Business owned by one person; owner personally responsible for any business liabilities.
Business of two or more partners that are both personally responsible for any business liabilities.
Business owned by one or more people; owners are not responsible for business liabilities.
•Owner retains all profits
•Easy (and cheap) to form & dissolve
•Owner makes decisions
•Unlimited financial liability
•Easy to form
•Complementary management skills
•Expanded financial capacity
•Unlimited financial liability (however liability is limited for limited partners in a limited partnership).
•Interpersonal conflicts between partners.
•Specialized management skills
•Expanded financial capacity
•More difficult and costly to form and dissolve
•Tax disadvantages (taxed on corporate earnings and dividends to owners).
•S-corporations and LLCs do not have a major tax disadvantage, however.
Most large corporations.
Face double taxation.
Subchaper S Corporation
Limited to 75 shareholders
avoids double taxation.
Limited Liability Company (LLC)
Combines features of partnerships and corporations.
No double taxation
less restrictions than S-Corporations
Elements of contracts
Word, phrase, symbol, design or combination that identifies and distinguishes the source of goods or product.
protects “original works of authorship for literature, music, software, etc.
Owner of a copyright has...
•sole right to print, reprint, sell, distribute, revise, record, and perform the work that is copyrighted.
–Protects for authors life +70 years
–Copyright protection applies to published or unpublished work.
•Protects invented process or product for 20 years from the filing date.
Patented products must be...
developed, useful, novel and nonobvious
America Invents Act (2011)
•Switches from a “first-to-invent” to a “first-to-file” system.
•Changes fee structure, allows reduced fees for “micro-entities.”
–75% lower fees from independent inventors who have not been named on less than 5 previous filings and have gross incomes less than or equal to 3 times the average.
selling, taking it public, or merger with another company.
Harvesting-how it works
•The entrepreneur quits managing the business and loses their equity stake.
•May obtain stock, cash or some combination in exchange for the business.
•May take many years to build up business so that it can be harvested profitably.
Differnce between harvesting and liquidation
harvesting-the firm continues operations, it just switches owners.(typically the business is successful or new owner thinks they can make it successful)
liquidation-the firms assets of the business are sold of to various parties and the firm no longer continues as a going concern.(often done when business fails, also done when the entrpreneur 'isthe business')
Harvesting Option-Increase Free Cash Flow
•Do not need to find buyer
May have to pay high taxes
•Can take a long time
Management Buyout (MBO)
Entrepreneur sells business to manager(s).
•Limits search for buyer
•Firm is likely worth more to those that already know how to run it.
•Managers may not have enough money.
•Managers may lower profits to make firm look less attractive and get lower price.
Employee Stock Ownership Plan (ESOP)
Employees buy firm stock for retirement with borrowed funds. ESOP borrows money to buy out current owners.
•Tax advantage- Principle and interest payments can be deducted for tax purposes. Dividends paid on stock help in the ESOP are a tax deductable expense.
•Employees may not be adequately diversified through ESOP. Thus, they may not be interested.
Merging or Being Acquired
Sell to another company or individual owner.
•Entrepreneur can sell out completely or retain a partial ownership stake.
•Finding a buyer may be difficult.
•The selling and negotiation process may be long and time consuming.
Inital Publie Offering (IPO)
Selling the stock of the company on the stock market.
•Profitable way to harvest.
•Owner(s) can completely exit or retain partial ownership.
•Very difficult and expensive to do.
•Not feasible for vast majority of firms.
•Are the “story” that explain how enterprises work. The “story” of how the firm makes money.
–How do we make money in this business?
–How do revenues exceed costs?
–How can we deliver value to customers at an appropriate cost?
Critical Business Model Tests-Numbers Test
The firm is unable to earn money.
– Customers may value the product or service, but customers might not be willing to pay for it.
– Example: Online groceries
•High costs compared to traditional groceries due to marketing and delivery costs.
•However, customers were not willing to pay more for groceries.
Critical Business Model Tests-Narrative Test
•The story doesn’t make sense.
–Assumptions may not be realistic.
Forgiving Business Models
Business model that is robust even when sales are low. Minimize the cost of failure and risk of failure.
– Much of the costs are variable costs.
– Revenue is obtained before costs are.
– Risks are shifted to suppliers or customers (resource providers).
•Resource providers (suppliers or customers) might bear risk for the entrepreneur without the entrepreneur compensating them for it.
•May occur when:
–(1) Resource providers have few other options
–(2) It is costly for resource providers to interact in the market and find alternatives.
routines to cope with complexity in decisions; they are mental shortcuts.
Difference between Good Decisions & Good Outcomes
•Just because a decision leads to a good outcome, doesn’t mean it was good decision.
•Likewise, even a bad outcome may happen even if a good decision was made.
•Playing roulette may lead to a good outcome if you make money playing one night (even though it is a bad financial decision).
Rational Decision Making Model
(1)Define situation/decision to be made.
(2)Research and identify options.
(3)Compare and contrast each alternative and its consequences.
(4)Make a decision, chose an alternative.
(5)Design and implement an action plan.
Rationality in decision making is limited by information, cognitive limitations and time.
•Individuals will satisfice, thus selecting a satisfactory solution rather than an optimal one.
•Individuals sometime use heuristics, or simple decision rules to help make decisions.
Bounded rationality: information
Entrepreneurs starting new firms may have little information to help them evaluate the likelihood that they will succeed.
Bounded Rationaoity: Cognitive Limitations
Everyone, including entrepreneurs has limited cognitive abilities.
–Human brain has limited processing ability.
–Humans are limited in the number of pieces of information that can be considered when making a decision.
Bounded Rationality: Time
Many decisions that entrepreneurs make
must be made in a limited window of time:
–Whether to start a new firm (delaying may lead to another firm exploiting the opportunity).
–Whether to hire someone after an interview (failure toact quickly will may allow another firm to hire them).
–Whether to close a poor performing business (waiting too long could make the entrepreneur lose even more money).
Common Cognitive Biases: Affect infusion
making a judgment based upon one's current feelings
Common cognitive biases: Base Rate Neglect
overall statistics are ignored in favor of anecdotal evidence
Common Cognitive Biases: Confirmation Bias
an individual notices evidence that supports their beliefs, but ignores that which does not
Common Cognitive Biases: Escalation of Commitment (Sunk Cost Fallacy)
an individual continues to invest in a losing cause based upon the cumulative prior investment
Common Cognitive Biases: Gambler's Fallacy
random(near random) events are seen as being dependent(instead of random/independent)
Common Cognitive Biases: Illusion of Control
individuals believe they can control something that they have no control over
Common Cognitive Biases: Overconfidence Bias
Individual overestimates their likelihood of success
Common Cognitive Biases: Planning Fallacy
individualo underestimates the time needed to complete a task (overconfidence specific to timelines)
Common Cognitive Biases: Self Serving Bias
individual attribute success to themselves and attribute failure to external forces
analysis precedes action
Action and interaction with others precede and drive the entire process.
Differences in Causal and Effectual Logic
upfront information gathering
accuracy of prediction and clairty of goals drive the resours-acquisition process
risk management involves the careful avoidance of failure at all costs
focused on building the venture with virtually no resources invested
risk management involves keeping failures small and having them happen early and then building upon them
Affordable Loss Principle
causal-first figures out how much money is needed to exploit a venture idea, and then attempts to raise it.
effectual-determines the downside potential of a venture idea, and compares to how much he or she is willing to lose.
Strategic Partnership Principle
May be no predetermined market, thus competitive analysis may not make sense.
Build partnerships; allow partners to determine which market the firm will eventually end up in.
Obtain pre-commitments from key customers early on to reduce uncertainty.
Leveraging Contingencies Principle
Surprises will occur; entrepreneurs need to use them as inputs into the venture creation process.
Entrepreneurs do not need to predict, but need to be able to adopt to changes.
When is Effectuation Appropriate?
Type of Opportunity
1.Supply and demand exist, simply need to bring together.
Buy a house and resell it at higher price.
2.Either demand or supply exist, but both do not exist in an obvious manner.
Such as cures for diseases (no supply)
3.Neither supply or demand exist in an obvious manner.
Such as the chia pet.
Possible Benefits of Effectuation
May allow an entrepreneur to start a business despite having access to little capital.
The discovery/creation of entrepreneurial opportunities that might have otherwise been missed.
Possible Limitations of Effectuation
Focus on affordable loss rather than actual returns.
May enter an unattractive industry, simply because initial investment is low (loss is affordable)
High potential venture ideas may be overlooked due to the large initial investments required.
Many venture ideas discovered/created through effectuation may be imitated by others.
Prediction for many new firms ispossible.
Many new firms are stated in established industries were predictions can often be made (lots of information).