Corporations: Organization, Stock Transactions, and Dividends

Chapter 11 Corporations: Organization, Stock Transactions, and Dividends

499 The stockholders control a corporation by electing a board of directors. This board meets periodically to establish corporate policies. It also selects the chief executive officer CEO and other major officers to manage the corporation’s day-to-day affairs. Exhibit 1 shows the organizational structure of a corporation. As a separate entity, a corporation is subject to taxes. For example, corpora- tions must pay federal income taxes on their income. 1 Thus, corporate income that is distributed to stockholders in the form of dividends has already been taxed. In turn, stockholders must pay income taxes on the dividends they receive. This double taxation of corporate earnings is a major disadvantage of the corporate form. The advantages and disadvantages of the corporate form are listed in Exhibit 2. Note: Corporations have a separate legal existence, transferable units of ownership, and limited stockholder liability. Forming a Corporation The first step in forming a corporation is to file an application of incorporation with the state. State incorporation laws differ, and corporations often organize in those states with the more favorable laws. For this reason, more than half of the largest companies are incorporated in Delaware. Exhibit 3 lists some corporations, their states of incorporation, and the location of their headquarters. After the application of incorporation has been approved, the state grants a charter or articles of incorporation. The articles of incorporation formally create the corporation. 2 1 A majority of states also require corporations to pay income taxes. 2 The articles of incorporation may also restrict a corporation’s activities in certain areas, such as owning certain types of real estate, conducting certain types of business activities, or purchasing its own stock. Employees Officers Board of Directors Stockholders E X H I B I T 1 Organizational Structure of a Corporation © C eng age Lear ning 2 01 4 © C eng age Lear ning 2 01 4 E X H I B I T 2 Advantages and Disadvantages of the Corporate Form Advantages Explanation Separate legal existence A corporation exists separately from its owners. Continuous life A corporation’s life is separate from its owners; therefore, it exists indefinitely. Raising large amounts of capital The corporate form is suited for raising large amounts of money from shareholders. Ownership rights are easily transferable A corporation sells shares of ownership, called stock. The stockholders of a public company can transfer their shares of stock to other stockholders through stock markets, such as the New York Stock Exchange. Limited liability A corporation’s creditors usually may not go beyond the assets of the corporation to satisfy their claims. Thus, the financial loss that a stockholder may suffer is limited to the amount invested. Disadvantages Explanation Owner is separate from management Stockholders control management through a board of directors. The board of directors should represent shareholder interests; however, the board is often more closely tied to management than to shareholders. As a result, the board of directors and management may not always behave in the best interests of stockholders. Double taxation of dividends As a separate legal entity, a corporation is subject to taxation. Thus, net income distributed as dividends will be taxed once at the corporation level, and then again at the individual level. Regulatory costs Corporations must satisfy many requirements, such as those required by the Sarbanes-Oxley Act of 2002. Copyright 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook andor eChapters. Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 500

Chapter 11 Corporations: Organization, Stock Transactions, and Dividends