Introduction to Business

Business Ownership
Choosing an Organizational Type
Forms of Business Ownership

• Business Organizational Options:

• Sole proprietorship
• General partnership
• Franchise
• Limited partnerships and limited liability partnerships (LLP)
• Limited liability company (LLC)
• C Corporation
• S Corporation
• Each type of business has its own set of risks and rewards, costs and benefits.
• Picking the best type depends on the nature of the business opportunity and
the level of personal exposure to risk the owner is willing to accept.
Considerations in Choosing an Organizational
Type
• Cost of start up
• Control vs. responsibility
• Do you want to share the profits?
• Taxation
• Entrepreneurial ability
• Risk tolerance
• Financing
• Continuity and transferability
Sole Proprietorship
Defining Sole Proprietorship

• Sole proprietorships are

• Owned and run by one person
• Have no distinction between the business
and the owner
• Businesses where the owner is entitled to all
business profits and is responsible for all
business debts, losses, and liabilities
• The simplest and most common legal
structure for a business
Advantages and Disadvantages of Sole
Proprietorship
Advantages Disadvantages
• Easy and inexpensive to form • Unlimited personal liability for the
• Profits all go to owner sole proprietor
• Direct control of the business • Difficulty raising capital
• Freedom from government • Limited managerial expertise
regulation • Trouble finding qualified employees
• No special taxation • Personal time commitment
• Ease of dissolution • Unstable business life
• Losses are the owner’s responsibility
Partnerships
Defining Partnerships

• Partnerships are businesses in

which two or more people share
ownership and responsibility.
• Each partner contributes to all
aspects of the business, including
money, property, labor, or skill.
• Each partner shares in the profits
and losses of the business.
Types of Partnerships

General Partnership Limited Partnerships (also known as

Limited Liability Partnerships)

• Assume that profits, liability, and • More complex than general

management duties are divided partnerships.
equally among partners. • Allow partners to have limited
• If you opt for unequal distribution, liability as well as limited input with
the percentages assigned to each management decisions.
partner must be documented in • Limited partnerships are attractive
the partnership agreement. to investors of short-term projects.
Forming a Partnership and Partnership Taxes

Forming a partnership: To form a partnership, you must:

• Register your business with the state
• Establish your business name
• Once your business is registered, you must also obtain licenses and permits

Partnership taxes: Most businesses will need to register with the IRS, register with
state and local revenue agencies, and obtain a tax ID number. In addition,
partnerships must file an annual information return to report income,
deductions, gains, and losses from the businesses operations, but the business
itself does not pay income tax. Partners include their respective share of the
partnership’s income or losses on their personal tax returns.
Advantages and Disadvantages of Partnerships

Advantages Disadvantages
• Easy and inexpensive to form • Joint and individual liability
• Shared financial commitment • Disagreements among partners
among partners • Shared profits
• Complementary skills / utilize the
expertise of each partner
• Partnership incentives for
employees
Corporations
Background on Corporate Rights

Corporate personhood: the legal notion that corporations, apart from their
associated human beings (like owners, managers, or employees), have some,
but not all, of the legal rights and responsibilities enjoyed by natural persons
(physical humans). Corporations have the right to enter into contracts with
other parties and to sue or be sued in court in the same way as natural persons
or unincorporated associations of persons.

Since the Supreme Court’s ruling in Citizens United v. Federal Election

Commission in 2010, upholding the rights of corporations to make political
expenditures under the First Amendment, there have been several calls for a
U.S. Constitutional amendment to abolish corporate personhood. While the
Citizens United majority opinion makes no reference to corporate personhood
or the Fourteenth Amendment, Justice Stevens’ dissent claims that the majority
opinion relies on an incorrect treatment of corporations’ First Amendment rights
as identical to those of individuals.
Types of Corporations

Three types of corporations:

1. C corporations
2. S corporations
3. B corporations
C Corporations

• Independent legal entities owned by shareholders

• More complex than other business structures because of
• Costly administrative fees
• Complex tax and legal requirements
• When you form a corporation, you form a separate tax paying entity,
unlike sole proprietorships or partnerships
• Income paid as dividends is taxed twice
Advantages and Disadvantages of
C Corps

Advantages Disadvantages
• Limited liability: shareholder’s • Time and money: costly and time
personal assets are protected. consuming to start and operate
Shareholders can generally only be • Double taxing: In some cases,
held responsible for their investment corporations are taxed twice—first,
in stock in the company when the company makes a profit,
• Ability to generate capital through and again when dividends are paid
sale of stock to shareholders.
• Corporate tax treatment: • Additional paperwork: There are
Corporations file taxes separately increased paperwork and record-
from their owners. keeping burdens associated with this
• Attractive to potential employees entity.
S Corporations

• Special type of corporation created through an IRS tax election

• An eligible domestic corporation can avoid double taxation by electing to
be treated as an S corporation
• Profits and losses can pass through to your personal tax return
• The business is not taxed; instead, only the shareholders are taxed
• Any shareholder who works for the company must pay herself a “reasonable
compensation”
Advantages and Disadvantages of
S Corps

Advantages Disadvantages
• Tax savings: Only the wages of the S • Stricter operational processes: As a
corp shareholder who is an separate structure, S corps require
employee are subject to scheduled director and shareholder
employment tax. meetings, minutes from those
• Business expense tax credits: Some meetings, adoption and updates to
expenses that by-laws, stock transfers, and records
shareholder/employees incur can be maintenance.
written off as business expenses. • Shareholder compensation
• Independent life: An S corp requirements: A shareholder must
designation also allows a business to receive reasonable compensation.
have an independent life, separate
from its shareholders.
Benefit (B) Corporations

• Type of for-profit corporate entity, authorized by thirty U.S. states and the District
of Columbia, that creates a general public benefit, which is defined as a
material positive impact on society and the environment. This can include
positive impact on society, workers, the community, and the environment.

• Transparency provisions require benefit corporations to publish annual benefit

reports on their social and environmental performance using a comprehensive,
credible, independent, and transparent third-party-standard

• Differ from traditional C corporations in purpose, accountability, and

transparency, but not in taxation. B Corps elect to be taxed as a C or an S corp.
Advantages and Disadvantages of
B Corps

Advantages Disadvantages
• Protection of mission: Becoming a B Corp • Transparency and reporting requirements:
gives companies more options and B Corps must provide an annual benefit
protections if they decide to sell the report according to a third-party
business to someone else or take it public standard and make the report available
• Reputation: B Corps stand out as on their company Websites.
businesses that have a social conscience • Annual fees to retain certified B Corp
and aspire to a standard they consider status
higher than maximizing profit • Compliance and governance obligations:
• Creation of value: B Corps may create Most states require publicly traded
value via employee engagement and companies with a B corp designation to
customer loyalty, thereby improving have a “benefit director” who is
results for all stakeholders responsible for ensuring that the
corporation meets its stated public
purpose.
Hybrid Forms of Ownership
LLC (Limited Liability Company)

• Hybrid business structure allowed by state statute

• Provides the limited liability features of a corporation
• Provides tax efficiencies and operational flexibility of partnerships
• Owners of an LLC are called members.
• Unlike shareholders in a corporation, LLCs are not taxed as a separate
business entity: instead profits and losses are “passed through” the business to
each member of the LLC
Advantages and Disadvantages of
an LLC

Advantages Disadvantages
• Limited Liability: Members are • Possible Limited Life: When an LLC is
protected from personal liability for formed, the members must decide
business decisions on the duration of the LLC.
• Less Record Keeping compared to • Self Employment Taxes: Members of
an S Corporation an LLC are considered self-employed
• Sharing of Profits: Members distribute and must pay the self-employment
profits as they see fit. It’s up to the tax contributions towards Medicare
and Social Security.
members to decide who has earned
what percentage of the profits or
losses
LLP (Limited Liability Partnership)

• A partnership in which some or all partners have limited liabilities

• One partner is not responsible or liable for another partner’s misconduct or
negligence
• Some states require one partner to be a “general partner” with unlimited
liability
• Partners may manage the company directly without electing a board of
directors
• Profits are allocated among the partners for tax purposes, avoiding the
problem of “double taxation” often found in corporations
Advantages and Disadvantages of
an LLP

Advantages Disadvantages
• Single taxation: The credits and • Duration: The business life of a LLP is
deductions of the company are unstable.
passed through to partners to file on • Limitations of formation: Limited liability
their individual tax returns. partnerships are not recognized as
• Limited liability: The LLP structure legal business structures in every state.
protects individual limited partners • Partner control: If an LLP is formed
from personal liability for negligent without a limited liability partnership
acts of other partners or employees agreement, individual partners are not
not under their direct control. obligated to consult with other
• Flexibility: LLPs provide the partners participants in certain business
flexibility in business ownership. agreements.
Franchises
Defining Franchises

A franchise is a business model that involves

one business owner (the franchisor)
licensing trademarks and methods to an
independent entrepreneur (the franchisee)
for a prescribed period of time

For the franchisor, the franchise is an

alternative to expanding through the
establishment of a new location, which
avoids the financial investment and liability
of a chain of stores.
Advantages and Disadvantages
for the Franchisee

Advantages Disadvantages
• Less risk • Cost: Buying and running a franchise
can be very expensive.
• Name/brand recognition: The
franchise has an established image • Unequal partnership: The franchisor
and identity already, which can sets the rules, and the franchisee
reduce or simplify marketing efforts. must follow them.
• Access to expertise, ongoing • Rules and enforcement: Franchisor
support: Franchisee often receives rules imposed by the franchising
help with site selection, training authority are becoming increasingly
materials, product supply, and strict. Some franchisors are using
minor rule violations to terminate
marketing plans.
contracts and seize the franchise
• Relative autonomy without any reimbursement.
Advantages and Disadvantages
for the Franchisor

Advantages Disadvantages
• Access to capital for growth and • Lack of control: Despite the language
expansion of the franchise agreement, once the
• Cash flow for operations: In addition to franchisee has established their
initial franchise fees that can range location, the franchisor may have
from $50,000 to $5 million, franchisors difficulty ensuring that quality standards
receive payments in the form of are met and the franchise is operating
royalties from each franchisee. in a manner that benefits the brand.
• Economies of scale:Once a franchise is • Trade secrets:If the success of a
established with multiple locations, the business is based on a trade secret,
company may be able to leverage its special process, or innovative
buying power to realize economies of technology, establishing a franchise
scale with suppliers, advertisers, and may make the business vulnerable to
vendors. knock-offs or imitation.
• Overexposure / Brand Dilution
Mergers and Acquisitions
Defining Mergers

• A merger is the consolidation of two

companies that, prior to the merger,
were operating as independent
entities.
• A merger usually creates one larger
company, and one of the
original companies ceases to exist.
• Mergers can be either horizontal or
vertical.
Two Types of Mergers

Horizontal Vertical
• Occurs between companies in the • A merger of two organizations that
same industry have a buyer-seller relationship or
• A consolidation of two or more • Two or more firms that are
businesses that operated in the operating at different levels within
same market space, often as an industry’s supply chain
competitors • Logic behind the merger is often
• Common in industries with fewer that the two firms would operate
firms where competition tends to more efficiently together rather
be higher than separately
Defining Acquisitions

An acquisition occurs when a company purchases the assets of

another business (such as stock, property, plants, equipment) and usually
permits the acquired company to continue operating as it did prior to the
acquisition.

Acquisition usually refers to a purchase of a smaller firm by a larger one.

Sometimes a smaller firm will acquire management control of a larger and/or

longer-established company and retain the name of the latter for the post-
acquisition combined entity
Reasons for Mergers and Acquisitions

• Obtaining quality staff or additional skills, knowledge of your industry or

sector, and other business intelligence
• Accessing funds or valuable asset for new development
• Your business is underperforming
• Accessing a wider customer base and increasing your market share
• Diversification of the products, services, and long-term prospects of your
business
• Reducing your costs and overheads through shared marketing budgets,
increased purchasing power, and lower costs
• Reducing competitions
• Organic growth
Forms of Business Ownership Comparison
Sole Partnership LLC LLP Corporation S Corporation
Proprietorship

1 sole 2 or more 1 or more 2 or more 1 or more 1 or more

Owner(s)
proprietor partners members partners shareholders shareholders

No* No*
No*
Sole authority *Yes, if only *Yes, if only
Yes No *Yes, if only No
for decisions one sharehold one sharehold
one member
er er

Easy setup Yes Yes Yes Yes No No

Minimal
Yes Yes Yes Yes No No
regulations

Single
Yes Yes Yes Yes No Yes
taxation

Easy access
No Somewhat Somewhat Somewhat Yes Yes
to expertise

Easy access
No Somewhat Somewhat Somewhat Yes Yes
to capital

Limited legal
No No Yes Yes Yes Yes
liability

Unlimited life No No Possible Possible Yes Yes

Easy transfer
No No No No Yes Yes
of ownership
Quick Review

• What are the important factors in choosing an organizational type?

• What are the advantages and disadvantages of sole proprietorships and
partnerships?
• What are the advantages and disadvantages of corporations?
• What are the advantages and disadvantages of hybrid forms of business
ownership?
• What are the advantages and disadvantages of franchises?
• What are the two types of mergers and acquisitions?