Forms of businesses

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CHAPTER 1An Overview of Financial Management

• Forms of businesses
• The basic goal to create stock-holder value
• Agency relationship
• Stockholders versus managers

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Organizing Finance by Academic Studies and Career
Paths
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Forms of Business

• Forms of business
• Advantages and Disadvantages of each form

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Alternative Forms of Business Organization

• Sole proprietorship
• Partnership
• Corporation

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Sole proprietorship
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Partnership
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Corporation
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Separation of Ownership Control
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Sole proprietorships Partnerships

• Advantages
• Ease of formation
• Subject to few regulations
• No corporate income taxes
• Disadvantages
• Difficult to raise capital
• Unlimited liability
• Limited life

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Corporation

• Advantages
• Unlimited life
• Easy transfer of ownership
• Limited liability
• Ease of raising capital
• Disadvantages
• Double taxation
• Cost of set-up and report filing

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The issue of liability

• Sole proprietorship Partnerships
• Unlimited liability Loss can exceed investment
• Corporations
• Limited liability Loss is limited to investment
• except for special types of partnerships

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Food for thought

• If you were the CEO of a large, publicly owned
  corporation, would you make decisions to maximize
  stockholders welfare or your own personal
  interests?
• What are some of the actions stockholders could
  take to ensure that managements interests and
  those of shareholders coincided?

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Financial objective

• Maximize Shareholder wealth
• Narrower Maximize Stock Price

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Financial objective - Criticism

• Against the interest of Employees
• Against the interest of Customers
• Against the interest of the Society

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Agency Problem

• Meaning
• Types of agency problems
• Agency costs
• Solutions

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What is an agency relationship?

• An agency relationship arises whenever one or
  more individuals, called principals, (1) hires
  another individual or organization, called an
  agent, to perform some service and (2) then
  delegates decision-making authority to that agent.

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Agency Costs

• Costs arising out of managers not working in
  the interest of shareholders and in making them
  do so.

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Solutions

• Incentives and Threats
• Align compensation with stock performance
• Active Board can fire a CEO who does not deliver
• Outside investor can takeover the company and
  fire the under-performing management

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• Students who understand this focus have a major
  advantage in the job market. This applies both
  to the initial job, and the career path that
  follows.