merged

1. Difficulty in raising large amounts of financial capital. Proprietorships rely mainly on selffinancing
and borrowing from financial institutions for their financial capital. A proprietor’s
ability to self-finance is limited to his or her personal wealth. And financial institutions may be
hesitant to make large loans to proprietorships. Proprietorships have difficulty expanding.
2. Proprietorships end with the death of the proprietor. Thus, a proprietorship lacks the
permanent nature of a corporation.
Partnership – a firm owned and operated by two or more co-owners.
An advantage of partnerships over proprietorships is the possibility of specialization. One partner
may be better at one aspect of the business (e.g. production), while another partner may be
better at another aspect (e.g. sales). Each partner can specialize in his or her area of expertise.
Example 11: Homer enters into a partnership with his best friend, Barney. The partnership
operates a small winery. Homer, with his delightful personality, specializes in sales. Barney, who
has expertise in all things alcoholic, specializes in production.
Like proprietorships, partnerships are fairly easy to form. The partners will need to enter into a
partnership agreement detailing each partner’s contributions to the partnership, responsibilities,
and share of profits and losses. This agreement should be in writing.
The major disadvantage of the partnership is that the partners have unlimited liability. This is an
even bigger problem for partners than for proprietors. A partner is liable for all debts incurred by
the partnership, including debts arising from the actions of the other partners. A partner can face
financial ruin due to the incompetence, dishonesty, or bad luck of the other partners. A person
who enters into a partnership is entrusting his or her life savings to the other partners. Thus, most
partnerships have only two partners.
Example 12: Homer invests $10,000 in a partnership that operates a small winery. Homer’s
partner is his best friend, Barney. Barney produces a batch of tainted wine. The persons injured
by the tainted wine file a lawsuit against the partnership and win a judgment for $300,000. Barney
has no assets, so Homer will have to pay the entire business debt out of his personal assets.
Corporation – an organization owned by stockholders that is considered a legal person,
separate from its owners.
To “incorporate” means “to give a body to”. When a state grants a firm a corporate charter it is
creating a new legal person; the corporation. As a separate legal person, a corporation can own
property, enter into contracts, commit crimes, and be personally liable for its own debts. Because
the corporation is a separate legal person, the stockholders (owners) of the corporation have
limited liability. Limited liability means that the stockholders are not personally liable for the debts
of the corporation. Thus, a person who invests $10,000 in corporate stock is putting at risk only
the $10,000 invested in the business.
Example 13: Homer invests $10,000 in a corporation that produces nuclear power. Due to the
incompetence of an unidentified employee in Sector 7G of the plant, a nuclear accident occurs.
The corporation is sued and loses a judgment for $3,000,000,000. The corporation files for
bankruptcy. Homer’s stock becomes worthless. But, Homer is not liable for the debts of the
corporation.
Other advantages of the corporation include:
1. Relative ease in raising large amounts of financial capital. Limited liability encourages
investment in corporate stock. Some corporations have hundreds of thousands of
stockholders.
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