Unit-IV Functional Plans: The Organizational Plan

THE ORGANIZATIONAL PLAN

Developing the Management Team

Potential investors are interested in the management team and its ability and commitment to the new venture.

Investors usually demand that the management team not operate the business part-time while employed full time elsewhere. It is also unacceptable for the entrepreneurs to draw a large salary. The entrepreneur should consider the role of the board of directors and/or a board of advisors in supporting the management of the new venture.

LEGAL FORMS OF BUSINESS

There are three basic legal forms and one new form of businesses.

The three basic forms are:

a. Proprietorship.

b. Partnership.

c. Corporation

A new form is the limited liability company, which is now possible in most states. The entrepreneur should evaluate the pros and cons of each of the legal forms prior to submitting a business plan. He should determine the priority of several factors discussed below. It is also necessary to consider intangibles such as image to suppliers, existing clients, and prospective customers.

Ownership

·         In the proprietorship, the owner has full responsibility for operations.

·         In a partnership, there may be owners with general or with limited ownership.

·         In the corporation, ownership is reflected by ownership of shares of stock.

Liability of Owners

·         The proprietor and general partners are liable for all aspects of the business.

·         Since the corporation is a legal entity that is taxable and absorbs liability, the owners are liable only for the amount of their investment.

·         To satisfy any outstanding debts of the business, creditors may seize personal assets of the owners in proprietorships or regular partnerships.

·         In a partnership the general partners share the amount of personal liability equally, regardless of their capital contribution.

·         In a limited partnership, the limited partners are liable only for their capital contributions.

Costs of Starting a Business

·         The more complex the organization, the more expensive it is to start.

·         The least expensive is the proprietorship, where the only costs may be for filing for a business name.

·         In a partnership a partnership agreement is needed, in addition this requires legal advice and should explicitly convey all parties' responsibilities, rights and duties.

·         A limited partnership may be more complex to form because it must comply strictly with statutory requirements.

·         The corporation can be created only by statute.

·         The owners are required to register the name and articles of incorporation and meet state statutory requirements.

·         Filing fees and an organization tax may be incurred.

·         Legal advice is necessary to meet the statutory requirements.

Continuity of Business

·         In a sole proprietorship, the death of the owner results in the termination of the business.

·         In a limited partnership, the death of a limited partner has no effect on the existence of the partnership.

o   A limited partner may be replaced, depending on the partnership agreement.

o   If a general partner in a limited partnership dies or withdraws, the limited partnership is terminated unless the partnership agreement specifies otherwise.

·         In a partnership, the death or withdrawal of one of the partners results in termination of the partnership, but this can be overcome by the partnership agreement.

o   Usually the partnership will buy out the withdrawn partner's share at a predetermined price.

o   Another option is to have a member of the withdrawn partner's family take over as partner.

·         The corporation has the most continuity, as the owner's death or withdrawal has no impact on continuity of the business, unless it is a closely held corporation.

Transferability of Interest

·         Each of the forms of business offers different advantages as to the transferability of interest.

·         In a proprietorship, the entrepreneur has the right to sell any assets.

·         In the limited partnership, the limited partners can sell their interests at any time without consent of the general partners.

·         A general partner cannot sell any interest unless specified in the partnership agreement.

·         In a corporation shareholders may transfer their shares at any time.

·         In the S Corporation, the transfer of interest can occur only as long as the buyer is an individual.

Capital Requirements

·         The need for capital during the early months can become one of the most critical factors in keeping a new venture alive.

·         For a proprietorship, any new capital can only come from loans or by additional personal contributions.

·         Often an entrepreneur will take a second mortgage as a source of capital.

·         Any borrowing from an outside investor may require giving up some equity.

·         Failure to make payments can result in foreclosure and liquidation of the business.

·         In the partnership, loans may be obtained from banks or additional funds may be contributed by each partner, but both methods require change in the partnership agreement.

·         In the corporation, new capital can be raised by:

a. Stock may be sold as either voting or nonvoting.

b. Bonds may be sold.

c. Money may also be borrowed in the name of the corporation.

Management Control

·         The entrepreneur will want to retain as much control as possible over the business.

·         In the proprietorship, the entrepreneur has the most control and flexibility in making business decisions.

·         In a partnership the majority usually rules unless the partnership agreement states otherwise.

·         In a limited partnership the limited partners have no control over business decision.

·         Control of day-to-day business is in the hands of management.

·                     Major long-term decisions may require a vote of the major stockholders.

·                     As the corporation increases in size, the separation of management and control is probable.

·         Stockholders can indirectly affect the operation by electing someone to the board of directors.

Distribution of Profits and Losses

·         Proprietors receive all profits from the business.

·         In the partnership, the distribution of profits and losses depends on the partnership agreement.

·         Corporations distribute profits through dividends to stockholders.

Attractiveness for Raising Capital

·         In both the proprietorship and partnership, the ability to raise capital depends on the success of the business and personal capability of the entrepreneur.

·         Because of its limitations on personal liability, the corporation is the most attractive form for raising capital.

TAX ATTRIBUTES OF FORMS OF BUSINESS

A.  Tax Issues for Proprietorship- For the proprietorship the IRS treats the business as the individual owner. All income is personal income and the business is not taxed as a separate entity. The proprietorship has some tax advantages compared to the corporation.

a. There is no double tax on profits.

b. There is no capital stock tax or penalty for retained earnings.

B. Tax Issues for Partnership- The partnership's tax advantages and disadvantages are similar to the proprietorship. Limited partnerships can provide unique tax advantages. Both the partnership and proprietorship have a legal identity distinct from the partners, but this identity is only for accounting purposes. The income is distributed based on the partnership agreement, and the owners then report their share as personal income.

C. Tax Issues for Corporation- the Corporation has the advantage of being able to take many deductions not otherwise available. The disadvantage is that dividends are taxed twice. This double taxation can be avoided if the income is distributed as salary. The corporation tax may also be lower than the individual rate.

THE LIMITED LIABILITY COMPANY

A popular new entity is the limited liability company (LLC), which offers similar advantages as the S Corporation but with more liberal tax rules under subchapter K. This form is a partnership-corporation hybrid with the following characteristics:

1. Where the corporation has shareholders, the LLC has members.

2. No shares are issued, and each member owns an interest in the business.

3. Liability does not extend beyond the member's capital contribution.

4. Members may transfer their interest only with the unanimous written consent of the remaining members.

5. The standard acceptable term of an LLC is 30 years.

6. The laws governing formation of the LLCs differ from state to state.

·            The LLC is similar to an S corporation, but is more flexible. A major concern with LLCs is in international business, where the context of unlimited liability is still unclear.

·            The primary differences between the limited partnership and the LLC are that the limited partnership must have at least one general partner with unlimited liability for partnership debts.

·            The acceptability of the LLC should grow as state statutes are clarified and international rules established.

·            With the assistance of a tax attorney, owners should compare alternative forms of ownership.

DESIGNING THE ORGANIZATION

The design of the initial organization will be simple. The entrepreneur may perform all of the functions alone. He or she sometimes is unwilling to give up responsibility to others. The entrepreneur may have difficulty making the transition from a start-up to a growing well-managed business that maintains its success over a long period of time. As the workload increases the organizational structure will need to expand to include additional employees with defined roles. Interviewing and hiring procedures will need to be implemented. For many new ventures, part-time employees may be hired, raising commitment and loyalty issues.

The organization must identify the major activities required to operate effectively. The design of the organization will indicate to employees what is expected of them in five areas: Organizational structure, which defines members' jobs and the relationship these jobs have to one another. Rewards are in the form of bonuses, promotion, and praise. A selection criterion is the set of guidelines for selecting individuals for each position. The organization's design can be simple or complex.

There are two stages of development in an organization

Stage 1: The new venture is operated by one person, the entrepreneur, with no need for sub managers.

Stage 2: As the business expands, the organization may be described as Stage 2.

a. Sub managers are hired to coordinate, organize, and control aspects of the business

b. .Measurement, evaluation, rewards, selection, and training become necessary.

Stage 3 may exist when the firm is large enough that a third level of managers is added.

As the organization evolves, the manager's decision roles become more critical. The primary concern is to adapt to changes in the environment and seek new ideas. The manager will also need to respond to unexpected pressures, referred to as "putting out fires." Another role is that of allocator of resources, delegating budgets and responsibility. The final role is that of negotiator, as the entrepreneur can be the only person with the appropriate authority.

BUILDING THE SUCCESSFUL ORGANIZATION

Before writing the organization plan, it is helpful to prepare a job analysis. The job analysis serves as a guide in determining hiring procedures and job descriptions and specifications. As the size of the venture changes, the process becomes more complex. The place to start is with the tasks that need to be performed to make the venture viable. After this list is made, then determine how many positions and what types of persons will be needed. Other decisions to be made early in planning process:

a. Where to advertise for employees.

b. How they will be trained.

c. How they will be compensated.

Searching for senior talent requires a different strategy. Usually networking provides the best source of candidates. Some recruiting firms are also specializing in placing senior people in start-ups.

The most important issues in the business plan are the job descriptions and specifications.