CHAPTER 4 Forms of Business Ownership and Franchising
MAN 470 – Berk TUNCALI
Things to consider when choosing;
Tax consideration
Liability exposure
Startup capital requirement
Control
Business goals
Management succession plan
Cost of formation
Sole Proprietorship
A business owned and managed by one individual.
Most popular
18 million in the US
$ 1 Trillion in sales
73% of the companies in the US
Advantages of Sole Proprietorship
Simple to create (fast and easy)
Least costly form of ownership (fees and licenses)
Profit incentive (all the profit is kept after the expenses)
Total decision making authority
No special legal restrictions (least regulated)
Easy to dissolve
Disadvantages of Sole Proprietorship
Unlimited personal liability
Unlimited personal liability is a situation in which the sole proprietor is
personally liable for all of the business’s debts.
Limited skills and capabilities
Feelings of isolation (no help or feedback)
Limited access to capital
Lack of Continuity for the business (if Proprietor
dies’ so does the business)
Where do small business owners turn for advice?
Spouse – 62% of the time
Son – 11% of the time
Father – 9.5% of the time
Brother – 8.8% of the time
Who else???
The Partnership
Partnership is an association of two or more people
who co-own a business for the purpose of making profit.
Partnership Agreement is a document that states in
writing all of the terms of operating the partnership
and protects the interest of each partner.
A Partnership Agreement may include the following;
Name of the partnership
Purpose of business
Domicile of the business
Duration of the partnership
Names of the partners and addresses
Contributions of each partner to the business
How the profits and losses will be distributed
Salary details
Expansion details
Advantages of Partnership
Easy to establish
(easy and inexpensive) Complementary skills
(two hands better than one) Division of profits
(according to the agreement) Larger pool of capital
Ability to attract limited partners
Little governmental regulation
Flexibility
Taxation
General Partners: partners who share in
owning, operating and managing a business and who have unlimited personal liability for the partnership’s debts.
Limited Partners: partners who do not take
an active role in managing a business and
whose liability for the partnership’s debts is
limited to the amount they have invested.
Disadvantages of Partnership
Unlimited liability of at least one partner
Capital accumulation
(cannot sell shares to generate capital) Difficulty in disposing of partnership interest without dissolving the partnership
(if a partner dies or quits, new partner will come in or gets bought over.Otherwise the business dissolves.)
Lack of continuity
(death and inheritance of new partner) Potential for personality and authority
conflicts
(like marriage - compatibility)Limited Partnerships
A partnership composed of at least one general partner
and at least one limited partner.
Same rules apply as before
The partner who is limited will only loose the
amount invested in the business if the things
turn out for the worst.
Limited Liability Partnerships
A special type of limited partnership in which all
partners are limited partners.
They are known as LLPs
Usually limited to professionals such as
attorneys, dentists, accountants.
Master Limited Partnerships
A partnership whose shares are traded on stock
exchange, just like a corporation’s.
Corporations
Corporation is a separate legal entity apart from its owners that receives the right to exist from the state in which it is incorporated.
Domestic Corporation: corporation doing business in the state it is incorporated.
Foreign Corporations: corporation doing business in a state other than the one in which it is incorporated.
Alien Corporation: a corporation formed in another country
but doing business in a different country.
Advantages of Corporations
Limited liability of Stockholders
Ability to attract capital
Ability to continue indefinitely (unless it fails)
Transferable ownership (shares are easily
sold)
Disadvantages of Corporations
Cost and time involved in the incorporations process
Double taxation
(corporate’s tax + stockholder’s tax) Potential for diminished managerial incentives
(managers not having the same level of interest as the founder. Profit sharing or stock ownership is exercised to beat this trait)
Legal requirements and regulatory red tape
(annualreports and legal reporting necessary)
Potential loss of control by the founder(s)
(owners sell their stocks to gather capital but let of part of their ownership)ie. Microsoft was a partnership between Paul Allen and Bill Gates in 1975. Mr.
Gates had 50% but they went public to gather capital and as a result he was left
with 18.5% ownership.
The S Corporation
This is the same as the regular C corporation but allows
the corporation a tax advantage by being taxed as a
Partnership, hence getting rid of double taxation.
This is only valid in the US. It has certain rules such as;
Corporation must be domestic
Shareholders must be residents
No more than 75 shareholders
Limited Liability Company (LLC)
This is a cross between a partnership and a corporation.
All LLCs must have at least two owners.
LLCs offer limited liability to owners and also avoids double taxation. Less paperwork compared to
Corporations.
However, they are expensive to create. It is harder to
raise capital from investors due to limited liability.
Joint Venture
In any endeavor in which neither party can effectively
achieve the purpose alone, a joint venture becomes a
common form of ownership.
Joint venture is a business agreement in which parties
agree to develop, for a finite time, a new entity and new
assets by contributing equity.
Example: Sony Ericsson
FRANCHISING
Franchising is the practice of using another firm's
successful, tried and tested business model.
A system of distribution in which semi- independent
business owners (Franchisees) pay fees and royalties to a
parent company (Franchiser) in return for the right to
become identified with its trademark, to sell its products
or services and use its business format.
Types of Franchising
Trade name franchising – purchases the right to use the franchiser’s trade name.
Product distribution franchising – licenses to sell franchiser’s products.
(petrol stations) Pure franchising – buys the complete
business format and system from the
franchiser.
(McDonald’s)Benefits of buying a Franchise
Management training and support
(McDonald’s University)
Brand name appeal
(internationally recognized – golden arches)
Standardized quality of goods and services
(years ofreputation)
National advertising programs
(benefits all franchisers – must pay 1- 5% monthly advertisement costs)
Financial assistance
(initial costs can be so high that franchisor usually offer financial assistance)
Proven products and business formats
(tried and tested)
Centralized buying power
(economies of scale)
Site selection and territorial protection
(location, location, location)
Greater chance for success
(less risky than starting from scratch)McDonald’s
Subway
Drawbacks of buying a Franchise
Franchise fees and profit sharing
Strict adherence to standardized operations
(no autonomy)
