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Corporations G751 Eric Rasmusen, March 4, 2014 1.

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Presentation on theme: "Corporations G751 Eric Rasmusen, March 4, 2014 1."— Presentation transcript:

1 Corporations G751 Eric Rasmusen, erasmuse@indiana.edu erasmuse@indiana.edu March 4, 2014 1

2 2 The Textbook Firm Fixed cost, rising MC. Possibly sharp capacity. Other firms can enter in the long run. Rents and quasi-rents. Viner’s LR cost curves, including the U-shaped one and the CRS one. Natural monopoly.

3 3 The Size of a Firm--- Coase Transaction costs vs. management costs. Why not one big firm?

4 Classic Papers Ronald H. Coase, The Nature of the Firm, 4 ECONOMICA 386 (1937). Armen A. Alchian & Harold Demsetz, Production, Information Costs, and Economic Organization, 62 AM. ECON. REV. 777 (1972). Michael C. Jensen & William H. Meckling, The Theory of the Firm: Managerial Behavior, Agency Costs, and Ownership Structure, 3 J. FIN. ECON. 305 (1976). Sanford J. Grossman & Oliver D. Hart, The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration, 94 J. POL. ECON. 691 (1986) (a firm consists of "those assets that it owns or over which it has control") 4

5 What is a firm? Knight: Assets with a residual claimant, in a risky situation. Coase: A collection of assets ruled by authority. Alchian-Demsetz: Monitoring framework. Jensen and Meckling: A Nexus of Contracts. The shareholders aren’t the owners. They aren’t special. Hart: Property owned in a particular way to avoid The hold-up problem. Me : a collection of assets with the same owners that are used for earning money, as well, perhaps, as for other things. Boring, noneconomic definition. 5

6 6 Dimensions 1. Register with the state? 2. Required governance structure? 3. Legal Personality? 4. Limited Liability? 5. Tradeable ownership? 6. Perpetual Life?

7 7 Sole Proprietorship, Partnership dfgdfgg fdgfd Entity TypeSole Proprietorship General Partnership Limited Partnership (LP) C CorporationS CorporationLimited Liability Company (LLC) FormationNo state filing required Agreement between two or more parties. No state filing required. Certificate of Formation Articles of Incorporation (S = Small Business Tax Election for the Corporation) Articles of Organization (Formation) Duration of existence Dissolved if entity ceases doing business or upon death of the sole proprietor Dissolves upon death or withdrawal of a partner, unless agreement Perpetual (S Election can be terminated in which case reverts to C Corporation) Dependent on the requirements imposed by the state of formation LiabilitySole proprietor has unlimited liability Partners have unlimited liability At least one general partner has unlimited liability Shareholders are typically not responsible for the debts of the corporation Members are not typically responsible for the debts of the LLC Operational Requirement Relatively few legal requirements Some formal requirements, but less formal than corporations Board of Directors, annual meetings, and annual reporting Some states impose formal requirements, but generally less formal than corporations ManagementSole proprietor has full control of management and operations Typically each partner has an equal voice, unless otherwise arranged Limited partners are excluded from management unless they serve on the Board of Directors Managed by directors who are elected by shareholders Members usually have an operating agreement that outlines management: can be member managed or manager managed TaxationNot a taxable entity. Sole proprietor pays all taxes Not a taxable entity. Each partner pays tax on his/her share of income and can deduct losses against other sources of income Files taxes as a separate entity and must meet certain criteria to avoid being taxed as a corporation Taxed at the entity level. If dividends are distributed to shareholders, dividends are also taxed at the individual level. (DOUBLE TAXATION) No tax at the entity level. Income / loss is passed through to shareholders. *1-100 shareholders *No non-resident aliens If properly structured, there is no tax at the entity level. Income / loss is passed through to members. IRS Default for single-member LLC is disregarded entity (pass-through); default for two or more members is partnership taxation. (NOTE: entity can also elect corporate taxation (C or S-Corp) Pass through income/loss Yes Yes, if requirements are fulfilled NoYes Transferability of interest No Yes, pending approvalShares of stock are easily transferred Yes, observing IRS regulations* Possible, dependent on operating agreement restrictions

8 8 Trusts These are NOT contracts. The grantor gives property to the trust, under care of a trustee. The trustee has legal title (ownership). The grantor says who the beneficiary is--- who has the “equitable title”. The trust pays tax, but is not a legal person---it cannot sue. No registration with the state is needed, unless it is a charity. Civil law countries don’t have trusts.

9 9 Nonprofit Corporations and Charitable Tursts They raise capital through donations. They may or may not be tax exempt--- they are if they are a nonpolitical charity. They file form 990. http://www.rockefellerfoundation.org /uploads/files/27cb690a-bfce-4ff9- a839-80bca57ee49a.pdf

10 10 Corporate Objectives To help shareholders? Stakeholders? Profit? Religion? Daytime Baseball? Duty of Loyalty Duty of Care Business Judgement Rule

11 11 Hansmann and Reinier Kraakman, Henry Hansmann and Reinier Kraakman, The End of History for Corporate Law, 89 GEORGETOWN L. J. 439 (2001) Henry Hansmann and Reinier Kraakman, REFLECTIONS ON THE END OF HISTORY FOR CORPORATE LAW, August 2011 http://ssrn.com/abstract=2095419 Forthcoming in Abdul Rasheed and Toru Yoshikawa, eds., Convergence of Corporate Governance: Promise and Prospects (Palgrave-MacMillan 2012).

12 12 Eisenberg Melvin A. Eisenberg, The Conception That the Corporation Is a Nexus of Contracts, and the Dual Nature of the Firm, 24 J. Corp. L. 819 (1998), http://scholarship.law.berkeley.edu/facpu bs/547


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