3 types of business organization

Sole proprietorship
- A business owned by only person for his own profit
- Small business
- Eg: Personal trainer, self contractor
- One person is responsible for all the profits and debts

Advantages
- Owner receives all profits
- Low organizational cost
- Least regulated
- Direct control of decision making and
control the whole operation
- Easy to start and dissolve
- Taxed once as personal income (Any
income is declared as the owners
personal income tax return, therefore
there are no corporate income tax
return)
Disadvantages
- Unlimited liability (responsible for paying
off all the companys debts personally if
company cannot make payments)
- Lacks continuity when owner dies
- Difficult to sell ownership interest
- Difficult to give employees long term
careers

Partnership
- Consist of 2 or more owners doing business together for profit
- Eg: Finance, insurance, real estate
- Partners divide the profits among themselves
- Established y written contract

Advantages
- Can raise more funds that sole
proprietorship
- More brain power and managerial skills
(Shared knowledge)
- Income taxed once as personal income
- Relatively easy to start but considerable
amount of time should be invested in
developing the partnership agreement
- More capitals available
Disadvantages
- Unlimited liability
- Partnership dissolves when partner dies
- Difficult to transfer partnership
- Partners must make decision together,
therefore disputes or conflicts may
occurs. It may eventually lead to
dissolving of partnership

Corporation
- A legal entity owned by multiple shareholders and is overseen by a board of directors
elected by the shareholders
- Will not be personally liable for debts as shareholders
- Shareholders gain from the profit through the dividend or appreciation of the stock
 Advantages
- Limited liability
- Ownership is easily transferable
- Continuous existence long life term
- Can raise additional funds through the
sales of stocks
- Easier to raise capitals than it might be
with other business structure
Disadvantages
- Closely regulated and monitored by the
government
- More expensive to set up
- Extensive corporate records required
- Conflicts between shareholders and
director (Agency problem)
- Double taxation (profit of the business
is taxed by the corporate tax rate.
Dividends paid to shareholders are not
deductible from corporate income so
this part of the income is taxed twice as
the shareholder must declare dividends
as their personal income)

Agency Cost
- The cost of disagreement between shareholders and business managers
- Eg. Companys manager when they travel, they may book themselves into the most
expensive hotel. This action increases the operating cost without offsetting benefit to the
shareholders. OR Mangers can use companys car for their own personal gain
Agency Problem
- Arises when there is conflict of interest between the needs of principle (shareholders) and
the needs of agents (managers)
- Occurs when management goals maximize the interest of management at the expenses of
the shareholders wealth
- Eg. Management would not take on projects that would benefit the business because if a
project fails, management jobs may be at lost. Shareholders may want to accept the risk
because if project succeeds, shareholder wealth is maximized

Minimizing agency cost

- Motivating managers to act in shareholders best interest
o Managerial compensation
Done with an annual salary and performance bonus and company shares
Company shares are distributed to managers either
Performance share: Managers receive a certain number of shares
based on the company performance
Executive stock options: Managers are allowed to purchase shares at
a future date and price (they are aligned closer to the interest of the
shareholders)
- Threat of takeover
o Stockholders may take a controlling interest in the company and bring in their own
managers
- Appraisal for managers/Monitoring Managers

Agency cost of MNC is greater than domestic firms because

- The difficulty in monitoring distant managers
- The different cultures of foreign managers more difficult for them to follow the goals of
MNC
- The sheer size of larger MNC and has many more monitoring cost
- Different people who are working in an MNC may have their own personal goals rather than
the goals of the organization
- Political, religion and ethics issue

Agency Cost of MNC can be reduced by

- Adapting centralized management style
o Management practice in which all or most decision makers (who have the authority,
control and responsibility for the entire organization) are located in one central
office- headquarters)
- By using electronic networks that makes it easier for the parent to monitor the actions and
performance of foreign subsidiaries.

Corporate governance
- The set of rules, practices and processes by which a company is directed and controlled.
- Involves balancing the interests of a companys many stakeholders including shareholders,
management, suppliers, customers, finances and government.
- BOD are responsible for the governance of the company

Good corporate governance

- Encourages investors to hold shares in companies for a longer term as company often
benefits form having shareholders who have an interest in the longer term prospects
- Improves the confidence of investors willing to pay more shares
- Elimination the risk of false or misleading financial reporting
- Higher probability of achievement of commercial success. Good governance and good
leadership in management often go together.

Bad Corporate governance

- Cast doubt on companys reliability, integrity or obligation to the shareholders.
- Tolerance or support of illegal activities can create scandals
o One example is the Volkswagen AG in 2015. The car grant has used a so called
defeat device software to get its diesel car to pass the Environmental protection
Agency Test. The value of company has fallen.
- Bad reputation/ Weaken companys potential/ Long term damage
4 Pillars of corporate governance
Accountability
- Refers to the obligations and responsibilities to give an explanation or reason for the
companys action and conduct.
- Ensures that the management is accountable to the board and the board is accountable to
the management
- The board should:
o Establish formal and transparent arrangement for corporate reporting and risk
management and maintain a good relationship with the companys auditor
o Present a balanced and understandable assessment of the companys position and
prospects
o Communicate with stakeholders at regular intervals, a fair, balanced and
understandable assessment of how the company is achieving its business purpose.

Fairness
- Refers to equal treatment
- Treating all stakeholders including the minorities reasonable, equitably and provide
effective redress for violation
- Some companies prefer to have shareholder agreement which include a more extensive and
effective minority protection
- The fairer the entity to the stakeholders, the more likely it can survive the pressure of
interested parties.

Transparency
- Refers to openness and willingness by the company to provide clear information to
shareholders and other stakeholders.
- Discloser of material matters concerning the organizations performance should be timely
and accurate to ensure all investors have access to clear and factual information which
accurately reflects the financial, social and environmental position of the organization.
- Organization should clarify and make publicly known the rules and responsibilities of the
board and management to provide shareholders with the level of accountability.
- Stakeholders should be informed about the companys activities, what it plans to do in the
future and any risks involved in it business strategies.
- Transparency ensures that stakeholders can have confidence is the decision making and
management process of a company.

Independence
- Refers to the avoidance of being influenced by a vested interest and to being free from any
constrains that would prevent a correct course of action being taken
- Procedures and structures are in place as to minimize or avoid completely conflict of
interest
- Eg are external auditors, internal auditors and non-executive directors. They should
maintain their independence and do not benefit from their board membershit
Investment
- Is an asset or item that is purchased with the hope that it will generate income.
- Purchase of goods that are not consumed today but are used in the future to create wealth

Future Value (FV) = Present Value (1 + r)

PV = (FV/1+r )