Chp. 5 How to Form a Business

3 Major Forms of Business

1. Sole proprietorship

2. Partnership

3. Corporation

Sole-Proprietorship

A business owned, and usually managed, by one person

Partnership

A legal form of business with 2 or more owners

Corporation

A legal entity with authority to act and have liability separate from its owners

Corporations percentage of total number of businesses

20%

Corporations earn what percentage of total sales?

81%

Sole proprietorship is most common with what percentage

72%

Sole proprietorships earn what percentage of total sales?

6%

Sole Proprietorship Advantages

• - Ease of starting and ending the business

• - Being your own boss

• - Pride of ownership

• - Leaving a legacy

• - Retention of company profits

• 6. No special taxes

Sole Proprietorship Disadvantages

• - Unlimited liability

• - Limited financial resources

• - Overwhelming time commitment

• - Few fringe benefits

• - Limited growth

• - Limited life span

Unlimited liability

All debts of the business are the personal responsibility of business owner

Major Types of Partnerships

1. 1. General partnership

2. 2. Limited partnership

General partnership

A partnership in which all owners hare in operating the business and in assuming responsibility for the business’s debts

General partner

An owner (partner) who has unlimited liability and is active in managing the firm

Limited partnership

A partnership with one or more general partners and one or more limited partners

Limited partner

An owner who invests money in the business but does not have any management responsibility or liability for losses beyond the investment

Limited liability

The responsibility of a business’s owners for losses only up to the amount they invest

Limited partners and corporate shareholders have…

limited liability

Limited liability partnership (LLP)

A partnership that limits partners risk of losing their personal assets to only their own acts and omissions and to the acts and omissions of people under their supervision

Partnerships Advantages

1. 1. More financial resources than a proprietorship

2. 2. Shared management and pooled/complementary skills and knowledge

3. 3. No special taxes (same as proprietorship)

Partnership Disadvantages

1. 1. Unlimited liability for general partners

2. 2. Division of profits

3. 3. Disagreements among partners

4. 4. Difficulty of termination

Conventional (C) Corporation

A state-chartered legal entity with authority to act and have liability separate from its owners

Aspects of Conventional (C) Corporation

• Enables many people to share in ownership

• Owners are called shareholders or stockholders

• Ownership is in shares of stock

• Owners can share in profits without working there

Hierarchy of Corporation

Owners/Stockholders (elect board of directors)

Board of Directors (hire executives/officers)

Executives/Officers (set corporate objectives and select managers)

Managers (supervise employees)

Employees

Corporation Advantages

1. Limited liability

2. Ability to raise more money than a sole proprietorship

3. Perpetual life

4. Ease of ownership changes

Corporation Disadvantages

1. Initial cost

2. Extensive paperwork and regulations

3. Double taxation

4. Possible conflict with stockholders and board of directors/management

Benefit (B) Corporation

For benefit corporations, the purpose of business is to do good as well as earn profits

S Corporations

A unique form of business that has an ownership structure like a corporation, but it is taxed like sole proprietorships and partnerships

Aspects of S Corporations

• Have shareholders, directors, and employees, plus the benefit of limited liability

• Profits are taxed only as the personal income of the shareholders

• Are NOT public companies

Qualifications for S corporations

• Have no more than 100 shareholders

• Have shareholders that are citizens or permanent residents of the U.S.

Limited Liability Corporations (LLC)

Similar to S corporations but without the special eligibility requirements

LLC Advantages

1. Limited liability

2. Choice of taxation

3. Flexible ownership rules

4. Operating flexibility

LLC Disadvantages

1. No stock; ownership is nontransferable

2. Paperwork

Merger

The result of two firms forming one company

Acquisition

One company’s purchase of the property and obligations of another company

Vertical merger

The joining of two companies in different stages of related businesses

Horizontal merger

The joining of two firms in the same industry

Conglomerate merger

The joining of firms in completely unrelated industries

Federal Trade Commission (FTC)

Mergers between competitors must prove to who that the new combined company does not limit competition fairly?

Franchise agreement

An arrangement whereby someone with a good idea for a business (franchisor) sells the rights to use the business name and sell a product or service to other (franchisees) in a given territory

Franchises can be formed as a…

Sole proprietorship, partnership, or a corporation

Market Capitalization

Market value of the total ownership of the firm

Equation:

The number of shares of stock outstanding multiplied by price per share

Pros of Franchises

• Management and marketing assistance

• Personal ownership

• Nationally recognized name

• Financial advice and assistance

• Lower failure rate

Cons of Franchises

• Large start-up costs

• Shared profit

• Management regulation

• Restrictions oon selling

Franchising in Global Markets

• Even smaller franchises are going global

• Adapting products and brand names to different countries create challenges

• Foreign franchises also come to the U.S.