Entrepreneurship: Sole Proprietorships

Entrepreneur A person who forms and operates a new business either by him- or herself or with others.

Entrepreneurial Forms of Conducting Business Sole Proprietorship General Partnership Limited Partnership Limited Liability Company Limited Liability Partnership

Sole Proprietorship Owner is actually the business. Business is not a separate legal entity. Most common form of business organization in the United States.

Advantages of a Sole Proprietorship Ease and low cost of formation. Owner can make all management decisions. –hiring and firing employees. –No other approvals required. Sole proprietor owns all of the business Has the right to receive all of the business’s profits. Easily transferred or sold

Disadvantages of a Sole Proprietorship Access to capital is limited to: –personal funds plus –any loans he or she can obtain. Legally responsible for the business’s contracts Responsible for any torts committed in the course of employment.

Creation of a Sole Proprietorship No formalities. No federal or state government approval is required. Some local governments require a license to do business within the city.

Personal Liability of a Sole Proprietor The sole proprietor bears the risk of loss of the business. –Will lose his or her entire capital contribution if the business fails. The sole proprietor has unlimited personal liability. Creditors may recover claims against the business from the sole proprietor’s personal assets.

Personal Liability of a Sole Proprietor (continued) Sole Proprietor (Owner) Sole Proprietorship Third Party Capital investment Debt or obligation owed Personal liability for sole proprietorship’s debts and obligations

Agency Formation and Termination

The Nature of Agency Agency relationships are formed by the mutual consent of a principal and an agent. Agency is the fiduciary relationship “which results from the manifestation of consent by one person to another that the other shall act in his behalf and subject to his control, and consent by the other so to act.”

The Nature of Agency (continued) Agency Law – The large body of common law that governs agency. –A mixture of contract law and tort law. Principal – The party who employs another person to act on his or her behalf. Agent – The party who agrees to act on behalf of another.

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman The Principal-Agent Relationship Principal Agent Third Party Agency Contract Contract with third party on behalf of principal Principal’s obligation to perform the contract

Persons Who Can Initiate an Agency Relationship Any person who has the capacity to contract can appoint an agent to act on his or her behalf. Persons who lack contractual capacity cannot appoint an agent. –e.g., insane persons and minors

Persons Who Can Initiate an Agency Relationship (continued) An agency can be created only to accomplish a lawful purpose. [Agency contracts that are created for illegal purposes or are against public policy are void and unenforceable.]

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Kinds of Employment Relationships Employer-Employee Relationship Principal-Agent Relationship Principal-Independent Contractor Relationship

Employer-Employee Relationship A relationship that results when an employer hires an employee to perform some form of physical service. An employee is not an agent unless he or she is specifically empowered to enter into contracts on the principal employer’s behalf.

Principal-Agent Relationship An employer hires an employee and gives that employee authority to act and enter into contracts on his or her behalf. The extent of this authority is governed by any express agreement between the parties and implied from the circumstances of the agency.

Principal-Independent Contractor Relationship Principals employ persons or businesses who are not employees to perform certain tasks on their behalf. –These persons and businesses are called independent contractors.

Principal-Independent Contractor Relationship (continued) A principal can authorize an independent contractor to enter into contracts. –Principals are bound by the authorized contracts of their independent contractors. The crucial factor in determining whether a person is an employee or an independent contractor is the degree of control that the principal has over that person.

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Summary: Kinds of Employment Relationships Type of Relationship Description Employer- Employee The employer has the right to control the physical conduct of the employee. Principal-AgentThe agent has the authority to act on behalf of the principal as authorized by the principal and implied from the agency. An employee is often the agent of his employer. Principal- Independent Contractor The principal has no control over the details of the independent contractor’s conduct. An independent contractor is usually not an agent of the principal.

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Formation of the Agency Relationship Express Agency Implied Agency Apparent Agency Agency by Ratification

Express Agency An agency that occurs when a principal and an agent expressly agree to enter into an agency agreement with each other. –Exclusive agency contract –Power of attorney Express agency contracts can be either oral or written unless the Statute of Frauds stipulates that they must be written.

Implied Agency An agency that occurs when a principal and an agent do not expressly create an agency. The agency is implied from the conduct of the parties. The extent of the agent’s authority is determined from the particular facts and circumstances of the particular situation. –Incidental authority is the implied authority to act.

Apparent Agency Agency that arises when a principal creates the appearance of an agency that in actuality does not exist. When an apparent agency is established, the principal is estopped from denying the agency relationship. It is the principal’s actions that create an apparent agency.

Agency by Ratification An agency that occurs when: 1. A person misrepresents himself or herself as another’s agent when in fact he or she is not, and 2. The purported principal ratifies (accepts) the unauthorized act.

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Summary: Formation of Agency Relationships (1 of 2) Type of Agency DefinitionEnforcement of the Contract ExpressAuthority is expressly given to the agent by the principal. Principal and third party are bound to the contract. ImpliedAuthority is implied from the conduct of the parties, custom and usage of trade, or act incidental to carrying out the agent’s duties. Principal and third party acts are bound to the contract.

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Summary: Formation of Agency Relationships (2 of 2) Type of Agency DefinitionEnforcement of the Contract ApparentAuthority created when the principal leads a third party into believing that the agent has authority. Principal and third party are bound to the contract. By Ratification Acts of the agent committed outside the scope of his authority. Principal and third party are not bound to the contract unless the principal ratifies the contract.

Principal’s Duties The principal has a duty to compensate an agent for services provided within a mutually agreeable time. If the agent spends his or her own money, on the principal’s behalf, the principal owes a duty to reimburse the agent for all such expenses if they were: 1.Authorized by the principal. 2.Within the scope of the agency. 3.Necessary to discharge the agent’s duties in carrying out the agency.

Principal’s Duties (continued) A principal owes a duty to indemnify the agent for any losses the agent suffers because of the principal. Such duty arises when the agent is held liable for the principal’s misconduct. The principal owes a duty to cooperate with and assist the agent in the performance of the agent’s duties and accomplishments of the agency.

Agent’s Duties An agent who enters into a contract with a principal has two distinct obligations. Collectively, these are referred to as the agent’s duty of performance. –Performing the lawful duties expressed in the contract –Meeting the standards of reasonable care, skill, and diligence implicit in all contracts.

Agent’s Duties (continued) Duty of notification –The agent’s has a duty to notify the principal of any information that is important, –Imputed knowledge Duty of accountability –Agent has duty to maintain accurate accounting of all transactions undertaken on the principal’s behalf.

Termination of an Agency An agency contract is similar to other contracts in that it can be terminated by: –Acts of the parties, or –Operation of law Once an agency relationship is terminated, the agent can no longer represent the principal or bind the principal to contracts.

Termination by Acts of the Parties An agency may be terminated by the following acts of the parties: 1. Mutual agreement 2. Lapse of time 3. Purpose achieved 4. Occurrence of a specified event

Notification Required The principal is responsible to give certain third parties notification of the agency termination. –Parties who dealt with the agent must be given direct notice –Parties who have knowledge of the agency must be given direct or constructive notice –Parties who have no knowledge of the agency are owed no notice

Termination by Operation of Law An agency is terminated by operation of law, including: 1. Death of the principal or agent 2. Insanity of the principal or agent 3. Bankruptcy of the principal 4. Impossibility of performance 5. Changed circumstances 6. War between the principal’s and agent’s countries

Wrongful Termination of an Agency or Employment Contract The termination of an agency contract in violation of the terms of the agency contract. The nonbreaching party may recover damages from the breaching party. The distinction between the power and the right to terminate an agency is critical. –Revocation of authority –Renunciation of authority

Liability of Principals and Agents

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Agent’s Duties to the Principal Performance Notification LoyaltyAccountability

Agent’s Duty of Loyalty to Principal An agent owes a fiduciary duty not to act adversely to the interests of the principal. Common breaches include: Self-Dealing –Agents are generally prohibited from undisclosed self-dealing with the principal. Usurping an Opportunity –An agent cannot usurp an opportunity that belongs to the principal.

Agent’s Duty of Loyalty to Principal (continued) Competing with the Principal –Agents are prohibited from competing with the principal. Misuse of Confidential Information –The agent is under a legal duty not to disclose or misuse confidential information during or after course of the agency. Dual Agency –An agent cannot meet a duty of loyalty to two parties with conflicting interests.

Contract Liability to Third Parties A principal who authorizes an agent to enter into a contract with a third party is liable on the contract. –The third party can enforce the contract and recover damages from the principal.

Fully Disclosed Agency When the third party entering into the contract knows: –That the agent is acting as an agent for a principal, and –The actual identity of the principal The principal is liable to the third party. The agent is not liable.

Partially Disclosed Agency An agency that occurs if: –The agent discloses his or her agency status but does not reveal the principal’s identity, and –The third party does not know the principal’s identity from another source Both the principal and the agent are liable to the third party if the principal fails to perform the contract.

Undisclosed Agency An agency that occurs when the third party is unaware of either: –The existence of an agency, or –The principal’s identity Both the principal and the agent are liable to the third party if the principal fails to perform the contract.

Agent Exceeding the Scope of Authority An agent who enters into a contract on behalf of another party impliedly warrants that he or she has the authority to do so. If the agent exceeds the scope of his or her authority, the principal is not liable on the contract unless the principal ratifies it. The agent is liable to the third party for breaching the implied warrant of authority.

Tort Liability to Third Parties The principal and the agent are each personally liable for their own tortious conduct. The principal is liable for the tortious conduct of an agent who is acting within the scope of his or her authority. The agent only is liable for the tortious conduct of the principal if he or she directly or indirectly participates in or aids and abets the principal’s conduct.

Negligence Principals are liable for negligent conduct of agents acting within the scope of their employment. Liability is based on the common law doctrine respondent superior. –This doctrine rests on the principle that if anyone (principal) expects to derive certain benefits from acting through others (agent), that the person should also bear the liability for injuries caused to the third party by the negligent conduct of an agent who is acting within the scope of their employment.

Negligence (continued) Frolic and Detour –Agents sometimes do things during the course of his or her employment to further their own interests, rather than the principal’s. “Coming and Going” Rule –Principal is generally not liable for injuries caused by its agents and employees while they are on their way to or from work. Dual-Purpose Mission –An errand or other act that principal requests of an agent while the agent is on his or her own personal business.

Intentional Torts The principal is not liable for intentional torts of agents and employees that are committed outside the principal’s scope of business. Two tests to determine the scope of employment boundaries: 1.Motivation Test 2.Work-Related Test

Motivation Test If the agent’s motivation in committing an intentional tort is to promote the principal’s business, the principal is liable for injuries caused by the tort. If agent’s motivation is personal, principal is not liable.

Misrepresentation A principal is liable for the intentional and innocent misrepresentations made by an agent within the scope of employment. –Intentional misrepresentation occurs when an agent makes statements that he or she knows are untrue. –Innocent misrepresentation o ccurs when an agent negligently makes a misrepresentation to a third party.

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Tort Liability of Principals and Agents to Third Parties (1 of 2) Agent’s Conduct Agent Liable Principal Liable Misrepre- sentation YesThe principal is liable for the intentional and innocent misrepresentations made by an agent acting within the scope of his or her authority. NegligenceYesThe principal is liable under the doctrine of respondeat superior if the agent’s negligent act was committed within his scope of employment.

© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Tort Liability of Principals and Agents to Third Parties (2 of 2) Agent’s Conduct Agent Liable Principal Liable Intentional Tort YesMotivation Test: The principal is liable if the agent’s motivation in committing the intentional tort was to promote the principal’s business. Intentional Tort YesWork-Related Test: The principal is liable if the agent committed the intentional tort within work-related time and space.

Independent Contractor Principals often employ outsiders (persons or businesses who are not employees) to perform certain tasks on their behalf. Principal Independent Contractor Contract

Liability for Independent Contractor’s Torts A principal is generally not liable for the tortious conduct of independent contractors it hires. Independent contractors are personally liable for their own torts. The rationale behind this rule is that principals do not control the means by which the results are accomplished.

Liability for Independent Contractor’s Torts (continued) A principal is, however, liable for the tortious conduct of an independent contractor involving: –Inherently dangerous activities. –The negligent selection of the independent contractor Crucial factor is degree of control