Starting and Growing Your Business

Starting and Growing Your Business
Part 2 Starting and Growing Your Business

Options for Organizing Small and Large Businesses
Chapter 5 Options for Organizing Small and Large Businesses

Chapter Objectives Distinguish between small and large businesses and identify the industries in which most small firms are established. Discuss the economic and social contributions of small business. Compare the advantages and disadvantages of small businesses. Describe how the Small Business Administration assists small-business owners. Explain how franchising can provide opportunities for both franchisors and franchisees. Summarize the three basic forms of business ownership and the advantages and disadvantages of each form.

Chapter Objectives Identify the levels of corporate management.
Describe recent trends in mergers and acquisitions. Differentiate among private ownership, public ownership, and collective ownership (cooperatives).

Chapter Overview Variables affecting the organization of your business include: How easily can you set up this type of organization? How much financial liability can you afford to accept? What financial resources do you have? What strengths and weaknesses do you see in others? What are your own strengths and weaknesses?

Most Businesses Are Small Businesses
What is a Small Business? A firm that is independently owned and operated, not dominant in its field, and meets industry-specific size standards for income or number of employees. 98 percent have fewer than 100 employees Over 14 million people in the U.S. are earning business income without any employees Almost half the sales in U.S. are made by small businesses Annual sales and number of employees determine whether or not a business is small 1. $500,000 to $25 million in sales fall within the small business category 2. From 100 to 1,500 employees is another general category. 3. However, there are specifics depending on industry, including: a. manufacturing firms that have fewer than 500 workers b. wholesalers who employ fewer than 100 employees c. retailers and service industries that generate less than $5 million in annual sales d. annual sales of less than $500,000 in agriculture

Most Businesses Are Small Businesses
Most nonfarming small businesses have been concentrated in retailing in the service industries Typical Small-Business Ventures Dentists Home Builders Florists, etc Almost half of small businesses in the U.S. are home based businesses (firms operated from the residence of the business owner) Small business can adopt many profiles, from part-time, home-based businesses to firms with several hundred employees. A small business is a firm that is independently owned and operated, is not dominant in its field, and meets industry-specific size standards for income or number of employees. Small businesses operate in every industry, but wholesale trade, agricultural services, and construction feature the highest proportions of small enterprises. 1. Small businesses have competed against the world’s largest organizations, and endless other small companies. 2. Nonfarming small business has been concentrated in retailing and service industries; but also provides the majority of jobs in construction, agricultural services, and wholesale trade. 3. Retailing is attractive because of the low startup costs, easy access to space and the low need for highly trained employees.

David vs. Goliath: Business Sectors Most Dominated and Least Dominated by Small Firms

Major Industries Dominated by Small Businesses

Contributions or Small Business to the Economy
Creating New Jobs Creating New Industries Attracting New Industries 1. Small businesses create most of the new jobs in the U.S. economy and employ the majority of U.S. workers. 2. They provide valuable outlets for entrepreneurial activity and often contribute to creation of new industries or development of new business processes. 3. Women and minorities find small-business ownership to be an attractive alternative to opportunities available to them in large firms. 4. Small firms may also offer enhanced lifestyle flexibility and opportunities to gain personal satisfaction.

Advantages of a Small Business
Small businesses differ greatly in: Forms of organization Market positions Staff capabilities Managerial styles Organizational structures Financial resources These differences usually seem like advantages to small-business owners

Advantages of Small-Business Ownership

Innovation Example: Start-up business to offer online bookstore shopping and delivery. Typically develop twice as many product innovations per employee as larger firms Also obtain the more patents per sales dollar than larger businesses Key innovations developed by small businesses include the airplane, audio tape recorder, double-knit fabrics, optical scanner, PC, soft contact lenses, and the zipper Innovation 1. Needed in order to compete with larger corporations 2. Small businesses are often fertile ground in which to plant innovative ideas for new goods and services. 3. In a typical year, small firms develop twice as many product innovations per employee as larger firms. 4. They also obtain more patents per sales dollar

Lower Costs Example: Small retailer who can prepare sales flyers on a PC. Small firms may be able to provide goods and services at prices that large firms cannot match Overhead costs are usually minimized Typically, organizations are lean -- with the smallest staffs and few support personnel 1. Small firms usually have minimal overhead as compared to larger organizations. 2. Often small businesses are operated out of owner’s home, thus eliminating rent and utility expenses. 3. Often small firms carry little inventory. 4. Is a leaner organization with a smaller staff 5. The quality and quantity of work done by the owner tends to be very high. 6. Family members often contribute

Superior Customer Service Example: Free alterations on clothing purchases from a small boutique. Small firms can operate with greater flexibility This allows tailoring of product lines and services to the needs of customers 1. Small firms can operate with greater flexibility. 2. That can tailor product lines and services to the needs of the customers

Filling Isolated Niches Example: Retail store that specializes in selling products designed for left-handed consumers. Large businesses tend to focus on the large segments of the overall market Growth prospects of market niches are too limited, and expenses involved in serving them to great, for large firms This creates opportunity for small firms 1. Small businesses are better able to service small, otherwise, under-served customer niches. 2. Certain types of businesses prefer to work with small organizations because personal relationships can more easily be fostered. 3. Economic and organizational factors may dictate that an industry consist primarily of small firms.

Disadvantages of a Small Business
In addition to being vulnerable to economic downturns, primary disadvantages include: Management Shortcomings Inadequate Financing Government Regulation

Management Shortcomings People often go into business with little, if any, business training Owners often hesitate to turn to consultants for advice in areas were they lack knowledge or experience Frequently struggle with “rose-colored-glasses syndrome” 1. Business owners may have many strengths in terms of creating a vision of interpersonal relationships, but they may suffer from deficiencies in areas of finance or other business function areas. 2. Specialized staff cannot be hired for each separate area or need; thus, a generalized staff must be utilized to fulfill a large functional area. 3. Many small business owners go into this profession with little professional business training or education assuming that they will rely upon on-the-job training to fill any gaps in their skills. 4. Owners often are unable or unwilling to recognize their weaknesses or limitations. 5. In their rush to start their business, owners may overlook vital aspects of the firm, such as marketing research.

Inadequate Financing Too often, new business owners assume a that they will generate enough funds in the first few weeks or months to finance continuing operations Provisions must be made for uneven cash flows Banks often very reluctant to make small business loans 1. Entrepreneurs and small business owners often believe that the initial sales will create enough revenue to keep the business going; however, initial costs are often much higher than anticipated. 2. Inaccurate assumptions about costs and expenses are made. 3. Uneven cash flows are also difficult to manage. 4. Banks are typically reluctant to make loans because of the business having no history and there being few assets. 5. The sources of debt financing are often those with higher interests rates, such as credit card advances. 6. Inadequate financing also makes attracting and keeping talented people more challenging.

Sources of Small-Business Financing

Government Regulation Small-business owners often complain bitterly of excessive government regulation and red tape Paperwork costs account for billions of small-business dollars each year Taxes are another burdensome expense for small businesses 1. The costs of managing paperwork is enormous, and the cost to hire staff or outsource the work required is prohibitive. 2. Due to these constraints, smallest companies are sometimes exempt from following certain government regulations. 3. Many small business owners follow all regulations, due to their belief that doing so is more ethical. 4. Taxes are also burdensome for small businesses.

Increasing the Likelihood of Business Success
Creating a Business Plan Business plan—written document that provides an orderly statement of a company’s goals, the methods by which it intends to achieve those goals, and standards by which it will measure achievements. Typically includes following components: Executive summary Introduction Marketing Financials Resumes of principles The Business Plan provides guidance, influence and leadership, and communicates the goals to employees, associates, investors, etc. Prior to writing the business plan, several questions need to be answered, including: a. How would you explain your business idea to a friend? b. What purpose does your business service? c. How does your idea differ from those of existing businesses? d. What is the state of the industry you are entering? e. Who will be your customers or clients? f. How will you market your goods or services? g. How much will you charge? h. How will you finance your business? i. How will you measure your firm’s success or failure at specific time intervals? j. What characteristics qualify you to run this business? k. Give close consideration to the name of the business. l. Has adequate research been completed?

Small Business Administration (SBA)—federal agency that assists small businesses by providing management training and consulting, financial advice, and support in securing government contracts. The U.S. Small Business Administration helps small-business owners to obtain financing through a variety of programs that guarantee repayment of their bank loans. The SBA also assists women and minority business owners in obtaining government purchasing contracts. It offers training and information resources, so business owners can improve their odds of success. Finally, the SBA advocates small-business interests within the federal government.

Small Business Administration Financial Assistance Guarantees loans Other Specialized Assistance Government procurement set-aside programs Information and advice Financial Assistance from the SBA 1. Seldom provides small business loans. 2. Rather, provides guarantees for small-business loans made by private lenders, including banks and other institutions. 3. Guarantees MicroLoans – less than $25,000 to startups and other very small firms. 4. Small Business Investment Companies (SBICs) use their own capital, supplemented by the Government, to make loans – tend to be more flexible about granting locals. Other Specialized Assistance from SBA 1. Programs that assist small businesses in securing contracts for fulfilling government purchasing needs. 2. Provides information and advice through toll-free telephone lines and Web sites. 3. The Service Corps of Retired Executives volunteers shared business advice. 4. Hundreds of inexpensive publications are available. 5. Sponsors conferences and seminars

Business Incubators Business incubator—organization that provides low-cost, shared facilities on a temporary basis to small start-up ventures. 1. Provide low-cost, shared business facilities to small, start-up ventures for first few months to allow small business to get established, which include shared: facilities, computers, administrative staff, copiers, management support services, management advice 2. Hundreds of these operate in the United States 3. About 50% are run by not-for-profit agencies

Large Corporations Assisting Small Businesses Corporations often devise special programs aimed at solving small-business problems Recognition of the size of the small-business market, its growth rate and buying power, and the financial rewards of supporting small businesses 1. Corporations often devise special programs aimed at solving small-business problems a. assists the small business b. provides a relationship with the small business that might result in the small business purchasing from the large business 2. Alliances are formed to achieve mutual goals – construct a network of strategic partnerships, meeting customer demand at every point where consumers interact with the company. 3. There are risks involved, however. a. exchanging partial ownership for a useful partnership with a big business also means potential loss of control b. potential awards are now distributed to the big business partner, as well c. there may be a mis-match of objectives

Small-Business Opportunities for Women and Minorities
Women-Owned Businesses Minority-Owned Businesses Women-owned and minority-owned businesses are growing much faster than the overall growth in U.S. businesses

Women-Owned Businesses Over 9 million women-owned firms Almost 40 percent of U.S. businesses Provide employment for almost 28 million people 1 of every 8 owned by minority women 1. These businesses are begun for a variety of reasons – some very similar to why men begin small businesses, including: a. the desire to bring an idea to life b. the desire to strike out on one’s own c. a response to losing a job in a large firm d. frustration with bureaucracies in a large firm e. confronting the glass ceiling phenomenon f. the desire for more flexible working hours 2. The fastest growing women-owned small businesses are in the following fields: a. construction, b. wholesale trade, c. transportation, d. communications, e. agribusiness, f. manufacturing 3. Powerful support networks have been established along with, because an in support of these businesses.

Minority-Owned Businesses Growth in number of businesses owned via a African-Americans, Hispanics, and Asian Americans has far out past the growth in number of U.S. businesses overall recently 1. Strong presence in the services and retail industries, which represent the greatest number of businesses 2. Hispanics are the nation’s largest group of minority business owners, then Asian Americans and African Americans a. partially due to the large number of new immigrants, which, historically, have represented the largest number of new business owners b. trade as a result of NAFTA will likely continue to aid growth among Hispanic-owned businesses c. Hispanics and Asian Americans are also more likely to be involved in exporting than U.S. businesses in general 3. However, minority-owned businesses still face many obstacles, including: a. start-ups tend to be on smaller scales b. funding continues to be harder to secure c. rely less on bank credit, and more on higher-interest-rate forms of credit – only 15% of black-owned businesses borrow from banks, which is less than half number of all firms, despite being equally credit worthy d. many investors tend to work with networks of people they met in college, where most of their associates were white

Types of Businesses Owned by Racial and Ethnic Minorities

The Franchising Alternative
The Franchising Sector Franchising—contractual agreement that specifies the methods by which a dealer can produce and market a supplier’s good or service. Franchising growing rapidly U.S. franchises generate $1 trillion in sales annually and employing over 8 million people Franchising is also popular overseas 1. A franchiser is a company that sells the rights to use its brand name, operating procedures, and other intellectual property to franchisees. Franchising helps business owners to expand their companies' operations with limited financial investments. Franchisees, the individuals who buy the right to operate a business using the franchiser’s intellectual property, gain a proven business system, brand recognition, and training and other support from the franchiser.

Franchising Agreements Franchisee: small business owner who contracts to sell the goods or service of the franchisor in exchange for some payment Franchisor: owner of the franchise Franchisor typically provides name recognition, building plans, site selection help, accounting systems, and other services The franchisee--the small-business owner who contracts to sell the good or service of the supplier in exchange for some payment • usually a flat fee • plus royalties expressed as a percentage of sales • costs vary widely The franchiser--the supplier of the good or service and typically also provides: • name recognition • building plans • site selection help • managerial and accounting systems • additional assistance, such as training • materials & equipment

Benefits and Problems of Franchising Advantages include: A prior performance record Recognizable company name Business model that has proven successful Tested management program Business training Advantages include: 1. franchises are more likely to succeed 2. prior performance record 3. a recognizable company name 4. a business model that have proven to be successful in other locations 5. a test management program 6. training 7. a performance record upon which to make contractual decision

Benefits and Problems of Franchising Disadvantages include: Expensive franchise fees and future payments The fact that the franchisee is linked to the reputation and management of the franchise The potential unsuitability of the franchisee Disadvantages include: 1. high initial agreement costs 2. ongoing fees and royalties may make earning a profit more challenging for a longer period of time 3. since the individual store is linked to the reputation of the franchise, a negative franchise reputation can hurt and otherwise fine store 4. caution needs to be exercised before signing a contract 5. know how future competitive franchise locations will be established 6. determine whether online sales, handled by the corporate headquarters, will compete with single franchise location

The Latest Trends in Franchising by Industry

Small Business Goes Global
Global Environment for Entrepreneurs Growth Strategies Global reach of the Internet allows companies to reach international markets quickly Some statistics: 1. Just five years ago, only 3% of small U.S. businesses with employees were exporting. 2. Still play a key role in international trade 3. More than 95% of U.S. exporters have fewer than 500 employees.

Alternatives for Organizing a Business
Forms of Business Ownership A sole proprietorship is owned and operated by one person. Although, sole proprietorships are easy to set up and offer great operating flexibility, the owner remains personally liable for all of the firm's debts and legal settlements. In a partnership, two or more individuals agree to share responsibility for owning and running the business. Partnerships are relatively easy to set up, but they do not offer protection from liability. Also, partnerships may experience problems if a partner dies or when partners fail to communicate or establish effective working relationships. When a business is set up as a corporation, it becomes a separate legal entity. Individual owners receive shares of stock in the firm. Corporations protect owners from legal and financial liability, but double taxation reduces their revenues.

Comparing the Three Major Forms of Private Ownership

Sole Proprietorships Sole proprietor—form of business ownership in which the company is owned and operated by one person. 1. The most common form of business ownership; also the simplest and older 2. There are no legal distinctions that separate a sole proprietor’s status as an individual from her or his status as a business owner 3. Common in all industries, however concentrated in certain industries, such as repair shops, small retail outlets, service and providers 4. Offer advantages, such as: a. easy to form and dissolve b. management flexibility c. the owner retains the right to all profits after payment of personal income tax d. owners are motivated to maximize efficiency because of their individual stake in profits e. minimal legal requirements for entering and exiting, such as: • registering the business or trade name • obtaining necessary licenses • special insurance may be required in some cases 5. However, have disadvantages, including: a. the owner’s financial liability for all debts of the business b. the owner’s personal funds and borrow he or she can borrow limit the financial resources of the business c. the owner must handle a wide range of management and operational tasks d. the sole proprietorship lacks long-term continuity – when the owner dies, retires, or changes personal interest, the company ends e. this aspect of lack of continuity can make potential customer leery about making major purchases

Partnerships Partnership—form of business ownership in which the company is operated by two or more people who are co-owners by voluntary legal agreement. An association of two or more persons who operate a business as co-owners by voluntary legal agreement. This organizing alternative was the traditional form for professionals, such as physicians, lawyers and dentists. Today, most of these individuals have switched to other organizing forms to limit their personal liability Advantages include: a. easy to form b. legal requirements are simply registering the name and obtaining necessary licenses and applicable insurance – same as with sole proprietorship c. offers expanded financial capabilities – increasing access to borrowing funds d. professionals have the opportunity to combine areas of expertise, skills, and knowledge Disadvantages include: a. unlimited financial liability by the owners b. each partner bears full responsibility for any debts c. each is legally liable for actions of the other partners d. if one partner wants to leave the other partner may have to purchase the remaining portion of the company, or risk sale to someone else e. the partner who wants out is confined because an individual – perhaps the other current owner – needs to be found to purchase portion owned by partner who wants to leave f. upon death of one partner, a new partnership must be formed and the estate of the deceased is entitled to a share of the firm’s value g. life insurance coverage for each partner will limit this disadvantage, however, the cost is often prohibitive In some states, partners can minimize risks by organizing as a limited liability partnership – limiting the liability of each partner to the value of her or his investments in the company.

Corporations Corporations—business that stands as a legal entity with assets and liabilities separate from those of its owner(s). S corporations 1. A legal organization with assets and liabilities separate from those of the owners 2. Often referred to as C corporations to distinguish them from other types of firms 3. Can be either small businesses or extremely large companies 4. U.S. and Canadian firms identify corporations with the initials Inc.; British firms use Ltd, an abbreviation for limited; Australian firms use Pty. Ltd. – Proprietory Limited 5. Advantages include: a. the stockholders/owners have only limited financial risks – if firm fails they lose only the money they invested b. this protection also applies to legal risk c. they can draw upon the specialized skills of many employees, except if a small business corporation d. employees can develop even more specialized skills and specialize in their most effective tasks e. gain access to expanded financial capabilities 6. Disadvantages include: a. double taxation – the corporation pays federal, state and local taxes, and then the owners have to pay income tax on stock dividend earnings b. the number of laws and regulations affecting corporations is much more complex 7. S Corporations (or subchapter s corporation) are corporations that meet certain size requirements (fewer than 75 shareholders) and they can elect to pay federal income taxes as partnerships while retaining the limited liability benefits of corporations

Double Taxation: A Disadvantage of the Corporate Form of Organization

Changing Legal Structures to Meet Changing Needs Considerations of the appropriate legal structure include: Personal financial situations and the need for additional funds Management skills and limitations Management styles and capabilities for working with others Concerns about exposure to personal liability

Organizing and Operating a Corporation
Types of Corporations Domestic—A firm is considered a domestic corporation in the state where it is incorporated Foreign—When company does business in a state other than the one where it has filed incorporation papers, it is registered as a foreign corporation in each of those states Alien—A firm incorporated in one nation that operates in another is known as an alien corporation where it operates

The Incorporation Process Where to Incorporate The Corporate Charter Articles of Incorporation Where to Incorporate a. can incorporated in any state, not limited to where business is done b. benefits of incorporating in various states are compared carefully c. Delaware is particularly popular because of its favorable legal climate, and the speed and simplicity on incorporating The Corporate Charter a. mandates from states about specific procedures for incorporating b. most states require a minimum of three incorporators – individuals who create the corporation C. the name selected must be dissimilar to other businesses D. most states require that the name end with the words Company, Corporation, Incorporated or Limited to show that the owners have limited liability e. Once charter is established and approved by state, the company’s bylaws – the rules and procedures for operation – are completed

Levels of Management in a Corporation
Stockholders, or shareholders, own a corporation. In return for their financial investments, they receive shares of stock in the company. The number of stockholders in a firm can vary widely, depending on whether the firm is privately owned or makes its stock available to the public. Shareholders elect the firm's board of directors, the individuals responsible for overall corporate management. The board has legal authority over the firm's policies. A company's officers are the top managers who oversee its operating decisions.

Corporate Management Stockholders—person or organization who has bought shares of stock in a corporation and is entitled to some of its profits. Closed or Closely Held Publicly Held 1. closed corporation or closely held corporation – stock sales are limited to relatively few stockholders 2. publicly held corporation – stocks are sold to the general public, establishing diversified ownership 3. usually hold annual stockholders meetings to report on corporate activities and vote on any decisions that require approval

Corporate Management Stock Ownership and Stockholder Rights Preferred stock owners have limited voting rights; receive dividends before others Common stock owners have voting rights but only residual claims on assets and are the last to receive any income distributions preferred stock – owners have limited voting rights; are entitled to receive dividends before common-stock holders; and would have first claims on assets after debtors common stock – owners have voting rights but only residual claims on firms’ assets

Corporate Management Board or Directors—elected governing body of a corporation. Sets policy, authorizes major transactions, and hires and supervises the CEO Corporate Officers and Managers Make most major corporate decisions Board of Directors – the governing body of a corporation a. sets overall policy, authorizes major transactions, hires CEO b. typically includes inside and outside directors c. sometimes, the corporation’s top executive chairs the board d. generally, outside directors are also stockholders

Employee-Owned Corporations Employee ownership: where workers buy shares of stock in the company that employees them Corporate organization stays the same Most stockholders are also employees Reasons for shift in popularity include: a. stock prices have increased tremendously and employees want their share b. managers want employees who are committed to the company’s success and co-ownerships assists this commitment

Not-for-Profit Corporations Organizations that pursue objectives other than returning profits to owners Include: Museums Libraries Religious and human-service organizations Zoos Thousands of other groups Not-for-Profit Corporations 1. organizations that pursue objectives other than returning profits to owners 2. About 1.5 million operate in the US. 3. Most state have laws that establish separate provisions for dealing with organizational structure and operations of not-for-profits. 4. do not issue stock, since profits are not re-distributed to owners 5. are exempt from paying income taxes

When Businesses Join Forces
Mergers and Acquisitions (M&A) Merger—combination of two or more firms to form one company. Acquisition—procedure in which one firm purchases the property and assumes the obligations of another. Vertical Merger Horizontal Merger Conglomerate Merger The worldwide pace of mergers and acquisitions continues to grow. U.S. corporations are spending record amounts on mergers and acquisitions. These business combinations occur worldwide, and companies often merge with or acquire other companies to aid their operations across national boundaries. 1. Vertical mergers help a firm to ensure access to adequate raw materials and supplies for production or to improve its distribution outlets. 2. Horizontal mergers occur when firms in the same industry join in an attempt to diversify or offer expanded product lines. 3. Conglomerate mergers combine unrelated firms, often as part of plans to spend cash surpluses that might otherwise make a firm a takeover target.

When Businesses Join Forces
Joint Ventures: Specialized Partnerships Joint Venture: a partnership between companies formed for a specific undertaking

Public and Collective Ownership
Public Ownership When a unit or agency of government owns and operates an organization Government-Owned Corporations Used When: Private investors are not willing to invest in high-risk projects When private ownership has failed Operating public companies can be used to foster competition Municipal, state, and national governments also own and operate some businesses. This public business ownership has declined, however, through a recent trend toward privatization of publicly run organizations. 1. Public ownership replacing private ownership of failed organizations 2. Done when functions are considered so vital to public welfare that government often implements public ownership to protect its citizens from problems 3. Has been used to foster competition by operating public companies as competitive business enterprises

Public and Collective Ownership
Customer-Owned Businesses: Cooperatives Cooperative: an organization whose owners join forces to collectively operate all or part of the functions in their industry In a cooperative, individuals or companies band together to collectively operate all or part of an industry's functions. The cooperative's owners control its activities by electing a board of directors from their members. Cooperatives are usually set up to provide for collective ownership of a production, storage, transportation, or marketing organization that is important to an industry.

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