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The Business Side-Company planning for the future, Part 1.

September 1, 2007
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I have written numerous times about the importance of company planning. With the many changes in our profession, we need to take a more in-depth look at the importance of charting out the future of our careers and our companies.

In this column and my next three, I will try to not only address company planning from the owner’s side, but also from the employee’s perspective on career development. We need to address planning from four different angles:

1. General business concepts, such as the type of business structure and profitability.

2. Everyday issues, such as management of clients, management of employees, types of services offered and geographic area covered.

3. Technology implementation, exploring how much technology is enough and how to control final products.

4. Investment, determining how the owner or owners exit or enter a company.

The Business Plan

What do I as an owner or future owner want to derive from a company? The first choice always has to relate to the basic philosophy of running a company. Is making the greatest amount of money most important, or would I trade some profitability on long-term training of employees that resulted in additional partners or stockholders? Would I like to see the company continue after I retire or just close the doors? The running of a company for profit is known as a cash cow--an approach that usually results in high employee turnover. The cash cow owner generally pays the minimum wage (not the federal minimum wage) and will accept turnover in employees rather than give wage increases. This owner sees surveying as a way of making money and would be selling automobiles if that were more profitable. We have very few owners of this type in surveying; so many of us would (and do) survey for free to keep working. A company owner should develop a mission statement to help better understand him or herself and the company’s future. This mission statement should be made available to both employees and clients.

Business Structure

Most states in this country have many different types of business structures available, including these most common types:

Sole Proprietorship

One advantage of this type of company is not needing to have a corporate certificate from the boards of registration to do business (in most states) since most of these companies operate under the owner’s name. It is also the easiest and least expensive form of business to implement. The single most important drawback is unlimited personal liability. There is no legal distinction between the sole proprietor’s personal property and business property. Taxes are paid under the owner’s social security number.

Advantages

• Ease of formation
• Sole ownership of profits
• Owner has control over all decisions
• Flexibility in management
• Relative freedom from government control

Disadvantages

• Unlimited liability
• Unstable business life
• Less available capital
• Difficulty in obtaining financing

Partnership

A partnership is an association of two or more people who carry on as co-owners of a business. There are two types of partnerships: general and limited.

General partnerships are easy to create--two people simply agree to start a business. Although the partnership must file a federal tax return showing profit or loss, the partnership is not itself a separate taxable entity, and thus, does not pay taxes. The partners each report the partnership income (or loss within certain limits) on their individual tax returns. One basic drawback of the partnership (as with the sole proprietorship) is that general partners are subject to unlimited liability. A general partner’s liability is not limited to his or her investment, but also extends to the partner’s personal assets.

A limited partnership, on the other hand, is made up of one or more general partners and any number of limited partners. In contrast to general partners, who manage the business and accept liability for the partnership debts, limited partners do not actively participate in management and are liable only to the extent of their investment in the partnership. Limited partnerships may involve establishing formal, legal requirements, as do corporations.

Advantages

• Ease of formation
• Direct rewards
• Growth and performance facilitated
• Flexibility in decision making
• Relative freedom from government control and special taxation

Disadvantages

• Unlimited liability of at least one partner
• Unstable life; elimination of any partner constitutes automatic dissolution of the partnership
• Relative difficulty in obtaining large sums of money
• Firm bound by the acts of just one partner or agent
• Difficulty in disposing of partnership interest

Corporations

To avoid unlimited liability and enjoy a few fringe benefits not available to other entities, a business owner may choose to incorporate, either as a C corporation or an S corporation.

The C corporation is the most popular but also the most complex business structure. C corporation profits are subject to tax at the corporate level and also at the shareholder level when profits are distributed in the form of dividends. A good candidate for incorporation is a business where substantial liability exposure is present. Advantages of corporations include limited liability (each shareholder’s liability is limited to the amount he or she invested), the availability of a number of deductions for employee fringe benefits, and a perpetual life (the corporation can continue long after any major stockholder dies or leaves the company). Disadvantages include the expenses involved in setting up the business and the requirement to comply with state laws. Furthermore, the corporation must pay federal and state unemployment taxes on shareholders and employees. However, the employer’s portion of the social security tax and federal/state unemployment taxes is a deductible business expense.

The federal tax law allows certain small companies to elect the S corporation form, eliminating the double taxation burden associated with general corporations. The S corporation enables a closely held business to be taxed as if it were a partnership (i.e., the profits and the losses pass through the owners) but still retain the protection of limited liability. There are a number of restrictions to electing S corporation status, such as not having more than 35 shareholders. It should also be noted that some states may not recognize S corporation status if personal tax rates are raised above corporate tax rates.

By reviewing the facts and circumstances under which your business will operate or already operates, you can take advantage of both the tax and non-tax factors most relevant to you.

Advantages

• Limitations of the stockholder’s liability of a fixed amount of investment
• Ownership is readily transferable
• Separate legal existence
• Stability and relative permanence of existence
• Relative ease of securing capital
• Delegated authority
• The ability to draw on the expertise and skills of many

Disadvantages

• Activities are limited by the charter and various laws
• Minority stockholders may be exploited
• Extensive government regulations and required reports
• Less financial incentive for the manager
• Double taxation – income tax on corporate net income (profit) and also on salaries and dividends

Limited Liability Company (LLC)

The new kid on the block in most states is the Limited Liability Company (LLC; also called a Limited Liability Corporation). The rules set up by lawyers to run small professional companies carry with them many benefits for any professional service business. The ease to set up an LLC without extensive paperwork during its life make it an almost perfect business structure for small businesses. Many surveying companies are turning to this business structure.

Advantages

• Easy to set up
• Many tax advantages
• Flexibility in management
• Limited liability

Disadvantages

• Very few if any, but structure is designed by attorneys for professional practices

Part 2 of this four-part series will appear next month. The October column will discuss the plan for the daily management of a company.

Information on types of corporations comes from the “Surveyors and Engineers Small Business Handbook” by Milton Denny, 1988.

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