Chapter 10 Choosing Legal Structures and Distribution Channels Entrepreneurship Chapter 10 Choosing Legal Structures and Distribution Channels Mariotti: Entrepreneurship

4 Types of Business Manufacturing Makes products Rarely sells direct to consumer Wholesale Buys products from manufacturers in bulk Sells smaller quantities to retailers Retail Buys products from wholesaler Sells single items to consumers Service Sells time, skills, or expertise May serve retail, wholesale, or manufacturing clients Marriotti: Entrepreneurship

The Production-Distribution Chain Manufacturer sells in bulk (hundreds) to Wholesaler who sells quantities (dozens) to Retailer who sells single pieces (one) to Consumer Each link along the chain marks up (increases) the price. Marriotti: Entrepreneurship

The Markup Is Dictated by the Competition If you mark up your goods 20% and the competition only marks them up 10%, your customers will buy from the competition. You must be able to mark up your goods high enough to cover operating costs and make a profit, or you will go out of business. If you can buy a product at a low wholesale price and customers are willing to pay a retail price that includes a profit, you will have a successful business. Buy low, sell high! Marriotti: Entrepreneurship

Retail Price Per Unit – Wholesale Cost Per Unit Gross Profit Margin Gross Profit Per Unit = Retail Price Per Unit – Wholesale Cost Per Unit Gross Profit Per Unit (or Gross Profit Margin): Difference between the price the retailer paid the wholesaler and the price the retailer charges the consumer. Marriotti: Entrepreneurship

A Typical Markup Manufacturer (doubles the cost) $1.00 (cost) $2.00 (price) Wholesaler (adds 20%) $2.00 (cost) $2.40 (price) Retailer (doubles the cost) $2.40 (cost) $4.80 (price) Consumer $4.80 (cost) Marriotti: Entrepreneurship

Percentage Markups Wholesale Cost X Markup % = Markup Markup/Wholesale Cost X 100 = Markup % Marriotti: Entrepreneurship

Markdowns and Discounts Reasons to markdown inventory: Reduce storage costs Make room for new merchandise Get rid of items that are not selling at the current price Markdowns are expressed as percentages: Markdown/Retail Price X 100 = Markdown % Reasons to offer discounts: Encourage customers to pay bills sooner Encourage customers to try new products/services Marriotti: Entrepreneurship

Contracts: Building Blocks of Business Formal written agreement between 2 or more parties Enforceable in court of law Contracts define the relationships in the production–distribution chain (between manufacturer, wholesaler, retailer) Never sign a contract without having a lawyer examine it for you. Ask attorney: Will this agreement protect my interests? What what you add, drop, or change? Never sign a contract without reading and understanding every word. Marriotti: Entrepreneurship

A Good Contract Achieves the Four A’s Avoid misunderstanding—spell out all details, even the obvious. Assure work—for contract to be binding, parties must exchange something of value or agree not to do something they were legally entitled to do. Assure payment—specify how/when payment will be made. Avoid liability—spell out contingencies (unpredictable events, “acts of God”). Marriotti: Entrepreneurship

Breach of Contract Contract is breached (broken) when a signatory (person who signed it) fails to fulfill it. Injured party may then sue for breach of contract. Lawsuit is attempt to recover a right or claim through legal action. Other options: Small claims court Arbitration A contract cannot substitute for trust. If you don’t trust someone, don’t expect a contract to protect you. Marriotti: Entrepreneurship

Manufacturing: Pros and Cons Can build products that don’t exist yet Can fine-tune design and features of a product Can obtain patents on new product designs to block competitors Cons: Expensive to set up and maintain a manufacturing company Costly to hire and train workers Have to pay to make the product before it can be sold Marriotti: Entrepreneurship

Idea-to-Product Process Drawings and Specifications—diagrams explaining how to make the product Parts and Materials List—figure out what materials are needed and where to get them Prototype—working sample of product Tooling—making/adapting equipment to produce the product Setup—each time a batch of product is made, must set up equipment, workers, etc. Marriotti: Entrepreneurship

Job Shops Subcontractors set up to do jobs for manufacturers Can make a part less expensively Can deliver a part more quickly Maintain and provide equipment so manufacturers don’t have to buy/maintain it Offer manufacturing facilities to companies that don’t have them Marriotti: Entrepreneurship

Patents Protect Inventions You need a patent if: You have invented a product you want to market yourself or sell to a manufacturer. You believe someone else could sell the product by copying your invention. Patent application must include: In-depth description of invention. Drawing of invention. Completed “Declaration for Patent Application.” Notarized statement from inventor. Filing fee to US Patent and Trademark Office. Marriotti: Entrepreneurship

JIT Manufacturing “Just In Time” manufacturing Developed in Japanese factories Focuses on making smallest amount of product as needed, quickly and efficiently Good method for small business Principles: Run smallest batches necessary Reduce setup time/cost to minimum Schedule production so products finished “just in time” to ship Stay flexible Marriotti: Entrepreneurship

4 Parts of a Business Production—making or obtaining product Financing—securing/using money to develop the business Marketing—creating ways to get customer interested in product/service Customer Service—keeping customers happy and loyal Marriotti: Entrepreneurship

Registering a Sole Proprietorship Call chamber of commerce to find out where to register. Choose name for business. Fill out “Doing Business As” (DBA) form with name of business and your name. Conduct name search to make sure no other business in the state is using the name. Fill out registration form, pay fee. Have form notarized. Marriotti: Entrepreneurship

After Registering a Business . . . Research local regulations that may apply to your business. Obtain any necessary: Permits Licenses Certificates Research employee federal, state, city regulations. Obtain sales tax identification number from state sales tax office. Marriotti: Entrepreneurship

Partnerships Consist of two or more owners who make decisions together, share profits/losses Partners face unlimited liability in lawsuits Both fully responsible for all debts, judgments Exception: limited partnership includes some partners who are not liable and have no say in daily operation of business Marriotti: Entrepreneurship

Corporations Pros: Limited legal liability Money can be raised through issuing stock Ownership can be transferred easily; new owner does not personally absorb corporation’s debt Cons: Profits taxed twice; first as corporate income, then as personal income when distributed to shareholders Owner can lose control of company to stockholders if they gain more than 50% of stock More expensive to start than sole proprietorship and partnership Marriotti: Entrepreneurship

Types of Corporations C Corporation —most common type, can sell ownership shares to anyone, use bonds to borrow money. Income taxed twice: 1) as corporate income 2) as personal income when distributed to owners (dividends) Subchapter S Corporation —limits stockholders to 75; income taxed once, as personal income of owners Professional Corporation (PC) —used by doctors, lawyers, small groups of professionals Nonprofit corporation —tax exempt, mission is to improve society; may not sell stock or pay dividends Limited Liability Company (LLC) —combines features of partnership and corporation; good choice for small business owners seeking liability protection; income taxed once as personal income of owners Marriotti: Entrepreneurship

Comparison of Legal Structures Marriotti: Entrepreneurship

Nonprofits 501 (c ) (3) in United States Tax exempt Can receive charitable donations Cannot be owned/bought/sold May not issue stocks or bonds Mission driven: must be involved with trying to solve a problem for society Instead of Unit of Sale, uses Unit of Change to measure success and prove it is succeeding in mission Marriotti: Entrepreneurship