no faster means of transport.
(vi) Lack of a standard deferred payment: - The exchange of goods can-
not be postponed since by the time the payment is made, there could be
fluctuation in value, demand for a commodity may not exist and the nature
and quality of a good may not be guaranteed. It may be therefore difficult
what to decide what to accept for future payment.
(vii) Lack of specialization: - Everyone strives to produce all the goods he
or she needs due to the problem of double coincidence of wants.
(viii) Lacks unit of account- it is difficult to assess the value of commodities
and keep their record.
MONEY SYSTEM
Money is anything that is generally accepted and used as a medium of ex-
change for goods and services.
Features/ characteristics of Money
 270

For anything to serve as money, it must have the following characteristics:

 Acceptability: The item must be acceptable to everyone.
 Durability: The material used to make money must be able to last long
without getting torn, defaced or losing its shape or texture.
 Divisibility: Money should be easily divisible into smaller units (denomi-
nations) but still maintains it value.
 Cognizability: The material used to make money should be easily recog-
nized. This helps reduce chances of forgery. It also helps people to differ-
entiate between various denominations.
 Homogeneity: Money should be made using a similar material so as to ap-
pear identical. This eliminates any risk of confusion and forgeries.
 Portability: - Money should be easy to carry regardless of its value.
 Stability in value: The value of money should remain fairly stable over a
given time period.
 Liquidity: - it should be easily convertible to other forms of wealth (as-
sets).
 Scarcity: - It should be limited in supply. If it is abundantly available its
value will reduce.
 Malleability- the material used to make money should be easy to cast into
various shapes.
 Not easy to forge- money should not be easy to imitate.
Functions of Money
(i) Medium of exchange: It is generally acceptable by everyone in exchange
of goods and services. It thus eliminates the need for double coincidence of
wants.
(ii) Store of value: It is used to keep value of assets e.g. surplus goods can
be sold and then money kept for future transactions.
(iii) Measure of value: Value of goods and services are expressed in money
form. Performance of businesses is measured in terms of money.
(iv) Unit of account: It is a unit by which the value of goods and services
are calculated and records kept.
(v) Standard of deferred payment: it is used to settle credit transactions.
(vi) Transfer of immovable items (assets): Money is used to transfer assets
such as land from one person to another.
DEMAND FOR MONEY
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This is the tendency or desire by an individual or general public to hold onto

money instead of spending it. It also refers to as liquidity preference.
Money is held by people in various forms:
 Notes and coins
 Securities and bonds
 Demand deposits such bank current account balances.
 Time deposits such as fixed account balances
REASONS (MOTIVES) FOR HOLDING MONEY
1. Transaction Motive: Money is held with a motive of meeting daily ex-
penses for both the firms and individuals. The demand for money for trans-
action purpose by individuals depends on the following factors:
 Size/level of individual’s income: The higher the income of and individual,
the more the number of transactions thus high demand for transactions.
 Interval between pay days/ receipt of money: if the interval is long, then
high amount of money will be held for transaction reasons.
 Price of commodities: if the prices are high, the value of transactions will
also increase thus more money balances required.
 Individuals spending habits-people who spend a lot of money on luxuries
will hold more money than those who only spend money on basics.
 Availability of credit-people who have easy access to credit facilities hold
little amount of money for daily transactions than those who do not have
easy access to credit.
The transaction motive can further be divided to;
 Income motive i.e. holding money to spend on personal/ family needs.
 Business motive i.e. holding money to meet business recurring needs
such as paying wages, postage, raw materials. Etc
2. Precautionary Motive: Money is held in order to be used during emergen-
cies such as sicknesses.
The amount of money held for this motive will depend on the factors such as:
 Level of income- the higher the income the higher the amount of money
held for precautionary motive.
 Family status- high class families tend to hold more money for precaution-
ary motive than low class families.
 Age of the individual- the aged tend to hold more money for precautionary
motive than the young since they have more uncertainties than the young.
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 Number of dependant- the more the dependants one has, the more the
money they are likely to hold for precautionary motive.
 Individual’s temperament- pessimists tend to hold more money for pre-
cautionary motives than the optimists because they normally think things
will go wrong.
 Duration between incomes- those who earn money after a short time are
likely to keep less money than those who earn money after a long time.
3. Speculative Motive: Money is held to be used in acquiring those assets
whose values are prone to fluctuations such as shares/ money is held antici-
pating fall in prices of goods and services. This depends on the following:
 The wealth of an individual
 The rate of interest on government debt instruments
 Interest on money balances held in the bank.
 How optimistic or pessimistic a person is.
SUPPLY OF MONEY
This is the amount of money/ monetary items that are in circulation in the
economy at a particular period of time. They include the following;
1. Total currency i.e. the coins and notes issued by the central bank.
2. Total demand deposits: money held in current accounts in banks and are
therefore withdrawable on demand.

Factors influencing supply of money

 Government policies: If there is more money in the economy, the govern-
ment will put in place measures to reduce the supply such as increasing in-
terest rates.
 Policies of commercial banks: The more the loans offered by commercial
banks, the more the amount of money in circulation.
 Increase in national income: increase in national income means that more
people will be liquid due to increase in economic activities.]
 Increase in foreign exchange: The foreign exchange reserves will increase
thus supply increases.
BANKING
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This is the process by which banks accept deposit from the public for safe
keeping and lending out the deposits in form of loans.
A bank is a financial institution that accepts money deposits from the public
for safe keeping and lending out in terms of loans.
COMMERCIAL BANKS
These are financial institutions that offer banking services with a profit mo-
tive. Their activities are regulated by the Central bank.
Functions of commercial banks
i. Accepting deposits: They accept deposit from members of the public in-
form of current accounts, savings account and fixed deposit accounts. Such
accounts help individuals to keep money safely.
ii. Provision of safe means of payments: They provide safe and reliable
means of payment such as cheques, bank drafts, credit transfers, electronic
funds transfers etc.
iii. Provision of loan facilities: They provide loans to members in form of
short term and long term. These loans are repayable with interests thus in-
come to the banks.
iv. Facilitates foreign exchange payments: They provide foreign exchange
that is used in international trade. They also make payments on behalf of
their customers.
v. Provision of safe keeping of valuables: They provide security for valu-
ables to their customers at a fee
vi. Discounting bills of exchange: This is process by which a bank accepts
bills of exchange and promissory notes from its customers in exchange of
cash less than the face value of the bill or note.
vii. Provision of financial information: - They advice their clients on finan-
cial matters affecting their businesses such as investment option and wise
use of loans.
viii. Money transfer:- They provide varied, safe and reliable means of money
transfer. Such means include cheques, standing orders, credit transfers,
bank drafts, letters of credit, credit cards, travelers cheques etc.
ix. Act as guarantors and referees: - They act as guarantors to their cus-
tomers who want to acquire credit facilities from other financial institu-
tions.
x. Act as intermediaries: - They act as a link between the savers and borrow-
ers.
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xi. Credit creation: - This is the process of creating money from the customer
deposits through lending.
xii. Provision of trusteeship: - They can manage a business on behalf of the
client especially if the client does not have managerial skills. They can also
manage the assets of the deceased client if there was no will.
TYPES OF ACCOUNTS OFFERED BY COMMERCIAL BANKS
1. Current account
This is an account where money deposited can be withdrawn on demand by
the customer by means of a cheque. This means that money can be withdrawn
at any time during the official working hours so long as the account has suffi-
cient funds.
This account is also referred to as demand deposits.
Features characteristics of current accounts
 Deposits of any amount can be made at any time.
 Balances in this account do not earn any interest.
 The account holder is not required to maintain a minimum cash balance in
this account
 Withdrawals can be at any time without giving and advance notice as long
as the customer has sufficient funds.
 Cheque books are issued to the account holder to be used as a means of
payment/ cheques are usually used to withdraw money from the account.
 Monthly bank statements are issued to the account holder.
 Overdraft facilities are offered to the account holders’ i.e the bank can al-
low customers to withdraw more money than they have in their accounts.
Advantages of current account
 No minimum balance is maintained hence the account holder can access all
his/her money.
 Withdrawals can be made at any time.
 Transactions are made easier by use of cheques for example; one does not
have to go to the bank in order to make payment.
 Overdraft facilities are available..
 It is possible to deposit any amount at any time during the office hours.
 Use of cheques as means of payment serves as evidence of payments made.
 Payments can be done even if there are insufficient funds in the account us-
ing post dated cheques.
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 The account holder can withdraw any amount at any time without notice as
long as there are sufficient funds in the account.
Disadvantages of current account
 Lengthy procedures of opening the account.
 The account holder does not earn any income since the balances in the cur-
rent account does not earn interest.
 Initial deposit when opening the account is usually high hence discourages
prospective customers.
 Customers are not encouraged to save since they can access their money at
any time.
 Ledger fees are charged on the account making the operations of the ac-
count expensive.
2. Savings account (deposit account)
This is an account operated by individuals and firms that have money to save.
Features of Savings account
 There is minimum initial deposit that varies from bank to bank.
 A minimum balance is maintained at all times.
 The withdrawals are up to a certain maximum within a given period. With-
drawal above this maximum will require notice.
 Account holders are issued with a pass book or a debit card (ATM card) for
deposits and withdrawals.
 Overdraft facilities are not allowed.
 Ordinarily, withdrawals across the counter can only be done by the account
holder.
 The balance on the account above a certain minimum earns some interest.
Advantages of Savings account
 Customers are encouraged to save because of the restricted withdrawals.
 There are relatively low banking charges.
 Initial deposit is usually low as compared to other accounts.
 The balances earn interest to account holder hence an incentive to save.
 ATM facilities have made account operations very convenient to cus-
tomers.
Disadvantages Savings account
 A minimum balance must be maintained at all times and the customer is
denied access to that money.
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 For across the counter withdrawals, it is only the account holder who can
withdraw cash.
 Withdrawals are restricted and sufficient notice is required before large
amounts are withdrawn.
 The account holders do not enjoy services such as cheque books and over-
draft facilities like the current account holders.
 Easy access to the money through ATM cards encourages overdrawals.
 Anybody who knows the pin of the card (ATM card) can withdraw money
from the account.
Requirements for opening an account
The following are some of the requirements for opening either a current ac-
count or a savings account:
i. Photocopies of identification documents such as National Identity Card or
Passport.
ii. Passport size photographs (number varies from bank to bank). Some banks
are nowadays taking the photographs instead of the customers providing
them.
iii. For current account holders, an introductory letter from an existing cus-
tomer from the prospective customer’s employer.
iv. Filling in the application form provided by the bank.
v. Signing of the specimen signature cards. Usually two.
NB: Once these requirements are fulfilled, the bank allocates the customer an
account number, upon payment of an initial deposit.
3. Fixed deposit account
This account is also known as time Deposit account. It is maintained by those
who have money not meant for immediate use.
Once money is deposited, there are no withdrawals until the time expires.
Advantages of Fixed deposit account
 Interest earned is relatively high as compared to savings account.
 There are no bank charges to the account holder.
 Money held in fixed deposit account can be used as security to acquire
bank loans.
 Restricted withdrawals encourage savings.
 The account holder has time to plan for the deposited money.
Disadvantages of Fixed deposit account
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 Access to money is not allowed until the end of the agreed period.
 Interest is forfeited if there is pre-mature withdrawal.
 The minimum amount of money for this account is high.
 The customer is not allowed to deposit more money in this account.
 A notice is required if the customer wants to terminate the contract before
expiry date.
 The customer is denied the use of the deposited funds before the expiry of
the period.
REQUIREMENTS TO OPEN AND OPERATE A BANK ACCOUNT
1. Identification documents such as National Identification Card, Passport and
Driving License.
2. Reference letter from employer or an existing customer.
3. Filling an application form giving the information about the customer.
4. Submission of a specimen signature to be held by the bank.
5. An initial deposit is paid and the account becomes operational.
NON- BANK FINANCIAL INSTITUTIONS
These are financial institutions that offer finances for development purposes to
individuals and organizations.
These institutions address themselves to the needs of specific sectors in the
economy.
They offer the finances inform of either short term or long term loans.
The following are some of the non-bank financial institutions in Kenya
 Development banks
 Building societies
 Finance houses
 Savings and Credit Co-operative Societies
 Micro finance organizations
 Insurance companies
 Pension Funds’ Organizations
 Hire Purchase Firms

 Housing Finance Companies

They are mainly formed to finance housing activities that is they either put up
houses and sell to the individuals or offer mortgage finance to those who wish
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to put up their own houses. They includes Housing Finance Corporation of

Kenya (HFCK), National Housing Corporation (NHC)
 Development Finance Institutions
These are development banks which are formed mainly to provide medium
term and long term finances, especially to the manufacturing sector. They per-
form the following functions
Financing people who wishes to start either commercial of industrial enter-
prises, as well as the existing enterprises in the above sectors for expansion
Offering training services through seminars and workshops to equip the en-
trepreneurs’ with the relevant skill in industrial and commercial sectors
Offer advisory services to those people wanting to start or expand their busi-
nesses
Acting as guarantors to people wishing to take loan from other lending insti-
tutions to help them expand their business
They includes the following Kenya Industrial Estates (KIE), Development Fi-
nance Company of Kenya (DFCK), Industrial Development Bank (IDB), In-
dustrial and Commercial Development Corporation (ICDC)
 Savings and Credit Co-operative societies
These are co-operative societies that are formed to enable members save and
obtain loans at most conveniently and favorable conditions. They are formed
by those engaged in similar activities. They includes: Mwalimu Savings and
Credit Co-operative Societies; Afya Savings and Credit societies; Harambee
Savings and Credit Societies
 Insurance companies
These are companies that assist in creating confidence and sense of security to
their clients as well as offering financial assistance to their clients. Their func-
tions include;
Enable the policy holders to save through their schemes
Provide finances to their policy holders in form of loans
Offer guarantee services to the policy holders wishing to obtain loans from
other non-bank financial institutions
Provide advisory services to the policy holders on security matters
Provide finances to meet the expenses incases of loans
They includes the following: Stallion Insurance Company; Madison insurance
company; Blue shield insurance company
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 Micro Finance Companies

These are financial companies formed to provide small scale and medium size
enterprises with finance. They also carry out the following functions
Offer advisory services to their clients in matters such as business opportu-
nities available and how to operate them.
Encourage the clients to carry out business activities by offering loans to
them
They encourage the savings by advancing loans to the individual member of
a certain group
They supervise, monitor and advise those whom they have given loans
They includes the following: Kenya Women finance Trust (KWFT), Faulu
Kenya
 Agricultural Finance Houses
These are institutions formed to promote the agricultural sector. They carry
out the following
Giving loans to farmers
Offering supervisory and training services to the loaned farmer
Offering technical and professional advice to loaned farmer
Carry research and come up with better ways and means of agricultural sec-
tor
Coming up with projects that would open up new areas for agriculture
Differences between commercial banks and non-bank financial institu-
tions
Commercial Banks Non-Bank Financial Institutions
(i) Offer all types of accounts (i) Offer only two types of ac-
counts savings and fixed deposit
(ii) Provide both short term and (ii) Mainly provide medium term
medium term finances to their cus- and long term finances
tomers (iii) Their finance is restricted to a
(iii) Their finance is not restricted to particular sector
any sector (iv) Do not provide foreign ex-
(iv) May offer foreign exchange change services
services (v) They provide capital for devel-
(v) Their finance is mainly for opment
working capital (vi) Do not participate in clearing
(vi) Participate in clearing house as house since they don’t offer
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they offer cheque (vii) Do not offer facilities for safe

(vii) Offer facilities for safe keeping keeping of valuable items
of valuable items such as title (viii) Not usually in direct control of
deeds the central bank
(viii) Always in direct control of the (ix) Do not offer overdraft facilities
central bank to their customers
(ix) May offer overdraft facilities to
their customers
THE CENTRAL BANK
This is a bank established by the government through the act of the parliament
to manage and control the monetary matters in the country. It was formed to
perform the following functions;
 Issue currency in the country, which includes both new notes and coins
to replace the worn-out ones
 Banker to the commercial banks, by ensuring that all the commercial
banks in the country operate an account with them
 Being the government ‘s bank, by offering banking services to the gov-
ernment which enables the government to operate an account with them
 Advisor to the government on financial issues in the economy
 Controller of the commercial banks on how they carry out their functions
in the economy to ensure that their customers are served well
 Provide links with other central banks in other countries, facilitating fi-
nancial relationships. It also provide a link between the country and other
financial institutions such as IMF
 Maintain stability in the exchange rates between the local currencies and
the foreign ones.
 Act as the lender of the last resort to the commercial banks to enable
them meet their financial obligations when need arise
 Facilitates the clearing of cheques between different commercial banks
through its clearing house (a department in the central bank)
 Administering of the public debt by facilitating the receipt and providing
a means through which the government pays back the borrowed money
 Control of the monetary system in the country in order to regulate the
economy. In doing this they put in place various monetary policies that
can either expand the economic activities in the country or depress them.
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Monetary policy refers to the deliberate move by the government through the
central bank to manipulate the supply and cost of money in the economy in or-
der to achieve a desirable economic outcome. They do this through the use of
various tools of monetary policies which includes the following: Bank rates;
Open market Operation (OMO); Cash Liquidity ratio requirement; Compul-
sory deposit requirement; Selective credit control; Directives; Request.
 Bank rates
They may increase or decrease the interest rate at which they lend to the com-
mercial banks to enable them increase or decrease the rate at which they lend
money to their customers in the economy to enable the government achieve
the desirable economic development in the country
When they increase their lending interest rate, the commercial banks also raise
their lending rates to the consumers to reduce the number of people obtaining
loans, leading to a reduction of money supplied in the economy.
When they decrease their lending interest rate, the commercial banks also de-
creases their lending rates to the consumers, increase the amount of money
supplied in the economy
 Open Market Operations (OMO)
This is where they regulate the supply of money in the economy by either sell-
ing or buying the government securities (treasury bills or bonds) in the open
market. That is when they want to increase the supply in the economy, they
buying the securities from the members of the public who had bought them to
increase more supply of money in the economy.
When they want to reduce the amount of money in circulation they will sell
the government security to the public in the open market, to mop up/reduce
the excess supply in the economy
The payment of the securities takes money from the individuals accounts in
the commercial banks, reducing the amount that the individual can use in the
economy, while when buying the central bank pays the security holders in
their respective accounts in the commercial banks, increasing the amount that
they can use in the economy
 Cash/liquidity ratio requirement
Here the central bank expect the commercial bank to keep a certain proportion
of their total deposits in form of cash to enable them meet their daily needs,
while the rest are held in liquid assets. This proportion can be reduced by the
central bank to reduces the amount of money held by the commercial banks in
 282

order to reduce the amount of money spent by the commercial banks in cash,
reducing the amount of money in supply, or they may increase the proportion
to be held by the commercial banks to enable them increase the amount of
money they spent in cash, increasing the amount of money in supply

Cash ratio =
 Compulsory deposit requirements
The commercial banks are required to maintain a certain amount of deposits
with the central bank which will be held in a special account where the money
stays frozen. This reduces the amount of money that the commercial banks
hold and are able to spend in their operation, influencing the supply of money
in the economy.
The deposit may be increase to reduce the amount of money in the commer-
cial banks, or reduced to increase the amount of money in the commercial
banks
 Selective credit control
The central bank may issue a special instruction to the commercial bank and
other financial institution only to lend more in a particular sector to control the
amount of money reaching the economy. The instruction may be removed, if
the bank feels that the supply in the economy has reduced and needs to be in-
creased
 Directives
The central bank may issue a directive to the commercial banks on the interest
rate they should charge on their lending and to increase or reduce the margin
requirement for borrowing to make it harder or easier for the customers to ob-
tain loan.
Margin requirement is the proportion of money expected to be raised by the
client to finance the project he/she wants to obtain the loan for, before being
given a loan to complete the project with.
 Request (Moral suasion)
The central bank may appeal to other financial institutions to exercise restrain
in their lending activities to the public to help in controlling the money supply
Trends in Banking
These are the positive changes that have taken place in the banking sector to
improve their service deliveries to their customers. They include;
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1.The use of Automatic Teller Machines (ATMs), which has made it possi-
ble for the customers to access their money any time of the day. The ATM
cards that are used for withdrawals from the ATM machines can also be
used as a debit card to make purchases.
2.Networking all their branches, which has enable the customers to carry
out their transactions in any of the branch.
3.E-Banking, which is the banking through the internet. This has made it pos-
sible for the customers to transact their financial businesses on-line.
4.Relaxation of some of the conditions on opening and operating some of
the accounts to make them be more attractive to their customers.
5.Offering varieties of products which includes easier credit facilities to
their customers to attract more customers.
6.Liberalization of foreign exchange dealings by licensing forex bureaus
to offer services to the customers, improving the accessibility to the ser-
vice.
7.Improving the customers care services, with some bank setting up a de-
partments known as the customer care department to offer detailed assis-
tance to their customers.
8.Allowing non bank financial institutions to offer banking services to the
members of the public, for example; KWFT, SACCOs, FOSA, Faulu
Kenya, etc
9.Mobile Banking services (M-Banking), which allows the customers to
carry out their financial transactions over their mobile phones. It has
brought about several benefits/ advantages to their customers which in-
cludes;
Advantages of m-banking
- Easy transfer of funds from one account to the other in the same bank (inter
account transfer)
- Easy transfer of money from ones account to his mobile phone for other
transactions
- Ability to check ones account balance in the bank with ease
- Easy to monitor your financial transactions by checking your transaction de-
tails over the phone
- Easy payment of the bills such as electricity bill, Dstv bills, etc and other
wages
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- Ability to transfer money from one mobile number to other in collaboration

with the service providers
- Easy request for new cheque books and bank statements from the banks
- Able to top up air time to your mobile phones in collaboration with the ser-
vice providers
- Reduced risk of carrying large sums of money in cash or cheques that may
be stolen
However this development has also come with its challenges, which includes:

Disadvantages of m-banking
- Registration to enjoy all these services must physically be done in the bank-
ing hall, which subject the customers to stress queues of the bank
- Only the registered mobile number can carry out these transactions which
limits the customer to only using one number
- Users requires a mobile phone with a screen that can display the transaction
which a times some may not a ford
- Mobile phones can easily be lost or stolen from the owner, inconveniencing
him from carrying out the transactions
- Bank transaction information may load slowly, which may makes it expen-
sive for the user
- Possibility of transferring the funds to a wrong account, due to error in typ-
ing of the account number
 Introduction of agency banking, which has made them to make their ser-
vices to be more accessible to even areas where they may have not put up a
banking hall.
Agency banking is whereby a retail stores, supermarket, or any other commer-
cial businesses are authorized by the financial institutions to carry out finan-
cial transactions on their behalf. They may offer the following services
- Receiving customer deposits
- Offering withdrawal services
- Transfer of funds for customers
- Pay bills for the customers
- Balance inquiry services
- Opening new accounts for the customers
- Fill loan application forms for them
Advantages of agency banking
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 Reduction of set up and delivery cost to the banks, which in turn passes to
the customers in form of reduced cost of accessing services
 Time saving as the agents are located close to the customer and the cus-
tomer may carry out other transactions as he withdraw the money
 More convenient for the customer to bank with their local retailers other
than the traditional banking halls
 Enable the bank to reach far places within the country

REVISION EXERCISES
PAPER 1
1. Give four advantages of barter trade.
2. Highlight four services offered by the central bank of Kenya to the com-
mercial banks.
3. State four methods through which commercial banks can transfer money.
4. State any four current developments that have taken place in the banking
sector.
5. Outline four tools of monetary policy used by the central bank to control
money supply.
6. Outline four factors that may have led to the downfall of barter trade.
7. Highlight two factors that may influence:
a. Transaction motive.
b. Speculative motive.
8. Mention four functions of commercial banks in an economy.
9. Outline three factors that influence the supply of money.
10. Give four characteristics of money.
11. The following are some of the accounts available to customers in Kenya
banking industry: Current account, Savings account and Fixed deposit ac-
count. Give the account that corresponds to each of the description given
below.
Description Type of ac-
count
( Account holders required to deposit a
a specific initial amount as well as main-
 286

) taining a minimum balance.

( Account holders may deposit and with-
b draw money whenever they want with-
) out maintaining a minimum balance.
( Banks pay interest on deposit at com-
c paratively higher rates.
)
( Money may be deposited at any time
d and interest is earned if a specific bal-
) ance is maintained.

12. Outline four benefits that accrue to a customer who uses automated teller
machine (ATM) banking services.
PAPER 2
1. Explain five functions of the central bank of Kenya.
2. Describe four measures that the government may put in place to reduce the
amount of money in circulation.
3. Explain five services offered by commercial banks to their customers.
4. Explain five ways in which commercial banks facilitate payment on behalf
of their customers.
5. Explain four services that the central bank of Kenya may offer as a banker
to commercial banks.
6. Explain five in which banks contribute to the development of Kenya
7. Outline five reasons why banks currently account is popular with traders
8. Explain service offered to commercial banks by the central bank of Kenya
9. In what ways of the functions of commercial bank differ with those of non- bank
Financial institutions
10. Explain five ways in which central bank of Kenya may control the supply of
money in
The country
11. Describe methods which may be used by commercial banks to advance money
to customers.
12. A businessman wishes to obtain a loan from a commercial bank. Highlight the
Conditions that he should satisfy before the bank can grant him the loan
13. Explain five services that the central bank of Kenya offers to commercial banks
Explain four disadvantages of using a bank overdraft as a source of finances
 287

14. Describe four ways in which a non- bank financial institutions differ from the
commercial banks
15. Discuss five reasons why business people prefer to operate bank current ac-
counts
16. Outline the benefits that bank customer gets from operating a current account
Explain the 5 services offered by a commercial banks to their customers

PUBLIC FINANCE

Public finance refers to the activities carried out by the government associated
with raising of finances and the spending of the finances raised (it is the study
of how government collects revenue and how it spends it)
The components of public finance are;
i. Public revenue
ii. Public expenditure
iii. Public debt
i. Public revenue-refers to the revenues (income) and resources re-
ceived by the government from different sources.
ii. Public expenditure-refers to the resources spent by the govern-
ment.
iii. Public debt-refers to the money and resources borrowed by the
government.
Purpose of public finance
i. Provision of essential goods and services. The government has a re-
sponsibility of providing its citizens with essential goods and services
such as security,health,schools,drought control, law e.t.c such facilities
and services may not be adequately covered by the private sector be-
cause of the high costs involved and risks.
ii. Encouraging consumption of certain commodities-The government
may encourage consumption of certain commodities e.g. maize by subsi-
dizing on their productions or lowering their taxes.
iii. Controlling consumption of certain commodities-The government
may also encourage consumption of some commodities e.g. cigarettes
and alcohol by imposing heavy taxes on them.
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iv. Promotion of Balanced regional development-This may be done by

initiating economic projects in areas that are under developed/lagging
behind.
v. Wealth Redistribution-This is done by heavily taxing the rich and us-
ing the money raised to provide goods and services that benefit the poor
vi. To promote economic stability-Economic instability may be caused by
factors such as unemployment. Such problems can be solved through
public expenditure in projects that generate employment such as ‘kazi
kwa vijana’
vii. Creation of a conducive Business Environment-Through public ex-
penditure, the government may develop infrastructure such as roads,
electricity, security e.t.c thereby creating a conducive environment for
businesses to thrive in.
viii. To raise government revenue-Through public finance, the government
raises revenue which it uses in provision of essential goods and services
to the public.
ix. Improving balance of payment-This may be done by improving heavy
taxes such as customs duty to discourage importation.
Sources of public finance
There are two major sources of public finance i.e.
i. Public revenue
ii. Public debt (government borrowing)
i. Public revenue-This is the income that the government gets from its cit-
izens. The main sources of public revenue are:
a. Tax: This is a compulsory payment levied by the government on individu-
als and firms without any direct benefit to the payer.
b. Fines and penalties-These are the charges imposed on individuals, firms
and corporations who break the laws of the country.(offenders)
c. Fees; These are the payments charged by the government for the direct ser-
vices it renders to its people e.g. road licence fee, marriage certificate fee
and import licence fee.
d. Rent and rates: Charged on use of government properties e.g. game parks,
forests e.t.c
e. Eschiats: Income obtained from properties of persons who die without le-
gal heirs or proper wills. Such people’s properties are taken over by the
state.
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f. Dividends and profits: These are the income received from the govern-
ment direct investments e.g. income/surplus from public corporations.
g. Interest from loans-This is the interest on loans advanced by the govern-
ment to firms and individuals through its agencies such as ICDc,AFC e.t.c
h. Proceeds from scale of government property.
g.Public debt (Government borrowing)-This is the money that the govern-
ment borrows when public revenue is insufficient to meet all its financial obli-
gations.
Government borrowing is also referred to as national debt. It includes all out-
standing borrowing by the central government, local authorities and govern-
ment corporations.
These are two majorly two sources of public debts:
a. Internal borrowing
b. External borrowing
a. Internal borrowing
This refers to borrowing by government from firms and individuals within the
country. This may be done through:
Open market operation; the government sells its securities such as treasury
bonds and treasury bills. This however has a disadvantage of causing ‘crowd-
ing out effect’ where the government leaves the private investors with little to
borrow from.
b. External borrowing
This refers to government borrowing from external sources. It may either be
on a bilateral or multilateral basis.
Bilateral borrowing is where the government borrows directly from another
country.
Multilateral borrowing is where the government borrows from international fi-
nancial institutions such as international monetary fund (IMF), World Bank,
African Development bank e.t.c.such bodies get finances from various sources
which they lend to their member countries who are in need of such funds.
Generally, external borrowing has strings attached. The borrowing country is
expected to meet some set conditions, sometimes adversely affecting some
sectors of the economy.
The total internal borrowing (internal debt) added to the total external borrow-
ing (external debt) constitutes the national debt.
Classes of public (National debt)
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These are two classes of national debt:

i. Reproductive debt
ii. Dead-weight debt.
i. Reproductive debt
This is borrowed money used to finance project(s) that can generate revenue.
Such projects, once started may become self sustaining and may contribute to-
wards servicing/repaying the debt. E.g. money used to finance irrigation
schemes, electricity production e.t.c.
ii. Dead-weight debt
This is borrowed money that is used to finance activities that do not generate
any revenue. Examples are money used to finance recurrent expenditure e.g.
payment of salaries or for famine relief e.t.c
Dead-weight debt is a burden to members of the public since they are the ones
who are expected to contribute towards its repayment.

Factors to consider before the government decides whether to borrow in-

ternally or externally
This refers to how the government spends the finances it has raised on behalf
of its citizens.
Categories of government expenditure
a) Recurrent expenditure
b) Development expenditure
c) Transfer payments.
a. Recurrent expenditure
This refers to government spending that takes place regularly e.g. payments of
salaries to civil servants, fuelling of government vehicles e.g.
Every financial year, the government must allocate funds to meet such expen-
diture.
Recurrent expenditure is also known as consumption expenditure.
b. Development expenditure
This is also referred to as capital expenditure .It is government spending on
projects that facilitate economic development. Such projects includes con-
struction of railway lines, roads, airports, rural electrification e.t.c
Once completed expenditure on such projects ceases and may only require
maintenance.
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c. Transfer payments
This is expenditure on things/people who do not directly contribute to a coun-
try’s national income. Such expenditure include money spent on famine relief,
pension, bursaries e.t.c
PRINCIPLES OF PUBLIC/GOVERNMENT EXPENDITURE
These are the considerations that are necessary before any expenditure can be
incurred by the government.
They include:
a) Sanctions: Every public expenditure must be approved by the relevant au-
thority like parliament.
b) Maximum social benefit: Any public expenditure must be incurred in
such a way that majority of the citizens are able to reap maximum benefit
from it e.g. improved living standards and quality of life.
c) Flexibility /elasticity-The policy on public expenditure should be flexible
enough to meet prevailing economic situations i.e. it should be possible to
increase or decrease the expenditure on projects depending on the prevail-
ing circumstances e.g. during drought, it should be possible to spend on
famine relief.
d) Economy-public expenditure should be planned carefully and prudently to
avoid any possible waste.
e) Proper financial management (Accountability)-public funds should be
well managed. This should be facilitated by maintenance of proper records
which should be audited as required.
f) Productivity-The biggest proportion of public expenditure should be spent
on development projects and less on non-development projects.
g) Equity-Government expenditure should be distributed equitably to all sec-
tors of the economy in order to reduce income and wealth inequalities.
h) Surplus-Surplus revenue collected should be saved for emergencies or for
when collection of revenue is below projections.
TAXATION
Tax: is a compulsory payment by either individuals or organizations to the
government without any direct benefit to the payer.
Taxation-refers to the process through which the government raises revenue
by collecting taxes.
Purposes/reasons for taxation
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i. Raising revenue for government expenditure. This is the main reason for
taxation.
ii. Discouraging /controlling consumption of certain commodities e.g. alcohol
and cigarattes which are considered to be harmful.
iii. Discouraging importation of certain commodities in order to protect local
industries. This is done by imposing heavy taxes on such commodities.
iv. Controlling inflation. Taxation reduces money supply by reducing peoples
‘disposable’ income thereby controlling inflation.
v. Reducing inequality in income distribution; this is done by taxing the rich
heavily and using the finances raised in provision of goods and services
that benefit the poor.
vi. Influencing locations of businesses. This is done by taxing businesses lo-
cated in urban areas heavily and those in rural areas lightly hence busi-
nesses moving to rural areas.
vii. Correcting unfavorable balance of payments. High taxes are imposed on
imported commodities thereby discouraging their importation leading to an
improvement in the balance of payments.
viii. To protect the key selectors of the economy such as the agricultural sector,
by stimulating their growth.

Factors that determine the amount of money raised through taxation

i. Distribution of incomes
ii. Social and political factors
iii. Honesty and efficiency of tax authorities
iv. Citizens level of real income
v. Economic structure of the country i.e. relative size of the country’s com-
mercial and subsistence sectors.
Principles of taxation
These are the characteristics that a good tax system should have. They are also
referred to as the cannons of taxation.
A good tax system should be;
j. Equitable/principle of equity-Every subject of the state should pay tax in
proportion to their income. A tax system should therefore have horizontal
and vertical equity.
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Horizontal equity means that those at the same level of income and circum-
stances should pay the same amount of tax.
Vertical equity means that those earning higher incomes should pay propor-
tionately higher amounts of tax than those earning less.
k. Certain/principle of certainty-The tax that an individual should pay should
be clear in terms of the amount, time and manner in which it should be
paid. The government should also be fairly certain of the amount of tax ex-
pected so that planning can be easier.
l. Convenient/principle of convenience-Tax levied ought to be convenient to
both the contributor and collector, it should be levied at a time when the
payer has money and mode of payment should be convenient to both the
payer and the payee.
m.Economical/principle of economy-The cost of collecting and administering
the tax should be lower than the tax so collected.
n. Flexible/principle of flexibility-It should be readily adaptable to changing
economic times i.e. when the economic conditions of the people improve it
should give raised revenue e.g. VAT
o. Ability to pay/non-oppressive-A tax system should be designed in a way
that the amount charged is not too high to the extent that the contributors
are unable to pay or is discouraged from working hard.
p. Diversified/principle of diversity-There should be different types of taxes
so that the tax burden is on different groups in the society. This also en-
sures that the government has money at all times.
q. Simplicity-A good tax system should be simple enough to be understood by
each tax payer. This will motivate them to pay tax.
r. Elastic/principle of elasticity-The tax system should be able to generate
more revenue for the government by targeting items of mass consumption.
IMPACT AND INCIDENCE OF TAX
Impact of tax: The burden of tax on the initial person
Incidence of tax: The final resting place of the tax burden.
The person on whom tax is initially imposed may either bear the whole bur-
den or pass part or the whole burden to someone else. E.g. for manufactured
goods, the impact of the tax is on the manufacturer and the manufacturer may
pass the incidence of the tax to the consumer.
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If the manufacturer only passes part of the burden to the consumer, then the
incidence of the tax wil be partly on the manufacturer and partly on the con-
sumer.
CLASSIFICATION OF TAXES
Taxes are classified according to;
i. Structure of the tax
ii. Impact of the tax on the tax payer.
a. According to the structure
In this case, taxes are classified according to the relationship between the
amount paid on tax and the income of the tax payer. These are:
i. Progressive tax
ii. Regressive tax
iii. Proportional tax
b. Progressive tax
This is a type of tax where the rate/amount paid increases proportionately with
increase in income.e.g tax may be as follows
Income Rate
0-5000 20%
5001-10000 25%
10001-15000 30% e.t.c
-In progressive tax, those with higher income rates remit a higher proportion
of their income as tax compared to those in lower income brackets.
This type of tax is based on the belief that one only needs a certain amount in
order to have a decent standard of living.
Advantages of progressive tax
 It reduces income inequality as the rich are taxed more
 It encourages people to work harder/more in order to maintain
their standard of living
 The revenue collected is higher
 The unit cost of collecting tax reduces as the tax increases.
Disadvantages of progressive tax
i. It is oppressive-some people are taxed more than the others and punishes
people for their hard work.
ii. It may discourage people from working more as any additional income
goes tax
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iii. Investors may be discouraged from venturing into risky but more profitable
businesses as these would attract more tax
iv. It assumes that people earning the same amount of money/income have
similar needs and ability to pay tax-which in reality may not be true.
v. It can lead to tax evasion by taxpayers falsifying their level of income.
c. Regressive tax
This is a type of tax that takes a higher proportion of low income earners as
compared to high income earners. The fax burden falls more heavily on the
poor (opposite of progressive)
Example: sales tax where people pay the same amount irrespective of the level
of income.
The assumption is based on the understanding that the one who deems it nec-
essary to buy a certain products considers the utility derived from it to be
equal to its price, which includes tax.
d. Proportional Tax
This is a type of tax where the rate of tax remains the same irrespective of the
level of income or value of property to be taxed e.g. if the rate is 20% then a
person who earns ksh.5000 will pay 20/100 x5000=ksh.1000
Ksh.10, 000 will pay 20/100x10,000=ksh.2000 e.t.c
Example: corporation tax where companies are expected to pay a fixed
proportion of their profits as tax.
e. Digressive tax
This is a type of tax where the tax rate increases up to a given maximum after
which a uniform tax rate is levied for any further income.
Classification according to impact on the tax-payee
Based on the impact, the tax has on the tax payer; tax may be classified as ei-
ther:
a. Direct tax
b. Indirect tax
a. Direct tax
These are taxes where the impact and the incidence of the tax are on the same
person. It is not possible to shift/pass any part of the tax burden to anybody
else.
This type of tax is based on incomes, profits and property of individuals as
well as companies.
They include:
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i. Personal income tax

This is a tax that is imposed on incomes of individuals and is usually progres-
sive in nature.
Example pay-As You-Earn (PAYE) for salaries.
In most cases it is paid through check-off system where the employer deducts
it from the employee’s salary and remits it to the tax authorities.
ii. Corporation tax
This is tax levied on profits of companies. It is usually proportional in nature.
iii. Stamps duty
This is tax paid in areas such as conveyance of land or securities from one
person to another.
iv. Estate (death) duty
This type of tax is imposed on property transferred after the owners’ death.
The tax helps in raising government revenue and also in redistributing income
since the inheritor has not worked for it.
v. Wealth tax
This is tax levied on personal wealth beyond a certain limit.
vi. Capital gains tax
This is tax levied on gains realized when a fixed asset is sold at a price higher
than the book value.
vii. Capital transfer (gifts) Tax
This is tax imposed on the value of property transferred from one person to
another as a gift. The tax is designed to seal loopholes whereby a wealthy per-
son may try to avoid tax by transferring his/her property to a friend or a rela-
tive as a gift.
This type of tax is progressive in nature. It however does not affect transfers
between spouses or to charitable organizations.
Merits/advantages of direct taxes
i. Economical in collection; most of direct taxes are collect at source and the
cost of collecting them is fairly low.
ii. Tax revenue is certain; the tax payer knows what and when to pay and the
government knows how much tax revenue to expect at what time (can be
collected from the annual tax returns in advance)
iii.Equitable /equity; they facilitate fair distribution in tax contribution as peo-
ple pay according to the size of their income.
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iv.Simplicity /simple to understand; they are easy and simple to understand by

both the tax payer and the collector.
v. Does not affect the price of goods and services; direct tax does not cause
inflation as it only affects consumer’s disposable incomes and not the
prices of goods and services.
vi.Brings redistribution of wealth; direct taxes are progressive in nature hence
the wealthier members of the society are taxed more than the poorer mem-
bers of the society.
vii. Civic consciousness; tax payers feed the pinch of paying tax and thus
take a keen interest in government expenditure.
viii. No leakages; loss of collected revenue is minimized as the tax is paid di-
rectly to the tax authorities and not through middle men.
ix.Desirable; the tax is desirable because it only affects people who fall within
the jurisdiction of income tax and corporation tax.
x. Elastic/flexible; the tax is flexible in that it can be expanded to cover as
many areas as desirable.
It can also be raised or reduced according to the needs of the economy.
DEMERITS OF DIRECT TAX
i. Encourage avoidance and evasion; whenever possible people come up with
ways of reducing the amount of tax payable by falsifying information or
just ignoring payment.
ii. Discriminatory /not imposed on all citizens; direct taxes are not paid by all
citizens as low income earners who do not fall within the tax brackets are
exempted
iii.Discourage investment/deterrent to investment; Heavy taxation on profits
discourage people from investing in risky but profitable businesses
iv.Discourage work/deterrent to work; High rate of direct tax may deter peo-
ple from working harder as people may opt for leasure instead of working
extra time.
v. Encourage capital flight; high taxes such as corporate tax make foreigners
to withdraw their investments and transfer them to countries with lower
taxes.
vi.Unpopularity; the burden of the tax (incidence and impact) of tax is borne
by the tax payer directly and at once. This makes direct taxes very unpopu-
lar.
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vii. May inconvenience the tax payer; the tax payer has to comply with com-
plicated formalities relating to sources of income as well as the expenses
incurred while generating it. This may force the tax-payer to engage the
services of tax experts who have to be paid.
viii. Lack of civic awareness; on tax payers are not interested in scrutinizing
government expenditure as they do not feel the pinch of paying tax.
b. Indirect tax
These are taxes in which the impact is on one person and the incidence is par-
tially or wholly on another person. The tax payer may shift either the whole or
part of the tax burden to another person.
Such taxes are usually based on the expenditure on goods and services and in-
clude the following:
i. Sales tax: this is based on the sales made and may be assessed either as a
percentage of the sales or a fixed amount e.g. sh.2 per every kilograms
sold. The tax may be collected at one point or various points of sale. In
Kenya, sales tax has been replaced by V.A.T
ii. VALUE ADDED TAX (V.A.T): this is the tax that is levied on the value
that a business adds borne by the consumer in the final price.
iii.Export duty: this is a type of tax that is levied on exports. The objective
may either to raise revenue or discourage the exploitation of some com-
modities.
iv.Import duty: This is tax levied on imported products,
For the following reasons.
 Raising government revenue
 Reducing incidences of dumping
 Discouraging consumption of imported goods with a view of boosting local
production
 Protecting local industries
v. Excise duty: This is a type of tax that is imposed on goods that are manu-
factured and sold within a country.
Its purpose includes:
 Raising revenue for the government
 Discouraging the consumption of some commodities such as beer and ciga-
rettes.
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MERITS OF INDIRECT TAX

I. Can be used selectively; It can be used selectively to achieve a given ob-
jective e.g. consumption of some commodities.
II. Tax payment is voluntary; indirect tax is only paid by those who con-
sume the tax commodities therefore those who do not want to pay the
tax would only need to avoid taxed commodities.
III. Difficult to evade; the tax cannot be evaded because it is part of the price
of the commodity. All those who buy the commodity taxed must there-
fore pay the tax.
IV. Wide coverage/broad based; the tax is levied on a wide range of essen-
tial commodities thus a high amount of revenue is collected.
V. Stimulate effort; indirect taxes if increased increases the prices of goods
and services. People who want to maintain the same living standards
will therefore have to work harder to be able to buy/affect the same
goods and services.
VI. Convenient; the tax is paid in bits as one buys the goods and services.
The tax is also hidden in the price of the commodity and the payer may
not be aware of it.
VII. Flexible; flexible; the government can raise or reduce the tax rate to suit
the prevailing economic situation in a country.
DEMERITS OF INDIRECT TAXES
1. END May fuel inflation; continued increase in indirect taxes may fuel in-
flation as it directly increases the prices of goods and services.
2. Less equitable/regressive; the same amount is charged on both the high and
the low income earners making the tax burden to fall heavily on the low in-
come earners. The low income earners end up paying a larger proportion of
their income as tax.
3. Can be avoided; indirect taxes can be avoided by people who do not con-
sume the taxed commodity.
4. Encourages falsification of records; traders may falsify their rewards in or-
der to pay less tax.
5. Lack of civic/contributors awareness; the tax is hidden in the price of the
commodities therefore the tax payers are not aware that they are contribut-
ing anything to the state.
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6. Expensive to administer/expensive in collection; the government must em-

ploy many tax inspectors making indirect taxes expensive in collection and
administration.
7. Uncertainty in revenue collection; the government may not predict the
amount of revenue yield as it is not easy to forecast sales and people can
also not be forced to buy the taxed commodities.
8. Might interfere with resource allocation; indirect taxes increases the prices
of commodities and can therefore force consumers and producers to shift to
the consumption and production of commodities that are not taxed.
9. Discourages savings; increased expenditure due to increased prices will
lead to low saving and hence low investments.

INFLATION

Control of Inflation
The govt. may adopt the following policies depending on their situation to re-
duce inflation to manageable levels. They include:
(iv) Monetary policy
This is a deliberate move by the govt. through the central bank to regulate and
control the money supply in the economy which may lead to demand pull in-
flation. The policies include;
 Increase rate of interest of lending to the commercial banks. This forces
them to increase the rate at which they are lending to their customers, to re-
duce the number of customers borrowing money, reducing the amount of
money being added to the economy
 Selling of govt. securities in an open market operation (o.m.o). the selling of
securities such as Bonds and Treasury bills mops money from the economy,
reducing the amount of money being held by individuals
 Increasing the commercial banks cash/liquidity ratio. This reduces their abil-
ity to lend and release more money into the economy, reducing their cus-
tomers purchasing power
 Increasing the compulsory deposits by the commercial banks with the central
banks. This reduces their lending power to their customers, which makes
their customers to receive only little amount from them, reducing the amount
of money in the economy
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 Putting in place the selective credit control measures. The central bank may
instruct the commercial bank to only lend money to a given sector of the
economy which needs it most, to reduce the amount of money reaching the
economy
 Directives from the central banks to the commercial banks to increase their
interest on the money being borrowed, to reduce their lending rates
 Request by the central bank to the commercial banks (the moral persuasion)
to exercise control on their lending rates to help them curb inflation.
(v) Fiscal policy
These are the measures taken by the govt. to influence the level of demand in
the economy through taxation process. They include;
 Reduced govt. spending. This reduces the amount of money reaching the con-
sumers, which is likely to increase their purchasing powers, leading to infla-
tion
 Increasing income taxes. This reduces the level of the consumers disposable
income and lowering their spending levels, reducing the inflation
 Reducing taxes on production. This reduces the cost of production, lowering
the prices of goods reaching the market
 Subsidizing the production. This reduces the cost of production in the econ-
omy, which in turn passes over the benefits to the consumers inform of re-
duced prices.
 Producing commodities that are in short supply. This increases their availabil-
ity to meet their existing demand in the market, controlling demand pull infla-
tion
(vi) Statutory measures
These are laws made by the govt. to help in controlling the inflation. They in-
clude;
 Controlling wages and salaries. This reduces the pressure put on the employ-
ers to meet high cost of labour for their production which in turn is just likely
to lead to cost push inflation. It also minimizes the amount reaching the con-
sumers as their income, to control their purchasing power and the level of de-
mand, controlling the demand pull inflation
 Price controls. This reduces the manufactures ability to fix their prices beyond
a given level which may cause inflation due to their desire to receive high
profits.
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 Restrictive imports. This reduces the chances of high prices of imported goods
impacting on the prices of the goods in the country (imported inflation) and
making the manufactures to look for alternative source of raw materials for
their production
 Restricting the terms of hire purchase and credit terms of sales. This reduces
the level of demand for those particular commodities in the economy which if
not controlled may lead to demand pull inflation
 Controlling exports. This ensures that the goods available in the local market
are adequate for their normal demand. Shortage of supply of goods in the mar-
ket is likely to bring about the demand pull inflation
Outline measures that the government may employ to control the following
types of inflation;
 Cost push inflation
o By controlling the wages and salaries in the econ-
omy
o Restricting import on raw materials
o Reducing taxes on production
o Subsidizing the production
o Employing the price control techniques
 Demand pull inflation
o Increasing the rate of interest of lending to the commercial banks
o Selling govt. securities on O.M.O
o Increasing the commercial banks cash/liquidity ratio
o Increasing the compulsory deposits from the commercial banks to the central
bank
o Putting in place the selective credit control measure
o Directives to the commercial banks
o Request to the commercial banks
o Reducing govt. expenditure
o Increasing income taxes
o Producing commodities that are short in supply
o Restricting terms of hire purchase and credit terms of sale
o Controlling export
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ECONOMIC DEVELOPMENT AND PLANNING

Economic Growth
This is the increase in the productivity of a country which can be seen in the
continued increase in the national income over a period of years.
It can be measured by taking the average percentage of increase in national in-
come over a period of time (number of years) and be assumed to be the aver-
age rate of economic growth in the country

Economic Development
This is the quantitative change or increase in a country’s national income over
the years, accompanied by favorable changes in the structures within the
country that leads to general improvement of the individual well being, as
well as the entire nation
A country may experience economic growth without experiencing economic
development. This is because the increase in the national income may be as a
result of people working for long hours without any time for rest, recreation
and other development to occur in their body. This will make them not to have
better living, despite the fact that the national income shall have increased.
The expected structural changes to be realized in a case of economic develop-
ment include;
i) Shifting from depending on agricultural sector to manufacturing sec-
tor in the economy
ii) Reducing illiteracy levels
iii) Increase in skilled manpower in the economy
iv) Improvement in health facilities within the country
v) Increase in technology and improvement of entrepreneurial ability
vi) Increase and improvement of institution that handles new methods
of productive economic activities
Outline the differences that exist between economic growth and economic de-
velopment
Economic Growth Economic Development
i) An increase in size of the coun- i) An increase in the size and quality
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try’s National income of the country’s National income

ii) Number of people living in ab- ii) Number of people living in abso-
solute poverty can increase despite lute poverty does not increase
the increase in national income
iii)Increase in national income could iii) Increase in national income is
be due to increase in income of attributed to general increase of in-
only few people comes of majority of the people in
the country
iv) No tendency to bridge the gap iv)Tends to bridge the gap between
between the rich and the poor the rich and the poor

Underdevelopment
This refers to a situation whereby the economic growth is in the negative di-
rection (decreasing) accompanied by uneven distribution of wealth and de-
crease in quality and quantity of the factors of production available
Characteristics of Underdevelopment
 High level of poverty. This is characterized by most of the people in the
country depending on mainly subsistence, or lives below the poverty
levels. Their per capita income is lower as compared to the developed
countries
 High disparity in income distribution. The income in this countries are
not evenly distributed with the few rich people earning so much while
the poor majority earns so little
 Low levels of savings and investments. They have very little if at all ex-
ist to save and invest for their further development, making them to con-
tinue being poor. This is well illustrated in the vicious circle of poverty
 High population growth rates. This is due to some of them not being
able to afford, ignorant about or simply refusing to use the modern birth
control methods since they find consolation on their high number of
children
 Dominance of subsistence sector. This is due to their inability to raise
capital for indirect production
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 Problem of unemployment. The high population growth rate leads to

high supply of labour that the country’s economy cannot afford to ab-
sorb all, leading to unemployment
 Under utilization of natural resources. This may be due to lack of capital
in this countries or in appropriate technology they use
 Dependence on the developed countries. This is due to their in ability to
sustain themselves financially, which makes them keep on calling upon
the developed partners for financial assistance
 Poor infrastructure. Their roads and communication networks are not
properly maintained due to the in availability of adequate resources to
improve them
Goals of Economic Development
The following are the changes that economic development seeks to put in
place, which in Kenya they have been joined together in what is referred to as
the millennium development goals. They includes
1. Eradicate extreme poverty and hunger
2. Achieve universal primary education
3. Promote gender equality and empower women
4. Reduce child mortality
5. Improve maternal health
6. Combat HIV/AIDS, malaria and other diseases
7. Ensure environmental sustainability
8. Develop a global partnership for development
Some includes
o Reducing income disparity in distributions
o Reducing unemployment
o Provision of important basic needs such as food, shelter, etc
Factor which may hinder development in a country
The rate of a country’s economic development may be influenced negatively
by the following factors
i. Low natural resource endowment. Absence or inadequacy of natural re-
sources such as raw materials, fertile land for agriculture, etc may slow
the pace of the country’s economic development
ii. Inadequate capital. This reduces the rate at which they exploit their natu-
ral resources, or produce in the economy
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iii. Poor technology used. The traditional methods of production that they
use cannot sustain their requirement any more
iv. Poor human resource endowment. Their inability to train adequate
skilled manpower together with their inappropriate system of education
leads to their slow development
v. Unfavorable domestic environment. Their political, social and economic
institutions within their countries are not structured to favour economic
development. For example
o Their political system is characterized by corruption, authoritarian
kind of leadership with lengthy procedures and bureaucratic con-
trols that scares the investors
o Their social environment is still full of outdated or retrogressive
cultural values and negative attitude towards work and investment,
leading to slow development
o Their Economic institutions has allowed their markets to be influ-
enced so much that that leads to interference in their smooth opera-
tions

Development Planning
This is the process through which the country establishes their objectives to be
achieved, identify the resources that will be required and put in place the
strategies or methods of acquiring the resources and achieving their pre-deter-
mined objectives.
In most cases their objectives or goals are the goals of economic development
The plan will prioritize the objectives to be achieved and even brake it down
in to targets that if achieved with the planned strategy and resources, the ob-
jective shall have been achieved.
Need for economic planning
It enhances the following
a. Appropriate resource allocation, where resources are allocated according
to the need of the objective and in a most productive way
b. Stimulation of effort of people in the desired direction. The plan outlines
including the possible outcomes which persuade people to move to that
direction
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c. Support foreign aid bargain. Since it shows including the objective that
the country seeks to achieve, it is capable of convincing the donor to fi-
nance it in the country
d. Project evaluation, by assisting on checking whether the predetermined
targets or objectives are being achieved
e. Long term decision making, as it will show what each and every sector
of the economy will require in the future to make it stable.
f. Avoiding duplication of industries in different parts of the country, for it
will show the ones that have been set in those parts and even enhance
balancing
g. Promote balancing in regional development by ensuring that they are not
concentrated in only one region, ignoring other regions
Problems encountered in development planning
Problems at the planning stage
i) Lack of accurate or detailed data for planning. This may lead to in ap-
propriate plan being developed, as it entirely depends on the quality and
availability of the data
ii) Existence of large subsistence sector, which make the planning unrealis-
tic
iii) Lack of qualified personnel to assist in planning. This may make
the country to rely on foreign experts who do not fully understand the
country
iv)Problem of the private sector which will always require incentives for
them to follow the plan
v) Transfer of inappropriate development plan. As some planners may sim-
ply borrow a plan that they feel may have worked for a given country,
yet the condition in those countries may not be the same
Problems at the implementation stage
i. Over reliance on donor funding, which if they don’t receive, the plan
may not be implemented
ii. Lack of domestic resources such as skilled personnel, finance and capital
may make the implementation a problem
iii. Failure to involve the local people in planning. This will make them not
to be willing to implement it, for they will not be understanding it or re-
belling for the fact that they were not included
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iv. Natural calamities such as diseases, floods, drought, etc may make the
funds that had been set aside for implementation be diverted to curb
them
v. Over-ambitious plans which are a times just made to impress the donors
to release their funds but may not be easy to implement
vi. Lack of co-operation among the executing parties which may make the
work not to kick off. For example a conflict between the ministry of fi-
nance and that of planning of the amount to be released
vii. Inflation which may make the estimated value of implementation not to
be adequate, bringing a problem of finances
viii. Lack of political will and commitment in implementing the plan. This
may frustrate the implementation.

INTERNATIONAL TRADE

A trade involving the exchange of goods and services between two or more
countries. If the exchange is between two countries only, then it is referred to
as bilateral trade, but if it is between more than two countries then it is re-
ferred to as multilateral trade.
Advantages of International Trade
 It enable the country to get access to wider range/variety of goods and
services from other countries
 It enable the country to get what it does not produce
 It helps in promoting peace among the trading countries
 It enable the country to specialize in its production activities where they
feel they have an advantage
 It earns the country revenue through taxes and licenses fees paid by the
importers and exporters in the country
 It enable the country to dispose of its surplus goods and services thereby
avoiding wastage
 It creates employment opportunities to the citizens of that country either
directly or indirectly
 It may lead to the development of the country through importation of
capital goods in to the country
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 It encourages easy movement of factors of production across the borders

of the countries involved
 It enable countries to earn foreign exchange which it can use to pay for
its imports
 A country may be able to obtain goods and services cheaply than if they
have been produced locally
 During hard times or calamities such as wars, the country is able to get
assistance from the trading partners
 It brings about competition between the imported and locally produced
goods, leading to improvement in their quality
 It gives the country an opportunity to exploit fully its natural resources,
due to increased market
Disadvantages of International trade
 It may lead to collapse of the local industries, as people will tend to go
for the imported goods. The collapse may also lead to loss of employ-
ment
 It may also lead to importation of harmful foods and services such as
drugs and pornographic materials
 May lead to over depending on imported commodities especially the es-
sential ones, making the country to be a slave of the other countries, in-
terfering with their sovereignty
 It may make the country to suffered during emergencies if they mainly
rely on the imported goods
 May make the country to suffer from import inflation
 May lead to acquisition of bad culture from other countries as a result of
their interactions
 May lead to unfavorable balance of payment, if the import is higher than
exports
Terms of Trade
This refers to the rate at which the country’s export exchanges with those
from other country. That is:
Terms of trade =

It determine the value of export in relations to import so that a country can

know whether it’s trade with the other country is favourable or unfavourable
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Favourable terms of trade will make the country spent little on import and
gain a lot of foreign exchange from other countries
For example;
Then table below shows trade between Kenya and China in the year 2004 and
2005, with the Kenyan government exporting and importing to and from
china, and China also importing and Exporting from and to Kenya.
Average prices of export
Year
Kenya China
2004 1000 4000
2005 1200 6500
Calculate the Terms of trade for;
i. Kenya
ii. China
Solution:
Kenya
a) Export price index (E.P.I) = x 100

= x100
= 120%

b) Import price index (I.P.I) =

x 100

= x 100
= 162.5%

c) Terms of trade (T.O.T) =

x 100

= x 100
= 73.8%
This implies that Kenya is importing from China more than it is exporting,
leading to unfavourable terms of trade i.e. when the percentage is less than
100%, it implies unfavourable terms of trade.
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China (work out)

The average prices is the various prices of the individual export or import
items divide by their number
Factors that may lead to either favourable or unfavourable terms of trade
The country is experiencing a favourable terms of trade if:
 The prices of imports decline and those of export remains the constant
 The prices of imports declines while those of exports increase
 The price of imports remains constant while those of exports increase
 The prices of import and export increases but the rate of increase in ex-
port is higher
 Both prices decrease but the decrease in import prices is higher
The country will experience unfavourable terms of trade if;
 Prices of import increases while those of exports decline
 Prices of import remains constant while those of export declines
 Prices of import increase as the export remains constant
 Both prices increase, but for imports increases at a higher rate than ex-
port
 Both prices decrease, but for export decreases at a higher rate than im-
port
Reasons for differences in terms of trade between countries
The terms of trade may differ due to:
i. The nature of the commodity being exported. If a country exports raw
materials, or unprocessed agricultural products, its terms of trade will be
unfavourable, as compared to a country that exports manufactured goods
ii. Nature of the commodity being imported. A country that imports manu-
factured goods is likely to have unfavourable terms of trade as compared
to that which imports raw materials or agricultural produce
iii. Change in demand for a country’s export. An increase in demand for the
country’s export at the world market will make it have favourable terms
of trade as compared to those with low demand at the world market
iv. Existing of world economic order favouring the products from more de-
veloped countries. This may make the developing countries to have dete-
riorating terms of trade
v. Total quantity supplied. A country exporting what most countries are ex-
porting will have their products trading at a lower price, experiencing
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unfavourable terms of trade as compared to a country that export what

only few countries export
vi. Trade restrictions by trading partners. A country with no trading restric-
tions is likely to import more products, leading to unfavourable terms of
trade, as compared to if it impose trade restrictions
Balance of trade
This is the difference between value of country’s visible exports and visible
imports over a period of time. If the value of visible/tangible export is higher
than the value of visible/tangible imports, then the country experiences
favourable terms. If less than the invisible value, then the country is experi-
encing unfavourable. The country is at equilibrium if the value of visible ex-
port and import is the same
Balance of payments
This is the difference in the sum of visible and invisible export and the visible
and invisible imports. If positive then it means the country is having
favourable terms, while if negative, then it means unfavourable It goes beyond
the balance of trade in that it considers the following
 The countries visible/tangible export and import of goods (visible trade)
 The countries invisible/services exported and imported in the country
(invisible trade)
 The inflow and outflow of investment (capital goods)
Balance of Payment account
This is the summary showing all the transactions that have taken place be-
tween a particular country and the rest of the world over a period of time. The
transaction may arise from
a) The export of visible goods
b) The import of visible goods
c) The export of invisible goods/services
d) The import of invisible goods/services
e) Flow of capital in and out of the country
Components of balance of payments account
The balance of payment account is made up of the following
a) Balance of payment on current account
ii) Balance of payment on capital account
iii)Official settlement account/Cash account/foreign exchange transaction
account
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Balance of payment on current account

This is the account that is used to determine the difference between the value
of the country’s visible and invisible imports and exports. That is
Balance of payment on current account = (visible export + invisible export) –
(visible import + invisible import)
In the account, the payments for the visible and invisible imports are debited
while the receipts from visible and invisible exports are credited that is
Dr current account Cr
Payments for imports Receipts from exports
(Visible and Invisible) (Visible and Invisible)
The balance of payment on current account may be;
 In equilibrium i.e. if Dr = Cr
 Unfavourable i.e. if Dr > Cr (-ve)
 Favourable i.e. if Dr < Cr (+ve)
For example;
A given country had the following values of visible and invisible export and
import during the year 2004 and 2005
Trade 2004 (shs) 2005 (shs)
Visible export 18926 29954
Visible imports 22780 32641
Invisible exports 6568 19297
Invisible imports 5239 16129
Required
Prepare the country’s balance of payments on current account for the years
2004 and 2005 and comment on each of them.
Dr current account year 2004
Cr
shs Shs
Visible imports 22780 Visible export 18926
Invisible imports 5239 Invisible export 6568
Total 28019 Total 25494
Deficit 2525
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The country experienced unfavourable balance of payment on current account

in the year 2004, since they imported more than they exported

Dr current account year 2005

Cr
shs Shs
Visible imports 32641 Visible export 29954
Invisible imports 16129 Invisible export 19297
Total 28019 Total 49251
Excess 481
The country experienced favourable balance of payment on current account in
the year 2005, since they exported more than they imported
Balance of payments on capital account
This account shows the summary of the difference between the receipt and
payments on the investment (capital). Receipts are income from investments
in foreign countries while payments are income on local investments by for-
eigners paid out of the country.
The capital inflow includes investments, loans and grants from foreign donors,
while capital outflow includes dividends paid to the foreign investors, loan re-
payments, donations and grants to other countries.
In the account the payments are debited, while the receipts are credited. That
is;
Dr capital account Cr
Payments Receipts
The account may be;
 In equilibrium i.e. if Dr = Cr
 Unfavourable i.e. if Dr > Cr (-ve)
 Favourable i.e. if Dr < Cr (+ve)
The combined difference on the receipts and payments on both the current and
capital accounts is known as the overall balance of payments.
The official settlement account
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This account records the financial dealings with other countries through the
IMF. It is also called the foreign exchange transaction account, and is always
expected to balance which a times may not be the case. That is;
o In case of surplus in the balance of payment, the central bank of that
country creates a reserve with the IMF and transfer the surplus to the re-
serves account.
o In case of a deficit in the balance of payment, the central banks collect
the reserves from the IMF to correct the deficit, and incase it did not
have the reserves, the IMF advances it/give loan
Balance of payment disequilibrium
This occurs when there is either deficit or surplus in the balance of payments
accounts. If there is surplus, then the country would like to maintain it because
it is favourable, while if deficit, the country would like to correct it.
Causes of balance of payment disequilibrium
It may be caused by the following;
 Fall in volume of exports, as this will reduce the earnings from exports
leading to a deficit.
 Deteriorating in the countries terms of trade. That is when the country’s
exports decreases in relation to the volume of imports, then her pay-
ments will higher than what it receives.
 Increasing in the volume of import, especially if the export is not in-
creasing at the same rate, then it will import more than it exports, lead-
ing to a disequilibrium
 Restriction by trading partners. That is if the trading partners decides to
restrict what they can import from the country to a volume lower than
what the country import from them, it will lead to disequilibrium
 Less capital inflow as compared to the out flow, as this may lead to a
deficit in the capital account, which may in turn leads to disequilibrium.
 Over valuation of the domestic currency. This will make the country’s
export to very expensive as compared to their import, making it to lose
market at the world market
 Devaluation of the currency by the trading partner. This makes the value
of their imports to be lower, enticing the country to import more from
them than they can export to them.
Correcting the balance of payment disequilibrium
The measures that may be taken to correct this may include;
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 Devaluation of the country’s currency to encourage more exports than

imports, discouraging the importers from importing more into the coun-
try.
 Encouraging foreign investment in the country, so that it may increase
the level of economic activities in the country, producing what can be
consumed and even exported to control imports
 Restricting the capital outflow from the country by decreasing the per-
centage of the profits that the foreigner can repatriate back to their coun-
try to reduce the outflow
 Decreasing the volume of imports. This will save the country from mak-
ing more payments than it receives. It can be done in the following
ways;
i) Imposing or increasing the import duty on the imported goods to
make them more expensive as compared to locally produced goods
and lose demand locally
ii) Imposing quotas/total ban on imports to reduce the amount of
goods that can be imported in the country
iii) Foreign exchange control. This allows the gov-
ernment to restrict the amount of foreign currencies allocated for
the imports, to reduce the import rate
iv)Administrative bottlenecks. The government can put a very long
and cumbersome procedures of importing goods into the country to
discourage some people from importing goods and control the
amount of imports
 Increasing the volume of exports. This enable the country to receive
more than it gives to the trading partners, making it to have a favourable
balance of payment disequilibrium. This can be done through;
i) Export compensation scheme, which allows the exporter to claim a
certain percentage of the value of goods exported from the govern-
ment. This will make them to charge their export at a lower price,
increasing their demand internationally
ii) Diversifying foreign markets, to enable not to concentrate only on
one market that may not favour them and also increase the size of
the market for their exports
iii) Offering customs drawbacks. This where the
government decides to refund in full or in part, the value of the
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custom duties that has been charged on raw materials imported into
the country to manufacture goods for export
iv)Lobbying for the removal of the trade restriction, by negotiating
with their trading partners to either reduce or remove the barrier
put on their exports
Terms of sales in international trade
Here the cost trading which includes the cost of the product, cost of transport-
ing, loading, shipping, insurance, warehousing and unloading may be expen-
sive. This makes some of the cost to be borne by the exporter, as some being
borne by the importer. The price of the goods quoted therefore at the exporters
premises should clearly explain the part of the cost that he/she is going to bear
and the ones that the importer will bear before receiving his/her goods. This is
what is referred to as the terms of sale
Terms of sales therefore refers to the price quotation that state the expenses
that are paid for by the exporter and those paid for by the importer.
Some of the common terms include;
(i) Loco price/ex-warehouse/ex-works. This states that the price of the
goods quoted are as they are at the manufacturers premises. The rest of
the expenses of moving the good up to the importers premises will be
met by the importer
(ii) F.O.R (Free on Rail). This states that the price
quoted includes the expenses of transporting the goods from the seller’s
premises to the nearest railway station. Other railways charges are met
by the importer
(iii) D.D (Delivered Docks)/Free Docks. This states
that the price quoted covers the expenses for moving the goods from the
exporter’s premises to the dock. The importer meets all the expenses in-
cluding the dock charges
(iv) F.A.S (Free Along Ship). States that the price
quoted includes the expenses from the exporter’s premises to the dock,
including the loading expenses. Any other expenses are met by the im-
porter
(v) F.O.B (Free on Board). States that the price
quoted includes the cost of moving the goods up to the ship, including
loading expenses. The buyer meets the rest of the expenses
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(vi) C&F (cost & freight). The price quoted includes

the F.O.B as well as the shipping expenses. The importer meets the in-
surance charges
(vii) C.I.F (Cost Insurance & freight). The price includes the C&F, in-
cluding the insurance expenses
(viii) Landed. The price includes all the expenses up to the port of desti-
nation as well as unloading charges
(ix) In Bond. The price quoted includes the expenses incurred until the
goods reaches the bonded warehouse
(x) Franco (Free of Expenses). The price quoted includes all the expenses
up to the importer’s premises. The importer does not incur any other ex-
penses other than the quoted price
(xi) O.N.O (Or Nearest Offer). This implies that the exporter is willing
to accept the quoted price or any other nearest to the quoted one
Documents used in International trade
i) Enquiry/Inquiry. A letter sent by an importer to the exporter asking
about the supply of the goods and the terms of sale.
ii) Order of Indent. This asks the supplier to supply goods. It may specify
the goods to be supplied and suggest the preferred mode of transport for
them. An indent may be open or closed
o Open Indent. Here the importer does not specify the supplier and
the goods to be bought and therefore the exporter or export agent is
free to choose the supplier
o Closed Indent. Here the importer specifies the supplier and the
goods to be bought
iii) Letter of Credit. A document issued by the importers bank to the ex-
porter’s bank to assure the exporter of the payment for the goods or-
dered. The exporter can then be paid by his bank on the basis of this let-
ter.
iv)Import Licence. A document issued by the country to allow the importer
to buy goods from abroad.
v) Bill of Lading. A document of title to goods being exported issued by
the shipping company to the importer who should use it to have goods
released at the port of entry.
vi)Freight Note. A document prepared by the shipping company to show
the transportation charges for goods.
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vii)Certificate of insurance. A document issued by the insurance company

or agent, undertaking to cover the risk against the loss or damage to
goods being exported.
viii) Certificate of Origin. A document that shows the country from
which the goods are being imported have originated from.
ix)Commercial Invoice. A document issued by the exporter to demand for
the payment for the sold on credit to the importer.
It shows the following;
 The name and address of the exporter
 The name and the address of the importer
 The price charged
 The terms of sale
 The description of the consignment
 The name of the ship transporting the consignment
x) Consular Invoice. A document that shows that the prices of the goods
that have been charged is fair as certified by the consul with the embassy
of the exporting country.
xi)Proforma Invoice. A document sent by the exporter to the importer if
he/she is not willing to sell goods on credit. It may be used to serve the
following purposes;
 Serve as a formal quotation
 Serve as a polite request for payment before the goods are released
for the customer
 To enable the importer to initiated the clearing of the custom duty
early enough to avoid delays
 Used to by the importer to obtain permission from the Central
Bank to import goods
xii)Airway Bill. Issued by the airline company to show the charges for the
goods being transported
xiii) Letter of Hypothecation. A letter written by the exporter to his/her
bank authorizing it to resell the goods being exported. This occurs if the
bank fails to get payment on the bill of exchange drawn on the importer
that it has discounted for the exporter. Should there be a deficit after the
resale, the exporter pays the deficit
xiv) Weight note. A documents that shows the weight and other mea-
surements of the goods being delivered at the dock
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xv)Shipping advice note. A document issued by the exporter to his/her

shipping agent containing instruction for shipping goods.
International Financial Institutions
Some of the institutions that play a role in international monetary system in-
clude;
i. International Monetary Fund (I.M.F)
ii. African Development Bank (A.D.B)
iii. African Development Fund (A.D.F)
iv. International Bank For Reconstruction and Development (World Bank)
i. International Monetary Fund (I.M.F)
This bank operates like the central bank of the central banks of the member
countries. Its objective includes the following;
 Ensuring that the member country maintains a stable foreign exchange
rates for their currencies. This it does by advising the country to raise or
increase the supply of their currency to devalue them or increase their
value internationally
 Provide financial support to the member country to alleviate poverty and
boost their income.
 Relieving heavily indebted countries of debt repayment so that it can use
that fund to raise the living standards of its people.
 Providing funds to the member countries to finance the deficits in their
balance of payment.
 Provide forum through which the member country can consult and coop-
erate on matters concerning trade among them
 Maintaining currency reserves of the different countries, enabling mem-
ber countries to buy foreign exchange to be used to import goods and
services.
ii. African Development Bank (A.D.B)
This bank was formed to promote the economic and social progress of its re-
gional member countries in Africa. It main source of finance is the members’
contributions and the interest charged on the money they lend members.
Its functions include;
 Providing loans for economic and social development to member coun-
tries
 321

 Provide technical advice in planning and implementation of the develop-

ment plans
 Assist member country to appropriately exploit it resources
 To encourage co-operation among African countries in order to bring
economic growth
 To co-operate with various economic institutions in order to bring about
development especially in Africa countries
iii.African Development Fund (A.D.F)
This was formed to provide long term financial assistance to the low income
countries that cannot obtain loan from other financial institutions at the pre-
vailing terms and condition. Their loans may recover a longer repayment peri-
ods with no interest except the commitment fees and service charge which is
minimal. They fund activities, which includes;
o Education and research activities
o Offer technical advice to the member countries
iv.International Bank For Reconstruction and Development (World
Bank)
The World Bank was formed to carry out the following functions;
 Giving loans to countries at very low interest rates to finance economic
development activities.
 Provision of grants to finance the provision of social amenities and basic
infrastructural development in developing countries.
 Fighting against corruption and poor governance which may lead to mis-
use of public funds in different countries.
 Advancing money to countries to finance balance of payment deficit.
 Giving advice on economic challenges that countries may face.
 Availing technical assistance and personnel to help countries run their
economic programmes
Economic Integration
This occurs where two or more countries enter into a mutual agreement to co-
operate with each other for their own economic benefit. They may do this by
allowing free trade or relaxing their existing trade barriers for the member
countries.
Economic integration may occur in the following forms;
A. Free Trade Area
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This is a case where the member countries agree to abolish or minimize

tariffs and other trade restrictions but the individual countries are free to
impose restrictions on non-member countries. They includes; Preferen-
tial Trade Area (P.T.A), European Free Trade Area (E.F.T.A), Latin
America Free Trade Area (L.A.F.T.A), etc.
B. Custom union
This is where the members of the free trade area may agree not only to
abolish or minimize their tariffs, but also establish a common tariff for
the exchange of goods and services with the non member countries.
They include; Economic Community of West Africa States
(E.C.O.W.A.S), East Africa Custom Union (E.A.C.U), Central Africa
Custom and Economic Union (C.A.C.E.U)
C. Common Market
This is where the member countries allow for free movement of factors
of production across the borders. People are free to move and establish
their business in any member country. They include; East Africa Com-
mon Market (E.A.C.M), European Economic Community (E.E.C), Cen-
tral American Common Market (C.A.C.M), Common Market for East-
ern and Southern Africa (COMESA)
D. Economic Union
This is where the members of the common market agree for put in place
a common currency and a common central bank for the member coun-
tries. They even develop common infrastructures which includes rail-
ways, communication networks, common tariffs, etc
Importance of economic integration
Economic integration will ensure the following benefits for the member coun-
tries;
 Availability of wider market for the goods and services produced by the
member countries. This enables them to produce to their full capacity
 It enables the country to specialize in the goods they produce best, mak-
ing them to effectively utilize their resources
 It leads to promotion of peace and understanding among the member
countries through interaction
 It leads to high quality of goods and services being produced in the
country due to the competition they face
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 It allow members to get access to wider variety of goods and services

which satisfy different consumer needs
 It leads to creation of employment for individuals living within the re-
gion, as they can work in any of the member country
 It increase the economic bargaining power in trading activities by the
countries forming a trading bloc
 Improvement of the infrastructure in the region due to increased eco-
nomic activities.
 It brings about co-ordination when developing industries, as the mem-
bers will assign the industries to each other to create balance develop-
ment and avoid unnecessary duplication
Free Trade Area
This is a situation where there is unrestricted exchange of goods and services
between the countries. It has benefits/advantages similar to those of economic
integration.
Disadvantages of free trade area
Some of the problems it is likely to bring include;
 It may lead to importation of inferior goods and services to the country,
as the member country may not be able to produce high quality as com-
pare to other non-member countries
 It may discourage the growth of the infant industries due to competition
from well developed industries in other countries
 It may lead to reduced government revenue because no tariff may be
charged on the goods and services
 A country may be tempted to adopt technology not suitable for its level
of development.
 If not controlled, it may lead to unfavourable balance of payment, where
a country imports more than it export
 It may lead to importation of harmful goods and services, that may affect
the members health such as illegal drugs
 It may lead to lack of employment opportunities especially where more
qualified people have moved from their country to secure job opportuni-
ties in the country
 It may expose the country to negative cultural practices in other coun-
tries, interfering with their morals. For example the exposure to the
pornographic materials.
 324

 Compromising political ideologies especially where member countries

with different ideologies wants to fit in to the bloc
 It may lead to over exploitation of non-renewable economic resources
such as minerals
Trade Restrictions
These are deliberate measures by the government to limit the imports and ex-
ports of a country. They are also known as protectionism and includes the fol-
lowing;
 Tariffs which include taxes levied on both import and export. It can be
used to increase or decrease the level of both import and export
 Quotas which is the restriction on the quantity of goods to be either im-
ported or exported. It can be increased or decreased to increase or de-
crease the level of import or export respectively.
 Total ban (zero quota) where the government issues a direction illegaliz-
ing either the import or export of the products
 Complicated import procedure in order to discourage some importers
from importing
 Subsidies on locally produced goods to discourage imports
 Legislation against importation of certain goods
 Setting the standards of products to be imported
Reasons for trade restrictions
 To prevent the inflow of harmful goods into the country, that may be
harmful to the lives of the citizens
 To protect the local infant industries that may not be able to compete
favourably with well established industry
 To give a country a chance to exploit its natural resources in producing
their goods
 To protect strategic industry, since their collapse may make the country
to suffer
 To minimize dependency of the country to other countries for their sta-
bility
 To create employment opportunity to its people by establishing the in-
dustries to produce the goods and services
 To prevent dumping of goods in the country by the developed partners
which may create unfair competition
 325

 To correct balance of payment deficit by limiting import

 To protect good cultural and social values which may be influenced by
unaccepted values they are likely to acquire from other country through
interaction
 To expand market for locally produced goods by restricting the number
of foreign goods in the market.
 To enable the country earn foreign exchange through imposing taxes and
other tariffs
Advantages of trade restrictions
 It promotes self reliance as industries have an opportunity to engage in
the production of goods and services that were previously imported
 It protects the local industries from stiff competition that they may have
faced from the well developed countries
 It may help to correct the balance of payment deficit
 It restrict the entry of harmful goods into the country as it controls the
inflow of imports in to the country
 It enables the country to conserve their valuable social and cultural val-
ues from the external influence
 It help in creating more job opportunities through diversification in the
production
 It promotes the growth of local/infant industries in the country.
Disadvantages of trade restriction
 There will be availability of limited variety of goods in the country that
will limit the consumer’s choices
 May lead to production of low quality goods as there will be no competi-
tion for the producing firms
 Other countries may also retaliate, leading to reduction in export from
their country
 There is likely to be high prices charged on the locally produced goods,
since the small firms which produce them may not be enjoying the
economies of scale
 The country is likely to be exposed to small market, should all countries
restrict which may lead to reduction in trade.
 326

 As a result of the continued protection, some industries may develop a

tendency of remaining young to still enjoy the protection, which limits
the level of development
 It may lead to emergence of monopoly as the protected industry may end
up remaining alone in the market, bringing about the problems of mo-
nopolies
Trends in International Trade
i. Liberalization that has led to removal of many trade restriction among
the countries, increasing the levels of trade
ii. Development of E-Banking which has enable the international trader to
get access to their bank accounts from wherever they are in
iii. Development of export processing zones (EPZ) by the government to al-
lows the industries involved just concentrate in the exported goods only.
It enable the country enjoy the following benefits (advantages of EPZ)
 It creates job opportunities to the citizens
 It creates market for locally produced raw materials that they use
in their production
 It encourage the foreign investors to invest in the countries, i.e. in
the processing zones, increasing the level of investment in the
country
 Encourages export in the country as the incentives given to them
by the government makes them to produce more and more for ex-
port
 It stimulates industrialization in the country in all sector including
the ones producing for local consumptions
However EPZ’s have the following problems/disadvantages
 Most of them employs foreigners in their management team,
denying the locals a chance to get employed
 They do not generate revenue to the government, especially dur-
ing tax free periods
 They are concentrated in few towns, bringing about imbalance
regional development
 Some of them encourages social evils such as prostitution in ar-
eas where they are developed
 327

iv. Development of e-commerce/website trading which has promoted the

selling and buying of items through the internet, with payments made
online.
E-commerce has the following benefits/advantages:
 One is able to access the market worldwide, as the countries are
connected to the internet
 There is no discrimination, as both the small and large industries
are able to transact through the internet
 It is fast to transact the business through internet, as it saves on
travelling time and therefore suitable for urgent transaction
 It is cheap especially on the cost of sending, receiving and storing
information
 It is easy for firms to share valuable information about production
THE STOCK EXCHANGE MARKET
This is a market whereby the buying and selling of shares and other securities
takes place. Shares are the smallest units of capital that can be sold to persons
by a company for them to become share holders. Other securities traded in this
market includes debentures (a unit of loan sold by the companies to the mem-
bers of the public), government bonds (a long term borrowing certificate by
the government from its people) and government treasury bills ( a short term
borrowing certificate by the government from its people).
Common terms used in stock exchange
i) Securities:- a document certifying that one has lent money to the issuer
(the person borrowing the money)
ii) Broker:- a person/firm registered by the capital market authority (CMA)
to buy and sell shares and other securities on behalf of their clients
iii) Jobber:- a person/firm who buys and sell shares and other securities
with an aim of making a profit
iv)CDSC account:- Central Depository Settlement Corporation account for
mobilizing the shares and securities to be traded on at the market
In the stock exchange market only registered/listed/quoted companies are al-
lowed to sell their shares. A quoted/listed company is a company that has been
registered as a member of the stock exchange market.
The quoted companies can sell their shares through the Initial Public Offer
(I.P.O) or normal trading in the market.
 328

IPO is the initial price that the company will float its shares to the members of
the public to buy/subscribe to for the first time. These shares are said to have
been issued in the primary market. After the IPO the shares are then accumu-
lated as stock and traded on in the stock exchange market (secondary market).
All the trading of the shares is done through the company’s agents or brokers.
Procedure of buying shares:
i. Opening a CDSC account through broker
ii. Filling in the purchase order form by stating the type and the number of
shares to be bought
iii. The broker identifies and negotiate with the willing buyer
iv. The shares are then paid for through brokers at a commission
v. Shares are then transferred and credited in the buyers CDSC account
Procedure for selling shares:
i. Opening a CDSC account through broker
ii. Filling in the sales order by stating the price and the number of shares to
be sold
iii.The buyer identifies and negotiate with the willing buyer
iv.The buyer pays for the shares through the broker
v. Shares are transferred and credited in the buyer’s CDSC account with
the sellers CDSC account being debited
Roles of stock exchange market
They perform the following roles:
 They facilitate the buying of shares by creating a conducive environment
for the investors who wants to buy shares.
 They facilitate the selling of shares by creating a ready market for those
who wish to sell their shares
 They safeguard the investors’ interest by ensuring that the companies to
be listed have met a given standard of performance. If not they will be
deregistered
 Assist the company to raise capital through IPO or sales of shares in the
market
 Provide useful information to the investors which is always timely and
accurate to assist them in their decision making
 They create employment opportunity to those who facilitate the buying
and selling of the shares such a jobbers, brokers, etc
 329

 They help the government in raising the revenues in terms of fees and
rents to the government
 They avail variety of securities for the investors to choose from before
investing.
 They measure the country’s economic progress through checking the
performance of the stock, which may be an indicator of the economic
performance.

SOURCE DOCUMENTS AND BOOKS OF ORIGI-

NAL ENTRY
These are documents containing the information that makes basis of making
entries in the books of accounts. They act as evidence that the transaction ac-
tually took place. They includes
 Cash sale receipt: - a document that shows that cash as been received or
paid out of the business either in form of cash or cheque. It is a source docu-
ment that is mainly used in making records in the cash journals cash book,
cash accounts or bank accounts. If the receipt is received, it means payments
has been made and therefore will be credited in the above accounts, or taken
to cash disbursement/payment journals, while when issued, it means cash/
cheque has been received and therefore will be debited in the above accounts
or taken to cash receipt journals
Invoice: - a document issued when the transaction was done on credit to
demand for their payment. If the invoice is an incoming invoice/invoice re-
ceived, then it implies that the purchases were made on credit, and if it is an
outgoing/invoice issued then it implies that sales were made on credit.
The incoming invoice will be used to record the information in the purchases
journals/diary, while an outgoing invoice will be used to record information in
sales journals/diaries
 Credit note: - a document issued when goods are returned to the busi-
ness by the customer or the business return goods to the supplier and to cor-
rect any overcharge that may have taken place. If it is received, then it means
part of the purchases has been returned and therefore the information will be
used to record information in the purchases return journals, while if issued
 330

then it means the part of sales has been returned by the customers and there-
fore used to record the information in the sales return journals/diaries

Debit note: - a document used to correct an undercharge that may have

taken place to inform the debtor to pay more. It therefore acts as an additional
invoice
 Payment voucher: - a document used where it is not possible to get a
receipt for the cash/cheque that has been received or issued. The person being
paid must sign on it to make it authentic. It is therefore used to record infor-
mation just as receipts
Books of original entries/Journals/Diaries/day’s books/Subsidiary books
These are books where the transactions are listed when they first occur, with
their entries being made on a daily basis before they are posted to their respec-
tive ledger accounts. The information in the source documents are used to
make entries in these books. The books of original entries include:
 Sales journals
 Sales return journals/Return inwards journals
 Purchases journals/creditors journals/bought journals
 Purchases return journals/return outwards journal
 Cash receipt journals
 Cash payment/cash disbursement journals
 Three column cash book
 The petty cash book
 Analysis cash book
 General journals/journal proper
(i) Sales journals
This is used to record credit sales of goods before they can be recorded in
their various ledgers. The information obtained in the outgoing invoice/in-
voice issued is used to record the information in this journal as the source doc-
ument
The overall total in the sales journal is therefore posted in the sales account in
the general ledger on credit side and debtors account in the sales ledger as a
debit entry
Sales journal
Date Particulars/details Invoice no Ledger folio amount
 331

Example:
The following information relates to Tirop traders for the month of June 2010
June 1: Sold goods to wafula on credit of ksh 200, invoice no 0114
2: Sold to the following debtors on credit; Wanjiru ksh 400,
Musyoka ksh 300, Wafula ksh 300
5: sold goods on credit to Wanjiru of ksh 300
10: Sold goods to the following on credit Kanini ksh 100, Wafula
ksh 500, Wanjiru ksh 600
12: Sold goods on credit to musyoka of ksh 350
Required:
Prepare the relevant day book for the above transactions; hence post the vari-
ous amounts to their respective individual accounts
Sales journal
Date Particulars/details Invoice no Ledger fo- amount
lio
June
2010: Wafula 0114 SL 200
1 Wanjiru SL 400
2 Musyoka SL 300
2 Wafula SL 300
2 Wanjiru SL 300
5 Wanjiru SL 600
10 Wafula SL 500
10 Kanini SL 100
10 Musyoka SL 350
12 Totals posted to the
sales account (Cr) GL 3050
15

(Post the rest to their individual debtors account)

(ii) Sales Return Journals/Return inwards journals
This is for recording the goods that the customers/debtors have returned to the
business. It uses the information in the credit note issued as a source document
to prepare it. The information is therefore recorded to the return inwards ac-
count in the general ledger, while the individual’s entries are reflected (cred-
ited) also in their respective debtors account for double entry to be completed.
It takes the following format
 332

Sales return journal

Date Particulars/details Credit note Ledger fo- amount
no lio

For example;
Record the following transaction for the 2007 in their relevant diaries, hence
post them to their respective ledger accounts;
May 1: goods that had been sold to M Okondo of shs 2600 on credit was
returned to the business
“ 2: G. Otuya returned good worth shs 1320 that was sold to him on
credit to the business
“ 8: the following returned goods that had been sent to them on credit
to the business H Wati shs 3500, Muya shs 4700 M Okondo shs
2900
“ 12: G Otuya returned goods worth shs 5400 that were sold on credit
to the business
“ 30: Goods worth sh 8900 that had been sold on credit to G Otuya
were returned to the business
Sales Return journal
Date Particulars/details Credit Ledger fo- amount
note no lio
May
2007: M Okondo S.L 2600
1 G Otuya S.L 1320
2 H Wati S.L 3500
8 Muya S.L 4700
8 M Okondo S.L 2900
8 G Otuya S.L 5400
12 G Otuya S.L 8900
30 Totals posted to Re-
turn Inwards a/c (Dr) GL 29320
(Post the entries to the individual ledger a/c’s (Cr))
Purchases Journal
This is used to record the credit purchase of goods. The totals are then debited
in the purchases account in the general ledger, while the individual’s creditors
 333

accounts are credited. It used the invoices received/incoming invoices as it

source document. It takes the following format;
Purchases journal
Date Particulars/details Invoice no Ledger folio amount
For example
The following information relates to Mikwa Traders for the month of April
2011. Record them in their relevant day’s book, hence post the entries to their
relevant ledger accounts.
April 2011;
“ 2. Bought goods worth shs 25 000 on credit from Juma, Invoice no
3502
3. Bought goods worth shs 16 500 from kamau on credit, invoice no
2607
6. Bought goods worth shs 12 700 from Juma on credit, invoice no
3509
8. Purchased goods of shs 25 200 from juma, invoice no 3605; shs 17
500 from Kamau, invoice no 3700; shs 45 000 from Wamae whole-
salers, invoice no 3750
15. Purchased goods of shs 9 200 from Wamae wholesalers on credit,
invoice no 3762
18. Bought goods of shs 17 000 from Kamau on credit, invoice no 3802
24. Purchased goods of shs 36 000 from Juma suppliers on credit, In-
voice no 3812
Purchases Day book
Date Particulars/details Invoice no Ledger fo- amount
lio
April
2011: Juma 3502 PL 25 000
2 Kamau 2607 PL 16 500
3 Juma 3509 PL 12 700
6 Juma 3605 PL 25 200
8 Kamau 3700 PL 17 500
8 Wamae 3750 PL 45 000
8 Wamae 3762 PL 9 200
15 Kamau 3802 PL 17 000
 334

18 Juma 3812 PL 36 000

24 Totals posted to the
Purchase account GL 204100
(Dr)
(Post the individual entries to their relevant accounts in the ledger (crediting))

(iii) Purchases Return Journals/Return outwards Journals

This is used to record goods that have been returned to the creditors by the
business, reducing the value of the goods that had been purchased. It uses the
credit note received as the source documents, with the totals being in the pur-
chases return account while the individual creditor’s accounts are debited in
their respective ledger accounts. It takes the following format
Purchases return journal
Date Particulars/details Credit note Ledger fo- amount
no lio
For example:
Record the following transaction in the purchases return day book for Njiru’s
traders for the month of June 2010, hence post the information into their rele-
vant ledger accounts.
June 2010;
“ 3. Returned goods worth shs 400 that had been bought from Nairobi
stores, credit note no 56
“ 8. Return goods of shs 1 200 to Matayos store, Credit no 148
“19. Had some of their purchases returned to the following; Njoka enter-
prises shs 700, credit note no 205, Nairobi Stores shs 600, credit note
no 58, Matayos store shs 1 000 credit note no 191
“26. Returned goods worth shs 1 800 to Njoka enterprise credit note no
210
“30. Return goods worth shs 1 020 to Matayos store, credit note no 200
(iv) Cash receipt Diaries
This is used to record all the cash and cheques that have been received in the
business. They may be many that posting directly in the cash book may be te-
dious and are therefore first recorded here. It totals are posted to the cash and
bank accounts in the general ledger (Dr), while the individual accounts are
 335

credited in their respective accounts in the ledger. It uses the cash receipt is-
sued and bank slips received as the source documents. It takes the following
format;
Cash receipt journal
Date Particulars/de- Receipt Ledger fo- Disc al- cash bank
tails no lio lowed

(v) Cash payment Journals

This is used to record cash and cheques that have been issued to the
creditors/out of the business. Its totals are credited (Cr) in the cash and bank
account and the individual accounts are debited (Dr) in their respective ac-
counts It uses the cash receipt received and bank slips issued as the source
documents. It takes the following format;
Cash Payment journal
Date Particulars/de- Receipt Ledger fo- Disc re- cash bank
tails no lio ceived
For example:
Record the following transactions into their relevant day books of Onyango
traders, hence post the entries to their respective ledger accounts and balance
them off;
May 2011:
“1. Cash sales amounting to ksh 3 000, receipt no 0112
“2. Paid the following creditors by cheque after having deducted a cash
discount of 10% in each case; H. Mwangi ksh 1 500, J. Mwaniki ksh
1 600, N. Mugo ksh 1 200
“3. Receive the following Chaques from debtors in settlement of their
debts after having deducted 5% cash discount in each case; Lucy kshs
22 800 cheque no 0115, Otieno kshs 8 550 cheque no 0011, Martha
ksh 1 330 cheque no 0016
“5. Paid for repairs in cash kshs 16 000, receipt no 0251
“10. Paid Juma in cash kshs 9 500, receipt no 0295
“14. Cash sales kshs 17 000, receipt no 02714
“15. Banked kshs 6 000 from the cash till
 336

“15. Received cash from Mary of kshs 13 500, receipt no 0258

“16. Cash sales of kshs 26 400 was directly banked, bank slip no 40152
“20. Cash purchases of kshs 8 920, receipt no 117
“22. Cash purchases of kshs 15 200 was paid for by a cheque, cheque no
512
Cash receipt journal
Date Particulars/de- Document Ledger Disc cash bank
tails no folio al-
lowed
May
2011 Sales 0112 GL 3 000
Lucy 0115 SL 1200 22 800
1 450 8 550
3 Otieno 0011 SL
Martha 0016 SL 700 17 000 1 330
3
3 Sales 02714 GL
Cash “c” 13 500 6 000
14 0258
15 Mary SL 26 400
Sales 40152 GL
15
16 Totals to be 2 350 33 500
65 080
posted to the
cash and bank
a/c (Dr)

(Post the totals and the entries to their respective accounts)

Cash Payment journal
Date Particulars/de- Document Ledger Disc cash bank
tails no folio Re-
ceived
May
2011 H. Mwangi PL 166.70 1 500
2 J. Mwaniki PL 177.70 1 600
2 N. Mugo 0251 PL 133.30 16 000 1 200
2 Repairs 0295 GL 9 500
5 Juma PL 6 000
Bank 117 “c” 8 920
10
Purchases 512 GL 15 200
 337

15 Purchases GL
20
22 Totals to be 477.30 40 420 19 500
posted to the
cash and bank
a/c (Cr)
(Post the totals and the entries to their respective accounts)
(vi) The petty Cash book
This is used to record money that has been set aside to make payments that
does not require large amounts, such as cleaning, staff tea, posting letters, etc.
it is always kept by the petty cashier, under the supervision of the main
cashier. The amount received by the petty cashier is always debited, while the
payments made from the same is credited. The credit side also contains the an-
alytical columns for various items of expenditure. The amount credited is also
extended to the analysis column for the specific item. At the end of the stated
period, the petty cash book is balanced, and the totals are posted to their indi-
vidual accounts. The individual’s accounts are debited with the totals of the
analytical columns, while the cash account is credited by the main cashier for
the total that was spent in the petty cash book.
Petty cash book can also be operated on an imprest system, where the petty
cashier receives a given amount of money at an intervals (imprest) to spend,
and report back to the main cashier at the end of the period on how the money
has been spent and the balance still remaining for re-stocking (reimbursed),
and only the amount spent can be reimbursed so that at the beginning of the
period the petty cashier will always have the full amount (cash float).
For example:
A petty cashier of sina chuki traders operate a petty cash book on an imprest
of kshs 2 500 on a monthly basis. On 1st February 2010, she had cash in hand
of shs 150 and was reimbursed the difference by the main cashier to restore
her cash float. The following payments were made during the month of Febru-
ary 2010
Feb; 1. Travelling expenses kshs110
2. Correcting fluid kshs 200
3. Sugar for staff tea ksh 180
4. Stamps kshs 255
10. Telephone kshs 255
 338

15. Entertainment kshs 130

18. Postage stamps kshs 100
20. Bread for staff tea kshs 148
25. Fare kshs 200
26. Duplicating ink kshs 250
27. Entertainment kshs 400
28. Telephone kshs 100
28. Atieno a creditor was paid ksh 150
Required;
Prepare a petty cash book from the above information and post the totals to
the relevant ledger accounts.
Sina Chuki Traders
Petty Cash Book
For month of Feb. 2010
Re- L. Dat Details Vou To Tra Of- Sta posta Tele- Ent. Ledg
ceip F e ch tal vel fice ff ge phon er
t sh no sh exp exp tea e a/c
201
150 Bal b/d
2 C. 0 Reim-
350 B Feb burse- 11 110
200
1 0
ment 18
1 20
Travel- 0 255 255
1 0
ling exp 130
2 18
Correct- 100
3 0
4 ing fluid 25 200
Sugar 250 14
10 5 8 400
15 Stamps 25 100
Tele- 150
18 5 150
20 phone 310 450 355 355 530
13
25 Entertain- 0
250 26 ment 32
10
0 27 Stamps 8
0
22 28 Bread 14
28 Fare 8
Duplicat- 20
 339

ing ink 0
Entertain- 25
ment 0
Tele- 40
phone 0
Atieno 10
Totals 0
Bal c/d 15
0
Bal b/d 24
78
22
25
00
The totals in the analytical columns are Debited in the individual accounts,
with the petty cash book totals being credited in the cash account.

(vii) The general Journal/Journal proper

This one is used to record purchases or sales of fixed assets of the business on
credit. These assets do not form part of the stock since the business does not
deal in them, however the business may decide to buy or sell them for one rea-
son or the other.
In this journal, the account to be debited begins at the margin, while the ac-
count to be credited is indented from the margin, with a narration below them
put in brackets. The narration simply explains the nature of the transaction
that has taken place. The individual entries are then posted to their respective
accounts by either debiting or crediting depending on the transactions. It takes
the following format;
General journal
Date Particulars/details Ledger folio Dr shs Cr shs
For example:
Journalise then following transactions which took place in the business of J
Opuche during the month of March 2005
March 5; Purchased office furniture on credit for shs 25 000 from miugiza
Furniture Limited
 340

10; Sold old duplicating machine for shs 15 000 to samba academy on
credit
15; Bought a new motor vehicle for shs 800 000 from explo motors Ltd,
paying shs 300 000 in cash and balance was to be settled at a later
date
18; Sold old vehicle to Mara Secondary school for shs 500 000 on credit
25;The owner converted personal electronic calculator valued at shs 9
000 into business asset
27; Sold old computers valued at shs 20 000 for shs 15 000 on credit to
Mara secondary school
30; Sold old dining chairs worth shs 10 000 to Maendeleo for shs 15 000
on credit
General journal
Date Particulars/details Ledge Dr shs Cr shs
r folio
March
2005 Office Furniture a/c 25 000
5 Miugiza a/c 25 000
(Being a credit purchase of
office furniture from Miu- 15 000
10 giza) 15 000
Samba Accademy a/c
Duplicating Machine a/c
(Being credit sales of dupli- 800 000
15 300 000
cating machine to Samba
500 000
academy)
Motor vehicle a/c
500 000
18 Cash a/c
500 000
Explo Motors a/c
(Being purchase of motor ve-
hicle from explo. motors, 9 000
25 9 000
paying part in cash and part
on credit)
Mara Sec sch a/c 15 000
27 5 000
Motor vehicle a/c 20 000
 341

(being the credit sale of old

30 motor vehicle to mara sec 15 000
sch) 10 000
Calculators a/c 5 000
Capital a/c
(being conversion of private
calculator to business asset) 1 384 000 1 384 000
Mara Sec. Sch. a/c
Loss on disposal a/c
Computer a/c
(being credit sale of old com-
puters to Mara school at a
loss of 5 000)
Maendeleo a/c
Furniture a/c
Gain on disposal a/c
(being the credit sale of din-
ing chairs to maendeleo at a
gain of 5 000)

The entries are then transferred to their respective accounts in the ledger, with
the ones debited in the journals being debited and the ones credited being
credited.
The Journal proper can also be used to show the opening entries and the clos-
ing entries. That is;
 Opening entries
The opening entries are the entries of the assets and liabilities at the beginning
of the trading periods to facilitate the opening of different accounts for them.
They are the balance b/d for the assets and liabilities of the business.
The assets to be debited are recorded first, followed by the liabilities and capi-
tal to be credited. In case the capital is not given, it can be calculated using the
book keeping equation, that is A = C + L. the narration then follows the en-
tries.
The opening entries are necessary when;
 A business that did not keep complete accounting records would like to
start keeping
 342

 Opening up new sets of accounting books, after closing the old ones
 Starting accounting records for a business which has been bought,
though was in full operation
For example;
The following balances were extracted from Martine’s store that did not
keep complete records, and would like to start keeping on 1st January
2011. Prepare for them their relevant subsidiary book to show the bal-
ances.
Shs
Motor vehicles 230 000
Machinery 40 000
Creditors 10 000
Debtors 5 000
Cash in hand 20 000
Stock 10 000
Insurance prepaid 5 000
Bank 25 000
Premises 335 000
Capital 660 000

Martine’s Store
General journal
On 1st January 2011
Date Particulars/details Ledger fo- Dr shs Cr shs
lio
2011 Premises 335 000
January Motor vehicle 230 000
1 Machinery 40 000
Debtors 5 000
Cash 20 000
Insurance prepaid 5 000
660 000
Bank 25 000
10 000
Stock 10 000
Capital
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Creditors
(being the records of as-
sets, liability and capital 670 000
at the beginning of new
period) 670 000

 Closing entries
At the end of the trading period the business asses how it carried out its
trade and the amount of profit it made by preparing the Trading profit and
loss account and the balance sheet to show its financial position. These are
prepared by the information obtained from the ledgers. That is, all the nom-
inal accounts (sale, purchase, expenses and revenue accounts), both open-
ing and closing stocks are transferred to the trading profit and loss account
through the trial balance and general journals, while the rest are taken to the
balance sheet.
Uses of general journal;
 To record purchases of fixed assets on credit
 To record sales of fixed assets on credit
 To correct errors by checking the balances
 To record the opening and closing entries
 To write off bad debts
 To record the inter ledger transfers
 To issues shares and debentures in companies
 To make end of the year adjustments for the final accounts
In the table below, indicate the books of original entry that the information ob-
tained from the given source documents are used to prepare
Source Document Books of Original entry
Sales Invoice/invoice issued/Invoice re- Sales journals
tained/invoice copy
Purchases Invoice/Invoice received/Original Purchases journals
invoice
Credit note issued/Credit note retained/ Return inwards/Sales return
Credit note copy journals
Credit note received/credit note original Return outwards/purchases re-
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turn journals
Original receipt/Receipt received Cash payment/Analysis cash
book/ Cash book
Receipt copy/Retained receipt Cash receipt journal/Analysis
cash book/cash book
Petty cash voucher Petty cash book
Uses of Journals
 To relive ledger of many details
 To record more details about the transaction that are not found in the
ledger
 To facilitate tracing of errors
 To facilitate the preparation of control accounts
 To curb frauds and promote efficiency, since they are prepared by differ-
ent people from the ones handling ledgers
Assignment:
(Exercise 1B pages 50 and 51, Nos16 and 18 in Inventor book 4, KLB Stu-
dents book)