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Forms of Business Ownership and Their Advantages and Disadvantages

Learn about the three basic forms of business ownership - sole proprietorships, partnerships, and corporations - and the benefits and drawbacks of each. Understand the different types of partnerships and the advantages and disadvantages of incorporating as a corporation.

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Forms of Business Ownership and Their Advantages and Disadvantages

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  1. Chapter How to Form a Business 5 5-1

  2. Three Basic Forms of Business Ownership • Sole Proprietorships • Partnerships • Corporations

  3. SOLE PROPRIETORSHIPS

  4. SOLE PROPRIETORSHIP • Owned, usually managed, by one person • Most common

  5. Ease of starting and ending the business • Being your own boss • Pride of ownership • Leaving a legacy • Retention of company profit • No special taxes MAJOR BENEFITS of SOLE PROPRIETORSHIP 5-5

  6. Unlimited Liability --Any debts or damages incurred by the business are your debts, even if it means selling your home, car or anything else. • Limited financial resources • Management difficulties • Overwhelming time commitment • Few fringe benefits • Limited growth • Limited life span DISADVANTAGES of SOLE PROPRIETORSHIPS 5-6

  7. PARTNERSHIPS

  8. PARTNERSHIP Two or more owners

  9. General Partner -- An owner (partner) who has unlimited liability and is active in managing the firm. • Limited Partner -- An owner who invests money in the business, but enjoys limited liability.Limited Liability means that liability for the debts of the business is limited to the amount the limited partner puts into the company; personal assets are not at risk. TYPES OF PARTNERS 5-9

  10. General Partnership -- All owners share in operating the business and in assuming liability for the business’s debts. MAJOR TYPES of PARTNERSHIPS • Limited Partnership -- A partnership with one or more general partners and one or more limited partners. 5-10

  11. Types of Partnerships General Limited Limited Partners do not share in operation GP Limited Partner Limited Partner GP GP GP GP All Partners share in operation Limited Partner

  12. General Partnership • Three key elements of any GP • Common ownership • Shared profits and losses • Right to participate in managing operations

  13. Limited Partnership • Three key elements of any LP • Common ownership • Shared profits and losses • Limited partners do not participate in managing operations

  14. Master Limited Partnership -- A partnership that looks much like a corporation, but is taxed like a partnership and thus avoids the corporate income tax. • Limited Liability Partnership -- Limits partners’ risk of losing their personal assets to the outcomes of only their own acts and omissions and those of people under their supervision. OTHER FORMS of PARTNERSHIPS 5-15

  15. More financial resources • Shared management and pooled/complementary skills and knowledge • Longer survival • No special taxes ADVANTAGES of PARTNERSHIPS 5-16

  16. DISADVANTAGES of PARTNERSHIPS • Unlimited liability • Division of profits • Disagreements among partners • Difficult to terminate 5-17

  17. Partnership Agreement http://www.lawdepot.com/

  18. PICK YOUR PARTNER WISELY There is no such thing as a perfect partner but ask these questions when you try to find your best match: • Do you share the same goals? • Do you share the same vision for the company? • What skills does he/she have? Are yours the same? • What can he/she bring to the business? • What type of decision maker is he/she? • Do you trust each other? • How does he/she problem solve?

  19. CORPORATIONS

  20. Types of Corporations • Regular “C” • “S” Corporation • Limited Liability Company

  21. “C” Corporations

  22. Conventional (C) Corporation State Chartered legal entity with authority to act and have liability separate from its owners • Owners (stockholders) not liable for debts beyond their investment (limited liability)

  23. “C” Corporations • Private – Not Traded on Any Stock Exchange • Public – Shares are Traded on one or More Stock Exchanges • Not-for-Profit – Performs Public Service, Has Special Tax Considerations To Encourage Formation

  24. Limited liability • Ability to raise more money for investment • Size • Perpetual life • Ease of ownership change • Ease of attracting talented employees • Separation of ownership from management ADVANTAGES of CORPORATIONS 5-25

  25. How Owners Affect Management

  26. Initial cost • Extensive paperwork • Size • Difficulty of termination • Possible conflict with stockholders and board of directors • Double taxation DISADVANTAGES of CORPORATIONS 5-27

  27. Anyone - truckers, doctors, plumbers, athletes and small business owners can incorporate. • Normally, stock is not issued when individuals incorporate so the advantages and disadvantages are not exactly the same as for large corporations. • Major advantages are limited liability and possible tax benefits. Who Can Incorporate? 5-28

  28. PRIVACY PLEASEThe Ten Largest Private Corporations in the U.S. Source: Forbes, www.forbes.com, accessed June 2011. 5-30

  29. Walmart Exxon Mobil Chevron ConocoPhillips Fannie Mae The BIG BOYS of BUSINESSAmerica’s Largest Corporations Photo Courtesy of: Walmart Stores Source: Fortune, www.fortune.com, accessed June 2011. 5-31

  30. EVEN the BIG GUYS MAKE MISTAKES Source: Bloomberg Businessweek, May 16, 2011. 5-32

  31. “S” Corporations

  32. “S” Corporations • Looks like a corporation but taxed like sole proprietorships and partnerships • Have shareholders, directors, and employees • Have benefit of limited liability • Profits are taxed as personal income of shareholders • Avoid double taxation of C corporations

  33. Qualifications for S Corporations: • Have no more than 100 shareholders. • Have shareholders that are individuals or estates and are citizens or permanent residents of the U.S. • Have only one class of stock. • Derive no more than 25% of income from passive sources. • If an S corporation loses its S status, it may not operate under it again for at least 5 years. WHO CAN FORM “S” CORPORATIONS? 5-35

  34. Limited Liability Companies

  35. Limited Liability Companies • Similar to “S” corporation without special eligibility requirements • May be taxed as partnership or corporation • Uniform Limited Liability Company Act provides uniform legislation regarding limited liability companies

  36. Limited Liability Tax Choice Flexible Ownership Rules (person, partnership, corporation) Flexible Profit & Loss Distribution Limited Liability Companies Advantages

  37. No stock, therefore ownership is non-transferable Limited Life Span Paperwork Limited Liability Companies Disadvantages

  38. * Forms of Business Ownership 5-40

  39. Mergers and Acquisitions

  40. Mergers and Acquisitions • Merger – two firms forming one company • Acquisition – one company purchasing assets and obligations of another company

  41. Vertical Merger -- Joins two firms in different stages of related businesses. • Horizontal Merger -- Joins two firms in the same industry and allows them to diversify or expand their products. • Conglomerate Merger -- Unites firms in completely unrelated industries in order to diversify business operations and investments. TYPES of MERGERS 5-43

  42. Types of Mergers Horizontal Vertical Conglomerate

  43. Leveraged Buyout

  44. Leveraged Buyout (LBO) -- An attempt by employees, management or a group of investors to buy out the stockholders in a company. • LBOs have ranged in size from $50 million to $31 billion and have involved everything from small businesses to giant corporations. • In 2010, foreign investors poured $300 billion into U.S. companies. LEVERAGED BUYOUTS 5-47

  45. Leveraged Buyout Individual + Loan = Purchase of Company Purchase Loan Company = Collateral

  46. America’s Oldest Companies J. E. Rhoads & Sons 1702 Conveyer Belts Covenant Life Ins. 1717 Insurance Philadelphia Contributorship 1752 Insurance Dexter 1767 Adhesives & Coatings D. Landreth Seed 1784 Seeds Bank of New York 1784 Banking

  47. FRANCHISES

  48. Franchise System • Franchise Agreement • Franchisor • Franchisee

  49. Franchise System Franchise Agreement An agreement between a firm (franchisor) and another party (franchisee) in which the firm provides the other party with the right to use the firm's name and to sell or rent its products.

  50. Franchise Agreement Franchisor, Inc. Branded Product/Service Performance Monitoring $$$$$ Franchisee

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