*

Chapter Five

*
How to Form
a Business

McGraw-Hill/Irwin Copyright © 2010 by the McGraw-Hill Companies, Inc. All rights reserved.
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BRIAN SCUDAMORE Profile
1-800-GOT-JUNK?

• Bought a used truck and started Rubbish Boys,

*
later changed the name to 1-800-GOT-JUNK?.
• $130 million in annual earnings from locations
across North America and Australia.
• Expanded through franchising.

5-2
 *
MAJOR FORMS of OWNERSHIPBasic Forms of
Business
Ownership
LG1
*
• Sole Proprietorship –
• Business owned, and usually managed, by one
person.
• Partnership –
• Two or more people legally agree to become
co-owners of a business.
• Corporation –
• Legal entity with authority to act and have
liability apart from its owners.
5-3
 *
FORMS of Basic Forms of
Business
BUSINESS OWNERSHIP Ownership
LG1
*

5-4
 *Advantages of
Sole
SOLE PROPRIETORSHIPS Proprietorships
LG1
*
Advantages Disadvantages

Ease of start/end • Unlimited liability

• Limited financial
Be your own boss resources
Pride of ownership • Management difficulty
Leave a legacy • Time commitment
• Few fringe benefits
Retain profit
• Limited growth
No special taxes • Limited life span

5-5
 *
MAJOR TYPES of PARTNERSHIPS
Partnerships

• General Partnership –
LG2
*
• All owners share in operating the business and in
assuming liability for the business’ s debts.

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

5-6
 *
Partnerships
TYPES OF PARTNERS
LG2
*
• General Partner –
• Unlimited liability and is active in managing
the firm.
• Limited Partner –
• Invests money in the business but enjoys
limited liability.
• liability for debts is limited to amount limited
partner puts into company; personal assets
not at risk.
5-7
 *
Partnerships
TYPES of PARTNERSHIPS
LG2
*
General Limited

GP
Passive Passive
GP GP Investor Investor
GP
GP

Passive
Investor

5-8
 *
Advantages &
PARTNERSHIPS Disadvantages
of Partnerships
LG2
*
Advantages Disadvantages
• More financial • Unlimited liability
resources
• Shared • Division of profits
management
• Disagreements
• Longer survival among partners
• No Special Taxes • Difficult to
terminate

5-9
 *
PICK YOUR PARTNER WISELY
(Spotlight on Small Business)
*
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?
5-10
 *
CONVENTIONAL Corporations
CORPORATIONS
LG3
*
• Conventional (C)
Corporation –
• State-chartered legal
entity
• Authority to act and have
liability separate from
owners (stockholders).

5-11
 *
Advantages of
CORPORATIONS Corporations

LG3
*
Advantages Disadvantages
• Limited liability • Extensive paperwork
• More money for • Double taxation
investment • Two tax returns
• Size • Size
• Perpetual life • Termination difficult
• Ease of ownership • Conflict with
change Stockholder & Board
• Ease of drawing • Initial cost
talented employees
• Separation of
ownership/mgmt.

5-12
 *
HOW OWNERS AFFECT Advantages of
Corporations
MANAGEMENT
LG3
*

5-13
 *
The BIG BOYS of BUSINESS Advantages of
Corporations
America’s Largest Corporations
LG3
*
1. Exxon Mobil 1. General Motors
2. Wal-Mart 2. Ford
3. Chevron 3. AT&T
4. ConocoPhillips 4. Hewlett-Packard
5. General Electric 5. Valero Energy

Source: Fortune, www.fortune.com, April 2009.

5-14
 *
PRIVACY PLEASE Advantages of
Corporations
The Ten Largest Private Corporations in the U.S.
LG3
*
Company State Industry
Cargill MN Farming
Koch Industries KS Chemicals
Chrysler MI Automobiles
GMAC Financial Services MI Financial
PricewaterhouseCoopers NY Business Services
Mars VA Food
Bechtel CA Construction
HCA TN Hospitals
Ernst & Young NY Business Services
Publix Supermarkets FL Grocery

Source: Forbes, www.forbes.com, November 2008.

5-15
 *
WHO CAN INCORPORATE? Individuals Can
Incorporate
LG3
*
• 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.

5-16
 *
S CORPORATIONS S Corporations

LG3
*
• S Corporation –
• Unique government creation
• looks like a corporation
• taxed like sole proprietorships and partnerships.
• S corporations have shareholders, directors
and employees, plus the benefit of limited
liability.
• Profits are taxed only as the personal income
of the shareholder.

5-17
 *
WHO CAN FORM S Corporations
S CORPORATIONS?
LG3
*
• Qualifications for S Corporations:
- No more than 100 shareholders.
- Shareholders are individuals or estates and are
citizens or permanent residents of the U.S.
- 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.
5-18
 *
LIMITED LIABILITY COMPANIESLimited Liability
Companies
LG3
*
Advantages Disadvantages

Limited Liability
• No Stock
Tax Choice
• Limited Life Span
Flexible Ownership
Rules • Fewer Incentives
Flexible Profit & Loss
Distribution
• Taxes
Operating Flexibility • Paperwork
5-19
 * Corporate
MERGERS and AQUISITIONS Expansion:
Mergers and
Acquisitions
LG4
*
• Merger -- The result of two firms joining to form
one company.
• Acquisition -- One company’ s purchase of the
property and obligations of another company.

5-20
 *
Corporate
TYPES of MERGERS Expansion:
Mergers and
Acquisitions
LG4
*
Horizontal –
same stage of same
industry

Vertical –
different stages of
related business.

Conglomerate – No
Relationship
completely unrelated
between
industries
companies

5-21
 * Corporate
LEVERAGED BUYOUTS Expansion:
Mergers and
Acquisitions
LG4
*
• Leveraged Buyout (LBO) –
• An attempt by employees, management or a
group of investors to buy out the stockholders in a
company.
• Range in size from $50 million to $31 billion
and from small businesses to giant
corporations.
• In 2007, foreign investors poured $414 billion
into U.S. companies.
5-22
 *
FRANCHISING Franchises

LG5
*
• Franchise Agreement –
• An arrangement whereby someone with a good
idea for a business (franchisor) sells the rights to
use the business name and sell a product or
service (franchise) to others (franchisees) in a
given territory.
• More than 900,000 franchised businesses
operate in the U.S., employing approximately
10 million people.
5-23
 *Advantages &
FRANCHISING Disadvantages
of Franchises
LG5
*
Advantages Disadvantages

Management & marketing High start-up costs

assistance Shared Profit
Management regulation
Personal ownership
Coattail effects
Recognized name
Restrictions on selling
Financial advice &
Fraudulent franchisors
assistance
Lower failure rate
5-24
 *Franchising in
GLOBAL FRANCHISING International
Markets
LG5
*
• Canada is the most popular target for U.S. based
franchises; South Africa and the Philippines are
becoming popular despite high cost.
• Franchising is successful when the product is
convenient, high quality, great service is included
and the franchisee adapts to the region.
• International franchising goes both ways – some
foreign franchises have come to the U.S.

5-25
 *Franchising in
WHAT to CHOOSE? International
Picking Franchises that May Survive a Recession Markets
LG5
*
• Focus on tried-and-true name brands.
• Stick to core goods and services.
• Be choosy about the site.
• Don’t pinch pennies.
• Have a fallback choice.
• Don’t assume the franchise will pay off.

Source: Richard Gibson, Wall Street Journal, www.wsj.com, February 12, 2008.

5-26
 *Franchising in
HIGH FLYERS International
Ten High-Performing Franchises Markets
LG5
*
1. Arthur Murray Dance Studios
2. Banfield Pet Hospitals
3. Bojangles’ Famous Chicken ‘n
Biscuits
4. Denny’s
5. Friendly’s
6. The Melting Pot
7. Nathan’s Famous
8. Servpro
9. Stanley Steamer
10. Two Men and a Truck
Source: Wall Street Journal, www.wsj.com, February 12, 2008.

5-27
 *
COOPERATIVES Cooperatives

LG6
*
• Cooperatives -- Businesses owned and
controlled by the people who use it – producers,
consumers, or workers with similar needs who pool
their resources for mutual gain.
• Worldwide, 750,000 cooperatives serve 730
million members – 120 million in the U.S.
• Members democratically control the business by
electing a board of directors that hires
professional management.

5-28
Review Only
 *
OTHER FORMS of Partnerships
PARTNERSHIPS LG2
*
• 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.

5-30
 *
OLDIES BUT GOODIES Individuals Can
Incorporate
America’s Oldest Corporations
LG3
*
Company Year Started Type of Company
J.E. Rhoads & Sons 1702 Conveyer Belts
Covenant Life Insurance 1717 Insurance
Insurance
Philadelphia Insurance 1752
Contributorship
Dexter 1767 Adhesives & Coatings
D. Landreth Seed 1784 Seeds
Bank of New York 1784 Banking

5-31
 *
VERMONT WANTS to be the HOME
of YOUR NEW VIRTUAL COMPANY
(Legal Briefcase)
*
• Since June 2008, Vermont allows a new kind of
LLC that exist only online.
• Registration documents can be filed online,
meetings can be held through online
communication, and relationships can be
established electronically.
• Virtual companies allow online contributors with
different skills, availability and interest to interact
and be successful.
5-32
 *
WOMEN in FRANCHISING Diversity in
Franchising
LG5
*
• Women own about half of U.S. companies yet
receive less than 4% of venture capital.
• For the past 20 years, firms owned by women
have grown at twice the rate of all companies.
• More women are becoming franchisors.
Auntie Anne’s, Decorating Den, Jazzercise and
Two Men and a Truck are owned by women.

5-33
 *
HOME-BASED FRANCHISES Home-Based
Franchises
LG5
*
Advantages:
• Relief from commuting stress
• Extra family time
• Low overhead expenses
Main Disadvantage:
• Isolation

5-34
 *
ROOT, ROOT, ROOT for the
GREEN TEAM
(Thinking Green)
*
• The Nationals in D.C. have the first sports
stadium to earn the U.S. Green Building Council’s
Leadership in Energy and Environmental Design
(LEED) Rating.
• 95% of the stadium’s steel was recycled and low-
flow toilets save millions of gallons of water.
• New stadiums of the Mets and Twins also have
earned LEED certifications.

5-35
 *Progress
PROGRESS ASSESSMENT Assessment

*
• Most people who start businesses in the United
States are sole proprietors. What are the
advantages and disadvantages of sole
proprietorships?

• Why would unlimited liability be considered a

major drawback to sole proprietorships?

5-36
 *Progress
PROGRESS ASSESSMENT Assessment

*
• What are some of the factors to consider before
buying a franchise?

• What opportunities are available for starting a

global franchise?

• What’s a cooperative?

5-37
 *Progress
PROGRESS ASSESSMENT Assessment

*
• What’s the difference between a limited partner
and a general partner?

• What are some of the advantages and

disadvantages of partnerships?

5-38
 *Progress
PROGRESS ASSESSMENT Assessment

*
• What are the major advantages and
disadvantages of incorporating a business?
• What’s the role of owners (stockholders) in the
corporate hierarchy?
• If you buy stock in a corporation and someone
gets injured by one of the corporation’s products,
can you be sued? Why or why not?
• Why are so many new businesses choosing a
limited liability company (LLC) form of
ownership?
5-39