Sole Proprietorships

1.Understand the importance of sole proprietorships in our economy.

2.Explore the advantages presented by doing business as a sole proprietorship.

3.Assess the disadvantages and dangers of doing business as a sole proprietorship. Key Terms And Definitions

Angel Investors
Affluent individuals (or groups of individuals) who provide capital to start-up and early-stage businesses. Entrepreneur
A person who organizes a business and carries the risk of loss and reward of profit with it. Initial Public Offering (IPO)
The first time a corporation sells its shares to members of the public.

Private Placement
A nonpublic offering in which a business sells securities to a few chosen and qualified investors to raise capital. Sole Proprietor
A type of business where there is no legal distinction between the business and its owner. Unlimited Liability
An undesirable situation where if the debts of the business exceed its ability to pay, creditors may reach the personal assets of the business owners. Venture Capital
Money invested in an unproven or new start-up business.

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Key Takeaways
Sole proprietorships are the most common way of doing business in the United States. Legally, there is no difference or distinction between the owner and the business. The legal name of the business is the owner’s name, but owners may carry on business operations under a fictitious name by filing a d.b.a. filing. Sole proprietors enjoy ease of start-up, autonomy, and flexibility in managing their business operations. On the downside, they have to pay ordinary income tax on their business profits, cannot bring in partners, may have a hard time raising working capital, and have unlimited liability for business debts.

Exercises

1.Many household services professionals such as carpenters, plumbers, and electricians do business as sole proprietors. If they make a promise to their customers that their work (not the products themselves) will be free from defects for a certain period of time (i.e., a warranty), and then subsequently sell their business assets to another individual, is the buyer bound by the promises made by the seller? Why or why not?
2.D.b.a. statutes prohibit sole proprietors from using certain words such as “company,” “Corp.” or “Inc.” in their fictitious names. Why do you think this rule exists?
3.If a sole proprietor dies suddenly, what do you think happens to the business run by the sole proprietor? 11.2 Partnerships

Learning Objectives
1.Learn about how general and limited partnerships are formed.
2.Explore the major differences between general and limited partnerships.
3.Understand major advantages and disadvantages to doing business as general or limited partnerships. Key Terms And Definitions

Articles Of Partnership
Also known as a partnership agreement, a voluntary contract (typically written) in which two or more persons decide to conduct business together and share profits and losses. Buy/Sell Agreement
An agreement between partners to value and sell a partner’s portion of the business in the event the partner withdraws or dies. Disregarded Entity
For tax purposes, an entity that does not need to file its own tax return or pay taxes; profits and losses flow through disregarded entities to the owners. General Partnership
Association of two or more persons in an unincorporated entity to do business and share profits and losses. Information Return
Tax return that provides information only to the taxing authority. Joint And Several Liability
A form of liability where creditors or other claimants can pursue their entire claim against one, several, or all possible defendants, leaving defendants to sort out their respective proportions of liability and payment. Limited Partner

A partner in a limited partnership given limited liability.
Limited Partnership
A form of partnership formed in compliance with state law that provides limited liability to certain limited partners who agree to refrain from management of the business. Key Takeaways
A general partnership is formed when two or more persons agree to share profits and losses in a joint business venture. A general partnership is not a separate legal entity, and partners are jointly and severally liable for the partnership’s debts, including acts of malpractice by other partners. Income from a general partnership flows through to the partners, who pay tax at the ordinary personal income tax rate. In most states general partners can also bring in limited partners, creating a limited partnership. Limited partnerships must be formed in compliance with state statutes. Limited partners enjoy limited liability but generally cannot participate in day-to-day management of the business. Exercises

1.John approaches his friend Kevin and offers Kevin 50 percent of the profits from his new online venture if Kevin designs the Web site for the venture. Kevin says nothing, and later that night begins work on the Web site, which he then sends to John for his approval. Have John and Kevin formed a general partnership? Why or why not?
2.Do you think it’s ethical for a general partnership to fire a partner by dissolving the partnership and then re-forming without the dismissed partner? Why or why not?
3.Do modern professional firms such as law firms or accounting firms face the same problems as White & Case did in "Hyperlink: A Law Firm Partner Is Fired"? Why or why not? 11.3 Corporations

Learning Objectives
1.Learn about the advantages and disadvantages of corporations.
2.Study roles and duties of shareholders, directors, and officers in corporations.
3.Explore issues surrounding corporate governance.

4.Understand how corporations are taxed.
Key Terms And Definitions
Chicago School
A neoclassical theory of economics most closely associated with influential
economics faculty from the University of Chicago. D&O Insurance
Also known as Directors and Officers Liability Insurance, insurance that protects board members and senior officers of corporations from liability arising from their actions. D&O insurance is usually paid by the corporation. Employer Identification Number (Ein)

A unique nine-digit number issued by the IRS to business entities for purposes of identification. S Corporation
A corporation that, after meeting certain eligibility criteria, can elect to be treated like a partnership for tax purposes, thus avoiding paying corporate income tax. Affiliate
A commercial enterprise with some sort of contractual or equity relationship with another commercial enterprise. Arm’s-Length Transaction
A transaction made by parties as if they were unrelated, in a free market system, each acting in its own best interest. Articles Of Incorporation
A legal document that creates a corporation when filed and approved by the relevant state authority. Board Of Directors
A group of persons elected by shareholders of company to set high-level strategy for the company. Business Judgment Rule
A legal assumption that prevents courts or juries from second-guessing decisions made by directors, unless they are proven to act with bad faith or corrupt motive. Bylaws
Rules and regulations adopted by a corporation for its own internal goverance. Chancery
A court with jurisdiction to decide cases based on equity as well as law. Closely Held Corporation
A corporation whose stock is held by only a small number of shareholders. Corporate Bonds
A debt obligation issued by corporations to raise money without selling stock. Corporate Social Responsibility (CSR)
The deliberate inclusion of the public interest into decision making. Corporation
A legal entity chartered by the state, with a separate and distinct existence from its owners. Dilution
The result when a corporation issues additional shares, resulting in a reduction of percentage of the corporation owned by shareholders. Dividend
A portion of a corporation’s net income designated by the board of directors and returned to shareholders on a per share basis. Dividend Tax
An income tax on dividend payments to shareholders.
Domestic Corporation
A corporation operating in the state in which it was incorporated. Double Taxation
The imposition of two or more separate taxes on the same pool of money. Foreign Corporation
A corporation incorporated in a state other than where it is seeking to operate. Incorporated Organized and created into a legal corporation.
Initial Public Offering (IPO)
The first time a corporation sells its shares to members of the public. Officers
Senior management, often “C-Level,” or “Chief Level,” appointed by the board of directors of a corporation to execute strategy and manage day-to-day matters for the corporation. Par Value
The face vale of a security as determined by the corporation. Par value has no relation to market value. Pierce The Corporate Veil An equitable doctrine allowing creditors to petition a court to not permit limited liability to a corporate shareholder. Preemptive Rights
Sometimes known as rights of first refusal, rights given to existing shareholders in a corporation to purchase any newly issued stock to maintain same proportion of their existing holdings. Premises Liability

The liability of landowners and leaseholders for torts that occur on their real property. Proxy
A person authorized to act on behalf of a shareholder at a shareholders’ meeting. Securities
Any negotiable instruments representing financial value, such as a bond or stock. Shareholder Derivative Lawsuit
A lawsuit brought by a shareholder on behalf of a corporation against a third party. Shareholders
Owners of a corporation.
Shares
Units of account for a financial instrument, such as stocks. Stock
Capital raised by a corporation through issuance of shares entitling owners to an ownership interest. Subsidiary
A company wholly owned or controlled by another company.
Ultra Vires
An act in excess of designated legal power.
Key Takeaways
A corporation is a separate legal entity. Owners of corporations are known as shareholders and can range from a few in closely held corporations to millions in publicly held corporations. Shareholders of corporations have limited liability, but most are subject to double taxation of corporate profits. Certain small businesses can avoid double taxation by electing to be treated as S corporations under the tax laws. State law charters corporations. Shareholders elect a board of directors, who in turn appoint corporate officers to manage the company. Exercises

1.Henry Ford (Ford Motor Company), Ray Croc (McDonald’s), and Levi Strauss (Levi’s) were all entrepreneurs who decided to incorporate their businesses and in doing so created long-lasting legacies that outlive them. Why do you think these entrepreneurs were motivated to incorporate when incorporation meant giving up control of their companies?

2.Some corporations are created for just a limited time. Can you think of any strategic reasons why founders would create a corporation for just a limited time?

3.Recently some companies have come under fire for moving their corporate headquarters out of the country to tax havens such as Bermuda or Barbados. Which duty do you believe is higher, the duty of corporations to pay tax to government or the duty of corporations to pay dividends to shareholders? Why?

4.Some critics believe that the corporate tax code is a form of welfare, since many U.S. corporations make billions of dollars and don’t pay any tax. Do you believe this criticism is fair? Why or why not?

5.It is very easy to start a corporation in the United States. Take a look at how easy it is to start a corporation in China or India. Do you believe there is a link between ease of starting businesses and overall economic efficiency?

6.Do you agree with filmmaker Achbar that a corporation might be psychopathic? What do you think the ethical obligations of corporations are? Discuss. 11.4 Limited Liability Entities

Learning Objectives
1.Learn about the development of limited liability entities. 2.Explore how limited liability entities are created.
3.Understand why limited liability entities are now heavily favored. Key Terms And Definitions
Limited Liability Company (LLC)
A hybrid form of business that provides limited liability to owners while being treated as a partnership for tax purposes. Members
Owners of limited liability companies.
Operating Agreement
An agreement (usually written) among LLC members governing the LLC’s management, rights, and duties. Key Takeaways
The limited liability company (LLC) represents a new trend toward business organization. It allows owners, called members, to have limited liability just like corporations. Unlike corporations, however, LLCs can avoid double taxation by choosing to be taxed like a partnership or sole proprietorship. Unless a business wishes to become publicly traded on a stock exchange, the LLC is probably the most flexible, most affordable, and most compatible form for doing business today. The limited liability partnership (LLP) is similar to the LLC, except it is designed for professionals such as accountants or lawyers who do business as partners. Exercises

1.Most small businesses in the United States are still run as sole proprietorships. Why do you think these businesses have not converted to the LLC form?

2.Take a look at some of the brands and businesses you are most familiar with. How many of them do business as an LLC?