Transcript Chapter 8

Chapter 7:
The Business of Free Enterprise
The Business of Free Enterprise
 Enterprise: term for a business organization
 Goal: make a profit in our free enterprise economy
 Entrepreneur
 Start Early
 Develop and sell ordinary Products
 Find New Ways to Sell
 Develop new products
 Work with-in existing business
Entrepreneurs
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Start at an early age
Develop and sell ordinary products
Find new ways to sell
Spot new markets and develop new products
Work to perfect their own ideas
Work within an existing business
 Some entrepreneurs:
Ray Kroc: McDonald’s
Henry Ford: revolutionized car production
Clarence Birdseye: frozen foods
Debbie Fields: gourmet cookies
Liz Claiborne, Donna Karan, Mary Kay Ash: markets for clothing and cosmetics –
working women
 Veronica Moreno: co-founder Ole’ Mexican foods
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Strategies used by entrepreneurs:
 Capitalizing on unexpected opportunities
 Responding to changing market conditions
 Improving a product or process
 Providing an alternative good or service
 Indentifying population trends
The Economic Role of Small
Businesses
 SBA: Small Business Administration
 “one that is independently owned and operated and is not dominant it its
field of operation”
 Industry: group of one or more firms that produce identical or similar
products
 School textbook
Advantages of small businesses:
 Quickness: add or discontinue merchandise lines, change hours, and alter
pricing strategies
 FLEXIBILITY
Challenges of small businesses:
 Failure rate
 Poor management
 Inadequate financing
 Inability to hire highly qualified workers
Forms Of Business Organizations
 Sole Proprietorship
 Partnership
 Corporation
Sole Proprietorships
 A business organization is an establishment formed to carry
on commercial enterprise.
 Sole proprietorships are the most common form of business
organization.
 Most sole proprietorships are small.
 All together, sole proprietorships generate only about 6 percent
of all United States sales.
A sole proprietorship is a business owned and
managed by a single individual.
SP Advantages
Ease of Start-Up
A little legal work and you’re done!
Relatively Few Regulations
Least-regulated form of business
Sole Receiver of Profit
Full Control
Easy to Discontinue
SP Disadvantages
 Limited Resources
 Lacks Permanence
 The biggest disadvantage of sole proprietorships is
unlimited personal liability
 What does this mean?
 What can you lose?
Liability is the legally bound obligation to pay debts.
Partnerships
 Partnership: business organization owned by two or more people
who share ownership and control over the business
 General Partnership
 In a general partnership, partners share equally in both
responsibility and liability.
 Limited Partnership
 In a limited partnership, only one partner is required to be a
general partner, or to have unlimited personal liability for the
firm.
 Limited Liability Partnership
 A newer type of partnership is the limited liability partnership.
In this form, all partners are limited partners.
Advantages of Partnerships
1. Ease of Start-Up
Partnerships are easy to establish. There is no required
partnership agreement, but it is recommended that partners
develop articles of partnership:
• articles of partnership: is a voluntary contract between two
or among more than two persons to place their capital, labor,
and skills, and corporation in business with the understanding
that there will be a sharing of the profits and losses
between/among partners
2. Shared Decision Making and Specialization
In a successful partnership, each partner brings different
strengths and skills to the business.
3. Larger Pool of Capital
Each partner's assets, or money and other valuables, improve
the firm's ability to borrow funds for operations or expansion.
4. Taxation
Individual partners are subject to taxes, but the business itself
does not have to pay taxes.
Disadvantages
 Unless the partnership is a limited liability partnership, at least one
partner has unlimited liability.
 If the business fails creditors (those to whom money is
owed) could recover the debt from any, or all, of the partners
 General partners are bound by each other’s actions.
 Partners need to ensure that they agree about work habits, goals,
management styles, ethics, and general business philosophies. On the
same page, organization
 Limited life: dies or leaves a partnership, the partnership is legally
terminated
Question
One of advantage of a partnership is that:
a. adding partners brings more funds to the business for a
startup or expansion
b. each partner is subject to unlimited liability
c. partners are likely to agree on all business decisions
d. the business continues even if one partner dies
Corporations
 Corporation: business organization managed on behalf of its
owners who provide the funds
 Ownership of a corporation is represented by SHARES OF
STOCK
 Stockholders become the corporation’s owners
 Privately held corporation: all stock is owned by a small group
or family
 Stock exchange: market in which the public buys and sells
shares of stocks
 T or F: A corporation must pay taxes.
What is a corporation?
 A corporation is a legal entity, or being, owned by individual
stockholders.
 Stocks, or shares, represent a stockholder’s portion of
ownership of a corporation.
 A corporation which issues stock to a limited a number of
people is known as a closely held corporation.
 A publicly held corporation, buys and sells its stock on the
open market.
Advantages of Corporations
Advantages for the Stockholders
 Individual investors do not carry responsibility for the
corporation’s actions. Can enter or leave at will.
 Shares of stock are transferable
Advantages for the Corporation
 Potential for more growth than other business forms.
 Can borrow money by selling bonds.
 Can hire the best available labor to create and market the best
services or goods possible.
 Corporations have long lives.
T or F: The limited liability feature of corporations makes it possible
for them to raise large amounts of capital.
Disadvantages
Difficulty and Expense of Start-Up
Corporate charters can be expensive and time consuming to
establish. A state license, known as a certificate of incorporation (a
license to form a corporation issued by state government), must be
obtained.
Double Taxation
Corporations must pay taxes on their income. Owners also pay
taxes on dividends, or the portion of the corporate profits paid to
them.
Loss of Control
Managers and boards of directors, not owners, manage
corporations.
More Regulations:
 corporations that sell stocks to the public give up much privacy
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Law requires: publicly held or “open” corporations to disclose
information about their finances and operations to any interested
person
Special Types of Business Organization
 S Corporations: stockholders pay personal income taxes based on
the dividends they receive
 May not have more than 35 stockholders and may not own 80% or
more of another corporation
 LLC: combines the advantages of a corporation and a partnership
 Must have 2 or more members
 May acquire and hold property in the name of LLC rather than in
the names of its members (unlike a partnership)
 Not-for-profit corporations: serve particular educational, social,
charitable, or religious purposes
 Government-owned corporations: when the market doesn’t
adequately supply a needed good or service (U.S. Postal Service,
Transit, Electric utilities.)
Special Types…
 Cooperatives: (Co-Ops): associations of individuals or companies that
perform functions for the members
 Housing co-ops: multiple dwelling units owned by their tenants
 Consumer co-ops: retail businesses
 Producer co-ops: companies that manufacture and market products on behalf of their
members
 Franchise: a license that entitles its holder to operate his or
her individually-owned business as if it were a part of a large
chain of stores
 Advantages: allows the company to expand operations at little
cost.
 Increase efficiency, sales, and profits
 Disadvantages: franchisers retain control over their franchises.
 Dictate employee dress, how to operate the store, or decorate the
business.
Business Franchises
 Franchisers develop products and business systems, then local
franchise owners help to produce and sell those products.
 Franchises allow owners a degree of control, as well as
support from the parent company.
A business franchise is a semi-independent business
that pays fees to a parent company in return for the
exclusive right to sell a certain product or service
in a given area.
How Large Corporations are Organized:
 State governments require people who want to start a
corporation to obtain a state charter.
 Charter: document that states the nature of the business, the
initial owners of the stock, and the types of stocks to be sold.
 Corporate by-laws: rules and policies approved by the issuing
state
 Stockholders: (shareholders) are the owners of the
corporation
 Board of Directors: Stockholders elect a board of
directors. Each share of stock represents ONE vote.
 A higher stock price encourages managers to continue
their policies
How are large corporations
organized…
 Annual Corporation Report: once a year the directors of an
open or public corporation issue a report for its stockholders
containing information about the financial status of the
corporation
 The SEC: Securities and Exchange Commission (a federal
agency) requires publication of the report
Chapter 8
Financing a Business
How do financial markets help
obtain capital resources?
 Pg. 119: Flow of Savings and Investment
 Financial Markets are markets which allow people to buy, sell
and trade commodities and securities. Perfect example- the
Stock Market
 Capital Resources - buildings, tools machines and other
equipment required to grow business.
How/why do businesses borrow?
Long term for growth, expansion, or
technological upgrades- bonds
Short term to meet cash flow needs
like payroll, bills- open a line of
credit with banks
What is equity, and how is it used
to finance business growth?
 Equity- ownership, business or stock
 Common Stock and Preferred Stock
 Common stock:
 Claim to share of the profits of a company after all expenses and
taxes are paid
 Vote for the board of directors of the corporation and can vote
directly on many policies
 Preferred Stock:
 Ownership shares issues as nonvoting stock
 Paid first if the corporation issues dividends
 New equity is issued through an IPO
 IPO: initial public offering: a company’s first sale of
stock to the public
 Stockholders are owners
 Stockholders receive their share of the of a
corporation’s profits only if the corporation’s
board of directors votes to distribute them as
dividends.
 Bondholders are creditors
 Bondholders must receive their interest payments
How do businesses save?
 Depreciation is figured into the price of products sold.
 Occurs as tools, machines, and other capital resources wear out
or become obsolete.
 Re-invest instead of paying dividends
How can small businesses get a
start?
 Personal Savings
 Bank Loans
 US Agency called the Small Business Association
 Partnerships
 Venture Capitalists
 Investors who make loans to a new companies
 Have extensive financial resources and are often willing to loan
funds to start-ups
What is the stock market and why
is it important?
 When a company “goes public”: corporation FIRST issues
shares of stock
 New issues market/primary market: a firm agrees to sell a
stock issue, it buys all the stock at an agreed price and then
resells it to the public through an IPO
 Stock market: market in which the public is able to buy or
sell stock
 Money spent to buy and sell shares goes to other people who
are buying and selling stock shares; the money does not go to
the businesses
Stock market continued…
 Without a secondary market, FEW people would buy new
issues in the primary market, and businesses would have
difficulty raising money to finance the capital resources they
require
 Parts of the stock market:
 Equity Markets
 New York Stock Exchange (NYSE)
 LARGEST equity market
 Dow Jones Industrial Average
 American Stock Exchange AMEX
 NASDAQ: National Association of Securities Dealers
Automated Quotation system
 Largest OTC: Over-the-Counter trading: decentralized, electronic
trading system
Bull and Bear Markets:
 “The market” RISES for months on end: BULL market
 “Bulls”: people who buy stocks because they expect the stock
prices to rise
 “The market” FALLS: Bear market
 “Bears”: people who sell stock shares because they expect the
stock prices to fall
 The secondary market that allows people to trade stock also
enables them to exchange corporate and government bonds
Bonds
 Bond: a promise to repay borrowed money to a lender at a
fixed rate of interest at a specified time
 Interest rate is fixed when it is sold
 Paying more or less than the face value of the bond in this
market affects the yield
 Yield: the percentage return actually earned over time on a
bond investment and is figured by dividing the annual interest
by the price paid
 Paying a lower price (less than face value) raises the yield for a
bond
 Paying a higher price for a bond (more than face value) lowers
the yield
Balance Sheet and Income Statement
 Balance Sheet- Snap shot
 Report of a company’s, individual’s, assets and liabilities, and net worth on a
specified date
 Retained earnings: the amount of money that has been saved over the year for
reinvestment
 Asset: anything of monetary value owned by an individual or company
 Liability: anything of monetary value owed by an individual or company
 Reminder: net worth is the difference between assets and liabilities of an
individual company
 Income Statement- Long Term
 Shows how much revenue a company brings into the business by providing goods
and services to its customers
 Shows the costs and expenses associated with earning that revenue
 “Bottom line”: the net income (or loss)
 Usually at the bottom of the statement and shows how much a company
made in profits or losses
Bonds-Loans or IOU’s
Three basic components:
1. The coupon rate — the interest rate that the issuer will pay the
bondholder.
2. The maturity — the time when payment to the bondholder is
due.
3. The par value — the amount that an investor pays to purchase
the bond and that will be repaid to the investor at maturity.
 Not all bonds are held to maturity. Sometimes bonds are traded
or sold and their price may change.
 Economists therefore refer to a bond’s yield, which is the annual
rate of return on the bond if the bond were held to maturity.
Buying Stock
 Corporations can raise money by issuing stock, which
represents ownership in the corporation. A portion of
stock is called a share. Stocks are also called equities.
 Stockowners can earn a profit in two ways:
1. Dividends, which are portions of a corporation’s profits, are
paid out to stockholders of many corporations. The higher the
corporate profit, the higher the dividend.
2. A capital gain is earned when a stockholder sells stock for more
than he or she paid for it. A stockholder that sells stock at a
lower price than the purchase price suffers a capital loss.
How Stocks are Traded
 A stockbroker is a person who links buyers and sellers of
stock.
 Stockbrokers work for brokerage firms, or businesses that
specialize in trading stock.
 Some stock is bought and sold on stock exchanges, or
markets for buying and selling stock.
Types of Stock
 Investors who buy common stock are voting owners of the
company.
 Preferred stock owners are nonvoting owners of the
company, but receive dividends before the owners of
common stock.
The New York Stock Exchange (NYSE)
 The NYSE is the country’s largest stock exchange. Only
stocks for the largest and most established companies are
traded on the NYSE.
NASDAQ NASDAQ- is an exchange that specializes in high-tech and
energy stock.
AMEX- American Stock Exchange- Mid-sized companies
Stock Splits
 A stock split is the division of a single share of stock into
more than one share.
 Stock splits occur when the price of a stock becomes so high
that it discourages potential investors from buying it.
Risk
 Purchasing stock is risky because the firm selling the stock
may encounter economic downturns that force dividends
down or reduce the stock’s value. It is considered a riskier
investment than bonds.
How to trade
 A stockbroker is a person who links buyers and sellers of
stock.
 Stockbrokers work for brokerage firms, or businesses that
specialize in trading stock.
 Some stock is bought and sold on stock exchanges, or
markets for buying and selling stock.
 Electronically
Performance Indicators
Bull and Bear Markets
 When the stock market rises steadily over time, a bull
market exists. Conversely, when the stock market falls
over a period of time, it’s called a bear market.
Stock Performance Indexes
 The Dow Jones Industrial Average
 The Dow is an index that shows how stocks of 30 companies in
various industries have changed in value.
 The S & P 500
 The S & P 500 is an index that tracks the performance of 500
different stocks.
 Answers to Chapter 7 Workbook Review Pages: 152-153
 Matching:
 J
 E
 A
 G
 I
 C
 B
 D
 F
 H
 Multiple choice: 1. d, 2. a, 3. c, 4. b, 5. a, 6. b, 7. d, 8. c, 9. d,
10. d
 Answers to Chapter 8 Workbook Review Pages: 160-161
 Matching:
 J
 F
 G
 I
 H
 A
 B
 D
 C
 E
 Multiple Choice: 1. b, 2. c, 3. c, 4. d, 5. a, 6. c, 7. a, 8. b, 9. d,
10. b