Learning is Fun!! Chapter 4-Forms of Business Ownership lecture

Getting to know...Anne Beiler

Some people start businesses in order to fulfill a lifelong dream or to capitalize on a unique idea. But many other entrepreneurs simply need to earn money. That's the reason why Anne Beiler began rolling pretzels at a local farmer's market in the early 1980s. At the time her family was living paycheck to paycheck as her husband tried to get a nonprofit crisis counseling service off the ground. After earning $875 their first weekend, the Beilers were thrilled at their new venture's potential. However, neither could have imagined that their little pretzel stand would grow into Auntie Anne's, a mall-based chain with more than 1,200 locations worldwide and $410 million in annual sales.

As a child, Beiler made her first entrepreneurial effort baking cakes and pies for her Amish-Mennonite family to sell. She married young and planned to live a quiet life on the farm raising her children. But Beiler's plans turned upside down in 1975 when her daughter Angela lost her life in a tractor accident. Although it took years for the family to recover, Beiler's husband came out of the tragedy wanting to start his own free counseling service for people in their Pennsylvania town. Beiler supported her husband's decision but realized that she would need to figure out a way to fund this nonprofit without the aid of his mechanic's salary.

Beiler soon discovered that a pretzel and pizza store was up for sale in an Amish farmer's market. After borrowing $6,000 to purchase the space, Beiler began to tweak the previous owner's pretzel recipe to fit her own tastes. Customers immediately responded to the changes. “The morning we launched the new recipe, the first customer to take a bite looked at us and said, ‘This is amazing,’” says Beiler. “From that point on, we had to bring in more help and buy more ovens. We got rid of the pizza and sold only the pretzels.” She renamed the store Auntie Anne's Soft Pretzels, a nod to her 30 nieces and nephews. Within a few months, she launched a second location in Harrisburg, Pennsylvania. Operating a booming business in the state capital put her in contact with many people who wanted to help expand her brand. Although she refused at first, eventually Beiler decided to let family and friends open 10 stores under a licensing agreement.

For the next year, Auntie Anne's continued to grow by licensing its name for a $2,500 upfront fee and 4 percent of gross sales. However, a licensee pointed out that the company was actually franchising, not licensing. “It was an honest mistake,” says Beiler. “By then, we had 75 locations in several states. If your franchise without the proper documentation, you could be fined thousands of dollars a day per store.” Luckily, Beiler managed to avoid any fines by immediately contacting her partners as well as state legislators about the issue. Auntie Anne's ran into more problems as its national expansion required more and more money. Although Beiler had incorporated the company by that point, she didn't want to risk putting financial benchmarks ahead of the needs of employees or franchisees by going public. Instead, good fortune found her again in the form of a Mennonite pig farmer who provided a $1.5 million loan on a handshake.

By 2005, though, the company had grown to such an enormous size that Beiler felt it was time to move on. She sold Auntie Anne's to her second cousin in order to focus more on the company's charitable organizations, such as the Angela Foundation, named in honor of her daughter. Beiler attributes her success to what she calls “the three small P's”: purpose, product, and people. “We started with a purpose—counseling and helping people,” says Beiler. “We had a product that supported our purpose. Then we got the people to do it. The three small P's, in that order, result in the big P—profit.”

Just like Anne Beiler, all business owners must decide for themselves which form of business is best for them. Whether you dream of starting a business for yourself, going into business with a partner, forming a corporation, or someday being a leading franchisor, it's important to know that each form of ownership has its advantages and disadvantages. You will learn about them all in this chapter.

Sources: “Franchise Players: An Auntie Anne's Franchisee on the Importance of Seeking Advice,” Entrepreneur, January 28, 2014; Dinah Eng, “Soft Pretzels Out of Hard Times,” Fortune, July 10, 2013; and >www.auntieannebeiler.com Links to an external site., 

Basic forms of ownership

First, things first...businesses can be built in a variety of ways. You can start your own sole proprietorship, partnership, LLC or corporation. There are advantages and disadvantages to each. Before you decide which form is for you, evaluate all the alternatives carefully...

Hundreds of thousands of people have started new businesses in the United States. In fact, more than 600,000 are started each year. The main reason people start a business is to fulfill their desire for independence. Many of you have expressed you want to start a business of your own or know someone who has.  So here is the question you need to ask yourself, would you trade off high corporate salaries in order to retain the power to make their own decisions.  

How you form your business can make a tremendous difference in your long-term success. The three major forms of business ownership are (1) sole proprietorships, (2) partnerships, and (3) corporations. Each has advantages and disadvantages that we'll discuss.  Check out this video that gives an overview of each.

So now that you understand the basic forms of ownership, here is an interesting graph.  Although corporations make up only 20 percent of the total number of businesses, they make 81% of the total receipts. Sole proprietorships are the most common form equal 72%, but they earn only 6% of the receipts.

Source:  US Census Bureau

Sole priopertiship as a form of business

Sole proprietorships are the easiest kind of businesses to start.  The sole proprietorship is both the simplest and most common type of business operating in the United States today. Most businesses that are owned and operated by one person take this form.

Partnership as a form of business

A partnership is a legal form of business with two or more owners. There are several types but we are going to focus on two:

1. General partnerships
   • In a general partnership, all owners share in operating the business and in assuming liability for the business's debts
2. Limited partnerships
   • A limited partnership has one or more general partners and one or more limited partners. A general partner is an owner who has unlimited liability and is active in managing the firm. A limited partner is an owner who invests money in the business but does not have any management responsibility or liability for losses beyond his or her investment.

The fear of owning a business or having a partner is the fear of losing everything you own if someone sues the business or it loses a lot of money. To help you make a decision there are questions you should as any potential partner:

There are both advantages and disadvantagesof partnerships.  This short video explains these differences:

Many businesspeople try to avoid this and the other disadvantages of sole proprietorships and partnerships by forming corporations. Next, let's look at corporations...

Corporations

Corporations account for the majority of all U.S. sales and income. Most of the dollars you spend as a consumer probably go to incorporated businesses. Corporations are typically owned by many individuals and organizations who own shares of the business, called stock.  These corporate owners are called shareholders or stockholders. Stockholders can buy, sell, give or receive as gifts, or inherit their shares of stock.  We will talk more about stockholders when we get to the chapter on finance.

Creating a Corporation

A corporation is created, or incorporated, under the laws of the state in which it incorporates. Each state has a specific procedure, sometimes called chartering the corporation, for incorporating a business.  The incorporators must file legal documents generally referred to as articles of incorporation with the appropriate state office usually the secretary of state.

Advantages of Corporations

Because a corporation is a separate legal entity, it has some very specific advantages over other forms of ownership. The biggest advantage may be the limited liability of the owners.  Additionally, advantages are:

• Ease of Transfer of Ownership- Stockholders can sell or trade shares of stock to other people without causing the termination of the corporation, and they can do this without the prior approval of other shareholders.
• External Sources of Funds-Of all the forms of business organization, the public corporation finds it easiest to raise money. When a corporation needs to raise more money, it can sell more stock share.
• Expansion Potential-Because large public corporations can find long-term financing readily, they can easily expand into national and international markets.
• Taxation- As a legal entity, the corporation must pay taxes on its income just like you do. But there are lots of loopholes when it comes to taxing businesses.

Check out these two brief video demonstrates how large companies can use legal loopholes to drastically decrease what they owe to Uncle Sam and the myth that the US has the highest corporate tax rate:

The Growth of LLC's

So the final form of business formation is actually the newest. LLCs were introduced in Wyoming in 1977 and were recognized by the Internal Revenue Service as a partnership for federal income tax purposes in 1988. By 1996, all 50 states and the District of Columbia recognized LLCs.

The number of LLCs has risen dramatically since 1988 when there were fewer than 100 filings to operate them. Today more than half of new business registrations in some states are LLCs.  Check out this video on the formation of LLC's and why they are the best for small businesses:

There are a lot of steps to get an LLC up and running.  Here are the steps: