3 Choosing a Form of Business Ownership Chapter 3

Business 101 — The Basics
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3-1
Chapter 3
Choosing a Form of Business
Ownership
Learning Goals
1. Describe the three basic forms of business ownership.
2. Define the advantages and disadvantages of sole
proprietorships.
3. Discuss the advantages and disadvantages of partnerships.
4. Explain the differences between general partnerships and
limited partnerships.
5. Discuss the advantages and disadvantages of corporations.
6. Describe how a corporation is organized and operated.
7. Define vertical, horizontal, and conglomerate mergers.
8. Explain the recent trends influencing corporate
organizations.
9. Describe the differences among private ownership, public
ownership, and cooperative ownership.
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Forms of Business Ownership
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Chapter Overview
Ask anyone if they want to be in business for themselves. They will most assuredly
answer in the affirmative; some eagerly and some wistfully thinking of someday.
They see themselves as being their own boss, successful in the community with a
ready clientele trekking to their establishment to buy those necessary and not so
necessary goods. Ask what does it take to start a business of your own? And you
will likely hear “a small fortune,” “lot’s of Experience,” “a good location,” “a good
product,” “lots of help!” So do you go it alone, or should you have partners? What
about different methods of financing your adventurous business and are there legal
requirements or limitations that one should know about. One thing is for certain,
before you do venture into a business, get lots of sleep, for being the owner sleep
you won’t get.
If it is business ownership or else, then what form of business should you start
with? Determining the legal form of business ownership when starting a business
can be a complex and critical decision. For certain there is information one needs to
know about business structures, their advantages and disadvantages. Every business,
whether a John Deere Inc. or the neighborhood taco stand, must choose a form of
business ownership that best meets its needs.
Various factors are considered when choosing a form of business ownership.
Some of the variables include ease of formation, financial liability, availability of
financial resources, the ability to raise capital, taxation, technical expertise,
management skills, and the interests of those involved.
There are three fundamental forms of business and they are: sole proprietorship,
partnerships and corporations. All other forms are variations on those three. In this
chapter you will explore their advantages and disadvantages and discusses
alternative forms of public and cooperative ownership.
Starting a Business
Every day in the United States someone is opening a new business for the first
time. Restaurants, e-businesses, nonprofit organizations, farms and ranches, and
shops. Someone with a dream is behind all of this activity and it does not confine
itself to age, gender or ethnicity. The dream of opening and owning your own
business is a common one.
For a few of these individuals, that dream awakes into another tremendous
success story.
Starting a company is a risky proposition for anyone. There are not guarantees
for success. In fact, most new businesses close their doors unceremoniously failed.
Not everyone is cut out to be an entrepreneur, after all it is a learned trait. But hope
upon hope always rises, for as it is, the successful entrepreneur when first starting
out failed, on average, in four attempts before getting that first success—and over
time they learned a lot.
When starting a business, one must think about and examine the following
factors:
1. Capital requirements: This is the amount of money and resources that will
be needed to finance and operate your business.
2. Risk: The amount of personal property you are willing to lose when starting
a business.
3. Control: The amount of authority as an owner you want to exercise.
4. Managerial abilities: What skills are needed to plan, organize and control
the business.
5. Time requirements: The time needed to operate the business and supervise
the employees.
6. Tax Liability: What are the tax obligations associated with running a
Business 101 — The Basics
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Illustration 3.1
Chris Weber, owner of
Plant Interiors by Weber in
Dayton, Ohio, is one of
many self-employed
people who operate
businesses from their
homes as sole
proprietorships. Weber
maintains many of the
plants he sells and leases
to local businesses at a
greenhouse in his home.
business; which government agencies will be interfering with your
business.
Each of these points need to be considered along with your own personal
values, your work ethic, your integrity and desire to succeed. Many
entrepreneurs prefer to work for someone else while they learn the ropes of a
particular business or industry. They use this as a training ground. Others will
jump right in and learn as they go.
All entrepreneurs will face the issue of the type of legal form to use for the
structural basis for their company. In essence, aspiring business owners have
three business forms to choose from: (1) Sole Proprietorship, (2) Partnership,
and (3) Corporation
Sole Proprietorships
When you think of going into business for yourself, you are thing of a
business ownership form know as a sole proprietorship; this is an organization
owned and usually operated by a single individual. It is the simplest form of
ownership and easiest to enter. Legally speaking, there is exists no distinction
between the sole proprietor as an individual and as the business owner. A
business's assets, its earnings, and debts are the owners and though one may
account for business income and personal income, legally they come under the
owners umbrella of ownership.. Although sole proprietorships are used in a
variety of industries, they are concentrated primarily among small businesses
such as mechanics shops, retail outlets, service organizations like restaurants,
and farms and ranches.
Advantages of Sole Proprietorships. Sole proprietorships offer advantages
many business owners like, such as retention of all profits, they are easy to form
and dissolve, low start-up costs, relatively free from regulations (as compared to
corporations and partnerships), the owner is in direct control of the business, and
there are tax advantages to the small business owner. In fact our tax laws are
sole proprietorship
Ownership (and usually
operation) of an
organization by one
person.
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Forms of Business Ownership
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meant to advantage the individual who is in business for themselves.
Legal requirements. There are a minimum of legal requirements and hurdles
when opening a sole proprietorship. Generally, the only legal requirements for
starting a sole proprietorship are filing a fictitious name statement at the county
courthouse and acquiring the necessary operating licenses when required. The
fictitious name statement is used to protect dual use of the same name and many
communities have licensing requirements for restaurants, motels, retail stores and
repair shops. One therefore needs to review local statutes and agencies on their
regulations. Many neophyte entrepreneurs mistakenly believe that they need
permission to go into business, which is not the case.
Pride of ownership is a driving force to entrepreneurship as well as the aspect
of direct control. Owners get to make the decisions, and they can make those
decisions without consulting others. Prompt action can be taken when it is needed
and preserve their “trade secretes.” All of these contribute to the personal
satisfaction of “being the boss.” A fallacy of ownership is that the owner doesn’t
have to work for someone else or have a boss. The fact is we all work for
someone else and we do have a boss, and they are the customer.
Disadvantages of Sole Proprietorships. Some disadvantages of the sole
proprietorship include: financial limitations restricted to the personal capital
resources of the owner, management restrictions and technical expertise
limitations, unlimited liability (relief can be garnered through bankruptcy), and a
lack of continuity.
Financial limitations to personal capitalization. Sole proprietorship capital
resources are general limited to the ability of the owner to raise money. The
capital resources are generally limited to the owner's personal funds and the
money that can be borrowed. Financial institutions are reluctant to loan money to
start-up business because of the lack of business history, market share, and
ownership equity that start-ups general pose. Financing limitations can retard
expansion of the sole proprietor's business, the owner must learn to “grow a
business.”
Management restrictions and technical expertise limitations. Sole
proprietors get to wear many different hats in their business; they get to be the
general manager, the personnel manager, financial manager, the buyer, the sales
trainer, the sales representative, the janitor, the manufacturing engineer, and the
production supervisor.
Businesses often fail because the owner lacks the technical expertise to make
their business successful. To illustrate, a sole proprietor wants to open a printing
shop because they see a need for one in their community, but they now nothing
about printing presses —their care and technical operation— this is a lack of
technical expertise, but it can be overcome.
As the business grows, the wide range of responsibilities become too large in
volume and the owner may be unable to perform all duties with equal
effectiveness.
Unlimited liability. Because there is no legal distinction between the business
owner and their business in a sole proprietorship, the owner is personally liable
for all business debts. If the debts of the business cannot be satisfied by the assets
of the business, then the owners personal assets, those not associated with the
business, may be required to satisfy the debts of the business. In a debt liquidation
proceeding, the sole proprietor may be required to sell household furniture, real
property (their family home), and personal automobile in order to satisfy business
debts. Business failure for a sole proprietor can mean financial ruin that takes
years to recover.
Lack of Continuity. Sole proprietorships terminate upon the death of the
owner. Even if they would like to pass the business on to their children,
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Business 101 — The Basics
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Inheritance taxes of a prohibitive and require the children to sell the family
business just to meet the tax obligations. A change in personal interests and
retirement can also terminate a sole proprietorship.
Partnerships
Partnerships are another form of private business ownership. A partnership is
another form of private business ownership. A partnership is defined in The
Uniform Partnership Act as an association of two or more persons who operate a
business as co-owners by voluntary legal agreement (contract). Partnerships are
used by individuals who are not related and want to go into business together.
Commonly one hears about professional organizations such as law firms, and
accounting firms as being partnerships. However, as a professional organization
grows, they will want to limit their liabilities and therefore incorporate and take
on the designations of P.C. (professional corporation), S.C. (service corporation),
and P.S. (public service).
A general partnership is a business structure where all of the partners act as
co-owners, sharing liability equally and unequally for the business's debts—that is
each partner shares unlimited liability, as described for sole proprietors. Another
form of partnership is the limited partnership. A limited partnership requires at
least one general partner, more general partners may exists, and one or more
limited partners. A limited partnership grants limited partners limited liability, and
general partners unlimited liability. The liability risk for a limited partner is the
extent of their financial contribution to the partnership provided that they have no
active management role in the business, whereas the general partner may be
required to sell off their personal assets to cover the debts of the business.
The sale of limited partnership shares is a common way of financing
businesses today.
Master Limited Partnership. Master limited partnerships were devised as an
investment that would combine the tax benefits of a limited partnership with the
liquidity of publicly traded securities. Firms set up as master limited partnerships
function like corporations in that they publicly trade stock on the major
exchanges; yet, in some master limited partnerships, the earnings are taxed only
once, to the partners. This form of ownership, begun in 1981, initiated with the oil
and real estate industry booms. The Tax Reform Act of 1986, which increased the
corporate tax burden, began to set limits on MLP’s. However, these partnerships
spread to other industries and are used by both large and small firms. The Disney
Corporation used MLP’s to finance a number of films under Screen Partners.
A joint venture, another type of partnership, involves two or more parties
forming a temporary business for a specific undertaking—for example, a group of
investors who import a shipment of high-tech equipment from China with the
purpose of selling the it to resellers in the United States. Joint ventures are often
used in real estate investments. This type of partnership is often used in
international business ventures.
Advantages of Partnerships. Partnerships are easy to form, offer broader
management skills, expanded financial resources and tax advantages. It is
relatively easy to establish a partnership. As with sole proprietorships, the legal
requirements usually involve filing a fictitious business name statement and
acquiring any and all necessary municipal licenses. Limited partnerships must also
comply with state legislation based on the Uniform Limited Partnership Act,
which define the requirements for this type of business organization.
Partnership agreement. A partnership may be formed on a handshake or be
based on a childhood friendship. However, it is best to establish written articles of
partnership specifying the details of the partners' agreement. This clarifies the
relationship within the firm and protects the original agreement upon which the
partnership
Two or more persons
operating a business as coowners.
general partnership
Partnership in which all
partners are liable for the
businesses debts.
limited partnership
Partnership composed of
one or more general
partners and one or more
partners with limited
liability.
master limited
partnership
A limited partnership that
is publicly traded and
functions like a
corporation.
joint venture
Partnership formed for a
specific undertaking.
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Forms of Business Ownership
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partnership is based. Even though partnerships are formed, and survive, on the
basis of mutual trust, it is best to have a written agreement.
Broader management base. A common reason for setting up a partnership is
to take advantage complementary managerial skills. People involved in sole
proprietorships all have their strengths and weaknesses. By reorganizing the firms
in a partnership each is in a position to take advantage of the others strength. For
example, a general partnership might be formed by an accountant, an architect,
and a real estate broker who plan to develop real estate and sell homes. If
additional managerial and supervisory talent is needed, it may be easier to attract
people as partners than as employees.
Expanded financial resources. Partnerships offer an expanded financial base
through the money invested by each of the partners. This is an expanded source of
risk capital and because each is contributing to a larger pool of money, they also
usually have greater access to borrowed funds than do sole proprietorships.
Because each general partner is subject to unlimited financial liability, financial
institutions are often more willing to advance loans to partnerships.
Disadvantages of Partnerships. As with other forms of business ownership,
partnerships have their disadvantages, including being able to find suitable
partners, unlimited financial liability for general partners, lack of continuity, and
divided authority. Each general partner is responsible for the debts of the firm, and
each individual is legally liable for the actions of the other general partner(s).
Suitable partners. Finding suitable partners for a business is not the same as
finding someone to play ball with. The hours are different, the commitment is
different and each individuals strengths are different. Personnel and personality
conflicts occur, even in partnerships. All partnerships, from law firms to rock-androll bands, face the problem of personal and business disagreements among its
participants on a wide range of areas that include: who does what, where
responsibilities begin and end and what products should be sell. In some cases, if
these conflicts cannot be resolved, it is sometimes best to dissolve the partnership.
Unlimited liability. As with sole proprietorships, general partners have
unlimited liability and may be required to pay the balance of debt owed by a
partnership when the assets of the partnership business are not sufficient to those
debts. This liability is shared equally and unequally, that is if even one partner
contributed less than any other partner, that partner may be liable for repayment
that exceeds their apportioned financial contribution to the partnership. Even if
there is only one partner that has any personal wealth, that partner may be
required to pay the entirety of the partnership debt.
In a limited partnership, limited partners are protected from this pass-through
debt liability. As long as a limited partner plays no active management role in the
business activities, the limited partners risk is only the amount of capital that they
invested into the partnership. Thus a limited partner enjoys limited liability.
Continuity. Partnerships suffer the same issues regarding Continuity as a sole
proprietorship. If one general partner dies, the general partnership is dissolved.
For its business activities to continue, a new partnership needs to be formed. For
practical purposes, on the death of a partner, the business doors close and re-open
as quickly as you have read this sentence. The reason is that no one wants a
profitable business to permanently close, just think of the lost tax revenue. But the
symbolic closing is to establish a basis for the “death taxes” to be paid and the
deceased partners estate must have a final settlement from the partnership.
Divided authority. Like finding suitable partners, establishing and
maintaining divided authority in a partnership requires is a stumbling block. One
must be able to delegate responsibility with high expectations and then step aside
to allow business to take its course. There are some managers (partners) who are
not able to relinquish control and allow others to see the job through.
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When employees suspect that one partner cannot delegate, they will act like
children and begin a process of divide and conquer. Partners must establish clear
lines of responsibility with equally clear lines of communication.
Corporations
A corporation is a legal person (not a real person). A corporation functions
with a business intent and has owners, but the assets and liabilities of the
corporation are separate from those of its owner(s). A corporation is formed by
filing Articles of Incorporation with Secretary of State—the most common state is
Delaware, but Nevada is actively seeking businesses to incorporate in it. Evidence
of ownership in a corporation is represented by shares of stock one holds and their
ownership is transferable without changing the nature of the business. Shares are
usually be bought and sold readily on the open market. A stock certificate is shown
in Illustration 3.2.
Not all corporations are large-scale enterprises like General Mills, most of them
are small. In fact, almost 80 percent of all active corporations in the United States
have under $500,000 in business receipts. The corporate form is becoming
increasingly popular among smaller firms because of the advantages that
incorporation affords owners.
Advantages of Corporations. Corporate ownership offers considerable
advantages, including limited financial liability, specialized management,
transferable ownership, easier capital formation, continuous existence.
Limited liability. Because corporations are considered legal persons, they are
separate from the stockholders (owners) and offer the owners limited financial
liability. That is, the owner (a shareholder) has a financial liability exposure to the
extent of their invest in the company or the value of the shares that they hold. If a
corporation enters into a default then the share holders personal assets cannot be
touched by the creditors of a corporation. The limited liability of corporate
ownership is clearly designated in the names used by firms throughout the world.
U.S. corporations will regularly use designation "Incorporated" or "Inc." Corporate
Illustration 3.2 Example of a Stock Certificate
Source: Courtesy of Walt Disney Productions.
corporation
A legal entity with authority
to act and have liability
separate and apart from its
owners.
Articles of incorporation
are the stipulations under
which a business
incorporates. It establishes
nature of business, stock,
and officers.
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enterprises in Canada and the Great Britain use "Limited" or "Ltd." In Australia,
limited liability is shown by "Proprietary Limited" or "Pty. Ltd." This limited
liability is the most significant advantage of corporate ownership over other forms
of ownership.
Specialized management. Corporations, because of their financial resources,
can offer longer-term career opportunities for qualified people with specialized
managerial skills. In contrast to sole proprietorships and partnerships, this
advantage of shared workload allows a company to advance an grow to meet the
needs of its market.
Easier capital formation. Sole proprietorships and partnerships are limited to
the financial resources of the owners. The corporate structure allows an expanded
financial capability that assists a corporation as it grows and becomes more
efficient. Because corporate ownership is divided into many small units (shares),
it is usually easier for a firm to attract capital. People with large or relatively small
resources can invest their savings in a corporation by buying its shares of stock.
Corporate size and stability may make it easier for corporations to borrow
additional funds.
Continuous existence. Because the corporation is a legal person, it is said to
have a continuous existence which address the issue of continuity that faces sole
proprietorships and partnerships. In both of those business forms, because there is
no legal distinction between the business an the owner, when an owner dies, the
business is, in the eyes of the state, also dead. By comparison, a corporations
ownership is represented by the shares of stock, and those owners are distinct
from the business. When a share holder dies, it is merely their portion of the
corporation that is subject to inheritance taxation and the corporation keeps on
keeping on.
dividends
Payments to stockholders
from a corporation's earnings.
S corporation
Corporations that are taxed as
a partnership while
maintaining the advantages of
a corporation.
Disadvantages of Corporations. The disadvantages associated with the
corporate form of ownership are inherent in the characteristic of corporations. The
cumbersomeness of corporations are related to the legal regulations that are
associated with it. The disadvantages include:
Legal regulations: Because of their structure corporations are subject to more
stringent legal requirements in both under state regulations and federal regulations
that sole proprietorships and partnerships do not face.
They are restricted to the stipulations of their forming charter which defines
the activity they may engage in; and their charter is filed with the Secretary of
State in the state in which they were formed.
Corporations must also file annually various reports about their operations
which are placed with the Security Exchange Commission. (SEC).
Taxes: Because corporations are a legal person their income is subject to both
federal and state income taxes, the same as an individual. The balance after the
these taxes are paid may be paid out to the shareholders where they will pay an
additional tax (double taxation) on the revenue derived from the dividends that
they received.
In contrast, the earnings of a sole proprietorship and partnership are taxed only
once as the owner receives those earnings.
In some states corporations are provided some tax relief when they meet
specific size and stock ownership requirements by recognizing them as S
corporations (formerly called Subchapter S corporations). These corporations
can elect to be taxed for federal purposes as partnerships while maintaining the
advantages of corporations. The Subchapter S Revision, Act of 1982 established
the maximum number of corporate shareholders at 35. The act also required that
one shareholder must hold at least 50 percent of the stock to be a Subchapter S
Corporation.
Formation costs: It is generally much more expensive to establish a
corporation as compared to the sole proprietorship and partnership. These costs
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Illustration 3.3 The 8 Largest U.S. Corporations by sales in 2004
Ranking
1
2
3
4
5
6
7
8
Company
Wal-Mart Stores
Exxon
General Motors
Ford Motor
General Electric
ChevronTexaco
ConocoPhillips
Citigroup
Location
Bentonville, Ark
Irving, Texas
Detroit, Mich
Dearborn, Mich.
Fairfiled, Conn.
Chicago, Il
Oklahoma City, OK
New York, N.Y.
Sales
($ millions)
280,360.0
270,764.0
193,452.0
170,839.0
151,300.0
142,897.0
118,719.0
108,276.0
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Source: Business Week, Feb 28, 2005, pg 89
are related to drafting the articles of incorporation and the various filing regulations
the need to be met.
Starting a Corporation
You have investigated the different forms of business organization, and because
of the nature of your business activity you decide that the corporate form best suits
your needs. What do you do to set up a corporation?
Although one can incorporate without a business without the help of a
competent corporate attorney, however, it is probably best to use an attorneys
services. Do see them a good attorney first as you start through the incorporation
process.
Next on the list is to select a state in which to incorporate. Because regulations,
incorporation costs, state fees, taxes, and ownership rights vary among the 50 states
this is an important decision. For example, if you intend to operate primarily within
California you should probably incorporate in that state. However, if your business
will be in Decalb County, Georgia then it is probably best to incorporate in Georgia.
Besides the convenience of incorporating in your home state, businesses competing
for state-awarded contracts receive preferential contracts from local government
agencies.
Classifying Corporations
Corporations are classified as domestic, foreign, or alien, and this classification
is based upon where there are doing business in relation to the state in which they
are incorporated (domiciled). A corporation is considered a domestic corporation
in the state in which it is incorporated. If it expects to do business in states other
than the state of incorporation, then it will register as a foreign corporation in
those other states. When a business is incorporated in one country but is operating
in another, then the company is an alien corporation in the nation that it is doing
business.
Sears and Roebuck, the well known retailer and catalog marketer, operates as a
domestic, foreign, and alien corporation. In today’s global market, access to the
internet allows customers to do business on the World Wide Web. Sears is
incorporated in Delaware (domestic corporation), with its headquarters in Chicago,
where it operates and has stores in the other 49 states and territories (foreign
corporation). The firm also operates in Canada where it is an alien corporation
Incorporating the Business
In most states the state agency and office that administers corporate oversight is
usually the Secretary of State. Corporate charters, or Articles of incorporation are
the forms that must be filed with the appropriate state agency.
Corporate charters usually include similar information: the corporate name,
domestic corporation
Firm doing business in the
state in which it is
incorporated.
foreign corporation
Firm doing business in a
state other than the one in
which it is incorporated.
alien corporation
Firm organized in one
country but operating in
another.
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[CH 3
Illustration 3.4 How a Corporation Works
The
Stockholders
The Board of
Directors
The Chief
Executive
Officer
Top
Management
Middle
Management
Supervisory
(First-Line)
Management
elect
who assume
responsibility
for overall
corporate
policy and
strategy; and
hires
who is
responsible
for overall
operation of
the
organization
and oversees
who handles
major
corporate
decisions and
delegates
other
decisions
who handles
most
operating
decisions and
delegates
actual
supervision of
operative
employees
who actually
directs the
activities of
other
employees
address, corporate purpose, number, class, and par value of authorized capital stock,
registered office and agent, name of the incorporator and address, and board of
director information.
Stockholders
stockholders
People who acquire the
shares of, and therefore
own, a corporation.
close corporation
Corporation owned by
relatively few stockholders
who control and manage its
activities.
preferred stock
Stock that has the first claim
to the corporation's assets
after all debts have been
paid.
common stock
Stock whose owners have
only a residual claim to the
firm's assets but who have
voting rights in the
corporation.
proxy
Authorization by
stockholders for someone
else to vote their shares.
.
Stockholders are the owners of a corporation. Each share that they hold
represents that portion of ownership in the corporation. A family farm that is
incorporated will have relatively few stockholders—and is probably structured as an
S corporation. Since some corporations owned by few individuals and are not
publicly traded are known as a close corporation— the stockholders also control
and manage the corporation's activities. In a larger corporation, such as Disney, the
ownership is diversified and publicly traded.
Because of the enormity of stockholders in General Motors, exceeding 1 million,
individual owners exert little control or influence on this company. And if they
decide to sell their shares there is a ready market for it in the stock market.
Annual stockholders’ meetings are held during which management presents
reports on the corporations activity, questions may be asked by stockholders and the
board of directors are elected at. If there any issues that the stockholders need to
vote on, they are generally occur at the annual meeting.
A corporations stock is generally classified as common or preferred. Common
and preferred stock define the pay order and represent rights to the companies assets
if, say, the company goes broke. Preferred stock owners hold first claim to the
corporation's assets after all indebtedness is paid off, and they usually do not have
voting rights at the stockholders' meetings. Common stock owners hold what is
termed a residual claim to the companies assets. That is after the debts are paid off,
and the preferred stock holders are paid, then the balance of the assets are paid to
the common stockholders. Because the common stockholders actually have the
greatest risk, they have voting rights in the company, such as to elect the board of
directors.When a vote is taken, each share of common stock is worth one vote. For
example, a person with 350 shares has 350 votes. When stockholders cannot attend
the annual meetings, quite often they will authorize someone else to vote their
shares on their behalf. This is called a proxy authorization to vote the shares to
someone who will attend.
One will easily recognize that comparing the voting power of a stock holder who
has 350,000 shares possesses more voting clout than share holder with 350 shares.
Therefore, small stockholders generally have little influence on corporate
management.
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3-11
Illustration 3.5 Advantages and Disadvantages of Each Form of Private Ownership
Form of Ownership
Advantages
Disadvantages
Sole Proprietorship
1. Low Start-up costs
2. Owner in direct Control
3. Tax Advantages
4. Retention of all profits
5. Freedom from regulations
1. Unlimited financial liability
2. Financing limitations
3. Management deficiencies
4. Lack of continuity
Partnership
1. Ease of formation
2. Broader Management Base
3. Additional sources of Risk Capital
4. Tax Advantages
5. Low Start-up Costs
6. Limited outside regulations
1. Unlimited liability
2. Suitable Partners
3. Lack of continuity
4. Divided Authority
Corporation
1. Limited financial liability
2. Legal person
3. Specialized management
4. Continuous Existence
5. Easier to raise capital
6. Ownership transferable
1. Difficult and costly ownership
form to establish and dissolve
2. Tax disadvantage
3. Closely regulated
4. Charter restrictions
5. Management more complex
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Board of Directors
The board of directors are the governing authority for the corporation and they
are elected by the stockholders. In turn then the board of directors selects its own
officers, the chairman, vice-chairman, and a secretary. Generally three directors are
required as officers of a corporation in most states and a least one annual meeting of
the board. However, most corporate board’s of directors meet quarterly.
It is the board of directors that authorize major transactions involving the
corporation and establish overall corporate policy. Upon recommendations from their
selected management team, the board makes decisions about the company’s stock,
dividends, financing arrangements and major changes in corporate holdings, such as
buying land or another company. For the management team, its is the board of
directors responsibility hire the corporations chief executive office (CEO), who will
then seek out a competent chief financial officer (CFO), and chief operations officer
(COO). Then the management team will select the subordinate managers for other
important management positions.
After the management team is selected, then the board of directors takes on a role
of a review panel for management decisions.
However, in your small corporations (S corporation) the board of directors often
will play an active roll in the management of their company affairs.
Management
Management is a process of gathering the best qualified people with expertise and
skills that make a business profitable. The chief executive officer need not be the best
in all fields of the business, but he needs to be able to attract those kinds of people
that will complement the business, because they are responsible for the actual
operation of the corporation, subject to board approval. Then it becomes a matter of
establishing a corporate direction and delegating the authority to carry it out. The
corporate organization and its operation, as charted in Illustration 3.4, illustrates the
types of decisions and activities at each level in the organization.
Mergers and Acquisitions
Over the past century, merger and acquisition (M&A) activity have surged
occurred at various times. In 2001, more than 8,000 M&A deals were transacted in
board of directors
Governing body of a
corporation are elected by
the stockholders.
3-12
Forms of Business Ownership
[CH 3
Illustration 3.6
These are some of the stockholders attending the annual meeting of H. J. Heinz Company. During the meeting,
stockholders elected 15 members to the board of directors, elected Coopers & Lybrand as auditors for Heinz, and
approved company stock option plan.
Photo source: Courtesy of H.J. Heinz Company.
merger
Combining tow or more
businesses into a single
entity.
acquisition
The process in which one
firm buys the assets and
assumes the obligations of
another company.
vertical merger
Merger that occurs between
firms at different levels in the
production and marketing
process.
the United States with a net value exceeding $800 billion.
A merger is when two or more corporations join together to become a single
corporation. For example, Tenneco's JI Case division merged with the agricultural
division of International Harvester to form Case IH. The new company is the
second largest agricultural and farm equipment manufacturer in the United States,
and is an international company with operations in Argentina, Australia, Africa,
Asia, and Brazil. They formed another division, Case Construction, an international
leader of construction equipment. Case is supported by more than 12,000 dealers in
more than 160 countries.
An acquisition is when one company purchases outright the property and assets
of another company, and takes on the debt obligations of that company. When
Chrysler Corporation acquired American Motors, the most prominent asset was the
JEEP line of automobiles. In recent years, the purchase of U.S. firms by foreign
buyers has escalated such as with British Petroleum's (BP) $7.6 billion purchase of
Standard Oil Company, and British Petroleum acquisition of American Oil
Company (Amoco). CSX Corporation agreed to purchased Conrail Inc. for $8.4
billion in cash and stock, creating a freight company that will service rail delivery
in the eastern United States.
The federal government is concerned with M&As if there is a reduction in
competition. Mergers that reduce market competition can result in government
action under the Celler-Kefauver Act and review by the Federal Justice Department
and the Federal Trade Commission (FTC)
Types of Mergers
When discussing mergers, one must recognize that there are three types of
corporate mergers: vertical, horizontal, and conglomerate. A vertical merger
CH 3]
Business 101 — The Basics
occurs between firms that are on different levels in the production-marketing
process. You should recall the discussion on levels of productivity; there is primary
production (farms, forestry, fisheries, and minerals), secondary level of production
(manufacturing and processing), and tertiary levels of productivity (retail sales). For
example: PepsiCo, a secondary level of production, acquired Kentucky Fried
Chicken and Taco Bell a tertiary retail outlet. This acquisition assured PepsiCo a
retail outlet for its soft-drink processor Pepsi Cola and a stronger competitive
foothold against its number one rival Coca-Cola.
A horizontal merger occurs between firms in the same industry such as
Chrysler acquiring American Motors. This kind of merger will have an objective for
a company of diversify its product line to offer a more complete and complimentary
product line such as PepsiCo (soft drinks) owning Frito-lay (snack chip processor).
A conglomerate merger is a merging formation of unrelated firms. An example
is JC Penney’s acquisition of Eckerd Drug stores and Stonebridge Life Insurance
Company. The dominant purposes of most conglomerate mergers are
diversification, sales growth, and attempts to wisely invest cash surpluses, which
might make a company a tempting target for a takeover effort.
Although conglomerate mergers have cycles in the business world. Some firms
that formed conglomerate mergers did not have the management skills needed to
operate firms in unrelated industries. An example is Mobil Corporation's attempt to
diversify beyond its oil operations by buying retailer Montgomery Ward &
Company in 1976. Mobile Oil found that the retailing firm was not a good mix for
its overall structure and management and eventually sold it off.
Montgomery Ward eventually declared Chapter 11 bankruptcy to restructure
itself for better competition. It was eventually acquired by General Electric Capital
Services but again filed Chapter 11 bankruptcy shuttering 250 stores in 30 states.
Montgomery Ward was a 128 year-old company, the first to develop mail-order
catalogues. The Chicago-based chain, credited for creating the Rudolph the RedNosed Reindeer character and coining the "satisfaction guaranteed or your money
back" marketing slogan fell victim to an increasingly competitive retail
environment, a fast-paced world where aggressive discounters force stores to
change marketing structure or become a footnote to history.
3-13
horizontal merger
Merger between firms in
the same industry.
conglomerate merger
Merger of unrelated firms.
Friendly and Unfriendly Takeovers
Most mergers can be classified as friendly in that both parties agree to the revised
organization. However, in some instances the merger offer is unsolicited and
unwanted: the so-called unfriendly merger. Comcast Corporations move to take
over the Walt Disney company is an example.
Unfriendly takeovers typically begin with the tender offer, in which the buying
party (usually called the "raider") offers to purchase all or part of a companies stock
at a premium over its current price. However, if there is an internal management
fight, then the “raider” will wait for the feuding parties to drive the value of the
stock down. And the management of the targeted company may counter with
defensive actions ranging from pleas to stockholders not to sell to the filing of legal
challenges. A strategy used by corporations to discourage a hostile takeover by
another is referred to as taking a poison pill. There are two types of poison pills:
1. A "flip-in" allows existing shareholders (except the acquirer) to buy
more shares at a discount.
2. The "flip-over" allows stockholders to buy the acquirer's shares at a
discounted price after the merger.
By purchasing more shares cheaply (flip-in), investors get instant profits and,
more importantly, they dilute the shares held by the competitors. As a result, the
competitor's takeover attempt is made more difficult and expensive. An example of
tender offer
When someone offers to
buy all or a portion of a
firm's stock at a premium
over its current price.
poison pill
A takeover deterrent
whereby stockholders are
allowed to buy additional
shares below market value.
3
3-14
Forms of Business Ownership
[CH 3
Illustration 3.7
CSX Corporation purchase of Conrail Inc. for $8.4 billion in cash and stock will create a freight company that will dominate
rail delivery in the eastern United States.
shark repellent
A provision that requires that
a large majority of
stockholders approve any
takeover.
white knight
A friendly takeover whereby
the acquired firm remains
independent and keeps its
existing management.
golden parachute
An executive severance
package available to those
who lose their jobs through
acquisition or merger.
proxy fight
A situation where both
management and an outside
party seek control of a firm
through solicitation of
proxies.
a flip-over is when shareholders have the right to purchase stock of the acquirer on a
2-for-1 basis in any subsequent merger.
Another strategy used is shark repellent, which is any corporate activity
undertaken to discourage a hostile take over such as “scorched earth policy.” The
“scorched earth policy” involves liquidating valuable assets and assuming liabilities
in an effort to make the proposed takeover unattractive to the acquiring company.
Another strategy is to look for a friendly merger with another firm (the white
knight) that will retain current management and allow the acquired firm to operate
as an independent unit.
If a top executive would loose their job in takeover, then they may seek to
protect their interests with an elaborate severance package that would otherwise not
be available. Such a severance package is called a golden parachute. Terrence
Elkes, chief executive officer of Viacom, received an estimated $25 million golden
parachute after Sumner Redstone acquired his firm.
When there is a dispute among corporate board members, one member may try
to oust another by outvoting him. They will attempt to acquire the votes by
soliciting proxies from the other shareholders of the corporation These rival efforts
are known as a proxy fight.
Arguments abound on both sides of unfriendly corporate takeovers.
Management often argues that corporate raiders are more concerned with short-term
profit in stock gains that will certainly ruin the company as opposed to creating jobs.
On the other hand the raider may argue that the current management is more
concerned with protecting their own jobs rather than benefiting the stockholders
with higher profits.
Steve Forbes of Forbes, Inc. sees some investors looking at corporations that
they hold stock in as being poorly run. He recommends that a significant
shareholder could come and threaten to take a company over and through the
management team out; believe that management will then operate the company
more efficiently and profitably. 1
CH 3]
Business 101 — The Basics
3-15
Illustration 3.8
BreakMate is a compact
fountain dispensing
systems manufactured
by Siemens, a German
appliance manufacturer.
Coca-Cola acquired the
worldwide marketing
and distribution rights
for BreakMate to give it
another advantage in the
distribution of soft drink
syrups.
Photo source: Courtesy of Coca-Cola USA. “Coca-Cola” and “Coke” are trademarks of the Coca-Cola Company.
Merger Alternatives
Contradictory trends are also evident in today's corporate environment. Some of
the most significant are divestiture, taking a firm private, leveraged buyouts, and
employee ownership. Many of these trends are related.
Divestiture is the selling off of a corporation's divisions or units. Mobil Oil in
selling off Montgomery Ward, embarked on a divestiture program in an effort to refocus the firm's resources on its core business oil processing and retailing.
Corporations divest for a variety of reasons: to raise cash, to remove units that
are not closely matched to the firm's other businesses, and to cut operating losses.
Sometimes these units are converted into private firms, purchased via a leveraged
buyout arrangement, or acquired by their employees.
Sometimes management or a group of major stockholders will offer to buy all of
a company’s stock, thus making it a privately held company. The stock will no
longer be publicly traded. This scenario is known as "taking a firm private."
Seven Up Company, for example, went private in 1986 when John Albers, the
soft-drink manufacturer's chief executive officer, and an investor group purchased
the company from Philip Morris.
Seven Up later merged with Dr. Pepper, which is owned by Cadbury Schweppes
plc of London. Now Dr. Pepper/7UP, licenses its products to various bottlers around
the country, some of which are affiliated with the Pepsi Cola Company.
The leveraged buyout (LBO), a strategy involving the acquisition of another
company using borrowed money (bonds or loans). The acquiring company uses its
own assets as collateral for the loan in hopes that the future cash flows will cover
the loan payments. The company’s assets are typically used as collateral for the
loan, whereby a ratio of 90% debt to 10% equity are used to close the purchase.
Because of this high debt/equity ratio, the bonds are usually not investment grade
and are referred to as junk bonds.
Employee Ownership. Employees sometimes buy a plant or division from a
company in order to preserve their jobs. A leveraged buyout is common in these
situations. The corporate organization format is retained, but now the stockholders
are also employees. United Airlines and Delta Airlines are employee owned.
divestiture
The selling off of a
corporation’s divisions or
units
leveraged buyout (LBO)
The use of borrowed money
to purchase a company or
division
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3-16
Forms of Business Ownership
[CH 3
Subsidiary Corporations
subsidiary
Corporation with all or a
majority of its stock
owned by another
corporation.
parent company
Corporation that owns all
or a majority of another
corporation’s stock (called
a subsidiary).
When all or a majority of a corporation's stock is owned by another corporation,
it is a subsidiary of that corporation. The owner is usually called the parent
company. Typically, management of the subsidiary is appointed by the chief
executive of the parent company, subject to the approval of the parent's board.
Many well-known corporations are actually subsidiaries of other corporations.
Weight Watchers International, Star-Kist Foods, and Ore-Ida Foods are subsidiaries
of H. J. Heinz Company. The Lender's Bagels was a division of Kraft Foods Inc.
and is now a division of Kellogg Co. the baker of Eggo frozen waffles and
purveyor of Frosted Flakes and Rice Krispies cereals.
Public and Cooperative Ownership
The majority of businesses are privately owned by individuals or small groups,
some are owned by municipalities and state governments, and some are owned
cooperatively by a number of people.
Public Ownership
public ownership
An enterprise owned and
operated by a
governmental unit.
There are services that have been deemed important to a community and
competition would be a detractor to the community. As an alternative to private
ownership, government agencies sanction the public ownership of a business and
thus create a highly regulated monopoly. Public Utilities are typical of this kind of
organization. A public utility can have stockholders as the owners, but because of
the service that they provide, such as electricity, they are granted a monopoly status
but are highly regulated to insure that they do not overcharge their customers.
Local governments own parking structures and water systems, establish roads
for commercial use. The Pennsylvania Turnpike Authority operates a vital highway
link across its state. The federal government established the Tennessee Valley
Authority to provide electricity to the rural south.
The Trend toward Privatization. In recent years, there has been actions taken at
deregulation of public utilities and push them towards privatization—an attempt to
increase competition and lower prices in the services provided.
Some public services like prisons and fire protection are provided by private
companies, and there are proposals to turn publicly owned airports and power
companies over to private investors. The privatization trend has also been evident
outside the United States such as the United Kingdom and Canada. Though met
with resistance they become successful, profitable and more efficient.
Cooperatives
cooperative
Organization that is
operated collectively by
the owners.
A cooperative is an organization of member-owners that associate to
cooperatively operate all or part of their industries. Cooperatives are common in
agricultural industries (cotton, citrus, nut processing), but some even exist in urban
settings, such as food banks. Cooperatives are often created by large numbers of
small producers who want to take advantage of economies of scale and thus
become more competitive and profitable in the marketplace.
Illustration 3.9 shows an advertising piece featuring some owners of Blue
Diamond Growers, an agricultural cooperative of 5,100 California almond growers.
These owner/operators are waist deep in billions of almond kernels. Their
message—we grow the product and we are proud of it—is designed to increase the
consumption of Blue Diamond brand snack almonds in the United States. Other
well-known cooperatives are Sunkist Growers, Associated Mills Producers, and
Recreational Equipment Inc. (REI). REI was formed in 1938 by Lloyd and Mary
Anderson along with 23 fellow Northwest climbers. The group formed a consumer
cooperative to supply themselves with high-quality ice axes and other climbing
gear. They figured that if they could purchase consumer goods in bulk that the per
CH 3]
Business 101 — The Basics
3-17
Illustration 3.9 Advertisement Featuring a Cooperative’s Owners
Blue Diamond® Growers is the
world's largest tree nut processing
and marketing company. Founded
in 1910, the cooperative celebrated
its 90th anniversary in 2000. Blue
Diamond® led the development of
California's almond industry from a
minor domestic specialty crop to
the world leader in almond
production and marketing. We
continue to build markets and
create new products, new uses,
and new opportunities for members
of Blue Diamond® Growers.
Headquartered in Sacramento,
California, nearly 4000 California
almond growers deliver over onethird of California's almonds
annually to their cooperative. The
crop is marketed to all 50 states
and more than 90 foreign countries,
making almonds California's largest
food export, and the sixth largest
U.S. food export. The California
crop is valued annually at about $1
billion dollars.
Source: Courtesy of Blue Diamond Growers
unit cost would be less than if each went out and purchased the items individual.
Taking advantage of an economy of scale.
A requirement of cooperatives is that the owners of a cooperative must be its
membership and they elect their board of directors from among the owners. The
board then hires a team of professional managers to handle the business functions of
the cooperative. A cooperative is a business, and its capital is put to use to make a
profit for its owners. The initial operating capital comes from the owners, but it
must make a profit to stay in business. Unlike stockholders who invest funds in a
corporation to receive dividends, the owners of a cooperative invest funds to assure
themselves of markets for their products, lower their costs of operation and secure
sources of supplies and services.
The member-owners of Blue Diamond Growers, for example, support the
cooperative's Almond Research Center, to find new ways to use almonds as a food
product, confection, and develop marketing tools. The membership funds help
promote Blue Diamond almonds with nationwide television and print advertising
campaigns. Blue Diamond Growers export almonds to more than 90 countries
which account for much of the cooperative's sales. Owners' financial support of
these product development and promotional efforts is important in developing new
markets and expanding existing ones.
Marketing cooperatives with major-branded products, such as Ocean Spray
Cranberries, bring a premium for the products that they sell and generally it is
higher than if the grower tried to go it along in the market.
Syndicates
A syndicate is a temporary association of individuals or firms organized to
perform a specific task that requires a large amount of capital. The syndicate is
formed because no one person or firm is able to fund the entire capital requirements
for the undertaking. Like a joint venture, a syndicate is dissolved as soon as its
purpose has been accomplished. However, the participants in a syndicate do not
form a separate firm, as do the members of a joint venture.
syndicate
A temporary association of
i ndi vi dual s or f ir ms
organized to perform a
specific task that requires a
large amount of capital.
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3-18
Forms of Business Ownership
[CH 3
Syndicates are most commonly used to underwrite large insurance policies,
loans, and investments. Banks have formed syndicates to provide loans to
developing countries, to share the risk of default. Stock brokerage firms usually join
together in the same way to market a new issue of stock.
Limited Liability Company
(LLC) A legal form that
provides all the benefits of a
partnership, but limits the
liability exposure of each
investor to the amount of his
or her investment.
Operating Agreement
An agreement that sets the
rules for governing the
company as well as the rights
and responsibilities of the
members toward the company
and one another.
Limited Liability Company
The limited liability company (LLC) is a hybrid type of business ownership
combining several features of corporation and partnership structures. It is neither a
corporation nor a partnership; some erroneously refer to it as a limited liability
corporation, however it is correctly titled Limited Liability Company. The owners
are called “members,” not partners (as in a partnership) or shareholders (as with a
corporation). The number of members is unlimited and my be individuals,
corporations, or other LLC’s. The LLC provides all the benefits of a partnership, but
limits the liability exposure of each investor to the amount of his or her investment.
Further, unlike a limited partnership where the limited partner cannot participate in
management of the company, anyone can participate in the management of an LLC
and still enjoy limited liability protection.
Filing and recording an LLC is generally accomplished by completing a simple
form filed with the secretary of state of the state in which the firm will be
conducting its business, and a small filing fee (anywhere from $200 to $700).
Usually the secretary of state's office will check to see that the firm name is not
already in use. If not, granting the LLC is typically perfunctory and occurs within a
few weeks (the process is usually faster if you use an attorney). The LLC is also
required to prepare an "operating agreement," which is similar to a partnership
agreement.
The operating agreement sets the rules for governing the company (such as
the rules for meetings, if any) as well as the rights and responsibilities of the
members and company to each other. The operating agreement will state the
members' understanding of who is responsible for and amount of capital
contributions; who is to receive distributions and how much; who is to be allocated
the various tax attributes of the company such as profits, losses, gains and credits,
and under what circumstance the company will dissolve, among others. The
operating agreement is not filed with any state agency but, rather, is kept by a
designated member of the LLC or an assignee, such as an attorney.
When two or more people go into business together, they've automatically
formed a general partnership; they don't need to file any formal paperwork. By
contrast, to form an LLC, business owner's must file formal articles of organization
with their state's LLC filing office (usually the secretary of state or Department of
State) and comply with other state filing requirements.
Aside from formation requirements, the main difference between a partnership
and an LLC is that partners are personally liable for any business debts of the
partnership meaning that creditors of the partnership can go after the partners'
personal assets while members (owners) of an LLC are not personally liable for the
company's debts and liabilities.
There is one similarity between LLCs and partnerships, however. They both
offer "flow through" taxation, which means that the owners report business income
or losses on their individual tax returns; the partnership or LLC itself does not pay
taxes.
Advantages of a Limited Liability Company. There are many advantages to an
LLC. Combining the best features of both partnerships and corporations, the main
advantages of an LLC include the following:
CH 3]
Business 101 — The Basics
Limited Liability. The investors in an LLC enjoy limited liability for the
commitments and actions of the company. Thus, their personal assets are not at risk
as long as the company does not engage in fraudulent business practices.
Flexible Profit Distribution. Limited liability companies can select varying
forms of profit distribution. Unlike a common partnership where the split is 50-50,
LLC have much more flexibility.
Flow Through Taxation. As with sole proprietorships, partnerships, and S
corporations, the LLC is not separately taxed. Profits and losses of the LLC "flow
through" to the owners and are taxed according to the individual income tax rate.
Investors Can Manage. Unlike a limited partnership, which does not allow
limited partners to manage, the LLC allows any shareholder to also be a manager
without risking limited liability status. This advantage is significant, especially to
the founders of a company who want to contribute funds and be part of the active
management team.
Unlimited Membership. The LLC has no restrictions regarding the number of
individuals who may participate as shareholders. In most states, the S corporation
restricts the number of investors to thirty-five individuals. An LLC can have as
many "members" as necessary.
Ease of Organizing. Organizing an LLC is usually a simple matter, requiring
only the filing of articles of organization with the appropriate state secretary of state
and paying required fees. Although it is not required in many states to draft an
operating agreement, it is advisable. Much like corporate by-laws or partnership
agreements, the operating agreement can help define your company profit sharing,
ownership, responsibilities, and ownership changes.
Each state has different rules governing the formation of a limited liability
company. For instance, in North Dakota, a foreign LLC is not allowed for banking
or farming. Some states will want a publication notice with the local newspaper that
a company has been formed. Check with your local state office for their particular
requirements.
Disadvantages of a Limited Liability Company. The disadvantages of an LLC
revolve around limited life, financial limitations, transferability and reporting
complexities.
Limited Life. An LLC does not have a reliable continuity of existence. The
articles of organization must specify the date on which the LLC's existence will
terminate. Unless otherwise provided in the articles of organization or a written
operating agreement, an LLC is dissolved at the death, withdrawal, resignation,
expulsion, or bankruptcy of a member (unless within ninety days a majority in
both the profits and capital interests vote to continue the LLC).
Financial limitations. The LLC does not allow for the issuance of stock
shares. Rather, individuals who invest in an LLC are known as "members."
Many seasoned and savvy investors are less comfortable with this form of
investment, preferring to have actual stock certificates on file with their
attorneys.
Transferability. Business owners with plans to take their company public, or
issuing employee shares in the future, may be best served by choosing a
corporate business structure. No one can become a member of an LLC (either
by transfer of an existing membership or the issuance of a new one) without the
consent of members having a majority in interest (excluding the person
acquiring the membership interest) unless the articles of organization provide
otherwise.
3-19
3
Forms of Business Ownership
3-20
[CH 3
Reporting Complexity. Running a sole-proprietorship or partnership will have
less paperwork and complexity. An LLC may federally be classified as a soleproprietorship, partnership, or corporation for tax purposes. Classification can be
selected or a default may apply.
Summary of Learning Goals
1.
Describe the three basic forms of business ownership. The three forms of
business ownership are sole proprietorship, partnership, and corporation. The
most common form of ownership is the sole proprietorship, a business owned
and operated by a single person. A partnership is operated by two or more
people as co-owners where one individual must be a general partner. A
corporation is a legal entity separate from its owners.
2.
Define the advantages and disadvantages of sole proprietorships. The
advantages of sole proprietorships are retention of all profits, ease of formation
and dissolution, and ownership flexibility. The disadvantages are unlimited
financial liability, financing limitations, management deficiencies, and lack of
continuity.
3.
Discuss the advantages and disadvantages of partnerships. The advantages
of partnerships are ease of formation, complementary management skills, and
expanded financial capability. The disadvantages are unlimited financial
liability, possible interpersonal conflicts, lack of continuity, and complex
dissolution.
4.
Explain the differences between general partnerships and limited
partnerships. General partnerships are those in which all partners carry on the
business as co-owners and are liable for the debts of the business. Limited
partnerships are those composed of one or more general partners and one or
more limited partners. Limited partners are not active in the operation of the
partnership, and their possible losses are limited to the amount of their
investment.
5.
Discuss the advantages and disadvantages of corporations. The advantage
of corporations are limited financial liability, specialized management skills,
expanded financial capability, and economies of larger-scale operation. The
disadvantages are high taxes and legal restrictions.
6.
Describe how a corporation is organized and operated. In organizing a
corporation, consideration should be given to hiring an attorney, selecting the
state in which to incorporate, and following the correct legal procedures for
incorporating. Registration as a domestic, foreign, or alien corporation is also
important. Stockholders own the corporation, the board of directors governs it,
and top management is responsible for its actual operation. Subsidiaries are
corporations owned by other corporations, or so-called parent corporations.
7.
Define vertical, horizontal, and conglomerate mergers. Vertical mergers
occur between firms at different levels in the production marketing process,
such as a producer and a large retailer. Vertical mergers provide firms with
expanded distribution outlets (forward vertical merger) and raw materials and
supplies (backward vertical merger). Horizontal mergers involve firms in the
same industry. They help firms diversify and expand product lines.
Conglomerates are mergers of unrelated firms. They facilitate diversification
into new business areas, rapidly increase sales growth, and profitably use cash
Business 101 — The Basics
CH 3]
3-21
surpluses.
8.
9.
Explain the recent trends influencing corporate organizations. One
recent trend is an increased number of unfriendly takeovers, in which the
merger offer is unsolicited and unwanted. Contradictory trends are also
evident in contemporary business. Some corporations are selling divisions
or units, a process known as divestiture. These units may be converted into
private firms, purchased via a leveraged buyout where investors use
borrowed funds to acquire the business, or acquired by the unit's employees.
Describe the differences among private ownership, public ownership,
and cooperative ownership. Private ownership refers to an organization
owned by an individual or individuals, regardless of whether it was set up
as a sole proprietorship, partnership, or corporation. One alternative to
private ownership is public ownership, in which a government unit or its
agency owns and operates an organization on behalf of the population
served by the unit. Another alternative is the cooperative, in which there is
cooperative ownership of production, storage, transportation, and/or
marketing activities.
Questions for Review and Discussion
1.
Outline the ownership structure of American business.
2.
What factors would be important to you if you were selecting a form of
business ownership for a new enterprise?
3.
What is meant by a sole proprietorship? Why is it the most popular form of
business ownership? Are there any negatives to this form of business
ownership?
4.
Assume you are involved in establishing the following businesses. What
forms of business ownership would you use?
a. Roadside fruit stand (assume you own an orchard)
b. Hair styling salon
c. Management consulting firm
d. Small foundry
5.
How does the Uniform Partnership Act define a partnership? What are the
benefits and disadvantages of this form of business ownership?
6.
Distinguish between a general partner and a limited partner. Explain why
this distinction exists and how it is used in different types of enterprises.
7.
Explain the concept of a master limited partnership.
8.
Explain an LLC and discuss its advantages.
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Forms of Business Ownership
3-22
[CH 3
9.
Describe the features and operations of a corporation.
10.
What is the primary advantage of the corporate form of business
ownership?
11.
Differentiate among a domestic corporation, foreign corporation, and alien
corporation.
12.
The business section of today's newspapers are full of terms like poison pill,
shark repellent, white knight, and golden parachute. Explain what these
terms mean as well as the current business trend from which they are
derived.
13.
How are cooperatives different from other forms of business enterprises?
End notes;
1.
Thomas, Samuel Buzz, III, “Senator Buzz Thomas' Friday Report, A Clear Vision of Events in Detroit, Lansing
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