Nickels McHugh McHugh And Kendra

McGraw-Hill/IrwinUnderstanding Business, 7/e

© 2005 The McGraw-Hill Companies, Inc., All Rights Reserved.

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Nickels Nickels

McHughMcHugh

McHughMcHugh

And KendraAnd Kendra

Nickels Cover



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Chapter

5555 Choosing a Choosing a Form of Form of

Business Business OwnershipOwnership

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Learning GoalsLearning Goals

1.1. Sole proprietorshipsSole proprietorships

2.2. PartnershipsPartnerships

3.3. CorporationsCorporations

4.4. Corporate mergersCorporate mergers

5.5. FranchisesFranchises

6.6. CooperativesCooperatives



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Basic Forms of OwnershipBasic Forms of Ownership

• Sole ProprietorshipSole Proprietorship

• PartnershipPartnership

• CorporationCorporation

NumberNumber SalesSales

72%72% 6%6%

8%8% 13%13%

20%20% 81%81%



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1) Sole Proprietorship1) Sole Proprietorship

Sole Proprietorship – A business that Sole Proprietorship – A business that is owned, and usually managed, by is owned, and usually managed, by one person.one person.

Unlimited Liability- The Unlimited Liability- The responsibility of business owners for responsibility of business owners for all of the debts of the business.all of the debts of the business.



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Sole ProprietorshipSole Proprietorship

Ease of start/endEase of start/end

Be your own bossBe your own boss

Pride of ownershipPride of ownership

Leave LegacyLeave Legacy

Retain profitRetain profit

No special taxesNo special taxes

Unlimited liabilityUnlimited liability Limited financial Limited financial

resourcesresources Difficulty in mgmt.Difficulty in mgmt. Time commitmentTime commitment Few fringe benefitsFew fringe benefits Limited growthLimited growth Limited life spanLimited life span

AdvantagesAdvantages DisadvantagesDisadvantages



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2.) Partnership2.) PartnershipPartnership- Partnership- A legal form of business with two or A legal form of business with two or

more ownersmore owners. .

General partnership-General partnershippartnership in which all partnership in which all owners share an operating business and in owners share an operating business and in assuming liability for the business’s debt.assuming liability for the business’s debt.

General Partner-General Partner- An owner who has unlimited An owner who has unlimited liability and is active in managing the firm.liability and is active in managing the firm.

Limited Partnership-Limited Partnership- A partnership with one or A partnership with one or more general partners and one or more limited more general partners and one or more limited partners.partners.



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Partnerships (continued)Partnerships (continued)

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

Limited Liability-Limited Liability- Responsibility of a Responsibility of a business’s owners for losses only up to the business’s owners for losses only up to the amount they invest; limited partners and amount they invest; limited partners and share holders have limited liability.share holders have limited liability.



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Types of PartnershipsTypes of PartnershipsGeneraGenerall

GPGP

GPGP

GPGP

GPGP

LimiteLimitedd

GPGP

PassivePassiveInvestorInvestor

PassivePassiveInvestoInvesto

rr

PassivePassiveInvestorInvestor



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Partnership Cont.Partnership Cont.

Limited Liability-Limited Liability- Responsibility of a business’s owners for Responsibility of a business’s owners for losses only up to the amount they invest; limited partners and losses only up to the amount they invest; limited partners and share holders have limited liabilityshare holders have limited liability..

Master Limited Partnership (MLPMaster Limited Partnership (MLP)- A partnership that looks much )- A partnership that looks much like a corporation (in that it acts like a corporation and is traded 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 on a stock exchange) but is taxed like a partnership and thus avoids a corporate income tax.avoids a corporate income tax.

Limited Liability Partnership (LLP)-Limited Liability Partnership (LLP)- A partnership that limits A partnership that limits partner’s risk of losing personal assets to only their own acts partner’s risk of losing personal assets to only their own acts and omissions and to the acts to the omissions of people and omissions and to the acts to the omissions of people under their supervision.under their supervision.



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New Forms of PartnershipsNew Forms of Partnerships

• Master Limited PartnershipMaster Limited Partnership–Traded PubliclyTraded Publicly

–Taxed As A PartnershipTaxed As A Partnership

• Limited Liability PartnershipLimited Liability Partnership



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PartnershipPartnership

More financial More financial resourcesresources

Shared mgmt.Shared mgmt.

Longer Longer survivalsurvival

No Special No Special TaxesTaxes

Unlimited Unlimited liabilityliability

Division of Division of profitsprofits

Disagreements Disagreements among partnersamong partners

Difficult to Difficult to terminateterminate




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3.) Corporation3.) Corporation

• Corporation- A legal entity with authority to act Corporation- A legal entity with authority to act and have liability separate from its owners.and have liability separate from its owners.

• S corporation- A unique government creation S corporation- A unique government creation that looks like a corporation but is taxed like that looks like a corporation but is taxed like sole proprietorships and partnerships. sole proprietorships and partnerships.

• Limited Liability Company (LLC)- A company Limited Liability Company (LLC)- A company similar to an S corporation but without the similar to an S corporation but without the special eligibility requirements. special eligibility requirements.



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CorporationsCorporationsPrivate- Not Traded on Any Private- Not Traded on Any

Stock ExchangeStock ExchangePublic- Shares Public- Shares AreAre Traded on 1 Traded on 1

or More Stock Exchangesor More Stock ExchangesNon-Profit- Performs Public Non-Profit- Performs Public

Service, Has Special Tax Service, Has Special Tax Considerations To Encourage Considerations To Encourage FormationFormation



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How Owners Affect ManagementHow Owners Affect Management



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CorporatioCorporationn

More money for More money for investmentinvestmentLimited liabilityLimited liabilitySeparation of Separation of ownership/mgmt.ownership/mgmt.Ease of Ease of ownership changeownership changePerpetual lifePerpetual lifeSizeSize

Initial costInitial cost

PaperworkPaperwork

Two tax returnsTwo tax returns

Termination Termination difficultdifficultStockholder & Stockholder & Board ConflictBoard Conflict

Double taxationDouble taxation




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World’s Largest CorporationsWorld’s Largest Corporations

1)1) Wal-Mart StoresWal-Mart Stores $246,525 $246,525

2)2) Royal Dutch/ShellRoyal Dutch/Shell 235,598235,598

3)3) Exxon/MobilExxon/Mobil 204,506204,506

4)4) General MotorsGeneral Motors186,763186,763

5)5) BPBP 178,721178,721

6)6) Ford MotorFord Motor 163,420163,420

7)7) DaimlerChryslerDaimlerChrysler 156,838156,838

2002 Revenue (Millions)2002 Revenue (Millions)

Source: Zacks Reports & Fortune



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Largest U.S. CompaniesLargest U.S. Companies

1.1. Wal-Mart StoresWal-Mart Stores $246,525$246,5252.2. Exxon/MobilExxon/Mobil 204,506 204,5063.3. General MotorsGeneral Motors 186,763 186,7634.4. Ford MotorFord Motor 163,420 163,4205.5. General ElectricGeneral Electric 131,698 131,6986.6. IBMIBM 81,186 81,186

Revenue 2002Revenue 2002 (In Millions)(In Millions)

Source: Web100 & Fortune



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Types of CorporationsTypes of Corporations Regular ‘C’ Regular ‘C’

S CorporationS Corporation

Limited Liability CompaniesLimited Liability Companies



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S CorporationsS CorporationsS No more than 75 No more than 75

shareholdersshareholders

S Individual or Individual or

EstatesEstates

S U.S. citizens or U.S. citizens or

residentsresidents

S 1 class of stock1 class of stock

S <25% of income <25% of income

can be passivecan be passive

S Slower-growing Slower-growing

companiescompanies

S Benefits change Benefits change

with new tax ruleswith new tax rules



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Limited Liability CompaniesLimited Liability Companies

Limited LiabilityLimited Liability

Tax ChoiceTax Choice

Flexible Ownership Flexible Ownership RulesRules

Flexible Profit & Flexible Profit & Loss DistributionLoss Distribution

Operating FlexibilityOperating Flexibility

No StockNo Stock

Limited Life SpanLimited Life Span

Fewer IncentivesFewer Incentives

TaxesTaxes

PaperworkPaperwork




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4.) Corporate Expansion4.) Corporate Expansion

• Merger- The result of two firms forming one Merger- The result of two firms forming one company.company.

• Acquisition- One company’s purchase of the Acquisition- One company’s purchase of the property and obligations of another company.property and obligations of another company.

• Vertical Merger- The joining of two companies Vertical Merger- The joining of two companies involved in different stages of related businesses.involved in different stages of related businesses.

• Horizontal Merger- The joining of two firms in the Horizontal Merger- The joining of two firms in the same industry.same industry.



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Types of MergersTypes of MergersHorizontHorizontalal

VerticVerticalal ConglomeratConglomerat

ee



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Mergers (continued)Mergers (continued)

• Conglomerate Merger- The joining of Conglomerate Merger- The joining of firms in completely unrelated firms in completely unrelated industries.industries.

• Leveraged Buy-out (LBO)- An Leveraged Buy-out (LBO)- An attempt by employees, management, attempt by employees, management, or a group of investors to purchase an or a group of investors to purchase an organization primarily through organization primarily through borrowing. borrowing.



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Leveraged BuyoutLeveraged Buyout

Individual + LoanIndividual + Loan = Purchase of = Purchase of CompanyCompany

Purchase LoanPurchase Loan

Company = Company = CollateralCollateral



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Why Mergers Don’t WorkWhy Mergers Don’t Work

Companies Overpay to Acquire Companies Overpay to Acquire Another FirmAnother Firm

Acquiring Company Overestimates Acquiring Company Overestimates Cost Savings and SynergiesCost Savings and Synergies

After Merger, Managers Disagree After Merger, Managers Disagree About Integrating OperationsAbout Integrating Operations

After Merger, Cost Cutting Obsession After Merger, Cost Cutting Obsession Hurts Business Costing Top Hurts Business Costing Top Employees & Customers Employees & Customers



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GM’s Ownership In:GM’s Ownership In:

Source: USA TODAY



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5.) Franchises5.) Franchises• FranchiseFranchise- The right to use a specific business’s name - The right to use a specific business’s name

and sell its products or services in a given territory. and sell its products or services in a given territory.

• Franchise Agreement-Franchise Agreement- An arrangement where by An arrangement where by someone with a good idea for business sells the right someone with a good idea for business sells the right to use the business name and sell a product or to use the business name and sell a product or service to others in a given territory. service to others in a given territory.

• Franchisor-Franchisor- A company that develops a product A company that develops a product concept and sells others the rights to make and sell concept and sells others the rights to make and sell the products.the products.

• Franchisee- Franchisee- A person who buys a franchise. A person who buys a franchise.



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Franchise SystemFranchise SystemFranchise Franchise

AgreementAgreement

FranchisorFranchisor

FranchiseeFranchisee



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Franchise ContractFranchise ContractFranchisor, IncFranchisor, Inc..

FranchiseeFranchisee

Branded Branded Product/ServicProduct/Servic

eePerformancPerformanc

ee

MonitoringMonitoring$$$$$$$$$$



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FranchisorFranchisor Assigns TerritoryAssigns Territory

May Provide May Provide Financial Financial Aid/AdviceAid/Advice

Offers Merchandise/ Offers Merchandise/ Supplies at Supplies at Competitive PriceCompetitive Price

Provides Provides

Training/SupportTraining/Support

Business Business

Expansion Using Expansion Using

O.P.M.O.P.M.



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FranchiseeFranchiseePays Up-Front CostsPays Up-Front CostsMakes Monthly Payment to Makes Monthly Payment to

FranchisorFranchisorRuns Business by Franchisor’s Runs Business by Franchisor’s

Rules/ProceduresRules/ProceduresBuys Materials from Franchisor/ Buys Materials from Franchisor/

Approved SupplierApproved Supplier



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CompanyCompany SinceSince TypeType # Stores# StoresCurvesCurves 19951995 Women’s Only Women’s Only

FitnessFitness3,7783,778

SubwaySubway 19741974 Submarine Submarine SandwichSandwich

14,80014,800

7-Eleven7-Eleven 19641964 24-Hr. Convenience24-Hr. Convenience 3,7613,761

Taco BellTaco Bell 19641964 Mexican Fast FoodMexican Fast Food 5,4175,417

Jani-KingJani-King 19741974 Commercial Commercial CleaningCleaning

7,8437,843

Fastest Growing Franchises Fastest Growing Franchises (2002)(2002)

Source: Entrepreneur, 2003



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FranchisesFranchises

+Management & Management &

marketing assistancemarketing assistance

+Personal ownershipPersonal ownership

+Recognized nameRecognized name

+Financial advice & Financial advice &

assistanceassistance

+Lower failure rateLower failure rate

- High start-up costsHigh start-up costs

- Shared ProfitShared Profit

- Management Management regulationregulation

- Coattail effectsCoattail effects

- Restrictions on sellingRestrictions on selling

- Fraudulent Fraudulent franchisorsfranchisors




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Cost of Fast-FoodCost of Fast-Food FranchiseFranchise

CompanyCompany Initial FeeInitial Fee RoyaltyRoyalty

Burger KingBurger King $50,000$50,000 8.5%8.5%

McDonald’sMcDonald’s $45,000$45,000 8%8%

Wendy’sWendy’s $25,000$25,000 8%8%

Domino’sDomino’s NoneNone 8.5%8.5%

SubwaySubway $10,000$10,000 11.5%11.5%

Krispy KremeKrispy Kreme $40,000$40,000 5.5%5.5%



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How to Avoid aHow to Avoid aFranchise LemonFranchise Lemon

1)1) Research officers & their Research officers & their business experiencebusiness experience

2)2) Get summary of any bankruptcy & Get summary of any bankruptcy & litigationlitigation

3)3) Estimate Estimate all all costs to set up costs to set up franchisefranchise

4)4) Review franchise contract & three Review franchise contract & three most recent financial statementsmost recent financial statements



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Benefits of aBenefits of aHome-Based FranchiseHome-Based Franchise

Flexible work hoursFlexible work hours Quality lifestyleQuality lifestyle Doing the work of Doing the work of

youryour choice choice Opportunity to Opportunity to

expand using expand using technologytechnology

Self-motivationSelf-motivation

.



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Franchising & E-CommerceFranchising & E-Commerce

• Technology- Faster Technology- Faster Customer ServiceCustomer Service

• Access to International Access to International MarketsMarkets



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6.) Cooperatives6.) Cooperatives

• Cooperative- Cooperative- A business owned and A business owned and controlled by the people who use it-controlled by the people who use it-producers, consumers, or workers with producers, consumers, or workers with similar needs who pool their resources similar needs who pool their resources for mutual gain.for mutual gain.



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CooperativesCooperatives

Farm CooperativeFarm Cooperative

Owned & Owned &

Controlled by Controlled by

People Who Use ItPeople Who Use It

Pool of ResourcesPool of Resources

Economic PowerEconomic Power

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Nickels McHugh McHugh And Kendra