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This document is an introduction to entrepreneurship, outlining key concepts like corporate entrepreneurship, characteristics of successful entrepreneurs, and common myths. It explores different types of start-up firms and discusses changing demographics of entrepreneurs.

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Chapter 1 Introduction to Entrepreneurship Bruce R. Barringer R. Duane Ireland Copyright ©2016 Pearson Education, Inc....

Chapter 1 Introduction to Entrepreneurship Bruce R. Barringer R. Duane Ireland Copyright ©2016 Pearson Education, Inc. 1-1 Chapter Objectives 1 of 2 1. Describe entrepreneurs, corporate entrepreneurship, and the characteristics of entrepreneurial firms. 2. Discuss three main reasons people decide to become entrepreneurs. 3. Identify four main characteristics of successful entrepreneurs. 4. Explain five common myths regarding entrepreneurship. 5. Describe three types of start-up firms. Copyright ©2016 Pearson Education, Inc. 1-2 Chapter Objectives 2 of 2 6. Discuss the changing demographics of entrepreneurs in the United States. 7. Discuss the positive effects of entrepreneurship and entrepreneurial firms on economies and societies. 8. Explain the entrepreneurial process. Copyright ©2016 Pearson Education, Inc. 1-3 Introduction to Entrepreneurship There is tremendous According to the 2013 GEM interest in study, 12.7% of Americans are actively engaged in entrepreneurship in the starting a business or are U.S. and around the world. the owner/manager of a business that is less than three years old. Copyright ©2016 Pearson Education, Inc. 1-4 Indications of Increased Interest in Entrepreneurship Books – Amazon.com lists over 36,900 books dealing with entrepreneurship and 89,900 focused on small business. College Courses – In 1985, there were about 250 entrepreneurship courses offered across all colleges in the United States. – Today, more than 2,000 colleges and universities in the United States (which is about two-thirds of the total) offer at least one course in entrepreneurship. Copyright ©2016 Pearson Education, Inc. 1-5 What is Entrepreneurship? Academic Definition (Stevenson & Jarillo) – Entrepreneurship is the process by which individuals pursue opportunities without regard to resources they currently control. Venture Capitalist (Fred Wilson) – Entrepreneurship is the art of turning an idea into a business. Explanation of What Entrepreneurs Do – Entrepreneurs assemble and then integrate all the resources needed – the money, the people, the business model, the strategy – to transform an invention or an idea into a viable business. Copyright ©2016 Pearson Education, Inc. 1-6 Corporate Entrepreneurship 1 of 2 Corporate Entrepreneurship – Is the conceptualization of entrepreneurship at the firm level. – All firms fall along a conceptual continuum that ranges from highly conservative to highly entrepreneurial. – The position of a firm on this continuum is referred to as its entrepreneurial intensity. Copyright ©2016 Pearson Education, Inc. 1-7 Corporate Entrepreneurship 2 of 2 Entrepreneurial Firms Conservative Firms Proactive Take a more “wait and see” posture Innovative Less innovative Risk taking Risk averse Copyright ©2016 Pearson Education, Inc. 1-8 Why Become an Entrepreneur? The three primary reasons that people become entrepreneurs and start their own firms Desire to be their own boss Desire to pursue their own ideas Financial rewards Copyright ©2016 Pearson Education, Inc. 1-9 Characteristics of Successful Entrepreneurs 1 of 3 Four Primary Characteristics Copyright ©2016 Pearson Education, Inc. 1-10 Characteristics of Successful Entrepreneurs 2 of 3 Passion for the Business – The number one characteristic shared by successful entrepreneurs is a passion for the business. – This passion typically stems from the entrepreneur’s belief that the business will positively influence people’s lives. Product/Customer Focus – A second defining characteristic of successful entrepreneurs is a product/customer focus. – An entrepreneur’s keen focus on products and customers typically stems from the fact that most entrepreneurs are, at heart, craftspeople. Copyright ©2016 Pearson Education, Inc. 1-11 Characteristics of Successful Entrepreneurs 3 of 3 Tenacity Despite Failure – Because entrepreneurs are typically trying something new, the failure rate is naturally high. – A defining characteristic for successful entrepreneurs is their ability to persevere through setbacks and failures. Execution Intelligence – The ability to fashion a solid business idea into a viable business is a key characteristic of successful entrepreneurs. Copyright ©2016 Pearson Education, Inc. 1-12 Common Myths About Entrepreneurs 1 of 7 Myth 1: Entrepreneurs Are Born, Not Made – This myth is based on the mistaken belief that some people are genetically predisposed to be entrepreneurs. – The consensus of many studies is that no one is “born” to be an entrepreneur; everyone has the potential to become one. – Whether someone does or doesn’t become an entrepreneur is a function of their environment, life experiences, and personal choices. Copyright ©2016 Pearson Education, Inc. 1-13 Common Myths About Entrepreneurs 2 of 7 Although no one is “born” to be an entrepreneur, there are common traits and characteristics of successful entrepreneurs A moderate risk taker Optimistic disposition Persuasive A networker Promoter Achievement motivated Resource assembler/leverager Alert to opportunities Creative Self-confident Self-starter Decisive Tenacious Energetic Tolerant of ambiguity A strong work ethic Visionary Lengthy attention span Copyright ©2016 Pearson Education, Inc. 1-14 Common Myths About Entrepreneurs 3 of 7 Myth 2: Entrepreneurs Are Gamblers – Most entrepreneurs are moderate risk takers. – The idea that entrepreneurs are gamblers originates from two sources: Entrepreneurs typically have jobs that are less structured, and so they face a more uncertain set of possibilities than people in traditional jobs. Many entrepreneurs have a strong need to achieve and set challenging goals, a behavior that is often equated with risk taking. Copyright ©2016 Pearson Education, Inc. 1-15 Common Myths About Entrepreneurs 4 of 7 Myth 3: Entrepreneurs Are Motivated Primarily by Money – While it is naïve to think that entrepreneurs don’t seek financial rewards, money is rarely the reason entrepreneurs start new firms. – In fact, some entrepreneurs warn that the pursuit of money can be distracting. Copyright ©2016 Pearson Education, Inc. 1-16 Common Myths About Entrepreneurs 5 of 7 Myth 4: Entrepreneurs Should Be Young and Energetic – Entrepreneurial activity is fairly easily spread out over age ranges. – While it is important to be energetic, investors often cite the strength of the entrepreneur as their most important criteria in making investment decisions. What makes an entrepreneur “strong” in the eyes of an investor is experience, maturity, a solid reputation, and a track record of success. These criteria favor older rather than younger entrepreneurs. Copyright ©2016 Pearson Education, Inc. 1-17 Common Myths About Entrepreneurs 6 of 7 Copyright ©2016 Pearson Education, Inc. 1-18 Common Myths About Entrepreneurs 7 of 7 Myth 5: Entrepreneurs Love the Spotlight – While some entrepreneurs are flamboyant, the vast majority of them do not attract public attention. – As evidence of this, consider the following question: “How many entrepreneurs could you name?” Most of us could come up with Jeff Bezos of Amazon.com, Mark Zuckerberg of Facebook, Steve Jobs of Apple, and maybe Larry Page and Sergey Brin of Google. But few could name the founders of Twitter, YouTube, Netflix, or DIRECTV, even though we frequently use those firms’ services. Copyright ©2016 Pearson Education, Inc. 1-19 Types of Start-Up Firms Copyright ©2016 Pearson Education, Inc. 1-20 Changing Demographics of Entrepreneurs 1 of 4 Women Entrepreneurs – While men are more likely to start businesses than women, the number of women-owned businesses is increasing. – There were 8.6 women-owned businesses in the United States in 2013, generating over $1.3 trillion in revenue and employing nearly 7.8 million people. – In some industries, women control a significant share of the business. Women-owned businesses account for 52% of all businesses in health care. Copyright ©2016 Pearson Education, Inc. 1-21 Changing Demographics of Entrepreneurs 2 of 4 Minority Entrepreneurs – There has been a substantial increase in minority entrepreneurs in the United States. – Between 2002 and 2007 (the most recent statistics available), minority-owned firms outpaced the growth of non-minority firms in gross receipts, employment, and number of firms. – In 2007, there were about 1.9 million African American- owned firms in the United States, 1.5 million Asian American-owned firms, and 2.3 million Hispanic-owned firms. Copyright ©2016 Pearson Education, Inc. 1-22 Changing Demographics of Entrepreneurs 3 of 4 Senior Entrepreneurs – The numbers of seniors (those 50 years old and older) starting businesses is substantial and growing. – In 2012, 20% of new businesses were started by people between 50 and 59 years old, while another 12.5 percent were founded by individuals 60 years old and older. – This increase is attributed to corporate downsizing, an increasing desire among older people for more personal fulfillment in their lives, growing worries about the cost of health care, and similar factors. Copyright ©2016 Pearson Education, Inc. 1-23 Changing Demographics of Entrepreneurs 4 of 4 Young Entrepreneurs – A desire to pursue an entrepreneurial career is high among young people. – According to a recent Gallop survey, about 4 in 10 kids in grades 5-12 say they plan to start their own business. – About 59% of students in grades 5-12 say their school offers classes in how to start a business. – About one-third of young people say their parents or guardians have started a business, which provides them a firsthand look at the entrepreneurial lifestyle. Copyright ©2016 Pearson Education, Inc. 1-24 Economic Impact of Entrepreneurial Firms Innovation – Is the process of creating something new, which is central to the entrepreneurial process. – Small innovative firms are 16 times more productive than larger innovative firms in terms of patents per employee. Job Creation – Small businesses create a substantial number of net new jobs in the United States. – Firms with 500 or fewer employees create 65% of new jobs on an annual basis. Copyright ©2016 Pearson Education, Inc. 1-25 Entrepreneurial Firms’ Impact on Society and Larger Firms Impact on Society – The innovations of entrepreneurial firms have a dramatic impact on society. – Think of all the new products and services that make our lives easier, enhance our productivity at work, improve our health, and entertain us in new ways. Impact on Larger Firms – Many entrepreneurial firms have built their entire business models around producing products and services that help larger firms become more efficient and effective. Copyright ©2016 Pearson Education, Inc. 1-26 The Entrepreneurial Process The Entrepreneurial Process Consists of Four Steps Step 1: Deciding to become an entrepreneur. Step 2: Developing successful business ideas. Step 3: Moving from an idea to an entrepreneurial firm. Step 4: Managing and growing the entrepreneurial firm. Copyright ©2016 Pearson Education, Inc. 1-27 Steps in the Entrepreneurial Process 1 of 2 Step 1 Step 2 Developing Successful Business Ideas Copyright ©2016 Pearson Education, Inc. 1-28 Steps in the Entrepreneurial Process 2 of 2 Step 3 Step 4 Copyright ©2016 Pearson Education, Inc. 1-29 Copyright ©2016 Pearson Education, Inc. 1-30 Chapter 2 Recognizing Opportunities and Generating Ideas Bruce R. Barringer R. Duane Ireland Copyright ©2016 Pearson Education, Inc. 2-31 Chapter Objectives 1 of 2 1. Explain the difference between opportunities and ideas. 2. Describe the three general approaches entrepreneurs use to identify opportunities. 3. Discuss the personal characteristics of entrepreneurs that contribute to their ability to recognize business opportunities. 4. Identify and describe techniques entrepreneurs use to generate ideas. Copyright ©2016 Pearson Education, Inc. 2-32 Chapter Objectives 1 of 2 5. Discuss actions to take to encourage continuous development of new ideas in entrepreneurial firms. Copyright ©2016 Pearson Education, Inc. 2-33 What is an Opportunity? 1 of 2 An opportunity is a favorable Opportunity Defined set of circumstances that creates a need for a new product, service, or business. Copyright ©2016 Pearson Education, Inc. 2-34 What is an Opportunity? 2 of 2 Four Essential Qualities of an Opportunity Copyright ©2016 Pearson Education, Inc. 2-35 Three Ways to Identify an Opportunity Copyright ©2016 Pearson Education, Inc. 2-36 First Approach: Observing Trends 1 of 2 Observing Trends – Trends create opportunities for entrepreneurs to pursue. – The most important trends are: Economic forces Social forces Technological advances Political and regulatory change – It’s important to be aware of changes in these areas. Copyright ©2016 Pearson Education, Inc. 2-37 First Approach: Observing Trends 2 of 2 Environmental Trends Suggesting Business or Product Opportunity Gaps Copyright ©2016 Pearson Education, Inc. 2-38 Trend 1: Economic Forces Example of Economic Trend Creating a Favorable Opportunity Economic trends help A weak economy favors determine areas that are start-ups that help consumers ripe for new start-ups and save money. areas that start-ups should An example is GasBuddy.com, avoid. a company started to help consumers save money on gas. Copyright ©2016 Pearson Education, Inc. 2-39 Trend 2: Social Forces Examples of Social Trends Social trends alter how people and businesses Aging of the population. behave and set their The increasing diversity of priorities. These trends the workplace. Increased participation in provide opportunities for social networks. new businesses to Growth in the uses of mobile accommodate the devices. changes. An increasing focus on health and wellness. Copyright ©2016 Pearson Education, Inc. 2-40 Trend 3: Technological Advances 1 of 2 Examples of Entire Industries Advances in technology that Have Been Created as the frequently create business Result of Technological Advances opportunities. Computer industry Internet Biotechnology Digital photography Copyright ©2016 Pearson Education, Inc. 2-41 Trend 3: Technological Advances 2 of 2 Example: H20Audio Once a technology is An example is H20Audio, a created, products often company started by four emerge to advance it. former San Diego State University students, that makes waterproof housings and earbuds for the Apple iPhone. Copyright ©2016 Pearson Education, Inc. 2-42 Trend 4: Political Action and Regulatory Changes 1 of 2 General Example Political action and Laws to protect the environment regulatory changes also have created opportunities for provide the basis for entrepreneurs to start firms that opportunities. help other firms comply with environmental laws and regulations. Copyright ©2016 Pearson Education, Inc. 2-43 Trend 4: Political Action and Regulatory Changes 2 of 2 Specific Example Company created to help OSHA is a government agency that formulates and enforces other companies comply safety, health, and with the law. environmental regulations for the workplace. Safety Compliance Company was started to help other companies comply with OSHA regulations. Copyright ©2016 Pearson Education, Inc. 2-44 Second Approach: Solving a Problem 1 of 2 Solving a Problem – Sometimes identifying opportunities simply involves noticing a problem and finding a way to solve it. – These problems can be pinpointed through observing trends and through more simple means, such as intuition, serendipity, or change. – Many companies have been started by people who have experienced a problem in their own lives, and then realized that the solution to the problem represented a business opportunity. Copyright ©2016 Pearson Education, Inc. 2-45 Second Approach: Solving a Problem 2 of 2 A problem facing the U.S. and other countries is finding alternatives to fossil fuels. A large number of entrepreneurial firms, like this wind farm, are being launched to solve this problem. Copyright ©2016 Pearson Education, Inc. 2-46 Third Approach: Finding Gaps in the Marketplace 1 of 2 Gaps in the Marketplace – A third approach to identifying opportunities is to find a gap in the marketplace. – A gap in the marketplace is often created when a product or service is needed by a specific group of people but doesn’t represent a large enough market to be of interest to mainstream retailers or manufacturers. Copyright ©2016 Pearson Education, Inc. 2-47 Third Approach: Finding Gaps in the Marketplace 2 of 2 Specific Example Product gaps in the Tish Cirovolv realized there marketplace represent were no guitars on the market potentially viable made specifically for females. business opportunities. To fill this gap, she started Daisy Rock Guitars, a company that makes guitars just for women and girls. Copyright ©2016 Pearson Education, Inc. 2-48 Personal Characteristics of the Entrepreneur Characteristics that tend to make some people better at recognizing opportunities than others Prior Experience Cognitive Factors Social Networks Creativity Copyright ©2016 Pearson Education, Inc. 2-49 Prior Experience Prior Industry Experience – Several studies have shown that prior experience in an industry helps an entrepreneur recognize business opportunities. By working in an industry, an individual may spot a market niche that is underserved. It is also possible that by working in an industry, an individual builds a network of social contacts who provide insights that lead to recognizing new opportunities. Copyright ©2016 Pearson Education, Inc. 2-50 Cognitive Factors Cognitive Factors – Studies have shown that opportunity recognition may be an innate skill or cognitive process. – Some people believe that entrepreneurs have a “sixth sense” that allows them to see opportunities that others miss. – This “sixth sense” is called entrepreneurial alertness, which is formally defined as the ability to notice things without engaging in deliberate search. Copyright ©2016 Pearson Education, Inc. 2-51 Social Networks 1 of 3 Social Networks – The extent and depth of an individual’s social network affects opportunity recognition. – People who build a substantial network of social and professional contacts will be exposed to more opportunities and ideas than people with sparse networks. – Research results suggest that between 40% and 50% of people who start a business got their idea via a social contact. Strong Tie Vs. Weak Tie Relationships – All of us have relationships with other people that are called “ties.” (See next slide.) Copyright ©2016 Pearson Education, Inc. 2-52 Social Networks 2 of 3 Nature of Strong-Tie Vs. Weak-Tie Relationships – Strong-tie relationships are characterized by frequent interaction and form between coworkers, friends, and spouses. – Weak-tie relationships are characterized by infrequent interaction and form between casual acquaintances. Result – It is more likely that an entrepreneur will get new business ideas through weak-tie rather than strong-tie relationships. (See next slide.) Copyright ©2016 Pearson Education, Inc. 2-53 Social Networks 3 of 3 Why weak-tie relationships lead to more new business ideas than strong-tie relationships Strong-Tie Relationships Weak-Tie Relationships These relationships, which These relationships, which typically form between like- form between casual minded individuals, tend to acquaintances, are not as reinforce insights and ideas apt to be between like- that people already have. minded individuals, so one person may say something to another that sparks a completely new idea. Copyright ©2016 Pearson Education, Inc. 2-54 Creativity 1 of 2 Creativity – Creativity is the process of generating a novel or useful idea. – Opportunity recognition may be, at least in part, a creative process. – For an individual, the creative process can be broken down into five stages, as shown on the next slide. Copyright ©2016 Pearson Education, Inc. 2-55 Creativity 2 of 2 Five Steps to Generating Creative Ideas Copyright ©2016 Pearson Education, Inc. 2-56 Full View of the Opportunity Recognition Process Depicts the connection between an awareness of emerging trends and the personal characteristics of the entrepreneur Copyright ©2016 Pearson Education, Inc. 2-57 Techniques for Generating Ideas Brainstorming Focus Groups Library and Internet Research Copyright ©2016 Pearson Education, Inc. 2-58 Brainstorming Brainstorming – Is a technique used to generate a large number of ideas and solutions to problems quickly. – A brainstorming “session” typically involves a group of people, and should be targeted to a specific topic. – Rules for a brainstorming session: No criticism. Freewheeling is encouraged. The session should move quickly. Leap-frogging is encouraged. Copyright ©2016 Pearson Education, Inc. 2-59 Focus Groups Focus Group – A focus group is a gathering of five to ten people, who have been selected based on their common characteristics relative to the issues being discussed. – These groups are led by a trained moderator, who uses the internal dynamics of the group environment to gain insight into why people feel the way they do about a particular issue. – Although focus groups are used for a variety of purposes, they can be used to help generate new business ideas. Copyright ©2016 Pearson Education, Inc. 2-60 Library and Internet Research 1 of 3 Library Research – Libraries are an often underutilized source of information for generating new business ideas. – The best approach is to talk to a reference librarian, who can point out useful resources, such as industry-specific magazines, trade journals, and industry reports. – Simply browsing through several issues of a trade journal or an industry report on a topic can spark new ideas. Copyright ©2016 Pearson Education, Inc. 2-61 Library and Internet Research 2 of 3 Examples of Useful Search Large public and Engines and Industry Reports university libraries BizMiner typically have access to ProQuest search engines and IBISWorld industry reports that would Mintel cost thousands of dollars LexisNexis Academic to access on your own. Copyright ©2016 Pearson Education, Inc. 2-62 Library and Internet Research 3 of 3 Internet Research – If you are starting from scratch, simply typing “new business ideas” into a search engine will produce links to newspapers and magazine articles about the “hottest” new business ideas. – If you have a specific topic in mind, setting up Google mail alerts will provide you with links to a constant stream of newspaper articles, blog posts, and news releases about the topic. – Targeted searches are also useful. Copyright ©2016 Pearson Education, Inc. 2-63 Other Techniques Customer Advisory Boards – Some companies set up customer advisory boards that meet regularly to discuss needs, wants, and problems that may lead to new ideas. Day-In-The-Life Research – A type of anthropological research, where the employees of a company spend a day with a customer. Copyright ©2016 Pearson Education, Inc. 2-64 Encouraging New Ideas Establishing a Focal Point for Ideas – Some firms meet the challenge of encouraging, collecting, and evaluating ideas by designating a specific person to screen and track them—for if it’s everybody’s job, it may be no one’s responsibility. – Another approach is to establish an idea bank (or vault), which is a physical or digital repository for storing ideas. Encouraging Creativity at the Firm Level – Creativity is the raw material that goes into innovation and should be encouraged at the organizational and individual supervisory level. Copyright ©2016 Pearson Education, Inc. 2-65 Copyright ©2016 Pearson Education, Inc. 2-66 Chapter 3 Feasibility Analysis Bruce R. Barringer R. Duane Ireland Copyright ©2016 Pearson Education, Inc. 3-67 Chapter Objectives 1 of 2 1. Explain what a feasibility analysis is and why it’s important. 2. Describe a product/service feasibility analysis, explain its purpose, and discuss the two primary issues that a proposed business should consider in this area. 3. Describe an industry/market feasibility analysis, explain its purpose, and discuss the two primary issues to consider when completing this analysis. Copyright ©2016 Pearson Education, Inc. 3-68 Chapter Objectives 2 of 2 4. Explain what an organizational feasibility analysis is and its purpose and discuss the two primary issues to consider when completing this analysis. 5. Describe what a financial feasibility analysis is, explain its importance, and discuss the most critical issues to consider when completing this analysis. 6. Describe a feasibility analysis template and explain when it is important for entrepreneurs to use this template. Copyright ©2016 Pearson Education, Inc. 3-69 What Is Feasibility Analysis? Feasibility analysis is the process of determining whether a business idea is viable. It is the preliminary evaluation Feasibility Analysis of a business idea, conducted for the purpose of determining whether the idea is worth pursuing. Copyright ©2016 Pearson Education, Inc. 3-70 When To Conduct a Feasibility Analysis Timing of Feasibility Analysis – The proper time to conduct a feasibility analysis is early in thinking through the prospects for a new business. – The thought is to screen ideas before a lot of resources are spent on them. Components of a Properly Conducted Feasibility Analysis – A properly conducted feasibility analysis includes four separate components, as discussed in the following slides. Copyright ©2016 Pearson Education, Inc. 3-71 Feasibility Analysis Role of feasibility analysis in developing business ideas. Copyright ©2016 Pearson Education, Inc. 3-72 Forms of Feasibility Analysis Industry/Target Market Product/Service Feasibility Feasibility Organizational Feasibility Financial Feasibility Copyright ©2016 Pearson Education, Inc. 3-73 Outline for a Comprehensive Feasibility Analysis Copyright ©2016 Pearson Education, Inc. 3-74 Product/Service Feasibility Analysis 1 of 2 Purpose Is an assessment of the overall Product/Service appeal of the product or service Feasibility Analysis being proposed. Before a prospective firm rushes a new product or service into development, it should be sure that the product or service is what prospective customers want. Copyright ©2016 Pearson Education, Inc. 3-75 Product/Service Feasibility Analysis 2 of 2 Components of product/service feasibility analysis Product/Service Product/Service Desirability Demand Copyright ©2016 Pearson Education, Inc. 3-76 Product/Service Desirability 1 of 3 First, ask the following questions to determine the basic appeal of the product or service. Does it make sense? Is it reasonable? Is it something consumers will get excited about? Does it take advantage of an environmental trend, solve a problem, or take advantage of a gap in the marketplace? Is this a good time to introduce the product or service to the market? Are there any fatal flaws in the product or service’s basic design or concept? Copyright ©2016 Pearson Education, Inc. 3-77 Product/Service Desirability 2 of 3 Second, Administer a Concept Test – A concept statement should be developed. – A concept statement is a one-page description of a business that is distributed to people who are asked to provide feedback on the potential of the business idea. – The feedback will hopefully provide the entrepreneur: A sense of the viability of the product or service idea. Suggestions for how the idea can be strengthened or “tweaked” before proceeding further. Copyright ©2016 Pearson Education, Inc. 3-78 Product/Service Desirability 3 of 3 New Venture Fitness Drink’s Concept Statement Copyright ©2016 Pearson Education, Inc. 3-79 Product/Service Demand 1 of 4 Product/Service Demand – There are two steps to assessing product/service demand. – Step 1: Talking Face-to-Face with Potential Customers. – Step 2: Using Online Tools, Such as Google AdWords and Landing Pages, To Assess Demand. Copyright ©2016 Pearson Education, Inc. 3-80 Product/Service Demand 2 of 4 Talking Face-to-Face with Potential Customers – The only way to know if your product or service is what people want is by talking to them. – The idea is to gauge customer reaction to the general concept of what you want to sell, and tweak, revise, and improve on the idea based on the feedback. – In some cases, talking with potential customers will cause an entrepreneur to abandon an idea. Entrepreneurs are often surprised to find that a product idea they think solves a problem gets lukewarm reception when they talk to actual customers. Copyright ©2016 Pearson Education, Inc. 3-81 Product/Service Demand 3 of 4 Utilizing Online Tools, Such as Google AdWords and Landing Pages, to Assess Demand – The second way to assess demand is to utilize online tools to gauge reaction from potential customers. – Some entrepreneurs purchase text ads on search engines that show up when a user is searching for a product that is close to their idea. If the searcher clicks on the text ad, they are directed to a landing page that describes the idea. There may be a link on the landing page that says “For future updates please enter your e-mail address.” Demand for the idea can be assessed by how many people click on the text ad and enter their e-mail address. Copyright ©2016 Pearson Education, Inc. 3-82 Product/Service Demand 4 of 4 Utilizing Online Tools, Such as Google AdWords and Landing Pages, to Assess Demand (continued) – A variety of additional online tools are available to help assess the demand for a new product or service. – Examples include: Sites that provide feedback on business ideas (Foundersuite, Quirky). Market Research (CrowdPicker, Google Trends). Online Surveys (Survey Monkey, Google Consumer Surveys). Q&A Sites (Quora, Stack Overflow). Copyright ©2016 Pearson Education, Inc. 3-83 Industry/Target Market Feasibility Analysis 1 of 2 Purpose Is an assessment of the overall appeal of the industry and the Industry/Target Market target market for the proposed Feasibility Analysis business. An industry is a group of firms producing a similar product or service. A firm’s target market is the limited portion of the industry it plans to go after. Copyright ©2016 Pearson Education, Inc. 3-84 Industry/Target Market Feasibility Analysis 2 of 2 Components of industry/target market feasibility analysis Target Market Industry Attractiveness Attractiveness Copyright ©2016 Pearson Education, Inc. 3-85 Industry Attractiveness 1 of 2 Industry Attractiveness – Industries vary in terms of their overall attractiveness. – In general, the most attractive industries have the characteristics depicted on the next slide. – Particularly important—the degree to which environmental and business trends are moving in favor rather than against the industry. Copyright ©2016 Pearson Education, Inc. 3-86 Industry Attractiveness 2 of 2 Characteristics of Attractive Industries Are young rather than old. Are early rather than late in their life cycle. Are fragmented rather than concentrated. Are growing rather than shrinking. Are selling products and services that customers “must have” rather than “want to have.” Are not crowded. Have high rather than low operating margins. Are not highly dependent on the historically low price of key raw materials. Copyright ©2016 Pearson Education, Inc. 3-87 Target Market Attractiveness Target Market Attractiveness – The challenge in identifying an attractive target market is to find a market that’s large enough for the proposed business but is yet small enough to avoid attracting larger competitors. – Assessing the attractiveness of a target market is tougher than assessing the attractiveness an entire industry. – Often, considerable ingenuity must be employed to find information to assess the attractiveness of a specific target market. Copyright ©2016 Pearson Education, Inc. 3-88 Organizational Feasibility Analysis 1 of 2 Purpose Is conducted to determine Organizational Feasibility whether a proposed business has Analysis sufficient management expertise, organizational competence, and resources to successfully launch a business. Focuses on non-financial resources. Copyright ©2016 Pearson Education, Inc. 3-89 Organizational Feasibility Analysis 2 of 2 Components of organizational feasibility analysis Management Prowess Resource Sufficiency Copyright ©2016 Pearson Education, Inc. 3-90 Management Prowess Management Prowess – A proposed business should candidly evaluate the prowess, or ability, of its management team to satisfy itself that management has the requisite passion and expertise to launch the venture. – Two of the most important factors in this area are: The passion that the sole entrepreneur or the founding team has for the business idea. The extent to which the sole entrepreneur or the founding team understands the markets in which the firm will participate. Copyright ©2016 Pearson Education, Inc. 3-91 Resource Sufficiency 1 of 2 Resource Sufficiency – This topic pertains to an assessment of whether an entrepreneur has sufficient resources to launch the proposed venture. – To test resource sufficiency, a firm should list the 6 to 12 most critical nonfinancial resources that will be needed to move the business idea forward successfully. If critical resources are not available in certain areas, it may be impractical to proceed with the business idea. Copyright ©2016 Pearson Education, Inc. 3-92 Resource Sufficiency 2 of 2 Examples of nonfinancial resources that may be critical to the successful launch of a new business Affordable office space. Lab space, manufacturing space, or space to launch a service business. Availability of contract manufacturers or service providers. Key management employees (now and in the future). Key support personnel (now and in the future). Ability to obtain intellectual property protection. Ability to form favorable business partnerships. Copyright ©2016 Pearson Education, Inc. 3-93 Financial Feasibility Analysis 1 of 2 Purpose Is the final component of a Financial Feasibility comprehensive feasibility analysis. Analysis A preliminary financial assessment is sufficient. Copyright ©2016 Pearson Education, Inc. 3-94 Financial Feasibility Analysis 2 of 2 Components of financial feasibility analysis Total Start-Up Cash Financial Performance of Needed Similar Businesses Overall Financial Attractiveness of the Proposed Venture Copyright ©2016 Pearson Education, Inc. 3-95 Total Start-Up Cash Needed Total Start-Up Cash Needed – The first issue refers to the total cash needed to prepare the business to make its first sale. – An actual budget should be prepared that lists all the anticipated capital purchases and operating expenses needed to generate the first $1 in revenues. – The point of this exercise is to determine if the proposed venture is realistic given the total start-up cash needed. Copyright ©2016 Pearson Education, Inc. 3-96 Financial Performance of Similar Businesses Financial Performance of Similar Businesses – Estimate the proposed start-up’s financial performance by comparing it to similar, already established businesses. – There are several ways to doing this, all of which involve a little ethical detective work. First, there are many reports available, some for free and some that require a fee, offering detailed industry trend analysis and reports on thousands of individual firms. Second, simple observational research may be needed. For example, the owners of New Venture Fitness Drinks could estimate their sales by tracking the number of people who patronize similar restaurants and estimating the average amount each customer spends. Copyright ©2016 Pearson Education, Inc. 3-97 Overall Financial Attractiveness of the Proposed Venture 1 of 2 Overall Financial Attractiveness of the Proposed Investment – A number of other financial factors are associated with promising business start- ups. – In the feasibility analysis stage, the extent to which a business opportunity is positive relative to each factor is based on an estimate rather than actual performance. – The table on the next slide lists the factors that pertain to the overall attractiveness of the financial feasibility of the business idea. Copyright ©2016 Pearson Education, Inc. 3-98 Overall Financial Attractiveness of the Proposed Venture 2 of 2 Financial Factors Associated With Promising Business Opportunities Steady and rapid growth in sales during the first 5 to 7 years in a clearly defined market niche. High percentage of recurring revenue—meaning that once a firm wins a client, the client will provide recurring sources of revenue. Ability to forecast income and expenses with a reasonable degree of certainty. Internally generated funds to finance and sustain growth. Availability of an exit opportunity for investors to convert equity to cash. Copyright ©2016 Pearson Education, Inc. 3-99 First Screen First Screen – Shown in Appendix 3.1 is a template for completing a feasibility analysis. – It’s called “First Screen” because it’s a tool that can be used in the initial pass at determining the feasibility of a business idea. – If a business idea cuts muster at this stage, the next step is to complete a business plan. Copyright ©2016 Pearson Education, Inc. 3-100 Copyright ©2016 Pearson Education, Inc. 3-101 Chapter 5 Industry and Competitor Analysis Bruce R. Barringer R. Duane Ireland Copyright ©2016 Pearson Education, Inc. 5-102 Chapter Objectives 1. Explain the purpose of an industry analysis. 2. Identify and discuss the five competitive forces that determine industry profitability. 3. Explain the value that entrepreneurial firms create by successfully using the five forces model. 4. Identify the five primary industry types and the opportunities they offer. 5. Explain the purpose of a competitor analysis and a competitive analysis grid. Copyright ©2016 Pearson Education, Inc. 5-103 What is Industry Analysis? Industry – An industry is a group of firms producing a similar product or service, such as music, Pilates and yoga studios, and solar panel manufacturing. Industry Analysis – Is business research that focuses on the potential of an industry. Copyright ©2016 Pearson Education, Inc. 5-104 Why is Industry Analysis Important? Importance Once it is determined that a new venture is feasible in regard to the industry and market in which it Industry Analysis will compete, a more in-depth analysis is needed to learn the ins and outs of the industry. The analysis helps a firm determine if the target market it identified during feasibility analysis is favorable for a new firm. Copyright ©2016 Pearson Education, Inc. 5-105 Three Key Questions When studying an industry, an entrepreneur must answer three questions before pursuing the idea of starting a firm. Question 1 Question 2 Question 3 Is the industry Are there positions in Does the industry accessible—in other the industry that avoid contain markets that words, is it a realistic some of the negative are ripe for innovation place for a new attributes of the or are underserved? venture to enter? industry as a whole? Copyright ©2016 Pearson Education, Inc. 5-106 How Industry and Firm-Level Factors Affect Performance Firm-Level Factors – Include a firm’s assets, products, culture, teamwork among its employees, reputation, and other resources. Industry-Level Factors – Include threat of new entrants, rivalry among existing firms, bargaining power of buyers, and related factors. Conclusion – In various studies, researchers have found that from 8% to 30% of the variation in firm profitability is directly attributable to the industry in which a firm competes. Copyright ©2016 Pearson Education, Inc. 5-107 Techniques Available to Assess Industry Attractiveness Assessing Industry Attractiveness Study Environmental The Five Competitive and Business Trends Forces Model Copyright ©2016 Pearson Education, Inc. 5-108 Studying Industry Trends Environmental Trends – Include economic trends, social trends, technological advances, and political and regulatory changes. – For example, industries that sell products to seniors are benefiting by the aging of the population. Business Trends – Other trends that impact an industry. – For example, are profit margins in the industry increasing or falling? Is innovation accelerating or waning? Are input costs going up or down? Copyright ©2016 Pearson Education, Inc. 5-109 The Five Competitive Forces Model 1 of 3 Explanation of the Five Forces Model – The five competitive forces model is a framework for understanding the structure of an industry. – The model is composed of the forces that determine industry profitability. – They help determine the average rate of return for the firms in an industry. Copyright ©2016 Pearson Education, Inc. 5-110 The Five Competitive Forces Model 2 of 3 Explanation of the Five Forces Model (continued) – Each of the five forces impacts the average rate of return for the firms in an industry by applying pressure on industry profitability. – Well managed firms try to position their firms in a way that avoids or diminishes these forces—in an attempt to beat the average rate of return of the industry. Copyright ©2016 Pearson Education, Inc. 5-111 The Five Competitive Forces Model 3 of 3 Copyright ©2016 Pearson Education, Inc. 5-112 Threat of Substitutes 1 of 3 Threat of Substitutes – The price that consumers are willing to pay for a product depends in part on the availability of substitute products. – For example, there are few, if any, substitutes for prescription medicines, which is one of the reasons the pharmaceutical industry is so profitable. – In contrast, when close substitutes for a product exist, industry profitability is suppressed, because consumers will opt out if the price gets too high. Copyright ©2016 Pearson Education, Inc. 5-113 Threat of Substitutes 2 of 3 Threat of Substitutes (continued) – The extent to which substitutes suppress the profitability of an industry depends on the propensity for buyers to substitute between alternatives. – This is why firms in an industry often offer their customers amenities to reduce the likelihood that they will switch to a substitute product, even in light of a price increase. Copyright ©2016 Pearson Education, Inc. 5-114 Threat of Substitutes 3 of 3 This independently owned coffee shop doesn’t just sell coffee. It also offers its patrons a convenient and pleasant place to meet, socialize, and study. It provides these amenities to decrease the likelihood that its customers will “substitute” coffee at this shop for less expensive alternatives. Copyright ©2016 Pearson Education, Inc. 5-115 Threat of New Entrants 1 of 6 Threat of New Entrants – If the firms in an industry are highly profitable, the industry becomes a magnet to new entrants. – Unless something is done to stop this, the competition in the industry will increase, and average industry profitability will decline. – Firms in an industry try to keep the number of new entrants low by erecting barriers to entry. A barrier to entry is a condition that creates a disincentive for a new firm to enter an industry. Copyright ©2016 Pearson Education, Inc. 5-116 Threat of New Entrants 2 of 6 Barriers to Entry Barrier to Entry Explanation Industries that are characterized by large economies Economies of Scale of scale are difficult for new firms to enter, unless they are willing to accept a cost disadvantage. Industries such as the soft drink industry that are Product characterized by firms with strong brands are difficult differentiation to break into without spending heavily on advertising. Capital The need to invest large amounts of money to gain requirements entrance to an industry is another barrier to entry. Copyright ©2016 Pearson Education, Inc. 5-117 Threat of New Entrants 3 of 6 Barriers to Entry (continued) Barrier to Entry Explanation Existing firms may have cost advantages not related Cost advantages to size. For example, the existing firms in an industry independent of size may have purchased land when it was less expensive than it is today. Distribution channels are often hard to crack. This is Access to distribution particularly true in crowded markets, such as the channels convenience store market. Government and Some industries, such as banking and broadcasting, legal barriers require the granting of a license by a public authority to compete. Copyright ©2016 Pearson Education, Inc. 5-118 Threat of New Entrants 4 of 6 Nontraditional Barriers to Entry – It is difficult for start-ups to execute barriers to entry that are expensive, such as economies of scale, because money is usually tight. – Start-ups have to rely on nontraditional barriers to entry to discourage new entrants, such as assembling a world-class management team that would be difficult for another company to replicate. Copyright ©2016 Pearson Education, Inc. 5-119 Threat of New Entrants 5 of 6 Nontraditional Barriers to Entry Barrier to Entry Explanation If a start-up puts together a world-class management Strength of team, it may give potential rivals pause in taking on management team the start-up in its chosen industry. If a start-up pioneers an industry or a new concept First-mover within an industry, the name recognition the start-up advantage establishes may create a barrier to entry. If the employees of a start-up are motivated by the Passion of the unique culture of a start-up, and anticipate a large management team financial reward, this is a combination that cannot be and employees replicated by larger firms. Copyright ©2016 Pearson Education, Inc. 5-120 Threat of New Entrants 6 of 6 Nontraditional Barriers to Entry (continued) Barrier to Entry Explanation If a start-up is able to construct a unique business Unique business model and establish a network of relationships that model makes the business model work, this set of advantages creates a barrier to entry. Some Internet domain names are so “spot-on” that Internet domain they give a start-up a meaningful leg up in terms of e- name commerce opportunities. Inventing a new If a start-up invents a new approach to an industry approach to an and executes it in an exemplary fashion, these factors industry create a barrier to entry for potential imitators. Copyright ©2016 Pearson Education, Inc. 5-121 Rivalry Among Existing Firms 1 of 3 Rivalry Among Existing Firms – In most industries, the major determinant of industry profitability is the level of competition among existing firms. – Some industries are fiercely competitive, to the point where prices are pushed below the level of costs, and industry-wide losses occur. – In other industries, competition is much less intense and price competition is subdued. Copyright ©2016 Pearson Education, Inc. 5-122 Rivalry Among Existing Firms 2 of 3 Factors that determine the intensity of the rivalry among existing firms in an industry Number and The more competitors there are, the more likely it balance of is that one or more will try to gain customers by competitors cutting its price. Degree of The degree to which products differ from one difference product to another affects industry rivalry. between products Copyright ©2016 Pearson Education, Inc. 5-123 Rivalry Among Existing Firms 3 of 3 Factors that determine the intensity of the rivalry among existing firms in an industry (continued) The competition among firms in a slow-growth Growth rate of an industry is stronger than among those in fast- industry growth industries. Firms that have high fixed costs must sell a higher Level of fixed volume of their product to reach the break-even costs point than firms with low fixed costs. Copyright ©2016 Pearson Education, Inc. 5-124 Bargaining Power of Suppliers 1 of 3 Bargaining Power of Suppliers – Suppliers can suppress the profitability of the industries to which they sell by raising prices or reducing the quality of the components they provide. – If a supplier reduces the quality of the components it supplies, the quality of the finished product will suffer, and the manufacturer will eventually have to lower its price. – If the suppliers are powerful relative to the firms in the industry to which they sell, industry profitability can suffer. Copyright ©2016 Pearson Education, Inc. 5-125 Bargaining Power of Suppliers 2 of 3 Factors that have an impact on the ability of suppliers to exert pressure on buyers Supplier When there are only a few suppliers that supply a concentration critical product to a large number of buyers, the supplier has an advantage. Switching costs are the fixed costs that buyers Switching costs encounter when switching or changing from one supplier to another. If switching costs are high, a buyer will be less likely to switch suppliers. Copyright ©2016 Pearson Education, Inc. 5-126 Bargaining Power of Suppliers 3 of 3 Factors that have an impact on the ability of suppliers to exert pressure on buyers (continued) Attractiveness of Supplier power is enhanced if there are no substitutes attractive substitutes for the product or services the supplier offers. Threat of The power of a supplier is enhanced if there is a forward credible possibility that the supplier might enter integration the buyer’s industry. Copyright ©2016 Pearson Education, Inc. 5-127 Bargaining Power of Buyers 1 of 3 Bargaining Power of Buyers – Buyers can suppress the profitability of the industries from which they purchase by demanding price concessions or increases in quality. – For example, the automobile industry is dominated by a handful of large companies that buy products from thousands of suppliers in different industries. This allows the automakers to suppress the profitability of the industries from which they buy by demanding price reductions. Copyright ©2016 Pearson Education, Inc. 5-128 Bargaining Power of Buyers 2 of 3 Factors that have an impact on the ability of buyers to exert pressure on suppliers If there are only a few large buyers, and they buy Buyer group from a large number of suppliers, they can concentration pressure the suppliers to lower costs and thus affect the profitability of the industries from which they buy. The greater the importance of an item is to a Buyer’s costs buyer, the more sensitive the buyer will be to the price it pays. Copyright ©2016 Pearson Education, Inc. 5-129 Bargaining Power of Buyers 3 of 3 Factors that have an impact on the ability of buyers to exert pressure on suppliers (continued) Degree of The degree to which a supplier’s product standardization differs from its competitors affects the buyer’s of supplier’s bargaining power. products Threat of The power of buyers is enhanced if there is a backward credible threat that the buyer might enter the integration supplier’s industry. Copyright ©2016 Pearson Education, Inc. 5-130 First Application of the Five Forces Model 1 of 2 First Application of the Model – The five forces model can be used to assess the attractiveness of an industry by determining the level of threat to industry profitability for each of the forces. – If a firm fills out the form shown on the next slide and several of the threats to industry profitability are high, the firm may want to reconsider entering the industry or think carefully about the position it would occupy. Copyright ©2016 Pearson Education, Inc. 5-131 First Application of the Five Forces Model 2 of 2 Assessing Industry Attractiveness Using the Five Forces Model Copyright ©2016 Pearson Education, Inc. 5-132 Second Application of the Five Forces Model 1 of 2 Second Application of the Model – The second way a new firm can apply the five forces model to help determine whether it should enter an industry is by using the model to answer several key questions. – The questions are shown in the figure on the next slide, and help a firm project the potential success of a new venture in a particular industry. Copyright ©2016 Pearson Education, Inc. 5-133 Second Application of the Five Forces Model 2 of 2 Using the Five Forces Model to Pose Questions to Determine the Potential Success of a New Venture in an Industry Copyright ©2016 Pearson Education, Inc. 5-134 Industry Types and the Opportunities They Offer 1 of 3 Emerging Industries – Industries in which standard operating procedures have yet to be developed. Opportunity: First-mover advantage. Fragmented Industries – Industries that are characterized by a large number of firms of approximately equal size. Opportunity: Consolidation. Copyright ©2016 Pearson Education, Inc. 5-135 Industry Types and the Opportunities They Offer 2 of 3 Mature Industries – Industries that are experiencing slow or no increase in demand. Opportunities: Process innovation and after-sale service innovation. Declining Industries – Industries that are experiencing a reduction in demand. Opportunities: Leadership, establishing a niche market, and pursuing a cost reduction strategy. Copyright ©2016 Pearson Education, Inc. 5-136 Industry Types and the Opportunities They Offer 3 of 3 Global Industries – Industries that are experiencing significant international sales. Opportunities: Multidomestic and global strategies. Copyright ©2016 Pearson Education, Inc. 5-137 Competitor Analysis What is a Competitor Analysis? – A competitor analysis is a detailed analysis of a firm’s competition. – It helps a firm understand the positions of its major competitors and the opportunities that are available. – A competitive analysis grid is a tool for organizing the information a firm collects about its competitors. Copyright ©2016 Pearson Education, Inc. 5-138 Identifying Competitors Types of Competitors New Ventures Face Copyright ©2016 Pearson Education, Inc. 5-139 Sources of Competitive Intelligence 1 of 2 Collecting Competitive Intelligence – To complete a competitive analysis grid, a firm must first understand the strategies and behaviors of its competitors. – The information that is gathered by a firm to learn about its competitors is referred to as competitive intelligence. – A new venture should take care that it collects competitive intelligence in a professional and ethical manner. Copyright ©2016 Pearson Education, Inc. 5-140 Sources of Competitive Intelligence 2 of 2 Ethical ways to obtain information about competitors Attend conferences and trade shows. Purchase competitors’ products. Study competitors’ Web sites and social media sites. Set up Google e-mail alerts. Read industry-related books, magazines, and Web sites. Talk to customers about what motivated them to buy your product as opposed to your competitor’s product. Copyright ©2016 Pearson Education, Inc. 5-141 Completing a Competitive Analysis Grid Competitive Analysis Grid – A tool for organizing the information a firm collects about its competitors. – A competitive analysis grid can help a firm see how it stacks up against its competitors, provide ideas for markets to pursue, and identify its primary sources of competitive advantage. Copyright ©2016 Pearson Education, Inc. 5-142 Competitive Analysis Grid for Element Bars Copyright ©2016 Pearson Education, Inc. 5-143 Copyright ©2016 Pearson Education, Inc. 5-144 Chapter 7 Preparing a Proper Ethical and Legal Foundation Bruce R. Barringer R. Duane Ireland Copyright ©2016 Pearson Education, Inc. 7-145 Chapter Objectives 1. Discuss the actions founders can take to establish a strong ethical culture in their entrepreneurial ventures. 2. Describe actions taken in new firms to effectively deal with legal issues. 3. Provide an overview of the business licenses and permits that a start-up must obtain before it begins operating. 4. Identify and describe the different forms of organization available to new firms. Copyright ©2016 Pearson Education, Inc. 7-146 Initial Ethical and Legal Issues Facing a New Firm Establishing a strong Drafting a founder’s Choosing an attorney ethical culture agreement Avoiding legal Obtaining business Choosing a form of disputes licenses and permits business organization Copyright ©2016 Pearson Education, Inc. 7-147 Establishing a Strong Ethical Culture 1 of 2 Lead by Example – The most important thing that any entrepreneur, or team of entrepreneurs, can do to build a strong ethical culture in their organization is to lead by example. Establish a Code of Conduct – A code of conduct (or code of ethics) is a formal statement of an organization’s values on certain ethical and social issues. Copyright ©2016 Pearson Education, Inc. 7-148 Establishing a Strong Ethical Culture 2 of 2 Implement an Ethics Training Program – Ethics training programs teach business ethics to help employees deal with ethical dilemmas and improve their overall ethical conduct. – An ethical dilemma is a situation that involves doing something that is beneficial to oneself or the organization, but may be unethical. Copyright ©2016 Pearson Education, Inc. 7-149 Potential Payoffs for Establishing a Strong Ethical Culture Copyright ©2016 Pearson Education, Inc. 7-150 Choosing an Attorney for a Firm Select an Attorney Early – It is important for an entrepreneur to select an attorney as early as possible when developing a business venture. – It is critically important that the attorney be familiar with start-up issues. Intellectual Property – For issues dealing with intellectual property (patents, trademarks, copyrights, and trade secrets), it is essential to use an attorney who specializes in this field. Copyright ©2016 Pearson Education, Inc. 7-151 How to Select an Attorney Contact the local bar association and ask for a list of attorneys who specialize in start-ups in your area. Interview several attorneys. Select an attorney who is familiar with the start-up process. Select an attorney who can assist you in raising money for your new venture. Make sure your attorney has a track record of completing his or her work on time. Talk about fees. Select an attorney that you think understands your business. Learn as much about the process of starting a business yourself as possible. Copyright ©2016 Pearson Education, Inc. 7-152 Drafting a Founders’ Agreement Founders’ Agreement – A founders’ agreement (or shareholders’ agreement) is a written document that deals with issues such as the relative split of the equity among the founders of the firm, how individual founders will be compensated for the cash or the “sweat equity” they put into the firm, and how long the founders will have to remain with the firm for their shares to fully vest. – The items to include in the founders’ agreement are shown on the following slide. Copyright ©2016 Pearson Education, Inc. 7-153 Partial List of Items to Include in a Founders’ Agreement Nature of the prospective business. Identity and proposed titles of the founders. Legal form of business ownership. Apportionment of stock (or division of ownership). Consideration paid for stock or ownership share of each of the founders. Identification of any intellectual property signed over to the business. Description of how the founders will be compensated and how the profits in the business will be divided. Provisions for resolving disputes. Buyback clause. Copyright ©2016 Pearson Education, Inc. 7-154 Avoiding Legal Disputes 1 of 2 Avoiding Legal Disputes – Most legal disputes are the result of misunderstandings, sloppiness, or a simple lack of knowledge of the law. Getting bogged down in legal disputes is something an entrepreneur should work hard to avoid. – There are several steps that an entrepreneur can take to avoid legal disputes: Meet all contractual obligations. Avoid undercapitalization. Get everything in writing. Set standards. Copyright ©2016 Pearson Education, Inc. 7-155 Avoiding Legal Disputes 2 of 2 Although it’s tempting to try to show people you trust them by not insisting on written agreements, it’s not a good practice. One of the simplest ways to avoid misunderstandings and ultimately legal disputes is to get everything in writing. Copyright ©2016 Pearson Education, Inc. 7-156 Nondisclosure and Noncompete Agreements Legal Agreements that Many Firms Ask Their Employees to Sign – A nondisclosure agreement binds an employee or other party (such as a supplier) to not disclose a company’s trade secrets. – A noncompete agreement prevents an individual from competing against a former employer for a specific period of time. Copyright ©2016 Pearson Education, Inc. 7-157 Obtaining Business Licenses and Permits 1 of 4 Business Licenses and Permits – Depending on the nature of the business, the business may need local, state, and/or federal licenses and permits to operate. Federal Licenses and Permits – Most businesses do not require a federal license to operate, but some do. – Examples of businesses that require federal licenses and/or permits to operate include businesses that sell (or provide) Alcohol, Tobacco, Firearms, Animal Transport Across State Lines, Commercial Fisheries, and Radio and Television Broadcasting. Copyright ©2016 Pearson Education, Inc. 7-158 Obtaining Business Licenses and Permits 2 of 4 State Licenses and Permits – In most states, there are three different categories of licenses and permits that you may need to operate a business. Business Registration Requirements. Some states require all new businesses to register with the state. Sales Tax Permits. Most states and communities require businesses that sell goods, and in some cases services, to collect sales tax and submit the tax to the proper state authorities. Professional and Occupational Licenses and Permits. In all states, there are laws that require people in certain professions to pass a state exam and maintain a professional license to conduct business. Examples includes barbers, nurses, and real estate agents. Copyright ©2016 Pearson Education, Inc. 7-159 Obtaining Business Licenses and Permits 3 of 4 Local Licenses and Permits – On the local level, there are two categories of licenses and permits that may be needed. – The first is to operate a certain type of business. Examples include child care, barber shops and salons, automotive repair, and hotels and motels. – The second category is permits for engaging in certain types of activities. Examples include building permit (required if you are building or remodeling), health permit (normally required if you are involved in preparing food), and signage permit (may be required to erect a sign). Copyright ©2016 Pearson Education, Inc. 7-160 Obtaining Business Licenses and Permits 4 of 4 Additional Requirements – If you plan to use a fictitious name for your business, in most cases you’ll need to obtain a fictitious business name permit (also called dba or doing business as). A fictitious name permit allows a business to operate under a fictitious name, like Gold Coast Sea Food or Red Rock Bakery. – All businesses, other than sole proprietorships that do not have employees, are required to obtain a Federal Employee Identification Number (also called an EIN). The easiest way to obtain an EIN is to go to www.irs.com and click on Apply for an EIN online. Copyright ©2016 Pearson Education, Inc. 7-161 Choosing a Form of Business Ownership When a business is launched, a form of legal entity must be chosen. The most common legal entities are… Sole Proprietorship Partnership Limited Liability Corporation Company Copyright ©2016 Pearson Education, Inc. 7-162 Issues to Consider in Choosing a Legal Form of Business Ownership Copyright ©2016 Pearson Education, Inc. 7-163 Sole Proprietorship Sole Proprietorship – The simplest form of business entity is the sole proprietorship. – A sole proprietorship is a form of business organization involving one person, and the person and the business are essentially the same. – A sole proprietorship is not a separate legal entity. The sole proprietor is responsible for all the liabilities of the business, and this is a significant drawback. Copyright ©2016 Pearson Education, Inc. 7-164 Advantages and Disadvantages of a Sole Proprietorship 1 of 2 Advantages of a Sole Proprietorship ▪ Creating one is easy and inexpensive. ▪ The owner maintains complete control of the business and retains all of the profits. ▪ Business losses can be deducted against the sole proprietor’s other sources of income. ▪ It is not subject to double taxation (explained later). ▪ The business is easy to dissolve. Copyright ©2016 Pearson Education, Inc. 7-165 Advantages and Disadvantages of a Sole Proprietorship 2 of 2 Disadvantages of a Sole Proprietorship ▪ Liability on the owner’s part is unlimited. ▪ The business relies on the skills and abilities of a single owner to be successful. Of course, the owner can hire employees who have additional skills and abilities. ▪ Raising capital can be difficult. ▪ The business ends at the owner’s death or loss of interest in the business. ▪ The liquidity of the owner’s investment is low. Copyright ©2016 Pearson Education, Inc. 7-166 Partnerships 1 of 3 Partnerships – If two or more people start a business, they must organize as a partnership, corporation, or limited liability company. – Partnerships are organized as either general or limited liability partnerships. Copyright ©2016 Pearson Education, Inc. 7-167 Partnerships 2 of 3 A form of business organization where two or more people pool General Partnership their skills, abilities, and resources to run a business. The primary disadvantage is that all partners are liable for all the partnership’s debts and obligations. Copyright ©2016 Pearson Education, Inc. 7-168 Partnerships 3 of 3 A modified form of general partnership. The major difference between the two is that a limited Limited Partnership partnership includes two classes of owners: general partners and limited partners. The general partners are liable for the debts and obligations of the partnership, but the limited partners are only liable up to the amount of their investment. Copyright ©2016 Pearson Education, Inc. 7-169 Advantages and Disadvantages of a General Partnership 1 of 2 Advantages of a General Partnership ▪ Creating one is relatively easy and inexpensive compared to a corporation or limited liability company. ▪ The skills and abilities of more than one individual are available to the firm. ▪ Having more than one owner may make it easier to raise funds. ▪ Business losses can be deducted against the partners’ other sources of income. ▪ It is not subject to double taxation (explained later). Copyright ©2016 Pearson Education, Inc. 7-170 Advantages and Disadvantages of a General Partnership 2 of 2 Disadvantages of a Partnership ▪ Liability on the part of each general partner is unlimited. ▪ The business relies on the skills and abilities of a fixed number of partners. Of course, the owners can hire employees who have additional skills and abilities. ▪ Raising capital can be difficult. ▪ Because decision making among the partners is shared, disagreements can occur. ▪ The business ends with the death or withdrawal of one partner unless otherwise stated in the partnership agreement. ▪ The liquidity of each partner’s investment is low. Copyright ©2016 Pearson Education, Inc. 7-171 Corporations Corporations – A corporation is a separate legal entity organized under the authority of a state. – Corporations are organized as either C corporations or subchapter S corporations. – C corporations are what most people think of when they hear the word “corporation.” However, business startups are often organized as subchapter S corporations. Copyright ©2016 Pearson Education, Inc. 7-172 C Corporation 1 of 2 Is a separate legal entity that, in the eyes of the law, is separate from its owners. In most cases a corporation shields its owners, who are called shareholders, C Corporation from personal liability for the debts of the corporation. A corporation is governed by a board of directors, which is elected by the shareholders. A corporation is formed by filing articles of incorporation. Copyright ©2016 Pearson Education, Inc. 7-173 C Corporation 2 of 2 A corporation is taxed as a separate legal entity. A disadvantage of a C corporation is that it is subject to double taxation. This means that a corporation is taxed C Corporation on its net income, and when the same income is distributed to shareholders in the form of dividends, the income is taxed again on the shareholders’ personal tax returns. Copyright ©2016 Pearson Education, Inc. 7-174 Advantages and Disadvantages of a C Corporation 1 of 2 Advantages of a C Corporation ▪ Owners are liable only for the debts and obligations of the corporation up to the amount of their investment. ▪ The mechanics of raising capital is easier. ▪ No restrictions exist on the number of shareholders, which differs from subchapter S corporations. ▪ Stock is liquid if traded on a major stock exchange. ▪ The ability to share stock with employees through stock options or other incentive plans can be a powerful form of employee motivation. Copyright ©2016 Pearson Education, Inc. 7-175 Advantages and Disadvantages of a C Corporation 2 of 2 Disadvantages of a C Corporation ▪ Setting up and maintaining one is more difficult than for a sole proprietorship or a partnership. ▪ Business losses cannot be deducted against the shareholder’s other sources of income. ▪ Income is subject to double taxation, meaning that it is taxed at the corporate and the shareholder levels. ▪ Small shareholders

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