Australia: So you want to start a business. Which business model should you choose?

Small businesses feature a lot in the rhetoric of politicians, who love to say that the small business (or "SME" – "small to medium enterprise") sector is the backbone of the Australian economy. We frequently hear encouragement for people to get out and set up a small business.

But what's involved in establishing and running a small business? Let's start with the business model. There are different business models, and all have differences in the contractual frameworks within which they operate.

Running a personal services business as a sole trader or through a company

Many people run businesses deriving income from the exercise of some personal skill: hairdressing, carpentry, plumbing, physiotherapy, law, dentistry and many others. Businesses of this kind can be run simply by an individual with an ABN (a "sole trader"), or through a company.

Each of these has its pros and cons. For example, as a sole trader, you don't have the costs of maintaining a company, but you will need to take out income protection insurance because you will not get workers' compensation.

Buying products wholesale and selling them retail

If you don't have some trade or profession you can turn into a personal services business, another possibility is selling some product which you buy wholesale and sell retail.

Depending on the nature of the product, however, you may need to put capital at risk in stocking up whatever it is you want to sell, with the attendant risk of financial loss if the market is not buoyant.

Distributing products or services produced by someone else

One way to reduce the risks associated with buying what you want to sell is through a distributorship, where you sell some product or service produced by someone else, essentially as an agent. If you choose this option, you will probably be asked to sign a contract called a distribution agreement (or similar).

Advantages and disadvantages of franchises

Franchises are in some ways like distributorships, but in other ways are quite different. Franchises can appear quite attractive because typically you will have the advantage of the use of a well-known brand, together with accompanying marketing material, and the benefit of extensive advertising and marketing by the franchisor – think major fast food chains, for example.

Although there is a Franchising Code of Conduct offering some protection for franchisees, franchises can be very demanding. Because the franchisee gets the benefit of the franchisor's branding, franchise agreements are typically closely prescriptive of a wide range of aspects of the business, down to the layout of the premises, signage, staff uniforms, equipment and the like.

Recent well-publicised events involving Eagle Boys Pizza, 7-Eleven and others demonstrate that making a profit in a franchise is not necessarily easy, even with adequate turnover.

So, before you set up a small business, and before you start thinking about contracts and other legal details, it's good to think carefully about the various business models, and which might suit you and your intended business best.

Diligent research will enable you to comply with legal requirements

Once you make a decision, it's important to understand the legal framework within which the business will operate. The framework includes the kind of contracts which you will need to enter and the legislation which will apply.

"Legislation" includes acts of parliament, regulations, and licensing requirements. Some of these provisions will be designed as safeguards, but many will impose requirements. Doing your research diligently will enable you to plan your proposed business to comply with these requirements.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.