CHAPTER SIX: BUSINESS FORMATION

FRANCHISING ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -less risk -training and supporting -brand recognition -easier access to funding DISADVANTAGES: -costs -lack of control -negative halo effect -growth challenges -restrictions on sale -poor execution

HORIZONTAL MERGER EXAMPLE

Medtronic, a medical device company, acquires Covidien, which sells advanced medical supplies, solutions, and surgical technologies, for $42.9 billion

CORPORATE BYLAWS

the basic rules governing how a corporation is organized and how it conducts its business

FRANCHISOR

the business entity in a franchise relationship that allows others to operate its business using resources it supplies in exchange for money and other considerations

FRANCHISE AGREEMENT

the contractual arrangement between a franchisor and franchisee that spells out the duties and responsibilities of both parties

ARTICLES OF INCORPORATION

the document filed with a state government to establish the existence of a new corporation

BOARD OF DIRECTORS

the individuals who are elected by stockholders of a corporation to represent their interests

C CORPORATION

the most common type of corporation, which is a legal business entity that offers limited liability to all its owners, who are called stockholders

FRANCHISEE

the party in a franchise relationship that pays for the right to use resources supplied by the franchisor

TYPES OF CORPORATE RESTRUCTURING

ways for large corporations to grow and achieve competitive advantages: -acquisition -merger -divestiture

HOSTILE TAKEOVER

when the acquiring firm buys the target firm despite the opposition of the target's board and top management

WHY ARE LLCs BECOMING AN INCREASINGLY POPULAR FORM OF BUSINESS OWNERSHIP?

-LLCs are attractive because they avoid the problem of double taxation endemic to C corporations, while giving all owners the protection of limited liability -LLCs are similar to S corporations, but without the restrictions on ownership -LLCs also face fewer regulations than corporations and give the owners the flexibility to either manage the company themselves or hire professional managers

FORMING AND MANAGING AN LLC

-LLCs are created by filing a document (certificate of organization or articles of organization) and paying filing fees in the state where the business is organized -most LLCs also draft an operating agreement, which is similar to the bylaws of the corporation -because LLCs are neither corporations nor partnerships, their owners are called members rather than stockholders or partners

BUSINESS FORMAT FRANCHISE

-a broad franchise agreement in which the franchisee pays for the right to use the name, trademark, and business and production methods of the franchisor -the franchisor grants the franchisee the right to both make and sell its good or service -the franchisor usually provides a wide range of services to the franchisee, such as help with site selection, training, and help in obtaining financing, but also requires the franchisee to follow very specific guidelines while operating the business

ACQUISITION

-a corporate restructuring in which one firm buys another -the firm making the purchase is the "acquiring firm", and the firm being purchased is the "target firm" -after the acquisition, the target firm ceases to exist as an independent entity while the purchasing firm continues in operation, and its stock is still traded

CORPORATION

-a form of business ownership in which the business is considered a legal entity that is separate and distinct from its owners -it can legally engage in any business activity a natural person can pursue

LIMITED LIABILITY COMPANY (LLC)

-a form of business ownership that offers both limited liability to its owners and flexible tax treatment -one of the most interesting characteristics of an LLC is that its owners can elect to have their business taxed either as a corporation or a partnership

SOLE PROPRIERTORSHIP

-a form of business ownership with a single owner who usually actively manages the company -it is simply an extension of the owner

LIMITED LIABILITY PARTNERSHIP (LLP)

-a form of partnership in which all partners have the right to participate in management and have limited liability for company debts -it has the advantage of allowing all partners to take an active role in management, while also offering all partners some form of limited liability

GENERAL PARTNERSHIP

-a partnership in which all partners can take an active role in managing the business and have unlimited liability for any claims against the firm -no limit to the number of partners verbal or written agreement details out: -initial financial contributions -specific duties and responsibilities -how profits and losses with be shared -how disagreements will be settled -how a partner's death or withdrawal will be dealt with

WHAT ARE SOME WAYS IN WHICH THE WORLD OF FRANCHISING IS CHANGING?

-an expansion into foreign markets -growth in the number of women franchisees -minority participation in franchises, both in franchisees and franchisers, has been relatively low -franchising allows the franchisor to expand the business and bring in additional revenue without investing its own capital -franchisees - business owners who are motivated to earn a profit - may have a greater incentive than salaried managers to do whatever it takes to maximize the success of their outlets

INSTITUTIONAL INVESTORS

-an organization that pools contributions from investors, clients, or depositors and uses these finds to buy stocks and other securities -examples: mutual funds, insurance companies, pension funds, endowment funds

STOCKHOLDER

-an owner of a corporation - represented by shares of stock -all stockholders have limited liability for company debts -common stock represents the basic ownership interest in a corporation, but some firms also issue preferred stock -difference of the two types of stock involves voting rights --> common stockholders normally have the right to vote in stockholders' meetings, while preferred stockholders do not

WHAT ARE THE TWO MOST POPULAR ARRANGEMENTS?

-distributorship -business format franchise

WHAT IS THE ROLE OF THE BOARD OF DIRECTORS IN A C CORPORATION?

-establishes the corporation's mission and sets its broad objectives -the board appoints a CEO and other corporate officers to manage the company on a daily basis -the board sets the level of compensation for these officers and monitors their performance to ensure that they act in a manner consistent with stockholder interests -it also provides advice to these officers on broad policy issues, approves their major proposals, and ensures that the company adheres to major regulatory requirements

DIFFERENT ROLES IN BOTH TYPES OF PARTNERS

-general partners have the right to participate fully in managing their partnership, but they also assume unlimited personal liability for any of its debts -limited partners cannot actively participate in its management, but they have the protection of limited liability - as long as they don't actively participate in managing the company, their personal wealth is not at risk

HOW DOES THE AMOUNT OF LIABILITY PROTECTION OFFERED BY LLPs VARY AMONG STATES?

-in some states, LLPs offer "full-shield" protection, meaning that partners have limited liability for all claims against their company, except those resulting from their own negligence or malpractice -in other states, partners in LLPs have a lesser "partial-shield" protection, where each partner has limited liability for the negligence or malpractice of other partners but still has unlimited liability for any other debts

TYPES OF OWNERSHIP OF C CORPORATIONS

-stockholder -institutional investors

KEY ITEMS NORMALLY COVERED IN A FRANCHISE AGREEMENT

-terms and conditions -fees and other payments -training and support -special operational requirements -conflict resolution -assigned territory

WHAT IS INVOLVED IN FORMING A C CORPORATION?

-the formation of a corporation requires filing articles of incorporation and paying filing fees -corporate bylaws -because of these requirements, forming a corporation tends to be more expensive and complex

DIVESTITURE

-the transfer of total or partial ownership of some of a firm's operations to investors or to another company -firms often use divestitures to rid themselves of a part f their company that no longer fits well with their strategic plans, which allows them to streamline their operations and focus on core businesses -divestitures involve the sale of assets to outsiders, which raises financial capital for the firm

LIMITED LIABILITY

-when owners are not personally liable for claims against the firm -owners with limited liability may lose their investment in the company, but their other personal assets are protected

THE FOUR FORMS OF OWNERSHIP

1. sole proprietorship 2. partnership 3. corporation 4. limited liability company (LLC)

NONPROFIT CORPORATION ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -earnings are exempt from federal and state income taxes -members and directors have limited liability -individuals who contribute money or property to the nonprofit can take a tax deduction DISADVANTAGES: -cannot have stockholders -cannot distribute dividends to members -cannot contribute funds to a political campaign -keep accurate records and file paperwork to document tax-exempt status

SOLE PROPRIETORSHIP ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -ease of formation -retention of control -pride of ownership -retention of profits -possible tax advantage DISADVANTAGES: -limited financial resources -unlimited liability -limited liability to attract and maintain talented employees -heavy workload and responsibilities -lack of permanence

S CORPORATION ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -IRS does not tax earnings of S Corporations separately -stockholders have limited liability DISADVANTAGES: -can have only 100 stockholders -with only rare exceptions, each stockholder must be a U.S. citizen

PARTNERSHIPS ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -ability to pool financial resources -ability to share responsibilities and capitalize on complementary skills -ease of formation -possible tax advantage DISADVANTAGES: -unlimited liability -potential for disagreements -lack of continuity -difficulty in withdrawing from a partnership

C CORPORATION ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -limited liability -permanence -unlimited life -ease of transfer of ownership -ability to raise financial capital -ability to make use of specialized management DISADVANTAGES: -expense and complexity of formation and operation -complications when operating in multiple states -double taxation of earning and additional taxes -more paperwork and regulation and less secrecy -possible conflicts of interest

LIMITED LIABILITY COMPANY ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -limited liability -tax pass-through -simplicity and flexibility in management and operation -flexible ownership DISADVANTAGES: -complexity of formation -annual franchise tax -foreign status in other states -limits on firms that can form LLCs -differences in state laws

STATUTORY CLOSE CORPORATION ADVANTAGES AND DISADVANTAGES

ADVANTAGES: -operates under simple arrangements -owners can participate in management while still having limited liability DISADVANTAGES: -limited numbers of stockholders -stockholders can't sell shares to the public without offering the shares to existing owners -not all states allow this types of formation

VERTICAL MERGER EXAMPLE

AT&T acquires satellite TV subscription provider, DirecTV, for $49 billion

CONGLOMERATE MERGER EXAMPLE

Anbang Insurance, a Chinese company, buys the famed NYC Waldorf Astoria Hotel from Hilton Worldwide Holdings for $1.95 billion

VERTICAL MERGER

a combination of firms at different stages in the production of a good or service objective: -provide tighter integration of production and increased control over the supply of crucial inputs

HORIZONTAL MERGER

a combination of two firms that are in the same industry objective: -increase size and market power within the industry -improve efficiency by eliminating duplication of facilities and personnel

CONGLOMERATE MERGER

a combination of two firms that are in unrelated activities objective: -reduce risk by making the firm less vulnerable to adverse conditions in any single market

MERGER

a corporate restructuring that occurs when two formerly independent business entities combine to form a new organization

NONPROFIT CORPORATION

a corporation that does not seek to earn a profit and differs in several fundamental respects from C corporations

STATUTORY CLOSE CORPORATION

a corporation with a limited number of owners that operates under simpler, less formal rules than a C corporation

FRANCHISE DISCLOSURE DOCUMENT (FDD)

a detailed description of all aspects of a franchise that the franchisor must provide to the franchise at least 14 calendar days before the franchise agreement is signed

S CORPORATION

a form of corporation that avoids double taxation by having its income taxed as if it were a partnership

FRANCHISE

a licensing arrangement under which a franchisor allows franchisees to use its name, trademark, products, business methods, and other property in exchange for monetary payments and other considerations

LIMITED PARTNERSHIP

a partnership that includes at least one general partner who actively manages the company and accepts unlimited liability and one limited partner who gives up the right to actively manage the company in exchange for limited liability

DISTRIBUTORSHIP

a type of franchising arrangement in which the franchisor makes a product and licenses the franchisee to sell it

PARTNERSHIP

a voluntary agreement under which two or more people act as co-owners of a business for profit

SPIN-OFF

occurs when a company issues stock in one of its own divisions or operating units and sets it up as a separate company - complete with its own board of directors and corporate officers

CARVE-OUT

occurs when the firm converts a particular unit or division into a separate company and issues stock in the newly created corporation