Ch. 36 Sole Proprietorships and Franchises Flashcards
Define entrepreneur.
- One who initiates and assumes the financial risk of a new business enterprise
- AND undertakes to provide or control its management
In selecting an organizational form, an entrepreneur will most likely consider what four factors?
(1) ease of creation
(2) liability of the owners
(3) tax considerations
(4) ability to raise capital
What is the primary motive of an entrepreneur?
To make profits
What are three major business forms that entrepreneurs have traditionally used?
- Sole proprietorship
- Partnership
- Corporation
Strictly speaking, is a franchise a business organizational form?
NO
What is the simplest form of business?
- Sole proprietorship
What is a major advantage of the sole proprietorship?
- Proprietor owns entire business and receives all the profits (b/c he assumes all the risk)
Generally, do any documents need to be filed with the government to start a sole proprietorship?
NO
What taxes does a sole proprietor pay?
- Only personal income taxes (including SS and Medicare taxes) on the business profits, which are reported as personal income on the proprietor’s personal income tax return
What is the major disadvantage of the sole proprietorship?
- Proprietor alone bears the burden of any losses or liabilities incurred by the business enterprise (unlimited liability)
What was the key issue in the Quality Car & Truck Leasing v. Sark case?
- Issue: Personal liability of the owner of a sole proprietorship
- Decision: “The Sarks are clearly judgment debtors to Quality Leasing and the judgment has not been satisfied.” Quality Leasing is entitled to judgement as a matter of law.
In a sole proprietorship, can creditors pursue the owner’s personal assets to satisfy any business debts?
YES
When the owner of a sole proprietorship dies, what happens to the business?
- Business auto dissolves
What is a franchise?
- An arrangement in which the owner of intellectual property (e.g. trademark, trade name, copyright) licenses others to use it in the selling of goods or services
Define franchisee.
- Purchaser of a franchise
- Generally legally independent of franchisor
- Economically dependent on franchisor’s integrated business system
Define franchisor.
- Seller of the franchise
Give an example of a well-known franchise.
- McDonald’s
- 7-Eleven
- Holiday Inn
Franchises generally fall into what three classifications?
(1) Distributorships
(2) Chain-style business operations
(3) Manufacturing arrangements
In a distributorship, _________ licenses a ________ to sell its product.
- Manufacturer (Franchisor)
- Dealer (Franchisee)
Give an example of a common type of distributorship.
- Automobile dealerships
- Beer distributorships
Explain the operations of a chain-style business operation.
- Franchise operates under a franchisor’s trade name and is identified as a member of a select group of dealers that engage in the franchisor’s business
- Franchisee is generally required to follow standardized methods of operation and maintain certain standards of performance
Give an example of a chain-style operation.
- McDonald’s
- Century 21, a real estate brokerage firm
- H&R Block, tax preparing service firm
What happens in a manufacturing arrangement (or processing plant arrangement)?
- Franchisor transmits to the franchisee the essential ingredients or formula to make a particular product
- Franchisee then markets the product either at wholesale or at retail in accordance with franchisor standards
Give an example of a manufacturing arrangement.
- Pepsi-Cola
- Other soft drink bottling companies
A franchise relationship is primarily a what type of relationship?
Contractual relationship
What law governs franchising?
Contract law
If a franchise exists primarily for the sale of products manufactured by the franchisor, what law applies?
- Law governing sales contracts (as expressed in Article 2 of the UCC)
How does the federal government regulate franchising?
- Through laws that apply to specific industries
- Through the Franchise Rule (created by the FTC)
What does FTC stand for?
Federal Trade Commission
Congress has enacted laws that protect franchises in certain industries (e.g. auto dealerships and service stations). These laws protect the franchisee from what?
- Unreasonable demands
- AND bad faith terminations of the franchise by the franchisor
In general, the FTC’s Franchise Rule requires franchisors to disclose what?
- Certain material facts that a prospective franchisee needs in order to make an informed decision concerning the purchase of a franchise
Specifically, what does the Franchise Rule require?
(1) Written, or e-recorded, disclosures
(2) Reasonable basis for any representations
(3) Projected earnings figures
(4) Actual data
(5) Explanation of terms (termination, cancellation, renewal provisions)
Those who violate the FTC’s Franchise Rule are subject to what?
- Substantial civil penalties
- AND FTC can sue on behalf of injured parties to recover damages
In regards to state regulation of franchising, many states require that what be registered or filed with a state official?
- Franchise Disclosure Document (or FDD)
The franchise relationship is defined by what?
- Contract b/w franchisor and franchisee
What does the franchise contract contain?
- Specifies terms and conditions of the franchise and spells out the rights and duties of the franchisor and franchisee
If the law required franchisors to provide estimates of potential earnings, would there be more or less growth in the number of franchises?
- Less growth
Franchise Contract:
How does a franchisee ordinarily pay for a franchise?
- Pay an initial fee or lump sum price for the franchise license (the privilege of being granted a franchise)
- Pay for products from or thru franchisor
- Pay % of franchisor’s advertising costs and certain administrative expenses
- Pay % of annual or monthly business sales
What are some key issues addressed in the franchise contract?
- Payment for franchise
- Business premises
- Location of franchise
- Business organization
- Quality control (means and degree of control)
- Pricing arrangements
Can a franchisor mandate retail prices?
NO
Usually the franchise agreement specifies that termination must be “for cause” and then defines the grounds for termination. Cause might include what?
- Death or disability of the franchisee
- Insolvency of the franchisee
- Breach of the franchise agreement
- ## Failure to meet specified sales quotas
Even when a contract contains a notice and cure provision,may a franchisee’s breach of the duty of honesty and fidelity be enough to allow the franchise to terminate the franchise?
YES
True or false.
Generally, the termination provisions of contracts are more favorable to the franchisee than to the franchisor.
FALSE
What was the key question in the Mac’s Shell Service v. Shell Oil Products case?
- Under the PMPA, must a franchisee abandon its franchise in order to recover for constructive termination ?
