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Nickels_12e_UB_PPT_Student_Ch05.pptxChapter 5
How to Form a Business
©McGraw-Hill Education. All rights reserved. Authorized only for instructor use in the classroom. No reproduction or further distribution permitted without the prior written consent of McGraw-Hill Education.
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Learning Objectives
LO 5-1 Compare the advantages and disadvantages of sole proprietorships.
LO 5-2 Describe the differences between general and limited partners, and compare the advantages and disadvantages of partnerships.
LO 5-3 Compare the advantages and disadvantages of corporations and summarize the differences between C corporations, S corporations, and limited liability companies.
LO 5-4 Define and give examples of three types of corporate mergers, and explain the role of leveraged buyouts and taking a firm private.
LO 5-5 Outline the advantages and disadvantages of franchises, and discuss the opportunities for diversity in franchising and the challenges of global franchising.
LO 5-6 Explain the role of cooperatives.
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Basic Forms of Business Ownership
Sole proprietorship — A business owned, and usually managed, by one person.
Partnership — A legal form of business with two or more owners.
Corporation — A legal entity with authority to act and have liability separate from its owners.
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Figure 5.1 Forms of Business Ownership
Source: U.S. Census Bureau.
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Sole Proprietorships 1 of 2
LO 5-1
Advantages of Sole Proprietorships
Ease of starting and ending the business
Being your own boss
Pride of ownership
Leaving a legacy
Retention of company profits
No special taxes
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Sole Proprietorships 2 of 2
LO 5-1
Disadvantages of Sole Proprietorships
Unlimited liability — The responsibility of business owners for all of the debts of the business.
Limited financial resources
Management difficulties
Overwhelming time commitment
Few fringe benefits
Limited growth
Limited life span
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Partnerships 1 of 4
LO 5-2
Major Types of Partnerships
General partnership — A partnership in which all owners share in operating the business and in assuming liability for the business’s debts.
Limited partnership — A partnership with one or more general partners and one or more limited partners.
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Partnerships 2 of 4
LO 5-2
Types of Partners
General partner — An owner (partner) who has unlimited liability and is active in managing the firm.
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 shareholders have limited liability.
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Partnerships 3 of 4
LO 5-2
Other Forms of Partnerships
Master limited partnership (MLP) — A partnership that looks much like a corporation (in that it acts like a corporation and is traded on a stock exchange) but is taxed like a partnership and thus avoids the corporate income tax.
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.
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Partnerships 4 of 4
LO 5-2
Advantages of Partnerships
More financial resources
Shared management and pooled/complementary skills and knowledge
Longer survival
No special taxes
Disadvantages of Partnerships
Unlimited liability
Division of profits
Disagreements among partners
Difficulty of termination
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Figure 5.2 Questions to Ask When Choosing a Business Partner
LO 5-2
Do you share the same goals?
Do you share the same vision for the company?
What skills does the person have? Do they complement yours?
What can the person bring to the business?
What type of decision maker is the person?
Do you trust each other?
How does the person respond to adversity?
Does he or she try to solve the problem or try to defend his or her ego?
Can the person accept constructive criticism?
To what extent can you build excitement into the partnership?
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Corporations 1 of 8
LO 5-3
Conventional (C) Corporation — A state-chartered legal entity with authority to act and have liability separate from its owners (its stockholders).
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Figure 5.4 Corporate Types
LO 5-3
Alien corporations do business in the United States but are chartered (incorporated) in another country.
Domestic corporations do business in the state in which they are chartered (incorporated).
Foreign corporations do business in one state but are chartered in another.
Closed (private) corporations have stock that is held by a few people and isn’t available to the general public.
Open (public) corporations sell stock to the general public.
Quasi-public corporations are chartered by the government as an approved monopoly to perform services to the general public.
Professional corporations are owned by those who offer professional services.
Nonprofit (or not-for-profit) corporations don't seek personal profit for their owners.
Multinational corporations operate in several countries.
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Corporations 2 of 8
LO 5-3
Advantages of Corporations
Limited liability
Ability to raise more money for investment
Size
Perpetual life
Ease of ownership change
Ease of attracting talented employees
Separation of ownership from management
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Corporations 3 of 8
LO 5-3
Disadvantages of Corporations
Initial cost
Extensive paperwork
Double taxation
Two tax returns
Size
Difficulty of termination
Possible conflict with stockholders and board of directors
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Figure 5.5 How Owners Affect Management
LO 5-3
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Corporations 4 of 8
LO 5-3
Individuals Can Incorporate
Anyone—truckers, doctors, plumbers, athletes, and small business owners—can incorporate.
Normally stock is not issued to outsiders when individuals incorporate, so the advantages and disadvantages are not exactly the same as for large corporations.
Major advantages are limited liability and possible tax benefits.
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Corporations 5 of 8
LO 5-3
S Corporations
S corporation — A unique government creation that looks like a corporation but is taxed like sole proprietorships and partnerships.
S corporations have shareholders, directors, and employees, plus the benefit of limited liability.
Profits are taxed only as the personal income of the shareholders.
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Corporations 6 of 8
LO 5-3
S Corporations continued
Qualifications for S Corporations
Have no more than 100 shareholders
Have shareholders that are individuals or estates, and who (as individuals) are citizens or permanent residents of the U.S.
Have only one class of stock
Derive no more than 25% of income from passive sources
If an S corporation loses its S status, it may not operate under it again for at least 5 years.
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Corporations 7 of 8
LO 5-3
Limited Liability Companies
Limited liability company (LLC) — A company similar to an S corporation but without the special eligibility requirements.
Advantages of LLCs:
Limited liability
Choice of taxation
Flexible ownership rules
Flexible distribution of profits and losses
Operating flexibility
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Corporations 8 of 8
LO 5-3
Limited Liability Companies continued
Disadvantages of LLCs:
No stock, therefore ownership is nontransferable
Limited life span
Fewer incentives
Taxes
Paperwork
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Corporate Expansion: Mergers and Acquisitions 1 of 2
LO 5-4
Merger — The result of two firms forming one company.
Acquisition — One company’s purchase of the property and obligations of another company.
Types of Mergers
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.
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Figure 5.8 Types of Mergers
LO 5-4
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Corporate Expansion: Mergers and Acquisitions 2 of 2
LO 5-4
Leveraged buyout (LBO) — An attempt by employees, management, or a group of private investors to buy out the stockholders in a company.
LBOs have ranged in size from $50 million to $34 billion and have involved everything from small family businesses to giant corporations.
Business acquisitions are not limited to U.S. buyers.
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Franchises 1 of 7
LO 5-5
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 (franchise) to others (franchisees) in a given territory.
More than 733,000 franchised businesses operate in the U.S., employing approximately 13.3 million people.
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Franchises 2 of 7
LO 5-5
Advantages of Franchises
Management and marketing assistance
Personal ownership
Nationally recognized name
Financial advice and assistance
Lower failure rate
Disadvantages of Franchises
Large start-up costs
Shared profit
Management regulation
Coattail effects
Restrictions on selling
Fraudulent franchisors
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Franchises 3 of 7
LO 5-5
Diversity in Franchising
Women own about half of U.S. companies, yet ownership of franchises is about 21 percent.
More women are becoming franchisors. Auntie Anne’s, Decorating Den, and Build-a-Bear were started by women.
DiversityFran is an initiative to build awareness of franchising opportunities within minority communities.
Dunkin Brands’ Diversity in Franchising Initiative offers financing and development support to minorities and military veterans.
Over 20 percent of franchises are minority-owned.
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Franchises 4 of 7
LO 5-5
Home-Based Franchises
Advantages:
Relief from commuting stress
Extra family time
Low overhead expenses
Main Disadvantages:
Isolation
Long hours
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Franchises 5 of 7
LO 5-5
E-Commerce in Franchising
Most brick-and-mortar franchises have expanded online.
Many franchisors prohibit franchisee-sponsored sites because conflicts can erupt.
Sometimes “reverse royalties” are sent to franchisees who believe their sales were hurt by the franchisor’s site.
Other franchises are solely based online.
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Franchises 6 of 7
LO 5-5
Using Technology in Franchising
Franchisors use technology, including social media, to:
Extend their brands
Meet the needs of both customers and franchisees
Expand their businesses
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Franchises 7 of 7
LO 5-5
Franchising in Global Markets
Canada is the most popular target for U.S.-based franchises.
Franchisors are finding it easier now to move into China, South Africa, the Philippines, and the Middle East.
International franchising goes both ways—some foreign franchises have come to the U.S., including Kumon Learning Centers and H&R Block.
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Cooperatives
LO 5-6
Cooperative — A business owned and controlled by the people who use it—producers, consumers, or workers with similar needs who pool their resources for mutual gain.
Worldwide, co-ops serve one billion members!
Members democratically control the business by electing a board of directors that hires professional management.
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Appendix of Long Image Descriptions
©McGraw-Hill Education. All rights reserved. Authorized only for instructor use in the classroom. No reproduction or further distribution permitted without the prior written consent of McGraw-Hill Education.
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Appendix 1 Figure 5.1 Forms of Business Ownership
Percentage of businesses:
Sole proprietorships, 72 percent
Corporations, 20 percent
Partnerships, 8 percent
Percentage of total receipts:
Corporations, 81 percent
Partnerships, 13 percent
Sole proprietorships, 6 percent
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Appendix 2 Figure 5.5 How Owners Affect Management
Owners and stockholders elect a board of directors. The board, in turn, hires officers. The officers set corporate objectives and select managers. The managers supervise employees, who are at the bottom of the chart. The daily operations are structured as a pyramid with officers at the top.
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Appendix 3 Figure 5.8 Types of Mergers
A soft drink company buys a mineral water company, which is a horizontal merger (companies in the same industry).
A soft drink company buys an artificial sweetener company, which is a vertical merger (companies in different stages in related industries).
A soft drink company buys a snack food company, which is a conglomerate merger (companies in unrelated industries).
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