Chapter 1 The Corporation
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-2 Chapter Outline 1.1 The Four Types of Firms 1.2 Ownership Versus Control of Corporations 1.3 The Stock Market
Copyright © 2007 Pearson Addison-Wesley. All rights reserved List and define the four major types of firms in the U.S.; describe major characteristics of each type, including the means for distributing income to owners. 2.Distinguish between limited and unlimited liability, and list firm types that are subject to each. 3.Describe taxation consequences for C and S corporate forms. Learning Objectives
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-4 Learning Objectives (cont'd) 4.Discuss the division of corporate ownership into shares of stock; evaluate the implications of that division for corporate decision making. 5.Explain how corporate bankruptcy can be viewed as a change in firm ownership. 6.Compare and contrast characteristics of shares that are publicly traded and those that are not.
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms ___________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-6 Figure 1.1 Types of U.S. Firms
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Sole Proprietorship Business is owned and run by one person Typically have few, if any, employees Advantages ___________________ Disadvantages ___________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Partnership __________________________________________ __________________________________________ __________________________________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Partnership Limited Partnership has two types of owners. ____________________ __________________________________________________ __________________________________________________ ____________________ __________________________________________________ __________________________________________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Limited Liability Company (LLC) __________________________________________ __________________________________________ __________________________________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Corporation A legal entity separate from its owners Has many of the legal powers individuals have such as the ability to ___________, ___________ and ___________ The corporation is solely responsible for its own obligations. Its owners are not liable for any obligation the corporation enters into.
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Corporation Formation __________________________________________ __________________________________________ __________________________________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Corporation Ownership Represented by shares of stock Owner of stock is called ____________ Sum of all ownership value is called ________. There is no limit to the number of shareholders, and thus _____________________________________________. Owner is entitled to dividend payments.
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Four Types of Firms (cont'd) Corporation Tax Implications __________________________________________ “S” Corporations __________________________________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-15 Example 1.1
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-16 Example 1.1 (cont’d) Solution
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-17 Alternative Example 1.1 Problem You are a shareholder in a C corporation. ____________________________________________ Once it has paid taxes it will distribute the rest of its earnings to you as a dividend. ____________________________________________ ____________________________________________ How much is left for you after all taxes are paid?
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-18 Alternative Example 1.1 Solution
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-19 Example 1.2
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-20 Example 1.2 (cont'd) Solution
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-21 Alternative Example 1.2 Problem Rework Alternative Example 1.1 assuming the corporation in that example has elected subchapter S treatment and your tax rate on non-dividend income is 39%.
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-22 Alternative Example 1.2 Solution
Copyright © 2007 Pearson Addison-Wesley. All rights reserved Ownership versus Control of Corporations Corporate Management Team In a corporation, ownership and direct control are typically separate. Board of Directors Elected by shareholders Have ultimate decision-making authority Chief Executive Officer (CEO) Board typically delegates day-to-day decision making to CEO.
Copyright © 2007 Pearson Addison-Wesley. All rights reserved Ownership versus Control of Corporations (cont'd) Ownership and Control In a corporation, there may be thousands of shareholders, many with different priorities. Even if all of the shareholders agree on the goals of the firm, the goals must be implemented. This is the job of the management team. How can the shareholders be sure that the management team will implement their goals?
Copyright © 2007 Pearson Addison-Wesley. All rights reserved Ownership versus Control of Corporations (cont'd) Principal-Agent Problem __________________________________________ __________________________________________ __________________________________________ How should performance be measured?
Copyright © 2007 Pearson Addison-Wesley. All rights reserved Ownership versus Control of Corporations (cont'd) CEO Performance If a CEO is performing poorly, shareholders can express their dissatisfaction by selling their shares. This selling pressure will drive the stock price down. Hostile Takeover Low stock prices may entice a Corporate Raider to buy enough stock so they have enough control to replace current management. The stock price will rise after the new management team “fixes” the company.
Copyright © 2007 Pearson Addison-Wesley. All rights reserved Ownership versus Control of Corporations (cont'd) Corporate Bankruptcy ______________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Stock Market The stock market provides liquidity to shareholders. Liquidity Define: _________________________________________ _______________________________________________ _______________________________________________ _______________________________________________
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Stock Market (cont'd) Public Company Stock is traded by the public on a stock exchange. Private Company Stock may be traded privately.
Copyright © 2007 Pearson Addison-Wesley. All rights reserved The Stock Market (cont'd) Largest Stock Markets New York Stock Exchange (NYSE) Market Makers/Specialists Each stock has only one market maker NASDAQ Does not meet in a physical location May have many market makers for a single stock Bid Price versus Ask Price Bid-Ask Spread Transaction cost
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-31 Figure 1.2 Worldwide Stock Markets Ranked by Two Common Measures
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-32 Figure 1.2 Worldwide Stock Markets Ranked by Two Common Measures (cont'd)
Copyright © 2007 Pearson Addison-Wesley. All rights reserved.1-33 Questions?