By: 1. Kenneth A. Kim John R. Nofsinger And 2. A. C. Fernando

 Chapter outline ◦ Studying global political system from business point of view ◦ Goal of business i.e. profit maximization ◦ Forms of businesses ◦ What is corporate Governance ◦ Investors influence on management ◦ How to monitor management ◦ Corporate governance: An integrated and complex system.

 Introduction ◦ There are two major political systems in the world from business point of view  1. Communism  refers to a political system that stresses the primacy of collective goals over individual goals

 Characteristic of Communism ◦ Needs of the society are viewed as a whole than individual freedom. ◦ State-owned enterprises are managed to benefit society as a whole, rather than individual capitalists ◦ Examples are:  Cuba  Vietnam  China (market based economic reforms)

 Capitalism ◦ Capitalism is an economic system based on the private ownership of capital goods and the means of production, with the creation of goods and services for profit.

 Characteristics of Capitalism ◦ Ownership belongs to “YOU” ◦ Freedom of own economic growth ◦ Suitable environment for business ◦ Profit in your “Pocket” ◦ Reward based system ◦ Creative and innovative environment

 Goal of a Business ◦ Maximum profit by increasing business ◦ How?  1. Increasing sales in the existing market  2. Creating new markets for the existing products.

. Enhancing business requires capital which brings risk. . So, the ability to access capital and control risk are important in the success or failure of a firm.

 Forms of Business Ownership  Sole proprietorship – a business own by a single person . Easy to start . More than 70% of all US business . But limited lifespan . Die with the owner’s death or retirement . Limited ability to obtain capital . Owner bears unlimited personal liabilities for the firm . Less trustworthy

 Partnership – similar to sole proprietorship but there is more than one owner. .The ability to pool capital  But may not be as important as combining service- oriented expertise and skill, especially for larger partnerships, for example;  Accounting firms  Law firms  Investment banks  And advertising firms

 Corporation – the corporation is its own legal entity, as if it were a person. Advantages . The owner of the corporation enjoys limited financial liabilities  Which is very hard in the case of sole proprietorships and partnerships.  For example  Bill Gates of Microsoft  Tim Cook of Apple  Larry Ellison of Oracle

 Fewer than 20% of all US businesses are corporation but are generating approximately 90% of the country’s business revenue.  . The most important advantage of corporation business is access to capital market and can raise money by issuing stocks and bonds to investors. . It doesn’t die when its owner do because corporation is not in single person ownership, it has many owners.

 Example  “Between 1977 and 1980, Apple Computers sold a total of 121,000 computers. To meet the potential demands for millions of computer per year, Apple needed to expand operations significantly. As a result, in 1980, Apple became the public corporation and sold $65 million worth of stocks”.

 Main disadvantages of corporations are; . Corporate profits are subject to business taxes before any income goes to share holders in the form of dividends. . Subsequently, shareholders must also pay personal taxes on dividend income.  Which means shareholders are exposed to double taxation.

 Running corporation cab be expensive. For example  The cost of hiring accountants  Legal experts  Cost of communicating with all shareholders  Cost of complying with Regulations and so forth.  Perhaps the main disadvantage is of governance problems.  Small stake and lack of true sense of ownership bring RISK and lack of CONTROL

 What is Corporate Governance? “Problems that result from the separation of ownership and control  Focusing on  The internal structure and rules of the board of directors;  The creation of independent audit committees;  Rules for disclosure of information to shareholders and creditors  And control of the management  This explain how a corporation is structured.

 Separation of ownership and management Corporate Governance Separation of ownership and management Shareholders Employees Board Management

Separation of Ownership and Control . Stockholders own the firm and officers (or executives )control the firm. . Hundreds of thousands of investors can’t collectively take decisions. So firms hire managers for that work. .The shareholder’s main focus is toward business performances and return of their stock, rather than in decision making process.

 Why should managers should care about the owners?  Satisfactory profit for the stockholders and massive perks for themselves (principal-agent problem or the agency problem)  Managers may be tempted to use the firm’s assets for their own ends.  Secretaries may take the supplies  Managers may take extra food or fancy furniture for their offices  Executives can use expensive jets for travelling  Etc;etc

 Ability to steel from the shareholders, the most are the executives.  This problem can be solved by  Incentives  Common incentives  Offering stocks, restricted stocks or stock options (normal practice in US companies)  And monitoring