MODULE 5

PLANNING A NEW

BUSINESS VENTURE

Knowing what you want to accomplish is the first step in planning a new enterprise. Once you have a clear idea of the enterprise, you can develop guidelines for action.

OBJECTIVES:

After studying this module, the student should be able to:

1.      Write a definition of your planned business.

2.      Compare the legal forms of business enterprise.

3.      Explain plans for getting the work done.

4.      Identify sources of assistance for planning the enterprise.

DEFINITION OF THE BUSINESS

Your first step in starting a business is to turn your idea for a business into a plan of action. You will do this by writing a business plan. A business plan is a written description of every part of the new enterprise. Beginning with a definition of the business you intend to conduct, you will map out the course for the enterprise.

A definition of the business contains a description of the industry, your company, the products or services you will offer, and the image you desire.

The Industry

All the firms that offer a particular product or service make up an industry. IBM, Apple Computer, and the other computer manufacturers make up the computer industry. Likewise, PepsiCo, Inc. and Coca-Cola Co. are two of the companies in the soft drink industry.

A definition of the business should include the outlook for the industry. Discuss changes or trends that could affect your business either positively or negatively. Are people buying more or less of the industry’s product? Will new products from another industry make it harder or easier to sell your products?

Your Company

A definition of the business must contain a description of the company you intend to start. Here is an example of a definition of a company:

The store will sell a complete line of office supplies and custom-printed forms to consumers and to businesses. No other local firm offers such an extensive line of products. Offices, banks, and other users will be given both discounted prices and free delivery service when they place large orders.

The business name is a part of the description of your company. You should explain the business name in the business plan. Because the name may be difficult to change later on, take care in selecting the name in the beginning. Your answers to the following questions should be helpful when deciding on a business name:

1.      Does the name tell people what my company makes or sells?

2.      Is any other company or organization using the name I am considering? Is anybody using a similar name? Two or more companies using the same or similar names can be confusing to customers. You may also find yourself in legal difficulty if you use an established firm’s name.

3.      Am I aware of the problems that may arise when I put my own name on the business? Having your name on the business could be embarrassing to you and your family if the business fails. On the other hand, if the business is successful, you may have difficulty selling it because prospective buyers may not want a business with someone else’s name on it. If you are successful in selling it, you may not like what the new owner does to your name through dishonesty or poor treatment of customers.

4.      Is my company’s name linked to a current fad, catchword, or anything else that could lose it popularity? If so, the name may someday tell customers that the business, along with its products and services, is outdated.

Products and Services Offered

You can look at products and services from two different viewpoints: the seller’s and the consumer’s.

Seller’s Viewpoint. The seller’s viewpoint is a narrow definition of products and services. That is, many sellers see products as physical objects only. They think of the products in terms of the component parts and materials used in manufacturing. In a similar way, sellers may see services as consisting only of the tasks performed.

Consumer’s Viewpoint. From the consumer’s viewpoint, products and services are seen in terms of the benefits derived from their use. They key idea is that consumers buy what the products or services will do for them. Therefore, entrepreneurs should see themselves as sellers of benefits. Consumers shopping for a microwave oven are buying more than just an oven. They are buying convenience and the ability to get meals on the table quickly. When you buy a car, you are probably buying more than a means of transportation. You may also be buying a symbol of status, taste, and achievement.

How will you answer the question, “What is your business?” Some examples may help you think of a response. The owner of a tire store may answer, “I sell more than tires, I sell customer safety.” The operator of a fast-food restaurant may say, “I sell more thatn food, I sell family fun and convenience at a low price.”

Image Desired

An enterprise can also be described in terms of its image, which is how customers feel about doing business with the enterprise. It is a personality and identity that makes customers think immediately of the business when they want the particular kind of products or services it offers. What makes or creates the image of a business? Image is the result of the total business and all its parts. You will determine the image when you (1) plan to sell specific products and services, (2) plan what customer services to offer, (3) select a location, and (4) hire employees.

Specific Products and Services. After you select the type of enterprise you want, you must choose specific products and services to offer. You must define exactly what you are going to sell.

It is not enough to say that you will open an auto parts store. What parts will you keep in stock? Will you specialize in certain types of cars? Answers to these questions will help determine the image. If you stock parts for American-made cars, you will have one image. If you limit your inventory to parts for imported cards, you will have another image. You will have a third type of image if you specialize in parts for antique and restored cars.

You will have to make similar decisions if you open a service enterprise. As an example, the policy of one photographer might be to serve people who want pictures taken at weddings, family reunions, and other special occasions. Another photographer’s services might be limited to taking portraits in the studio. In a similar way, owners of travel agencies, motels, and movie theaters must define exactly what services they sell.

Customer Services. Customer services are the extra benefits that a business provides for its customers. For example, some grocery stores provide custom trimming of meat at no extra cost, neighborhood bulletin boards, and a courtesy booth for the payment of utility bills. Another example is clothing sores that offer free alterations to customers.

Customer services are often associated with, but not limited to, retail stores. Think of the mail-order firms that permit a thirty-day trial of merchandise, the muffler shops that guarantee their product for as long as you won the car, and dry cleaners that offer one-hour service.

You must make definite plans about the customer services that you will offer. Your decision will affect the image of the enterprise.

Location. Where will the enterprise be located? A jeweler who wants to convey a quality image should locate near fashionable stores. On the other hand, a building materials discount store could be appropriately located in a warehouse district. In addition, customers should have easy access to the business with ample and convenient parking. When selecting a location, ask yourself this question: How will my customers feel about coming to this location?

Employees. The attitude of employees affects the image of the business. A restaurant with excellent food will acquire a poor image if meals are not served promptly and courteously. An efficient appliance repair service may lose its clientele if employees are not polite when entering customers’ homes.

You may be the only employee in the beginning. When you are ready to hire others, remember what image you want to establish for the enterprise. Then, hire only those employees who will help you achieve that image.

LEGAL FORMS OF BUSINESS ENTERPRISE

The three principal legal forms of business enterprise are (1) sole proprietorship, (2) partnership, and (3) corporation. One of the entrepreneur’s most important decisions is choosing the appropriate legal form for the business. Before making this decision, prospective entrepreneurs should consider these questions:

1.      How soon do I want to get the enterprise started?

2.      Am I willing to share the profits with others?

3.      Do I want complete control in running the enterprise?

4.      How much liability am I willing and able to assume?

5.      Will one particular legal form of business enterprise result in lower taxes?

6.      Am I able to provide all the capital needed to get the enterprise started?

7.      Is my enterprise based on a secret process or formula?

8.      Do I want the enterprise to continue when I am no longer able to run it myself?

The legal form of organization affects most areas of the enterprise. Therefore, the entrepreneur should understand all three forms and be familiar with the advantages and disadvantages of each. At the same time, entrepreneurs should know they may be required to comply with certain regulations, regardless of the legal form of the enterprise. For example, the law generally requires every business with one of more employees to obtain an Employer Identification Number is obtained by filing Form SS-4 with the Internal Revenue Service. This identification number is not the same as the Social Security number required on individual income tax returns.

An entrepreneur should also realize that the legal form of the business can be changed as the enterprise develops and grows. For instance, a new business may begin as a sole proprietorship and develop into a partnership. Some proprietorships and partnerships may later become corporations.

Sole Proprietorship

A sole proprietorship is an enterprise that is owned by only one person. It is sometimes referred to simply as a proprietorship. This is by far the most popular legal form. Proprietorships exist in just about every filed of business activity. However, they are dominant in the areas of services, retail trade, and construction. Proprietorships generally have small sales volumes and employ only a few workers.

Advantages of Sole Proprietorships

Proprietorships are popular because of several advantages: (1) profits to owner, (2) easy start-up, (3) complete control and flexibility, (4) tax benefits, (5) satisfaction, (6) secrecy, and (7) easy dissolution.

Profits to Owner. A proprietor owns the business. A proprietor is the sole owner of any profits earned and does not have to share them with anyone else. This is not the case with other legal forms. In partnerships and corporations, some portion of the profits will be distributed to others.

Easy Start-up. Many people prefer the proprietorship because it is the easiest and simplest form of business to start. Generally, no legal document is necessary to establish a sole proprietorship. It exists as soon as business is conducted. For example, you can be the proprietor of your own carpet cleaning service as soon as you purchase the appropriate equipment and cleaning supplies. In other words, you could be in business and ready to serve your first customer by tomorrow.

Depending on the type of enterprise you open, you may have to obtain a license. For example, restaurant must usually be approved by the local board of health.

Complete Control and Flexibility. Since a sole proprietor does not have to get anyone else’s approval, decisions affecting the business can usually be made more quickly. In partnerships and corporations, important decisions are generally made only after consulting others.

Consider a painting contractor who has an opportunity to buy paint at a bargain price. The order must be for a large quantity, and the order must be placed by the end of the day. In a sole proprietorship, the entrepreneur could make the decision in a matter of minutes. In a partnership or corporation, the entrepreneur might not be able to consult with the others by the deadline. As a result, the chance to save money would be lost.

Tax Benefits. Sole proprietors are taxed as individuals; the business itself is not taxed. Special taxes that are levied against a corporation do not apply to proprietorship.

The proprietorship’s tax return is similar to any other individual taxpayer’s. Personal and family deductions and exemptions are listed on the Internal Revenue Service Form 1040. In addition, proprietors file Schedule C to deduct business expenses from business income. Business income is total dollars received for all goods and services sold during the year. Business expenses are ordinary and necessary costs of operating the business. Generally, a sole proprietor may deduct expenses such as employees’ wages and salaries, interest on business debts, insurance premiums, bad debts, and rent on buildings, trucks, and other equipment.

Satisfaction. The proprietor of a successful business enjoys a sense of accomplishment by applying skills, making personal sacrifices, and making decisions that often overcome obstacles.  The satisfaction of knowing that one is largely responsible for the success of the enterprise is a reward in itself.  If this reward must be shared with others, as in the other legal forms, the same feeling of satisfaction may not result.

Secrecy.  Sole proprietorship offers the best possibility for keeping information confidential.  This may be important it the success of the enterprise depends on a secret process of formula.  Also, the owner does not have to tell anyone other than the Internal Revenue Service what the profits are.

Easy Dissolution.  Proprietorship are easy to start, and they are almost as easy to dissolve.  All a proprietor must do is sell the equipment, inventory, and other assets used in the enterprise.  To protect the credit rating, a proprietor should make sure employees and creditors are paid in full.

Disadvantages of Sole Proprietorship. 

Sole proprietorships have these disadvantages: (1) unlimited liability, (2) limited life, (3) difficulty in obtaining capital, (4) management difficulty, and (5) little incentive for employees. 

Unlimited Liability.  Proprietors may keep all the profits of their businesses, but they also have unlimited liability.  Unlimited liability means that they are personally liable for all business debts.  A proprietor may have to use personal savings, investments, or belongings to settle debts.  Therefore, proprietors risk not only their invested business capital but also their personal assets.

Limited Life.  A proprietorship has limited life because it is directly tied to the life of the owner.  Limited life means that the business will be dissolved upon the death, imprisonment, or bankruptcy of the proprietor.  In addition, an extended illness of physical disability may force the owner heir wanting to continue the business.   Instead of continuing the former enterprise, a new sole proprietorship would have to be established.

Difficulty in Obtaining Capital.  Sole proprietors have two sources of funds for starting the business.  One source is their own personal funds, which may not be adequate.  The other source is borrowed funds.  However, lenders often hesitate to grant loans to sole proprietors because of the risk involved in a new enterprise.  Having insufficient operating funds can severely limit the enterprise’s growth and may cause it to fail.

Management Difficulty. Management difficulty occurs because the proprietor carries the entire burden of managing the business. Some entrepreneurs describe this situation as “spreading themselves too thin.” Someone must make the products, help customers, complete tax forms, write advertisements, collect overdue bills, and order merchandise. One person seldom does all these things equally well, but usually it is the proprietor who must do them alone. Spending time on these necessary tasks leaves less time for planning the future.

Little Incentive for Employees. By definition, a proprietorship does not have partners or part owners. Therefore, employees can never be more than employees. They cannot but, or be given, a share of the ownership. This may cause a highly competent employee to quit and possibly start a competing business.

Partnership

A partnership is a business enterprise owned by two or more persons. This legal form of ownership overcomes some of the limitations of sole proprietorship. The name of the business often indicates a partnership: for example, Smith and Jones’s Hardware or Bill and Tom’s TV Repair. Several types of partnership arrangements exist. However, the following discussion deals with the more common type known as a general partnership. All partners in a general partnership have unlimited liability for the enterprise’s debts.

Advantages of Partnership  

Partnerships usually have these advantages: (1) easy start-up, (2) added capital, (3) combined management skills, (4) tax benefits, and (5) employee incentives.

Easy Start-up.  A partnership is almost as easy to form as proprietorship. The enterprise is ready to start once the partners have agreed on various details about the partnership.  For example, they must decide how much money each will invest, how profits and losses will be shared, and how assets will be divided if the business is dissolved.  These and other important points should be included in a written agreement known as articles of partnership.  This agreement is not required by law, but its use can prevent misunderstandings and legal difficulties. 

Added Capital.  Many partnerships are formed because two or more people can assemble more money than one person can.  This makes it possible to start a larger business and have reserve funds for unexpected expenses.  Also, lenders may be more willing to grant loans because more persons are available to repay the debt.

Combined Management Skills.  Each partner can contribute a skill to the enterprise that the other may not have.  One partner may be an outstanding chef.  The other may be a skilled manager who likes to keep records and supervise employees.  By combining their skills, the two partners could open a restaurant.  Together in a partnership they could be successful, where alone they might fail.

Tax Benefits. The partnership itself is not taxed. Instead, partners pay income tax on their individual portions of the enterprise’s profits.

Employee Incentives. Partners can encourage competent employees to remain with the business by inviting them to become partners. Articles of partnership should be modified to reflect any changes.

Disadvantages of Partnership

The strong points of the partnership may be overshadowed by one or more of the following disadvantages: (1) unlimited liability of the partners, (2) limited life, (3) divided authority, and (4) frozen investment.

Unlimited Liability of the Partners. Each partner is liable for all partnership debts. That is, creditors may sue any of the partners to settle the debt. This is true even if one partner has incurred the debt on behalf of the business.

Limited Life. The life of a partnership is limited and uncertain. Any change among the partners can cause the partnership to dissolve. The death or withdrawal of one partner will bring the enterprise to an end. However, the remaining partners may start a new partnership. Of course, this assumes they have enough money to buy the former partner’s share of ownership.

Divided Authority. Because authority is shared by all partners, there is potential for disagreement. Each partner could have different ideas about hiring employees, buying merchandise, or advertising and sales promotion programs. Many otherwise successful business ventures have been dissolved because partners could not work together. The possibility that problems will occur increases with the number of partners.

Frozen Investment. It is often difficult to withdraw a partner’s investment from a partnership. Even if the other partners are willing to buy one partner’s share, the partners may struggle to agree on a fair price. Therefore, when going into a partnership, entrepreneurs should invest only those funds they can live without for a while.

Corporation

A corporation is an enterprise that has the legal rights, duties, and powers of a person. Because a corporation exists independently of its owners, a corporation is an artificial being or “person.” A corporation may own property in its own name and may also enter intro contracts, borrow money, and perform other day-to-day business activities.

Corporations are established by obtaining a charter from the state in which the business is to be located. The charter is a written document outlining the conditions under which the corporations will operate. The owners are called stockholders. Individuals become owners by buying shares of stock, which represent shares of ownership in the corporation. Some large corporations have thousands of stockholders, representing people from a variety of occupations. Generally, these people are interested in the business only as an investment. However, in small business ventures, the stockholders and the managers are the same individuals. To them, the business is more than an investment; the business represents their careers.

Advantages of Corporation

Corporations are often thought of as large businesses. However, because of the advantages, many entrepreneurs have chosen this form of ownership for their business ventures. The main advantages are (1) limited liability, (2) continuous life, (3) easy transfer of ownership, (4) ability to attract funds, and (5) specialized management.

Limited Liability. In a corporation, the most a stockholder can lose is the amount of money invested in the business. Because a corporation is a separate entity, the corporation, rather than the owners, owes the debts. Therefore, personal savings and belongings will not be taken to pay debts of the corporation. This is a major advantage of the corporate form of ownership.

Continuous Life. When a proprietor or a partner dies, the business is ended legally. This is not true of corporations. A corporation’s existence is not affected by the death or incapacity of an owner. The enterprise can operate indefinitely as long as it is profitable.

Easy Transfer of Ownership. Ownership in a proprietorship or partnership may be difficult to transfer to another person. This usually involves closing the enterprise and reorganizing it. In a corporation, however, stockholders can sell their stock to another person.

Ability to Attract Funds. Corporations are able to acquire additional funds by selling shares of stock. Individuals may be more willing to invest in corporations than in partnerships because their liability is limited. For these reasons, corporations usually have more opportunities to expand. They are able to et money fro new buildings, equipment, and inventories.

Specialized Management. Proprietors and partners must perform a wide variety of functions. However, because they are frequently larger than other legal forms, corporations can have specialized management. This means that each person can concentrate on one set of duties. One manager may oversee the manufacturing of the product while another specializes in accounting.

Disadvantages of Corporation

The disadvantages of the corporate form of ownership are (1) complicated formation, (2) double taxation, (3) government regulation, (4) charter restrictions, and (5) little secrecy.

Complicated Formation. Getting a corporation started usually requires more time and money than other legal forms of ownership. For example, the corporation must conform to certain laws to obtain a character from the state. Thus, a lawyer’s services are needed in filing the necessary papers. In addition to the lawyer’s fees, a corporation will probably have to pay fee to the state.

Double Taxation.   Perhaps the major disadvantage of the corporate form of ownership is the problem of double taxation. This means that profits are taxed twice. A corporation must pay taxes on its profits. Stockholders also have to pay personal income taxes on their share of the profits.

Government Regulation.  Federal and state regulations of corporations have increased over the years. Depending on the state in which a corporation is chartered, various reports are required each year. The corporation must also register in all other states in which it does business. This often involves the payment of a special tax.

Charter Restrictions. A charter for a corporation indicated the type of business the corporation will pursue. The charter permits the enterprise to engage in only those business activities stated in the document. Therefore, a corporation cannot make a major change in its line of business until the charter is amended. This eill take time and involve additional legal fees.

Little Secrecy. The more owners a corporation has, the more difficult it will be to maintain confidentially. All stockholders are entitled to now sales, profit, and asset figures each year. A special production method may be impossible to keep secret.

ORGANIZATION OF THE ENTERPRISE

Planning how to get the work done is an important step in starting an enterprise.  This involves deciding what tasks must be performed to make the enterprise a success.  If there are other partners of employees, an entrepreneur must decide who will perform each task.  An entrepreneur should also realize the importance of personnel management.

What Skills Are Required by the Enterprise?

The first step in organizing the work of the enterprise is to determine what tasks should be performed.  Some duties are necessary in almost all business ventures: making or buying products, providing services, setting prices, waiting on customers, paying bills, advertising, cleaning and maintenance, and preparing accounting and tax statements.

List every task that comes to mind.  Do not worry about how small the task seems to be.  Also, you need not follow a particular order or sequence.  Just keep adding to the list until you believe it is complete.

Who Will Perform Each Task?

After an entrepreneur has identified the necessary tasks for the enterprise, the entrepreneur should indicate who will perform each task. This can be done with an organization chart. An organization chart is a diagram that shows how one job in the enterprise fits in with others. Of course, a one-person enterprise does not need an organization chart. Some small businesses start out with a few employees and grow larger. The organization chart should be on paper and explained to all members of the enterprise.

What is Personnel Management?

The single most important resource in an enterprise is its people. Therefore, an entrepreneur must be prepared to manage this resource. The purpose of personnel management is to build a motivated and effective work force. The activities that make up this process are (1) hiring, (2) training, (3) determining compensation, and (4) determining employee benefits.

Hiring. The hiring process involved deciding if a prospective employee is suitable for the job. Employers interview job applicants and also contact persons listed as references on the employment application form. As the firm grows in size, however, additional methods may be used. For instance, persons applying for jobs may be required to take written tests or demonstrate that they can perform the work.

Training. The purpose of training is to improve job performance. All new employees require a certain amount of training. Those without prior experience must be taught the skills to do the job. Employees with related job experience probably were hired because they have the skills. However, they still need training. For instance, they may have to learn the procedure for handling customer complaints or making bank deposits.

Determining Compensation. Compensation refers to wages and salaries paid to employees. Wages are payments to workers on an hourly basis. Salaries are fixed peso amounts paid regularly such as weekly or monthly. Consider the following questions as you set your compensation policy: What are you willing to pay? Are you willing to pay above the minimum required by law? What must you pay to get the employees you want?

Determining Employee Benefits.  Employees may receive fringe benefits in addition to regular compensation. Entrepreneurs offer fringe benefits to compare effectively for good employees. A popular benefit is health insurance in which the employer pays all or part of the health insurance premium. Other fringe benefits are paid vacations and holidays, life insurance plans, and pensions. Some employees get a discount on purchases.

SOURCES OF ASSISTANCE

Starting a business is a complex process, regardless of whether you start from scratch, buy an existing business, or buy a franchise. As a prospective entrepreneur, you should obtain the assistance of advisers in business matters. Advisers you should contact include (1) attorneys, (2) accountants, (3) bankers, and trade associations.

Attorneys

Some persons visit an attorney only when they are involved in a lawsuit. However, many entrepreneurs have learned to consult an attorney on other matters as well. An attorney can help set up the business and give advance warning of potential legal problems. Compliance with local and national laws can be best assured with legal advice. An entrepreneur should study documents such as licenses, permits, and equipment purchase and lease agreements. When considering a franchise, a franchisee should examine carefully the contract used by the franchisor. Paying an attorney for these services is usually money well spent. If possible, select an attorney who is familiar with small business.

Accountants

Records of sales, expenses and profits are necessary in managing an enterprise. Accountants can assist in setting up the records system to provide this information. They can also advise on tax problems and prepare tax returns. A prospective franchisee should discuss the franchisor’s financial records with an accountant. With an accountant’s help, a prospective franchisee can find out if the franchisor’s estimates of sales and profits are realistic.

Bankers

Bankers are best known as lenders of money. However, they can also provide valuable information on starting a business. Bankers are able to do this because they keep in close touch with the business community. Bankers can help in comparing franchises or in checking credit ratings of customers. Although bankers are not experts inv every area, they can usually help select other professional advisers. For instance, they can give you names of attorneys to consider.

Trade Associations

Another source of assistance is a trade association. A trade association is a group of businesses that have joined together to benefit a particular line of business. These groups assist members by offering ideas and information that will contribute to better management.

Questions to Answer:

Part I.

Match the following terms with the statements that best define the terms. Write the letter of your choice in the space provided.

Part II.

Write a short answer to each of the questions below.

1.      What should a definition of the business contain?

2.      List four decisions of the entrepreneur that will affect the image of the enterprise.

3.      What is the first step in planning how to get the work done in the enterprise?

4.      Why would an organization chart be useful in an enterprise with five employees?

5.      List four types of advisers to contact when starting a new business.

6.      Compare the three legal forms of business enterprise by writing the advantages and disadvantages of each in the spaces provided on the next page. Select your answers from the list below. Some terms will be used more than once.