Module:

Entrepreneurship
Dr Tamer Karam
Essentials of Entrepreneurship and Small
Business Management
Eighth Edition
Section 2: The Entrepreneurial Journey Begins

Chapter 6
Forms of Business
Ownership and
Buying an Existing
Business

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Learning Objectives (1 of 2)
1. Explain the advantages
and disadvantages of a
sole proprietorship and a
partnership.
2. Describe the similarities
and differences of the C
corporation and the S
corporation.
3. Understand the
characteristics of the
limited liability company.

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Learning Objectives (2 of 2)
4. Explain the process of creating a legal entity for a
business.
5. Understand the advantages and disadvantages of buying
an existing business.
6. Define the steps involved in the right way to buy a
business.
7. Understand how the negotiation process works and
identify the factors that affect it.

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Choosing a Form of Ownership
• There is no one “best” form of ownership.
• The best form of ownership depends on an
entrepreneur’s particular situation.
• Key: Understanding the characteristics of each
form of ownership and how well they match an
entrepreneur’s business and personal
circumstances.

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Factors Affecting the Choice
• Tax considerations
• Liability exposure
• Start-up and future capital requirements
• Control
• Managerial ability
• Business goals
• Management succession plans
• Cost of formation

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Major Forms of Ownership
• Sole Proprietorship
• General Partnership
• Limited Partnership
• Corporation
• S Corporation
• Limited Liability Company

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Percentage of Business

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Percentage of Sales

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Percentage of Net Income

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Advantages of a Sole Proprietorship
• Simple to create
• Least costly form to begin
• Profit incentive
• Total decision making authority
• No special legal restrictions
• Easy to discontinue

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Disadvantages of a Sole Proprietorship
• Unlimited personal liability
– The company’s debts are the owner’s debts.
• Limited skills and capabilities
• Feelings of isolation
• Limited access to capital
• Lack of continuity of the business

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Partnership
• An association of two or more people who co-own a
business for the purpose of making a profit.
• Always wise to create a partnership agreement: states in
writing the terms under which the partners agree to
operate the partnership and that protects each
partner’s interests in the business.

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Advantages of the Partnership (1 of 2)
• Easy to establish
• Complementary skills of partners
• Division of profits
• Larger pool of capital
• Ability to attract limited partners

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Types of Partners
• General Partners:
– Take an active role in managing a business.
– Have unlimited liability for the partnership’s debts.
– Every partnership must have at least one general
partner.
• Limited Partners:
– Cannot participate in the day-to-day management of a
company.
– Have limited liability for the partnership’s debts.

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Types of Limited Partners
Two Types of Limited Partners:
• Silent Partners:
– Not active in a business but are generally known to
be members of the partnership
• Dormant Partners:
– Neither active nor generally known to be
associated with the business

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Advantages of the Partnership (2 of 2)
• Easy to establish
• Complementary skills of partners
• Division of profits
• Larger pool of capital
• Ability to attract limited partners
• Minimal government regulation
• Flexibility
• Taxation

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Disadvantages of the Partnership
• Unlimited liability of at least one partner
• Capital accumulation
• Difficulty in disposing of partnership interest
without dissolving the partnership
• Potential for personality and authority conflicts
• Partners bound by law of agency

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Limited Liability Partnerships
• All partners in a business are limited partners.
– Gives the advantage of limited liability for the
debts of the partnership.
– Does not pay taxes – income is passed through to
the limited partners who pay taxes on their share of
the company’s income.

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Corporations
• Corporation: a separate legal entity from its owners.
• Types of corporations:
– Publicly held: a corporation that has a large number
of shareholders and whose stock usually is traded
on one of the large stock exchanges.
– Closely held: a corporation in which shares are
controlled by a relatively small number of people,
often family members, relatives, or friends.

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Avoiding Legal Tangles (1 of 2)
• Identify the company as a corporation by using “Inc.”
or
“Corporation” in the business name.
• File all reports and pay all necessary fees required by
the state in a timely manner.
• Hold annual meetings to elect officers and directors.
• Keep minutes of every meeting (formal and informal)
of the officers and directors.

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Avoiding Legal Tangles (2 of 2)
• Be sure that the corporation’s board makes all major
decisions.
• Make it clear that the business is a corporation –
officers should sign all documents in the
corporation’s name.
• Keep corporate assets and the personal assets of
the owners separate.

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Limited Liability Company (LLC)
• Resembles an S Corporation but is not subject to the
same restrictions.
• Two documents required:
– Articles of organization: creates an LLC by
establishing its name and address,
method of management, its duration, etc.
– Operating agreement: establishes for an LLC the
provisions governing the way it will conduct
business.

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Creating a Legal Business Entity
• The average cost to create a legal business entity is about
$1,000, but it can range from $500 to $5,000.
– Can use Web sites like MyCorporation and
BizFilings and incorporate for just $100.
– But, be careful! The cost of filing incorrectly can
be high.
– States have different regulations on forming
business entities.

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Key Questions to Consider Before
Buying a Business (1 of 2)
• Is the right type of business for sale in the market in
which you want to operate?
• What experience do you have in this particular
business and the industry in which it operates? How
critical is experience in the business to your
ultimate success?
• What is the company’s potential for success?
• What changes will you have to make – and how
extensive will they have to be – to realize the
business’s full potential?

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Key Questions to Consider Before
Buying a Business (2 of 2)
• What price and payment method are reasonable for
you and acceptable to the seller?
• Is the seller willing to finance part of the purchase
price?
• Will the company generate sufficient cash to pay for
itself and leave you with a suitable rate of return on
your investment?
• Should you be starting a business and building it
from the
ground up rather than buying an existing one?

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Types of Business Buyers

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Advantages of Buying an Existing
Business
• It may continue to be successful
• It may already have the best location
• Employees and suppliers are established
• Equipment is already installed
• Inventory is in place and trade credit is established
• It’s turnkey
• New owners can “hit the ground running”
• New owners can use the previous owner’s experience
• Financing is easier to obtain
• It’s a bargain!
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Disadvantages of Buying an Existing
Business
• The financial costs are high
• It’s a “loser”
• Previous owner may have created ill will
• “Inherited” employees may be unsuitable
• The location may have become unsatisfactory
• Equipment and facilities may be obsolete or inefficient
• Change and innovation can be difficult to implement
• Inventory may be outdated or obsolete
• Accounts receivable may be worth less than face value
• The business may be overpriced

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Acquiring a Business (1 of 2)
• Study: 50 to 75% of all business sales that are initiated
fall through.
• The right way:
– Analyze your skills, abilities, and interests.
– Develop a list of criteria
– Prepare a list of potential candidates.
– Investigate and evaluate candidate businesses and
select the best one.

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Acquiring a Business (2 of 2)
• Explore financing options
– Potential source: the seller
• Negotiate a reasonable deal
• Ensure a smooth transition
– Communicate with employees
– Be honest
– Listen
– Consider asking the seller to serve as a
consultant through the transition

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The Acquisition Process

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Negotiating the Deal
• Go into negotiations with a list of objectives ranked in
order of priority.
• Try to understand what the seller’s priorities are.
• Work to establish a cooperative relationship based on
honesty and trust.
– Avoid an “if you win, then I lose” mentality
– Look for areas of mutual benefit

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