Name: Understanding Business 12Th Edition By Nickels - Test Bank
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Complete Test Bank With Answers

Sample Questions Posted Below

Understanding Business, 12e (Nickels)

Chapter 05 How to Form a Business

1) Partnerships are the most common form of business ownership.

Answer: FALSE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

2) The three major forms of business ownership in the U.S. are sole proprietorships, partnerships,

and corporations.

Answer: TRUE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

3) Few people today start their own business.

Answer: FALSE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

4) Once a business is established, it’s almost impossible to change from one form of business

ownership to another.

Answer: FALSE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.5) When two or more people legally agree to become co-owners of a business, the form of

business is called a partnership.

Answer: TRUE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

6) A legal entity with authority to act and have liability separate from its owners is called a sole

proprietorship.

Answer: FALSE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

7) Corporations represent 20 percent of all the businesses in the U.S. and earn over 80 percent of

the total U.S. business receipts.

Answer: TRUE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

8) A comparison of the three major forms of business ownership shows that sole proprietorships

are usually the most difficult type of business to establish.

Answer: FALSE

Difficulty: 1 Easy

Topic: The Importance of Small Business Ownership to the U.S. Economy

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.9) The first step in starting a sole proprietorship is to fill out a proprietorship charter application

form and file it with the state government.

Answer: FALSE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

10) It is usually easy to start and end a sole proprietorship.

Answer: TRUE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

11) The profits of a sole proprietorship are taxed as the personal income of the owner.

Answer: TRUE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

12) The sole proprietorship form of ownership tends to be attractive to people who want to invest

in a company without taking an active role in management.

Answer: FALSE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.13) A major advantage of sole proprietorships is that an owner has limited liability for the debts

of his or her business.

Answer: FALSE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

14) One of the strengths of the sole proprietorship is its ability to sustain rapid growth by raising

large amounts of financial resources.

Answer: FALSE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

15) The debts of a business operated as a sole proprietorship are considered to be the personal

debts of the owner of the business.

Answer: TRUE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

16) A drawback of sole proprietorships is that they usually have limited access to additional

financial resources.

Answer: TRUE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.17) An advantage of forming a sole proprietorship is that it allows the owner to have more time

for leisure activities.

Answer: FALSE

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

18) If a sole proprietorship fails, the owner may lose whatever was invested in the business, and

the owner’s personal assets are also at risk.

Answer: TRUE

Explanation: Sole proprietors have unlimited liability for the debts of their business. This means

that if their business gets into financial trouble they can lose their personal assets.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

19) If the business is designated a sole proprietorship, profits are passed along to the owner. For

tax purposes, these profits are accounted for with any other personal income the owner may have

accumulated and taxed at the owner’s personal income tax rate.

Answer: TRUE

Explanation: The profits of a sole proprietorship are passed through to the owner, and taxed at

the owner’s personal tax rate. However, owners do have to pay self-employment tax (for Social

Security and Medicare). By law, sole proprietors are required to estimate their taxes and make

quarterly payments to the government or suffer penalties for nonpayment.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.20) Sole proprietors sometimes have trouble competing with large firms for expert talent. Large

firms can usually pay better and offer fringe benefits that are unaffordable to the sole proprietor.

Answer: TRUE

Explanation: Sole proprietors often find it difficult to attract qualified employees to help run the

business because often they cannot compete with the salary and benefits offered by larger

companies.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

21) Unlike partnerships, if sole proprietorships find themselves in bankruptcy, they don’t need to

worry about a court requiring them to sell off personal assets to pay for the debts of the firm.

Answer: FALSE

Explanation: Sole proprietorships have unlimited liability. This means that the proprietor is

financially responsible for all debts incurred by the company. In a court of law, a judge could

require the owner/proprietor to liquidate personal assets to pay the debts of the business.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

22) Attracted to the idea of being his own boss, Christian wants to start a new business. He is

confident in his abilities, and knows his potential market is strong, so he is not particularly

worried about the financial risks. All of these factors suggest that Christian may favor starting his

business as a sole proprietorship.

Answer: TRUE

Explanation: People who want to be their own boss often prefer to operate their business, at least

initially, as a sole proprietorship. An advantage of the sole proprietorship is that it is a relatively

easy and inexpensive form of business to set up. One drawback of a sole proprietorship is that

the owner has unlimited liability. However, at this time, Eric is not worried about risk. The

unlimited liability factor does not appear to be a problem for him.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.23) Therese is a talented designer who wants to start her own women’s swimwear and beach

towel line. But first, she is trying to decide which form of business ownership is right for her. As

a young mom who hopes to send her children to college some day, she does not want to

jeopardize her savings in any way. In order to overcome these risks, Therese should start her

business as a sole proprietorship.

Answer: FALSE

Explanation: Therese is concerned about the risk of losing personal assets if her business does

not succeed. Although the sole proprietorship is easy to set up, it may not be the best form of

business ownership for Therese due to her need to protect personal assets. She may want to

consider a form of ownership that provides limited liability, like a corporation.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

24) Rhonda is convinced she has the best idea for a new business. Unfortunately, her business

would require a fairly high initial investment and Rhonda has poor credit and very little personal

wealth. She would be unlikely to find success if she organized her business as a sole

proprietorship.

Answer: TRUE

Explanation: Funds available to sole proprietorships are often limited to the amount the owner

can raise. Thus, Rhonda’s business would probably have a hard time raising enough money if she

organized it as a sole proprietorship.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

25) A general partner takes an active role in the management of the business.

Answer: TRUE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.26) All partners in a general partnership have limited liability for the debts of their firm.

Answer: FALSE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

27) In a general partnership, all partners share in management of the business and in the liability

for the firm’s debts.

Answer: TRUE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

28) In a general partnership, all partners are entitled to an equal share of the firm’s profits.

Answer: FALSE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

29) Limited partnerships are just like general partnerships, except that they are partners for a

limited time period.

Answer: FALSE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.30) A limited partner is an owner who assumes no management responsibility and has no

liability for losses beyond the amount invested.

Answer: TRUE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

31) A limited partnership consists of one or more general partners and one or more limited

partners.

Answer: TRUE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

32) Although shares of master limited partnerships can be purchased on one of the national stock

exchanges, these companies are taxed like partnerships.

Answer: TRUE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

33) The Uniform Partnership Act is law in most states, except California, Oregon, and Colorado.

Answer: FALSE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.34) According to the Uniform Partnership Act, the three key elements of any general partnership

are (1) shares of stock to represent ownership, (2) limited liability, and (3) ease of ownership

transfer.

Answer: FALSE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

35) According to the Uniform Partnership Act, the three key elements of any general partnership

are (1) common ownership, (2) shared profits and losses, and (3) the right to participate in

managing the operations of the business.

Answer: TRUE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

36) A recent study showed that partnerships are more likely to fail than sole proprietorships.

Answer: FALSE

Difficulty: 1 Easy

Topic: Advantages of Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.37) A major objective of limited liability partnerships (LLPs) is to limit each partner’s personal

liability to the consequences of their own acts and those of people under their supervision.

Answer: TRUE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

38) One of the major disadvantages of a partnership is that profits must be divided equally.

Answer: FALSE

Difficulty: 1 Easy

Topic: Disadvantages of Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

39) A general partner has unlimited liability for the debts of the partnership only if he or she

personally approved the decisions that resulted in those debts.

Answer: FALSE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

40) In order to protect all parties and minimize misunderstandings among partners, all terms of

the partnership should be spelled out in writing.

Answer: TRUE

Difficulty: 1 Easy

Topic: Disadvantages of Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.41) One advantage of a partnership is that there is a simple process for partners to terminate their

business.

Answer: FALSE

Difficulty: 1 Easy

Topic: Disadvantages of Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

42) Compared to sole proprietorships, an advantage of partnerships is their ability to obtain more

financial resources.

Answer: TRUE

Difficulty: 1 Easy

Topic: Advantages of Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

43) Setting up a partnership under the terms of a written agreement is a bad idea, because written

agreements tend to be too inflexible and impersonal.

Answer: FALSE

Difficulty: 1 Easy

Topic: Disadvantages of Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.44) Compared to sole proprietorships, partnerships offer the advantage of shared management

and pooled knowledge.

Answer: TRUE

Difficulty: 1 Easy

Topic: Advantages of Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

45) A limited partnership refers to a partnership set up for a temporary purpose, such as a real

estate development project.

Answer: FALSE

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

46) In a limited partnership, the general partners should encourage the limited partners to take a

more active role in the operations of the business. After all, the limited partner has comparable

liability in the business, even though he/she may not be a partner for as long a period of time as

the general partners.

Answer: FALSE

Explanation: By definition, a limited partnership will consist of one or more general partners

and one or more limited partners. The limited partners are passive investors. By law, they do not

take an active role in the management of the business, yet they may share in the profits of the

business and remain a partner for as long as the partnership exists.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.47) If a partner in a limited partnership dies, the partnership ceases to exist.

Answer: TRUE

Explanation: If a partner in any partnership dies, the partnership agreement automatically ceases

to exist. Good partnership agreements usually have provisions for these situations.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

48) The authors suggest that potential partners discuss the types of skills that each brings to the

business. Partners with complementary skills may enhance the business.

Answer: TRUE

Explanation: It is suggested that you ask yourself what types of skills you and your potential

partners bring to the business, and whether those skills complement each other. Successful

partners often come with varying backgrounds. Sometimes one partner will have the technical

skills to get the job done, while others might have the business or accounting knowledge.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

49) One method to avoid conflicts between partners is to solicit the services of a lawyer to create

a well-written partnership agreement.

Answer: TRUE

Explanation: One of the most important tasks to achieve before forming a partnership is to

create a partnership agreement. The partnership agreement addresses a number of rules that will

govern the activities of the partnership, including but not limited to: the duties of each partner;

the rules for adding partners; contributions by each partner; and, how profits will be distributed.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.50) Attributes such as trust and integrity are not something you should get overly concerned

about when selecting partners. This is a business decision, not a friendly game of golf.

Answer: FALSE

Explanation: Prospective partners should concern themselves with several aspects of the

business relationship, including the values shared by partners who are entering into business

together. Other things that you should ask yourself is whether the partners share the same goals

and whether each partner’s skills complement the others.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

51) The fairest way to handle profits in any partnership arrangement is to divide things evenly. If

there are two owners in the business, each gets 50%. If there are three owners (even if one is a

limited partner), each gets 33.333% of any accumulated profits.

Answer: FALSE

Explanation: The partnership agreement should stipulate the way the business plans to share the

profits. The partnership may not necessarily divide the profits equally among members. Several

criteria may enter into the decision of how to share profits, including the expertise of each

partner, the investment amount of each partner, and the amount of time each partner spends in

the business.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.52) For 11 years, Dennis and Tom have owned a car wash business as partners. Now they would

like their younger brother Jimmy to join them. Unfortunately, partnership law states that only

two partners can participate in a partnership.

Answer: FALSE

Explanation: A partnership consists of two or more owners. Unless explicitly written in the

original partnership agreement, the partnership can add partners.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

53) Janie is a general partner in a local bakery. All of her personal assets are legally protected

from the debts of the business.

Answer: FALSE

Explanation: As a general partner, Janie assumes unlimited liability for the debts of her

business.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

54) When two of Mercedes’s friends approached her about starting a business, Mercedes’s was

sure she did not want to risk any amount beyond her initial investment or be involved with the

day-to-day management. However, she was willing to invest in the business. Mercedes’s

preferences suggest that she prefers a general partnership form of business ownership.

Answer: FALSE

Explanation: In a general partnership, all partners share in the management of the business, and

have unlimited liability for the firm’s debts. Since Mercedes’s has no interest in managing a

company and wants to limit her risk, she is more suited for a limited partnership, where her

friends would serve as general partners and she would serve as a limited partner.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.55) Penny Pebble and Stuart Stone formed a partnership in a landscape business. Under their

arrangement, Penny actively manages the company and assumes unlimited liability for its debts.

Stuart has invested several thousand dollars of his money with plans to share in the profits, but

does not actively make management decisions, nor will he assume liability beyond his initial

investment. Penny and Stuart are in a limited partnership.

Answer: TRUE

Explanation: A limited partnership consists of at least one general partner, who has unlimited

liability, and at least one limited partner, who risks only what he or she has invested. By law, the

limited partner cannot actively manage the partnership.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

56) Huang has agreed to become a partner in his cousin’s waste management business. Since he

provided 30 percent of the money to start the company and built an air-conditioned garage, he is

entitled to 30 percent of any profits the company earns during its first year of operation.

Answer: FALSE

Explanation: The division of profits in a partnership is negotiable and is not necessarily tied to

the amount of the initial investment.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Application

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.57) After spending a summer “down under,” two Oregon friends, Rick and Mick, created a

general partnership to import emu from Australia to the U.S. After a year, Rick found himself at

the mercy of Mick, who seemed to keep the books and seldom share the financial results, even

though Rick was out selling the emu idea to farmers and ecologically conscious consumers and

shipments were increasing. As their consultant, one of the first things that you inquire about is

whether they are familiar with the UPA (Uniform Partnership Act), specifically the right to

participate in managing the operations of the business.

Answer: TRUE

Explanation: The Uniform Partnership Act (adopted in every state except Louisiana) stipulates:

(1) common ownership; (2) shared profits and losses; and (3) the right to participate in managing

the operations of the business. Rick has the right to know and be provided with regular financial

statements that pertain to his business.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

58) Rafael is a limited partner in an online clothing company. As a limited partner, Rafael can be

involved with the company for a maximum of five years.

Answer: FALSE

Explanation: A limited partner has limited liability and cannot actively manage the firm, but his

involvement is not restricted as to length of time.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.59) James and Reilly were arguing over who was the senior partner and who was the junior

partner, even though they started the business at the same time. If you were brought on board as

their business advisor, you would explain to them that all partnerships have at least one general

partner (known as the senior partner) and one limited partner (known as the junior partner).

Answer: FALSE

Explanation: According to the Uniform Partnership Act adopted in every state except Louisiana,

partners have the right to (1) common ownership; (2) shared profits and losses; and (3) the right

to participate in managing the operations of the business. In some cases, partners may have

differing skills and skill levels (or level of experience) of the other partners, but as partners they

are on equal footing. A good partnership agreement will spell out the details of the partnership.

Further, partnerships can be (1) general partnerships or (2) limited partnerships, but these

variations do not hold the senior/junior designation.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

60) A conventional corporation is a state-chartered legal entity, with authority to act and have

liability separate from its owners.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

61) In today’s economy, only large business enterprises should operate as corporations.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.62) The owners of a corporation are known as general corporate partners.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

63) A corporation can raise financial capital by selling shares of stock to interested investors.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

64) Stockholders in a corporation accept unlimited liability for the corporation’s debts.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.65) A disadvantage of corporations is that their charters are only valid for 99 years, so

corporations are less permanent than other types of businesses.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

66) When one of the owners of a corporation dies, the corporation legally ceases to exist.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

67) Corporations are easy to start and easy to terminate.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.68) A disadvantage of corporations is that they generally require extensive paperwork.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

69) A disadvantage of corporations is that an owner must get the approval of all other owners

before selling his or her interest in the firm to another investor.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

70) Stockholders in a corporation normally exert a significant degree of control over the

company’s daily operations.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.71) The stockholders in a corporation elect a board of directors to oversee the company’s major

policy issues.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

72) Stockholders in a corporation have limited liability.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

73) Stockholders in a corporation entrust control over the company’s daily operations to

managers selected by the board of directors to run the company.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.74) One advantage of corporations is that the initial cost of organization is usually lower than for

other forms of business ownership.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

75) States may levy special taxes on corporations that are not imposed on other businesses.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

76) Most states have legal restrictions that prevent individuals from incorporating.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.77) One reason individuals incorporate is to obtain the advantage of limited liability.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

78) An alien corporation does business abroad but is chartered in the U.S.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

79) A domestic corporation does business in the state in which it’s chartered.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.80) A foreign corporation is chartered in a country outside the U.S.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

81) Delaware and Nevada are popular states in which to seek incorporation because these states’

business-oriented laws make the process easier than it is in other states.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

82) A closed corporation is one whose stock is held by a few people and is not available to the

general public.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.83) A nonprofit corporation does not seek personal profit for its owners.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

84) A quasi-public corporation is a corporation chartered by the government as an approved

monopoly to perform services to the general public.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

85) A multinational corporation is a firm that operates in several countries.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.86) To change ownership in a corporation you simply sell your stock to someone else.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

87) Stock options are the right to purchase shares of the corporation for a fixed price.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

88) An advantage of corporations is their ability to attract good talent by offering stock options

and other employee benefits.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.89) It is said that corporations have perpetual life.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

90) One advantage of an S Corporation is that the profits are distributed to the owners and taxed

as each owner’s personal income, thus avoiding the problem of double taxation.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

91) By filling out the correct paperwork annually, any corporation can qualify to be classified as

an S corporation.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.92) A company that loses its status as an S corporation may not reelect this status for at least 5

years.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

93) An S corporation has fewer ownership rules than a limited liability company.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

94) A limited liability company is similar to an S corporation, but without the special eligibility

requirements.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.95) Limited liability companies have both flexibility in tax treatment of earnings and limited

liability protection for owners.

Answer: TRUE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

96) One of the drawbacks of a limited liability company is that most states do not yet recognize

this form of ownership.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

97) Like stockholders of a C corporation, owners of a limited liability company (LLC) are free to

sell their ownership without the approval of other members.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.98) The limited liability company requires a minimum of 10 members.

Answer: FALSE

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

99) The S corporation form of business would be particularly attractive to fast-growing

companies that want to attract thousands of new stockholders.

Answer: FALSE

Explanation: S corporations can have no more than 100 shareholders.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

100) The organization structure of a corporation allows for stockholders to exert a significant

degree of control over the company’s daily operations.

Answer: FALSE

Explanation: Stockholders elect the Board of Directors of a corporation. The Board of Directors

appoints the management. The management operates separately from stockholders.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.101) Public utilities, like electricity and water, are examples of quasi-public corporations.

Answer: TRUE

Explanation: Quasi-public corporations are corporations authorized by the government to serve

as regional monopolies.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

102) In order to establish a C corporation, it is a requirement that investors run the company,

whereas in an S corporation, this is not the case.

Answer: FALSE

Explanation: In a C corporation, the investors elect the Board of Directors. The Board of

Directors appoints the officers and management team. It is not a requirement that investors run

the company. S corporations also have stockholders, directors, and employees, but S

corporations are taxed differently from C corporations.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

103) If you want to sell your ownership in a publicly traded corporation, you find someone

willing to buy your shares.

Answer: TRUE

Explanation: There is ease of ownership in a corporation. If you no longer want to be an

owner/stockholder, you sell your shares to another party. The corporation has perpetual life, but

your ownership does not need to be for life.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.104) The stockholders of large, publicly traded corporations have a daily pulse on the operation

of the business.

Answer: FALSE

Explanation: The owners/stockholders elect a Board of Directors, who hire the officers of the

corporation and oversee major policy issues. The owners/stockholders thus have some say in

who runs the corporation but have little to no control over the daily operations.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

105) If a corporation distributes after-tax profits to its stockholders in the form of dividends, the

government considers these distributions as part of each stockholder’s personal income.

Stockholders pay taxes on these distributions.

Answer: TRUE

Explanation: A disadvantage of the corporate form of business ownership is double taxation. If

corporations distribute after-tax profits to stockholders, these individuals are required to pay

taxes on this income. Unfortunately, these amounts were already taxed once, when the

corporation paid taxes on them.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.106) If a corporation has after-tax profits of $360,000, and elects to distribute this amount in the

form of dividends to its stockholders, these distributions are free and clear of taxes because the

corporation paid taxes on this amount prior to distribution.

Answer: FALSE

Explanation: A disadvantage of the corporate form of business ownership is double taxation. If

corporations distribute after-tax profits to stockholders, these individuals are required to pay

taxes on dividend income. Unfortunately, these amounts were already taxed once, when the

corporation paid taxes on them, hence the term double taxation.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

107) Double taxation means that a corporation pays twice the amount of taxes as a sole

proprietorship or partnership.

Answer: FALSE

Explanation: A disadvantage of the corporate form of business ownership is double taxation. If

corporations distribute after-tax profits to stockholders, these individuals are required to pay

taxes on dividend income. Unfortunately, these amounts were already taxed once, when the

corporation paid taxes on them, hence the term double taxation.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.108) The major differences between an S corporation and a limited liability company are limits

on the number of owners and the citizenship status of individuals who are owners.

Answer: TRUE

Explanation: A limited liability company (LLC) is similar to an S corporation but without the

special eligibility requirements. S corporations require their owners to be U.S. citizens or the

estates of U.S. citizens. The LLC does not have these requirements.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

109) The owners of a limited liability company (LLC) must pay self-employment taxes on any

profits they earn, even if they did not obtain a salary from the company.

Answer: TRUE

Explanation: Although the LLC allows for profits to be distributed to owners and taxed at each

owner’s personal tax rate, the owners must also pay self-employment taxes on those earnings.

Self-employment taxes include Medicare and Social Security taxes.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

110) Dr. Limmer, Dr. Lowder, and Dr. Lynch want to incorporate their practice. There is no

advantage due to the costs involved.

Answer: FALSE

Explanation: Many individuals choose to incorporate to obtain limited liability. In some cases,

they may also receive tax savings by doing so.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.111) Doughboys is a small chain of cookie dough shops owned and operated by eight partners.

With the rise of cookie dough shops around the country, the owners think that their chain has the

potential for rapid growth. However, several of the partners are concerned about the growing

financial risks that will accompany this growth. One way the partners could deal with this

problem would be to incorporate their business.

Answer: TRUE

Explanation: An advantage of corporations is that they provide their owners (stockholders) with

the protection of limited liability.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

112) Peter recently invented a new workout program that uses indoor surfboards. His equipment

can simulate surfing on waves and is a new favorite core workout in his community. As the

founder of a fast growing business, you think his goal of incorporating, “to remain in steadfast

control of the firm’s operations for an indefinite number of years,” is good strategy.

Answer: FALSE

Explanation: One potential drawback of incorporation is the possibility of conflict between the

entrepreneurs who originally start a business and the stockholders and board of directors who

may eventually gain control.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.113) Motor Masters is a conventional corporation with 516 stockholders. A number of the

stockholders are citizens of Canada and others are citizens of Mexico, though most are

American. Due to its size and diversity in ownership, you would recommend that Motor Masters

change to an S corporation.

Answer: FALSE

Explanation: Motor Masters does not satisfy the requirements for an S corporation—it has more

than 100 stockholders, some of whom are not U.S. citizens or permanent residents of the United

States.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

114) The owners of Game Guys are looking to become an S corporation. Unfortunately, after

speaking with their lawyer, she advised them that they do not meet some of the requirements

necessary to qualify as an S corporation. An alternative form of business that would give them

similar advantages is a limited liability company.

Answer: TRUE

Explanation: Limited liability companies offer many of the same advantages as S corporations,

including limited liability and the possibility of taxation like a partnership, without the special

eligibility requirements required to qualify for S corporation status.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.115) The ownership of Dogs of Denver, a small company that designs and manufactures coats,

sweaters, jackets, and rainwear for dogs, wants to organize as an LLC. All the owners are under

forty and two are expecting children by the end of the year. This is good strategy because each

member can choose to commit to limited or unlimited liability.

Answer: FALSE

Explanation: All members of an LLC have limited liability. There is no choice in that matter.

The purpose of organizing as an LLC is to eliminate the risk of losing personal assets in an

unprofitable venture. In terms of taxes, a limited liability company offers the best of both worlds,

allowing the owners to choose to be taxed as a partnership or a corporation depending on which

tax rates would benefit them the most.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

116) Two of your friends are horse fanatics. They inherited several acres of land that they turned

into a retirement sanctuary for racehorses. Serenity Stables was originally incorporated as a

limited liability company. The members are reevaluating this form of ownership. Unlike an S

corporation, they now pay self-employment taxes on all company profits—not just on the

salaries they pay themselves.

Answer: TRUE

Explanation: While S corporations have several restrictions, one advantage they have compared

to the limited liability company is the self-employment tax requirements. Any profits earned by

the LLC are considered part of the owner’s wages/salary/income. These wages are subject to self-

employment taxes. The S corporation pays self-employment taxes only on those dollars

designated as salary or wage expenses by the business. They do not pay self-employment taxes

on the profits of the business.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.117) After a fruitful first five years, Serenity Stables, LLC (a retirement ranch for racehorses),

thinks it may be able to attract donations from animal advocate groups and even the federal

government if it becomes a nonprofit corporation. As its business advisor, you explain that as a

nonprofit corporation, the owner(s) may earn a salary but the business should not seek after-tax

profits.

Answer: TRUE

Explanation: If Serenity Stables decides to change its form of business ownership to a nonprofit

corporation, it will not seek personal profits for its owners. If the owner(s) works in the business,

he/she can expect a salary. By law, the firm cannot distribute any additional income to owners. It

must put all revenues and/or contributions back into the business.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

118) Tee Time Golf Resort has the opportunity to buy 1,000 acres of property adjacent to its

award-winning 18-hole golf course. After talking with her banker and her lawyer, the owner is

encouraged to begin the paperwork to change from a limited liability company form of business

ownership to a corporation. You applaud this strategy because she will eliminate the problem of

double taxation.

Answer: FALSE

Explanation: C corporations (not LLCs) face the disadvantage of double taxation. A C

corporation’s income is taxed twice. First the corporation pays tax on all income before it can

distribute any, as dividends, to stockholders. The stockholders pay income tax on the dividends

they receive.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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written consent of McGraw-Hill Education.119) When two firms join together to form one company, it is called a merger.

Answer: TRUE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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120) The three major types of mergers are acquisition, joint, and connective.

Answer: FALSE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

121) An acquisition is when one company buys the property and obligations of another

company.

Answer: TRUE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

122) Taking a firm private involves converting a firm from a corporation to a general

partnership.

Answer: FALSE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.123) If firms wish to gain market share in their current market, they would consider a

conglomerate merger.

Answer: FALSE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

124) The purpose of a conglomerate merger is to diversify operations and investments.

Answer: TRUE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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125) A merger between two businesses in different stages of related businesses is known as a

vertical merger.

Answer: TRUE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

126) A horizontal merger refers to a merger between two companies that serve entirely different

markets.

Answer: FALSE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.127) A horizontal merger refers to a merger between two companies in the same industry, and

serving the same markets.

Answer: TRUE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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128) A leveraged buyout is an attempt by top management to gain control of a company by

issuing a large amount of new stock.

Answer: FALSE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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129) When a group of investors take a firm private, they purchase all the company’s outstanding

stock.

Answer: TRUE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.130) In recent years, foreign firms were reluctant to merge with or acquire American

corporations.

Answer: FALSE

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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131) A merger is a mutual agreement where companies join together, whereas an acquisition is

when one firm purchases the assets and obligations of another firm.

Answer: TRUE

Explanation: When companies merge, there is a mutual agreement to join forces. Although the

assets and obligations are combined, there is no offering of funds or stock by one company, for

the other, as in an acquisition.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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132) One reason that a firm would choose to merge or acquire another company would be to gain

market share.

Answer: TRUE

Explanation: Firms know that the fastest way, but not always the least expensive way, to acquire

market share or expand their market is to merge with or buy out a competitor.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.133) One reason that a firm may choose to merge or acquire another company would be to

diversify products or services.

Answer: TRUE

Explanation: When firms participate in conglomerate mergers, they purchase companies whose

products and services are different or unrelated to what they currently offer. They choose to

diversify the portfolio of business units and even the industries where they operate.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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134) The strategy of a leveraged buyout is used when employee talent is at a minimum.

Answer: FALSE

Explanation: If employees and/or management believe they can improve performance by

running the company themselves, they will seek financial backing (borrow funds) and take

ownership, by buying all available stock from the current stockholders.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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135) Taking a company private means turning a profit-seeking corporation into a nonprofit

corporation in order to avoid a hostile takeover.

Answer: FALSE

Explanation: Taking a company private involves an effort by a group of stockholders or

managers to gain control of all of a corporation’s outstanding stock.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.136) A major objective of a leveraged buyout is to enable investors to gain control of a company

by issuing new shares of ownership, thus minimizing the use of debt.

Answer: FALSE

Explanation: Leveraged buyouts involve financing the acquisition of an organization through the

use of debt financing.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

137) Tee Time Golf Club just announced plans to purchase the property and assume the

obligations of Chipper’s Golf Resort, one of its major competitors. Tee Time Golf Club’s plans

are an example of a merger.

Answer: FALSE

Explanation: Tee Time Golf Club’s actions are an acquisition rather than a merger. An

acquisition refers to one firm’s purchase of the assets and obligations of another firm. Since the

firms are competing in the same market rather than at different stages, this is a horizontal move.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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138) Two long-time competitors, Freddie’s Market and Greta’s Groceries, recently issued an

announcement stating their decision to merge. The statement claimed that the new company

would have more financial resources, which would enable it to expand services and broaden

offerings to customers. This proposed merger is an example of a horizontal merger.

Answer: TRUE

Explanation: A merger between two firms in the same industry, such as two grocery stores, is a

horizontal merger.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.139) GloboTech, Inc., a large manufacturer of laptops, is considering a merger with ChipComm,

a leading producer of microprocessors and other computer chips. GloboTech believes such a

merger would give it a guaranteed source of needed components, and enable it to have better

control over quality. If this merger occurs, it would be an example of a horizontal merger.

Answer: FALSE

Explanation: A merger between two companies at different stages of related business is known

as a vertical merger.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

140) Matthew is leading a group of stockholders who want to take the Cash Cow Corporation

private. If Matthew’s group succeeds, Cash Cow’s stock will no longer be available to investors

on the open market.

Answer: TRUE

Explanation: Taking a firm private involves gaining control of a firm’s stock so that it is no

longer available to investors on the open market.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

141) Due to several years of poor performance, Stanley’s Metal Manufacturers, Inc., is closing.

Through the use of debt financing, Stanley’s workers plan to purchase the company’s stock from

current shareholders in order to buy the company, improve performance, and save jobs.

Answer: TRUE

Explanation: A leveraged buyout involves the use of debt financing to buy the stock of a

company. Skilled workers want to save their jobs and make their company profitable again.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.142) A franchise agreement is an arrangement where a franchisor sells the rights to a business

name and the right to sell a product or service within a given territory to a franchisee.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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143) A franchise may be organized as a sole proprietorship, partnership, or corporation.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

144) Franchisees are not always pleased with management regulations handed down from the

franchisor. In some cases, franchisees have been known to band together to express concern over

marketing and management direction.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.145) Franchisors give franchisees the right to use their name and product, with the understanding

that franchisees obtain all financing and develop all marketing strategies on their own.

Answer: FALSE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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146) The most popular businesses for franchising are restaurants.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

147) In a franchise arrangement, ownership remains in the hands of the franchisor.

Answer: FALSE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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148) One of the major advantages for the franchisee is instant business name recognition and

important management assistance from the franchisor.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.149) Franchisees must follow more rules, regulations, and procedures than if they operated

independently owned businesses.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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150) The coattail effect refers to the burden of corporate rules and regulations on franchisees.

Answer: FALSE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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151) The coattail effect refers to inevitable repercussions on your business if a fellow franchisee

should fail.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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152) One drawback of franchises is that they have a higher failure rate than other types of

business ventures.

Answer: FALSE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.153) The franchisee pays the franchisor a share of profits or a percentage commission on sales,

known as a royalty.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

154) Many franchisors have rules that prohibit franchisees from sponsoring their own websites.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

155) Because of the growth of minority-owned businesses in the U.S., franchisors are becoming

more focused on recruiting minority franchisees.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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156) It is impossible to run a franchise completely from home.

Answer: FALSE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.157) Franchising is popular in the United States, but legal barriers have limited its popularity in

foreign countries.

Answer: FALSE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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158) Global franchising is unlikely to experience major growth due to the high costs of

operations in global markets.

Answer: FALSE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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159) Franchising in global markets has demonstrated that high operating costs are

counterbalanced by high profit opportunities.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.160) Franchisors sometimes pay reverse royalties to franchisees if it is evident that the

franchisor’s Internet sales have negatively impacted the profits of traditional bricks-and-mortar

franchisee businesses.

Answer: TRUE

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

161) In a typical franchise agreement, the franchisor pays the franchisee a fee to manage its

company, and the two of them split the profits based on the percentages established in the

agreement.

Answer: FALSE

Explanation: The franchisor, who owns the rights to the company’s name and products, usually

does not pay the franchisee. More typically, the franchisee pays the franchisor a royalty to use

the company’s name and sell its products or services in a given area.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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162) Although franchise arrangements are a good source of income for the franchisee, these

businesses do not contribute significantly toward job creation.

Answer: FALSE

Explanation: Franchised businesses contribute in a big way to job creation in the U.S. According

to the International Franchising Association, the more than 733,000 franchised businesses

operating in the U.S. create approximately 13.3 million jobs.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.163) It is correct to say that if a franchisor expects an 8% royalty fee on revenue, the franchisor

earns 8 cents on each dollar of revenue the franchisee generates.

Answer: TRUE

Explanation: Shared profits is an important aspect of most franchise arrangements. The

franchise agreement will stipulate the percent of revenues that the franchisor will collect from

each franchisee. In this example, 8% of each dollar of revenue = 8 cents, or $.08 that will go to

the franchisor.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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164) The financial advantage to the parent company (the franchisor) in a franchise arrangement

is the upfront franchise fee and the collection of royalties if franchisees are successful.

Answer: TRUE

Explanation: Shared profits are an important aspect of most franchise arrangements. The

franchisee will pay the franchisor an up-front fee for the opportunity to use the business name,

and the right to sell the product or service. Besides this fee, the franchise agreement almost

always includes royalty payments. The franchisee will pay the franchisor a percentage of

revenues or profits for the entire contract period.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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written consent of McGraw-Hill Education.165) If a firm is advertising that it is selling franchise opportunities, the prospective franchisee

can be assured that the government has performed due diligence on this company, and has

deemed it a safe investment.

Answer: FALSE

Explanation: Most franchisors are not large systems like McDonald’s and Subway. Many are

small, rather obscure companies that prospective franchisees may know little about. Most are

honest, but complaints to the Federal Trade Commission have increased about franchisors that

delivered little or nothing of what they promised. Before you buy a franchise, make certain you

check out the facts fully.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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166) If a franchisee decides he wants out of the business, he is free to close up shop or sell the

business, just as if he were a sole proprietor or partnership outside of a franchise arrangement.

Answer: FALSE

Explanation: Unlike owners of private businesses, who can sell their companies to whomever

they choose on their own terms, many franchisees face restrictions on the resale of their

franchises. Franchisors want to reserve the right to select new owners.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.167) If an established franchisor agrees to provide you the opportunity to become a franchisee in

its franchise system, the franchisor may also be willing to serve as a source of financing for your

operation.

Answer: TRUE

Explanation: One advantage of entering into a franchise arrangement is that the franchisor will

often provide financing. The financing may come in the form of a loan to get started, or an

arrangement whereby you will pay the franchise fee over time.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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168) Ravi wants to be his own boss and run his own business. His friend, Josh, suggested that an

inexpensive way to get started is to buy a franchise. Therefore he can limit his risk and he will

have the freedom to run it exactly as he wants. After reading this chapter, you concur with this

advice.

Answer: FALSE

Explanation: The start-up costs of franchising can be quite high, so becoming a franchisee is not

necessarily an inexpensive way to start a business. Moreover, although they have some authority

to run their franchise, franchisees generally follow a set of rules and procedures and meet certain

standards established by the franchisor. This would limit Ravi’s freedom to run his business the

way he wants.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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written consent of McGraw-Hill Education.169) Indira paid a substantial franchise fee to obtain a Precision Printers franchise in Columbus,

Ohio. With the franchise fee behind her, Indira can use her creative talents to make her print

shop different and more attractive than other Precision Printers stores in the Columbus area.

Answer: FALSE

Explanation: Although they have a certain amount of managerial freedom, franchisees are

expected to follow rules and procedures set by the franchisor. While this limits the freedom and

flexibility of the franchisee, it also helps ensure quality and a predictable level of service.

Difficulty: 3 Hard

Topic: Disadvantages of Franchises

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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170) Jaheem owns a Far and Wide Travel Agency franchise. As a franchisee, Jaheem is

guaranteed the right to retain all of his franchise’s revenues and profits.

Answer: FALSE

Explanation: Franchisees usually pay a royalty to the franchisor. This royalty is sometimes

expressed as a share of the franchisee’s revenues or a share of the franchisee’s profits.

Difficulty: 3 Hard

Topic: Disadvantages of Franchises

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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171) Leanne, a franchisee, runs a chain of small restaurants with a well-known name. Due to her

hard work and people skills, her locations are doing quite well. She has noticed that several other

franchisees in the same franchise system have let their restaurants deteriorate, especially in terms

of lack of upgrades. Leanne should be concerned about this trend, since it eventually could affect

her own business.

Answer: TRUE

Explanation: The actions of less successful franchisees can hurt the success of others in the same

franchise. This is known as the coattail effect.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.172) Maria is already a successful franchisee with Nite Lite, a chain of “no frills” motels that

provide clean rooms and good service at affordable rates. The motel she currently operates is

located in Texas, but she is considering an opportunity to open another Nite Lite motel in

Canada. Although her costs of operating in a foreign nation may be higher, she has the benefit of

an expanding market and less competition.

Answer: TRUE

Explanation: Franchisees often find that the costs of operating franchises in foreign countries are

high, but these costs are counterbalanced by expanding markets and less competition.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

173) A well-known franchised food chain was brought to its knees when several customers got

sick from tainted beef. Although the food chain recovered due to its quick and consistent action,

several franchisees sued the parent company for loss of sales. The franchisees experienced the

coattail effects of the bad publicity this event received.

Answer: TRUE

Explanation: The coattail effect occurs when bad publicity affects one or more of the businesses

associated with a franchise chain. The coattail effect can negatively impact growth and

profitability.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.174) Tadashi’s uncle passed away and left him a Realty Experts franchise. Tadashi is not a

licensed agent or broker, nor does he know the first thing about the real estate business. He plans

to sell his Realty Experts franchise to his friend Devonte, who recently got his real estate license.

One of the advantages of owning a franchise is that you can decide to sell out to anyone you

think is suitable for the business.

Answer: FALSE

Explanation: Most franchisors reserve the right to approve or disapprove the sale of new or

existing franchises. A franchise owner usually cannot sell his/her business without the approval

of the parent company.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

175) Your friend Bainbridge called to tell you he attended a pitch for a new franchise in website

development. Bainbridge says, “We can get in for a few thousand dollars.” He wants to know if

you are ready to invest too. Although both of you lack expertise in graphic design or html

programming, this should be a safe investment since it is already advertised as a franchise

system. It’s probably too good to pass up.

Answer: FALSE

Explanation: Fraudulent franchises exist. These are small, obscure companies that most

prospective franchisees know little about. Before buying, it is important to check out the facts,

examine the franchisor’s offering circular, and even consult with the Federal Trade Commission.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

176) A cooperative is simply another name for a corporation.

Answer: FALSE

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.177) A cooperative consists of people with similar needs who pool their resources for mutual

gain.

Answer: TRUE

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

178) It is not unusual for members of cooperatives to work for and help manage their

cooperative.

Answer: TRUE

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

179) Farm cooperatives were originally established to help farmers increase their economic

power by acting as a group rather than as individuals.

Answer: TRUE

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

180) The companies Ace Hardware, Blue Diamond, and Sunkist are well-known cooperatives.

Answer: TRUE

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.181) A disadvantage of farm cooperatives is that they are subject to higher tax rates than

corporations.

Answer: FALSE

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

182) At one time there were many farm cooperatives, but more recently other forms of business

ownership have replaced them.

Answer: FALSE

Explanation: Farm cooperatives have expanded their role over time and have become a

multibillion-dollar industry.

Difficulty: 2 Medium

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

183) Originally, farm cooperatives were formed to provide better prices for farmers. These

groups now cooperatively buy farm equipment and other products, and realize economies of

scale by banding together for these things.

Answer: TRUE

Explanation: By participating in a larger group, it is more affordable for farmers and other

business people to buy certain items that they would normally pay a lot more to purchase. By

forming a cooperative, they enjoy economies of scale.

Difficulty: 2 Medium

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.184) Josie belongs to a food cooperative in her community. As a member, she can expect to have

a vote in the election of the cooperative’s board of directors.

Answer: TRUE

Explanation: In cooperatives the members typically have the right to elect a board of directors.

Members democratically control these businesses by electing a board of directors that hires

professional management.

Difficulty: 3 Hard

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

185) Harper has always disliked the concept that the customers, managers, and workers of a

business are separate individuals with competing goals. She joined with many other people in her

community who share this view to become a member, and part owner, of a childcare center.

Harper and the other members operate the center for their own benefit, and each is expected to

work at the center at least 12 hours each month. The type of organization Harper belongs to is

known as a joint venture.

Answer: FALSE

Explanation: Harper belongs to a cooperative, which is a special form of business organization

that is owned by its members/customers, who operate the business for their mutual gain. Many

cooperatives expect their members/customers to work a certain number of hours per month for

the organization.

Difficulty: 2 Medium

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

186) The ________ is the most common form of business ownership.

A) partnership

B) corporation

C) joint venture

D) sole proprietorship

Answer: D

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.187) A ________ is a form of business that is owned, and usually managed, by one person.

A) closed corporation

B) subchapter S corporation

C) sole proprietorship

D) limited partnership

Answer: C

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

188) ________ comprise about 20% of all businesses but account for about 81% of U.S. business

receipts.

A) Corporations

B) Partnerships

C) Sole proprietorships

D) Limited liability companies

Answer: A

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

189) To many businesspeople, one of the major attractions of a sole proprietorship is

A) the ability to obtain additional financial resources.

B) the protection of limited liability.

C) an unlimited lifespan.

D) the chance to be their own boss.

Answer: D

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.190) The ________ is usually the easiest form of business to start and end.

A) sole proprietorship

B) limited partnership

C) corporation

D) cooperative

Answer: A

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

191) One of the major disadvantages of a sole proprietorship is the

A) possibility of disagreements between owners.

B) unlimited liability the owner has for the debts of the firm.

C) fact that any income earned by this type of business is taxed twice.

D) high cost of starting or ending the company.

Answer: B

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

192) Starting a new business as a sole proprietorship

A) requires retaining the services of an attorney.

B) is simple, but the proprietorship fee is very expensive in some states.

C) is usually simpler and less expensive than starting other forms of ownership.

D) is very similar to starting a business as a corporation.

Answer: C

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.193) In a sole proprietorship, the profits earned by the business are

A) taxed as income for the business, but exempt from the personal income tax paid by the owner.

B) taxed at the lowest corporate rate.

C) the property of the owner, except for taxes owed to the government.

D) tax-free if the appropriate exemption is filed with the local government.

Answer: C

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

194) With respect to taxes, the sole proprietorship

A) pays taxes on the profits of the business at the same rate that corporations pay taxes.

B) pays taxes on the profits of the business, at the owner’s personal tax rate.

C) pays taxes only if there are no expenses associated with the business.

D) is permitted to determine its own tax rate and schedule of payments.

Answer: B

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

195) A significant disadvantage of owning a sole proprietorship is the

A) possibility of limited liability.

B) heavy tax liability that must be assumed.

C) overwhelming time commitment often required of the owner.

D) lack of incentives to motivate the owner.

Answer: C

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.196) When a sole proprietor dies

A) the sole proprietor’s heirs have the option of taking over the business.

B) the business is sold to a larger corporation.

C) the company continues to function as it always has.

D) the company always closes down.

Answer: A

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

197) Unlimited liability means

A) when you own your own business you are responsible for all the business debts.

B) you are only liable for the money you invest in the business.

C) as a franchisee your franchisor is responsible for the debts of the franchise.

D) you are liable for whatever advertising promises your firm makes.

Answer: A

Explanation: Unlimited liability means the owner is responsible for all the debts of the firm. If

the firm should land in bankruptcy court, the judge could liquidate the owner’s personal assets to

pay the debts of the business.

Difficulty: 1 Easy

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.198) Any debts or damages incurred by a firm organized as a sole proprietorship are

A) the responsibility of the owner.

B) limited to the amount the owner has invested in the firm.

C) paid for out of a reserve contingency fund that sole proprietors are required by law to set up.

D) normally covered by liability insurance.

Answer: A

Explanation: A sole proprietor accepts unlimited liability. This means that he/she is responsible

for all debts of the business. If the firm should land in bankruptcy court, the judge could liquidate

the owner’s personal assets to pay the debts of the business.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

199) An entrepreneur who wishes to start a business with little delay or hassle, and who wants to

be his or her own boss, should organize the business as a

A) sole proprietorship.

B) cooperative.

C) C corporation.

D) general partnership.

Answer: A

Explanation: Two advantages of sole proprietorships are ease of starting (and ending) and being

your own boss.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.200) Which of the following statements is the most accurate?

A) Sole proprietorships are well suited for people who want to own a business and share in its

profits without taking an active role in management.

B) Sole proprietorships are taxed at the owner’s personal tax rate.

C) Sole proprietorships are the least risky form of business ownership.

D) Sole proprietorships must receive a state charter before they can legally conduct business.

Answer: B

Explanation: One of the major advantages of sole proprietorships is that they are easy to form

and end and taxed at the owner’s personal tax rate.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

201) Although sole proprietors do not pay any special taxes, as the owner of the business you are

also an employee of the business, which requires you to

A) pay income tax only one time each year.

B) pay self-employment taxes.

C) pay for the right to get an employee identification number.

D) file an income tax return for the business.

Answer: B

Explanation: Sole proprietors pay self-employment taxes such as Social Security and Medicare.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.202) Being your own boss means

A) reducing your working hours.

B) having the freedom to set your own working hours and taking lots of vacations, particularly

when just beginning the business.

C) accepting accountability for the mistakes of the business.

D) having limited financial resources to throw into the business.

Answer: C

Explanation: When you are your own boss, you must accept all mistakes as your mistakes.

Difficulty: 2 Medium

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

203) Yoshi operates a shoe store as a sole proprietorship. However, he is in poor health and may

be unable to continue running the business. If Yoshi becomes incapacitated, his business

A) automatically continues under new management as a sole proprietorship.

B) automatically converts into a public corporation with stock sold to interested investors.

C) ceases to exist unless sold or taken over by Yoshi’s heirs.

D) becomes the property of the most senior employee who wishes to continue operating the firm.

Answer: C

Explanation: A sole proprietorship ceases to exist if the proprietor dies, retires, or becomes

incapacitated, unless it is sold or taken over by the owner’s heirs.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.204) Amelia has a lot of business knowledge and is confident in her abilities to open a successful

store. She recently opened a bakery as a sole proprietor. She is expecting a high level of profits

and is looking forward to

A) the lower corporate tax rate paid by sole proprietorships.

B) keeping all of the money she earns except for the taxes she is required to pay.

C) keeping all of the money she earns since she does not have to pay taxes as a sole proprietor.

D) easily raising additional large sums of money from the capital markets since she is a sole

proprietor.

Answer: B

Explanation: One of the advantages of a sole proprietorship is the retention of company profit.

The owner can earn as much as possible and not have to share that money with anyone else

except the government, in taxes.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

205) Sung owns a dog-walking business that she started in high school. Her first goal was to earn

money after school and supplement her allowance. Now that she has finished college and

maintains a long client list, she’s planning on running the business full time. She keeps all the

profits and has kept things simple by posting fliers on the bulletin boards at local stores. Sung’s

business is a(n)

A) sole proprietorship.

B) franchise.

C) S corporation.

D) partnership.

Answer: A

Explanation: Sung’s simple form of business ownership is a sole proprietorship. She, alone,

keeps the profits from her service.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.206) Oliver wants to start his own business. He should consider a sole proprietorship if he

A) expects rapid growth and wants to be able to raise a large sum of money.

B) wants to make it easy to attract qualified employees.

C) wants to be his own boss and can accept unlimited liability.

D) wants to minimize the financial risk he must accept as the owner of a business.

Answer: C

Explanation: A sole proprietorship is a business that is owned and managed by a single

individual. This form of business ownership appeals to people who want to be their own boss.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

207) Chipper is the sole proprietor of a golf shop. Because she is a sole proprietor, any profit

Chipper’s business earns is

A) totally tax-free.

B) taxed only as Chipper’s personal income.

C) taxed twice, once as business income, then again as Chipper’s personal income.

D) taxed only if and when it is distributed to investors.

Answer: B

Explanation: A tax advantage of sole proprietorships is that their earnings are only taxed once,

as personal income to the owner.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.208) Ramses owns a roofing business. He enjoys being his own boss, but it comes at a price.

Often, his days are filled with organizing the activities of the employees and seeking out new

customers. He often misses events with friends and family because of the obligations of running

his own business. He also knows that he has unlimited personal liability for any of his firm’s

debts. Ramses’s business is organized as a(n)

A) joint venture.

B) C corporation.

C) S corporation.

D) sole proprietorship.

Answer: D

Explanation: A key advantage of sole proprietors is that the owner is his or her own boss, and

can run the business the way he or she likes. However, this freedom comes with a great deal of

responsibility. Sole proprietors have no one else to share the burdens of ownership and often

must work very long hours to keep the company on course. Another disadvantage of a sole

proprietorship is that the owner has unlimited liability.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.209) Autumn wants to start a business. She has two goals. First, she doesn’t have much money

but she’s ready to get business up and running with the least possible hassle and expense.

Second, she wants to minimize her personal risk in the event that her company experiences

difficulties. If Autumn chooses a sole proprietorship, she would

A) achieve both goals since this form of ownership is both the easiest to form and the least risky.

B) meet her first goal since sole proprietorships are easy and inexpensive to form. However, she

would expose herself to personal risk because owners of sole proprietorships have unlimited

liability.

C) not achieve either goal since proprietorships are both costly to set up and subject to unlimited

liability.

D) achieve her second goal, since the owners of sole proprietorships are legally protected from

losing more than the amount they invest in their company. However, she would find that the

start-up costs would be higher than if she had incorporated her business.

Answer: B

Explanation: One advantage of sole proprietorships is that they are relatively easy and

inexpensive to start. However, a major disadvantage is that the owner has unlimited personal

liability for any debts of the firm. This unlimited liability means that the owner is exposed to a

high level of risk.

Difficulty: 3 Hard

Topic: Sole Proprietorships

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

210) In a partnership, a(n) ________ partner (owner) actively manages the company and has

unlimited liability for claims against the firm.

A) unlimited

B) limited

C) general

D) associate

Answer: C

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.211) A partner (owner) who invests money in a business does not take an active role in

managing the operation, and is only subject to losing the funds he/she invested is known as a(n)

________ partner.

A) implied

B) limited

C) partial

D) corporate

Answer: B

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

212) The limited liability provided to limited partners means that they are not responsible for the

debts of the business beyond

A) the firm’s total assets.

B) the amount they have invested in the company.

C) the percentage of profits they are entitled to earn.

D) their total personal assets.

Answer: B

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.213) According to the Uniform Partnership Act, the three key elements of any general

partnership are

A) a board of directors, a written partnership agreement, and a well-defined product or service.

B) two owners, an adequate financial base, and a written statement describing the manner in

which profits and losses will be divided.

C) common ownership, shared profits and losses, and right to participate in managing the

operations.

D) common stock, a board of directors, and a statement of limited liability.

Answer: C

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

214) A type of partnership called a ________ acts much like a corporation and is traded on stock

exchanges, but it is taxed like a partnership with profits passing through to the owners and taxed

as the owner’s personal income.

A) limited partnership

B) combined general partnership

C) cooperative partnership

D) master limited partnership

Answer: D

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.215) Compared to a sole proprietorship, which of the following is considered an advantage of a

general partnership?

A) Ability to pool financial resources

B) Unlimited liability for all owners

C) Division of profits among owners

D) Ease and flexibility in transferring shares of ownership to others

Answer: A

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

216) In a limited liability partnership, each partner’s risk of losing personal assets is

A) unlimited.

B) limited to losses that result from his/her own acts and omissions and the acts and omissions of

those who work under his/her supervision.

C) determined entirely by the maximum loss provision established by the articles of co-

partnership.

D) nonexistent.

Answer: B

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.217) Which of the following is an advantage of a partnership?

A) Ease of starting and ending the business

B) Unlimited liability

C) Shared management and pooled skills

D) Little time commitment

Answer: C

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

218) When entering into a new partnership, a good strategy is to

A) avoid putting the agreement in writing since this would limit the flexibility of the partnership.

B) put the partnership agreement in writing.

C) plan to incorporate as soon as possible.

D) agree to put the first year’s profits back into the partnership.

Answer: B

Difficulty: 1 Easy

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.219) One difference between partnerships and sole proprietorships is that partnerships

A) take less effort to form.

B) are managed by an elected board of directors.

C) have the advantage of limited liability.

D) have a greater chance of long-term survival due to the accountability of each partner to the

other.

Answer: D

Explanation: Partners not only give the firm a stronger financial base and a broader range of

expertise, they also watch over each other, thus providing a more disciplined environment.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

220) Which of the following statements about partnerships is most accurate?

A) A partnership is a corporation with fewer than 100 owners.

B) A major advantage of a partnership is that it offers all owners limited liability.

C) A major drawback of a partnership is that it is difficult to terminate.

D) Partnerships are taxed at the lowest corporate tax rate.

Answer: C

Explanation: Once partners commit to a partnership, the arrangement is often difficult to

terminate. Questions of who gets what and what happens next are usually hard to resolve when

the business is closed.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.221) When comparing general partnerships to sole proprietorships, an advantage of partnerships

is that they

A) are less risky, because each partner is responsible for only a specified fraction of the firm’s

debts.

B) are easier to terminate.

C) cost less to organize.

D) give the firm a stronger financial foundation.

Answer: D

Explanation: When a partnership is formed, two or more people can pool their financial

resources to provide the business with a stronger financial base.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

222) A good reason why partners should spell out the details of their partnership arrangements in

writing is

A) the partnership is not a legally recognized business unless they do so.

B) a written agreement will help reduce misunderstandings and disagreements among the

partners.

C) putting the agreement in writing will limit the liability of each partner to a specified level.

D) doing so will make it easier to convert the business to a corporation at a later date.

Answer: B

Explanation: A major drawback of a partnership is the potential for disagreements among the

partners. Spelling out the agreement in writing is a way to protect all parties and minimize

misunderstandings.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.223) A master limited partnership (MLP) is

A) is not traded on the stock exchanges.

B) pays corporate income taxes.

C) is taxed like a partnership.

D) is the corporate form of choice for small groups of individuals.

Answer: C

Explanation: The master limited partnership looks much like a corporation because it is traded

on the stock exchanges, but it is taxed like a partnership and avoids the corporate income tax.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

224) One way to eliminate some of the risk of your partners making costly mistakes that could

jeopardize your personal assets is to set up a

A) master limited partnership.

B) sole proprietorship.

C) limited amount of time each can actively spend in the business.

D) limited liability partnership.

Answer: D

Explanation: A limited liability partnership (LLP) limits partners’ risk of losing their personal

assets to the outcomes of only their own acts and omissions and those of people under their

supervision. If you are a limited partner in an LLP, you can operate without the fear that one of

your partners might commit an act of malpractice resulting in a judgment that takes away the

personal assets of those who did not commit the errors.

Difficulty: 2 Medium

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.225) Finnegan is a limited partner in Gettout & Associates, a local financial consulting company.

Heywood U. Gettout is one of the general partners in the company and is needing to temporarily

leave the company to attend to some personal matters. Heywood has asked Finnegan to perform

his managerial duties while he is gone. As a limited partner, Finnegan

A) can fill in as a manager whenever necessary, as long as it is for only a limited time.

B) can make managerial decisions as long as they do not involve the payment of money.

C) cannot participate in the management of the partnership.

D) can manage the firm as long as he gets approval from the company’s other general partners.

Answer: C

Explanation: A limited partner invests money in a partnership but cannot legally take an active

role in its management.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

226) Kiersten and her four siblings are starting their own home design business. One of their

primary goals is keeping the loving relationship they currently enjoy, so they are following the

Model Business Corporation Act recommendations as they write their partnership agreement.

Which of the following is an accurate recommendation of the Act?

A) The business should be actively operating for an extended period before the partners decide

who is responsible for what business functions.

B) Family businesses never take on outside partners, so no discussion of this need take place.

C) There should be discussion and well-understood ways that the partners will handle

disagreements.

D) Due to the fact that they are all under 40 years old and expect to work until they are 65, there

is no need to decide what will happen to the partnership if one decides to leave the business or

retire, or dies.

Answer: C

Explanation: The Model Business Corporation Act recommends including a number of specifics

in the written partnership agreement, including how disagreements will be handled.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.227) Huong is opening an international food store. Though her products will span the globe, she

wants to focus on items from the Middle East. She wants to be the firm’s only general partner,

but she is trying to get several friends to participate as limited partners. It’s apparent Huong

wants to

A) limit her personal liability to the amount she personally invests in the company.

B) keep all of the firm’s profits.

C) obtain a strong financial base for the firm while maintaining personal control over the firm’s

management.

D) meet the legal requirements of the Uniform Partnership Act.

Answer: C

Explanation: Limited partners invest money in a business and share in the profits, but are not

allowed to assume any management responsibilities. Since Huong plans to be the only general

partner, she will be the only owner who has a direct role in managing the company.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

228) Mac and Charlie own a car repair shop that they operate as co-owners. Both take an active

role in the management of the business, and each accepts unlimited liability. Mac and Charlie

operate as a

A) joint venture.

B) general partnership.

C) limited partnership.

D) cooperative.

Answer: B

Explanation: Since Mac and Charlie operate the business as co-owners, they have formed a

general partnership. Since both will manage the firm and accept unlimited liability, they are both

general partners.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.229) Melanie, Elliot, and Caleb agreed to partner in a small home rehab business. Initially, they

were enthusiastic and eager workers. That is until their first project took more work than Melanie

initially estimated, Elliot wanted morning meetings and long lunch hours, and Caleb decided to

go on vacation even though the home was not complete and ready to sell. As Figure 5.2

indicates,

A) it’s smart to begin the partnership with honest communication of what each partner expects to

give and get from the partnership.

B) it’s smart to organize the business as a limited liability company to reduce the financial risks

that put pressure on members of the partnership.

C) it’s smart to designate one of the partners as the primary partner with final authority to call all

the shots.

D) it’s smart to enter into partnerships with people who have similar educational and cultural

backgrounds and similar personalities.

Answer: A

Explanation: This question is based on the material in Figure 5.2. This figure gives advice on

questions to ask when choosing a partner. A key point made includes a question regarding each

partner’s vision for the company.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

230) Angelica and Celeste invested all their savings in a small pizzeria they opened outside the

University of Missouri. They operated the business as a general partnership. After 11 months, the

business went broke and Angelica and Celeste were left with outstanding bills of $43,650, which

was more than their initial investment in the company. Angelica and Celeste can

A) lose their personal assets as the result of their company’s financial problems.

B) lose only the funds they originally invested in their company.

C) lose only the total value of the assets actually used to operate the business.

D) avoid any liability for these debts since a partnership is considered to be a business entity that

is separate and distinct from the partners who own it.

Answer: A

Explanation: General partners have unlimited liability for the debts of their business. This means

their personal assets are at risk.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.231) Rowan and Vanessa plan to pool their money and talents to form a general partnership and

start a music school. One of the first things Rowan and Vanessa should do is

A) seal the deal with at least five clubs where they can book three months’ worth of gigs.

B) consult an attorney and put their agreement in writing.

C) pay the partnership formation fee to their state’s commerce commission.

D) file the limited liability paperwork at the courthouse in the county in which their partnership

will be formed.

Answer: B

Explanation: One problem with a partnership is the potential for disagreements and

misunderstandings among the partners. Consulting an attorney and getting the agreement in

writing helps minimize the risk of such problems.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

232) Beau has agreed to invest $19,000 in a partnership with his brother and sister-in-law. Not

being in the same line of work as them, Beau does not intend to actively work in the partnership.

He also does not want to risk any of his own assets other than the $19,000 investment. The

partnership has agreed to permit him to share in the profits. As an expert on forms of business

ownership, you know that Beau is a ________ in this partnership.

A) general partner

B) preferred stockholder

C) secondary partner

D) limited partner

Answer: D

Explanation: A limited partner invests in a partnership, but has limited liability and does not

take an active role in managing the business.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.233) Sean is one of several general partners who own Pints and Cans, a small chain of bar and

grills located in Illinois and Indiana. Sean is interested in converting the partnership into a master

limited partnership. If he convinces other partners to go along with his idea, Pints and Cans will

A) offer shares of ownership that are traded on a stock exchange much like a corporation.

B) pay its taxes like a corporation.

C) begin to operate much like a sole proprietorship.

D) have to change its name to include the term Ltd. in its title to indicate its owners have limited

liability.

Answer: A

Explanation: Master limited partnerships act much like corporations with shares of ownership

traded on the stock exchanges, but they are taxed like partnerships, where each owner adds

his/her dividends to other personal income earned and pays taxes at the owner’s personal income

tax rate.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

234) Katie and her siblings created a design company called Homeward Bound LLP. Although

key business functions are centralized, each sibling is a licensed architect that designs, builds,

and installs residential and commercial buildings for his/her own clients. Unfortunately, a recent

design of Katie’s that was ultimately created and installed for one of their clients resulted in

water damage to the basement of the client’s new home. The limited liability partnership

A) guarantees that none of the company’s partners will lose more than the amount they invested

in the company.

B) guarantees that only those partners who were directly involved in designing and building this

home face unlimited liability for claims against the firm.

C) protects the partners from any suit by the client.

D) will enable the firm to quickly reorganize with only minor financial losses.

Answer: B

Explanation: A key advantage of a limited liability partnership is that it limits the liability of

individual partners to damages or debts that result from their own decisions or actions, or to

those of employees under their direct supervision.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Apply

AACSB: Knowledge Application

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.235) A(n) ________ is a state-chartered legal entity with authority to act and to have liability

separate from its owners.

A) limited partnership

B) conventional corporation

C) unlimited partnership

D) nonprofit organization

Answer: B

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

236) An owner of a corporation is known as a

A) general partner.

B) limited partner.

C) director.

D) stockholder.

Answer: D

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.237) Which of the following statements about the operation of a corporation is correct?

A) A corporation receives its charter from a state government.

B) A corporate charter automatically expires in 99 years and must be renewed if the corporation

wants to remain in business.

C) Owners of a corporation have unlimited liability for any claims against their company.

D) A corporation tends to be much easier to set up than a sole proprietorship or partnership.

Answer: A

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

238) The form of business ownership best suited to raising large amounts of money for

expansion is the

A) sole proprietorship.

B) partnership.

C) corporation.

D) cooperative.

Answer: C

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.239) Which of the following is an advantage of the corporate form of business when compared

to sole proprietorships and partnerships?

A) Ease of formation

B) Lower taxes

C) Simplified paperwork

D) Limited liability of owners

Answer: D

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

240) Compared to partnerships and sole proprietorships, a major advantage of the conventional

A) has the ability to raise more money.

B) is easier and less expensive to form.

C) qualifies for simplified tax treatment.

D) creates unlimited liability for its owners.

Answer: A

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.241) Which of the following is normally considered a disadvantage of the corporate form of

business?

A) Unlimited liability of owners

B) Difficult transfer of ownership

C) Limited life

D) Double taxation of earnings

Answer: D

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

242) What entity elects the board of directors for a corporation?

A) Creditors

B) Stockholders

C) Managers

D) Employees

Answer: B

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.243) A separation between ownership and management is most likely to occur in a

A) sole proprietorship.

B) general partnership.

C) corporation.

D) limited liability partnership.

Answer: C

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

244) One disadvantage of ________ is the initial cost of formation.

A) corporations

B) general partnerships

C) sole proprietorships

D) limited partnerships

Answer: A

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.245) The form of business ownership that usually requires the most detailed record keeping is

the

A) corporation.

B) partnership.

C) sole proprietorship.

D) limited partnership.

Answer: A

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

246) A major advantage of S corporations is that they

A) can have more stockholders than a C corporation.

B) can operate in foreign nations as if they were domestic corporations.

C) require less paperwork to set up than a C corporation does.

D) avoid the problem of double taxation associated with conventional corporations.

Answer: D

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.247) One reason many companies do not organize themselves as an S corporation is that this

form of business

A) is subject to a higher tax rate than a general partnership.

B) does not provide owners with limited liability.

C) has a special eligibility restriction, which many businesses are unable to meet.

D) is much more difficult to set up than C corporations.

Answer: C

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

248) To qualify as an S corporation, a company must

A) have no more than 50 shareholders.

B) have shareholders who are individuals or estates and qualify as permanent residents of the

United States.

C) have a different class of stock for each owner.

D) have not more than 5 percent of income derived from passive sources.

Answer: B

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.249) The income generated by S corporations

A) passes through to its owners, and each is taxed individually for this income.

B) is provided to nonprofit organizations, so it is considered a tax-free source of funds.

C) is taxed separately from its owners.

D) must be reinvested in the business. Owners should not expect dividends.

Answer: A

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

250) ________ are companies that are similar to S corporations but are not restricted with similar

eligibility requirements.

A) Regulated equity companies

B) Corporate cooperatives

C) Limited liability companies

D) Private drawing companies

Answer: C

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.251) One disadvantage of a limited liability company is that it

A) requires all earnings of the business be taxed at the corporate rate.

B) has a limited life span.

C) requires the owners to divide up profits and losses in a fixed proportion.

D) has a more restrictive ownership requirement than S corporations.

Answer: B

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

252) One reason limited liability companies have become so popular is that they

A) can be taxed either as a corporation or as a partnership, so owners can choose the tax

treatment that is most advantageous for their situation.

B) allow owners to sell their interests in the company without requiring approval from other

owners.

C) have unlimited life.

D) permit owners to avoid paying self-employment taxes on the company’s profits.

Answer: A

Difficulty: 1 Easy

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Remember

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.253) Earnings of C corporations can be

A) taxed twice if they are distributed as dividends to stockholders.

B) taxed at twice the going rate of a partnership or sole proprietorship.

C) taxed by the federal government, but they are exempt from state taxes if the corporation owns

any facilities within that state.

D) taxed the same as a partnership.

Answer: A

Explanation: Corporations must pay taxes on income before it is distributed to stockholders;

then the stockholders must pay taxes on the income they receive from dividends. Dividend

income ends up being taxed twice—once when it was part of the total net income of the

company and then again when it is part of the owner/stockholder’s personal income.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

254) Which of the following is an attractive benefit of a corporation?

A) Corporations can enjoy double taxation.

B) Unlike limited partnerships, all owners of corporations are passive investors.

C) Corporations can protect their owners with unlimited liability.

D) Corporations can attract employees by offering stock options.

Answer: D

Explanation: Corporations can attract skilled employees by offering such benefits as stock

options (the right to purchase shares of the corporation for a fixed price). Double taxation is a

disadvantage of corporations. Owners of corporations have limited liability; and due to stock

options and other benefits employees of corporations are quite often stockholders/owners of the

corporations, as well.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.255) The reason a professional such as a lawyer or doctor would incorporate his/her business is

A) to be assured that another professional firm would not take over and make decisions, similar

to a hostile takeover.

B) to comply with the law because insurance companies require that they be corporations.

C) to protect his/her other assets with limited liability.

D) to protect his/her assets with unlimited liability.

Answer: C

Explanation: Limited liability provides corporation owners protection from loss of personal

assets if the business goes bankrupt. Although costlier to set up, the corporation provides the

added protection by keeping the business assets separate from the owner’s personal assets. Your

liability is limited to your investment in the business.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

256) Which of the following statements about S corporations is most accurate?

A) The major attraction of S corporations is that they avoid the problem of double taxation.

B) S corporations are similar to C corporations, except that the majority of owners are foreign

investors.

C) Any corporation willing to pay the necessary fees and fill out the required paperwork can

become an S corporation.

D) Only large corporations with operations in more than one state can qualify to be classified as

S corporations.

Answer: A

Explanation: The S corporation does not file an income tax return separate from its owners. The

profits of S corporations are distributed to the owners. Owners account for these earnings on

their personal income tax returns, thus avoiding double taxation.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.257) The organizational structure of a corporation permits

A) the company management to elect the board of directors.

B) stockholders to elect the board of directors.

C) stockholders to elect the officers and management team.

D) employees (by committee) to elect the officers of the company.

Answer: B

Explanation: Stockholders elect the board of directors. The board of directors selects the officers

and top management of the firm. Officers hire managers that supervise employees.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

258) Which of the following statements is the most accurate?

A) A foreign corporation does business in one or more states, but is chartered in another state.

B) A foreign corporation is 50% owned by individuals or companies from another nation.

C) A foreign corporation is headquartered in another nation.

D) A foreign corporation is the same thing as a multinational corporation.

Answer: A

Explanation: A foreign corporation is one that does business in one state while being chartered

in another state.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.259) The S corporation is likely to be less popular in the future because

A) Congress repealed the limited liability protection of S corporations and limited them to

companies with earnings of less than $3 million per year.

B) limited liability companies, which do not have the restrictive eligibility requirements of S

corporations and offer greater flexibility in the choice of tax treatment, are now legal in all 50

states.

C) many states significantly increased the annual fee that S corporations must pay to maintain

their tax status, thus eliminating the financial advantages of this form of ownership.

D) S corporations have been made illegal in several states as a reaction to widespread abuse of

the special benefits available to this type of business.

Answer: B

Explanation: Limited liability companies allow firms great flexibility to choose the most

advantageous tax treatment, and avoid the special eligibility requirements that characterize S

corporations. In 1995 the National Conference of Commissioners on Uniform State Laws

approved the final version of the Uniform Limited Liability Company Act. By 1996, all 50 states

and the District of Columbia recognized LLCs. Today more than half of new business

registrations in some states are LLCs.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

Accessibility: Keyboard Navigation

written consent of McGraw-Hill Education.260) Compared to the C corporation, the limited liability company is an attractive form of

business ownership because

A) even though it is a little more expensive to form, it has a longer life than the C corporation.

B) a limited liability company permits one owner to own all the stock of the company, whereas a

C corporation requires several owners.

C) once formed, the limited liability company is a legal form of business ownership, worldwide,

whereas the C corporation must file for corporate status in each nation it elects to do business.

D) once formed, the limited liability company does not require the firm to hold annual meetings,

and has the option to avoid double taxation.

Answer: D

Explanation: The limited liability company can choose to be taxed as a partnership or a

corporation, giving it the option to avoid double taxation. This form of business ownership files

articles of organization; however, it does not hold annual meetings, nor does it need to file

annually.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

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written consent of McGraw-Hill Education.261) Double taxation means

A) if stockholders decide to sell their shares, they are subject to paying twice the amount of taxes

on any capital gains.

B) as the owner of the company, you pay twice the amount in employment taxes on yourself, as

you do on your employees.

C) corporations pay taxes on their profits. If they distribute after-tax profits to the stockholders,

the stockholders also pay taxes on the distribution.

D) if the corporation doubles its profits from the previous year, the firm’s tax rate (the percentage

it pays in taxes) will also double.

Answer: C

Explanation: A corporation files a separate tax return from its owners. It pays taxes on all profits

earned after legitimate expenses are deducted. If any profits remain after taxes are paid, these are

considered after-tax profits and they can be distributed to owners in the form of dividends. These

earnings are subject to double taxation because the government requires the recipient (the

owner/stockholder) to pay taxes on the dividends, even though they were already taxed when

they were part of the corporation’s earnings.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

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262) According to the box, “Kickstarting a Benefit Corporation,” a benefit corporation is

A) a mission-based company judged by how well it meets its own set of socially or

environmentally beneficial goals.

B) a nonprofit organization.

C) a corporation without the possibility of double taxation because it’s tax exempt.

D) a special corporation type for crowdfunding sites.

Answer: A

Explanation: Benefit (B) corporations are mission-based companies that are judged by how well

they meet their own set of socially or environmentally beneficial goals.

Difficulty: 2 Medium

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Understand

AACSB: Reflective Thinking

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100

written consent of McGraw-Hill Education.263) Lorenzo and Lila own all of the Double L Corporation’s stock. The stock of this corporation

is not sold to the general public. Lorenzo and Lila own a(n)

A) limited liability company.

B) master limited partnership.

C) alien corporation.

D) closed corporation.

Answer: D

Explanation: A closed corporation is one whose stock is all owned by only a few investors (or

privately held), and isn’t available to the general public.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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264) Alani and Jeremy have considered creating their own company but are concerned about the

possibility of losing all of their personal assets if the business fails. One way for Alani and

Jeremy to avoid this risk would be to organize their firm as a

A) general partnership.

B) limited partnership.

C) corporation.

D) sole proprietorship.

Answer: C

Explanation: A corporation has the advantage of limited liability for all of its owners. Although

a limited partner also has limited liability, even a limited partnership must have at least one

general partner with unlimited liability.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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101

written consent of McGraw-Hill Education.265) Payton recently purchased 100 shares of stock in Game Guys, Inc. Payton is a(n)________

of this company.

A) owner

B) manager

C) creditor

D) partner

Answer: A

Explanation: Stock represents shares of ownership in a corporation.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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266) Carter is a stockholder in ExtremeTrax, Inc., a C corporation that designs and manufactures

amusement park roller coasters. The company recently lost a major court decision and is being

forced into bankruptcy. In fact, the damages being awarded are so large that, even if all company

assets are sold and the proceeds are used to pay its debts, ExtremeTrax is likely to still owe

money to its creditors. If ExtremeTrax goes bankrupt, Carter and the other stockholders will

A) be personally responsible for all remaining debts.

B) lose their investment but nothing else.

C) be entitled to full reimbursement of any investment losses.

D) automatically qualify for federal reimbursement for any losses suffered by the firm.

Answer: B

Explanation: Owners of a corporation have limited liability. This means that the most they can

lose is the amount they invest in the corporation.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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102

written consent of McGraw-Hill Education.267) Jose lives in Mexico City and is a Mexican citizen. He has several friends who are

American citizens and own shares in an S corporation. Jose would like to invest in this company.

Which statement is most accurate?

A) Jose can invest in this company, but must pay both U.S. and Mexican taxes.

B) Jose cannot become a shareholder since he is not a citizen or permanent resident of the U.S.

C) Jose can become a shareholder but cannot become a manager, and his income must be paid in

pesos.

D) Jose needs approval from the Mexican government before he can invest.

Answer: B

Explanation: S corporations are required to meet several special conditions that conventional

corporations do not have to satisfy. One requirement is that all of the owners of an S corporation

must be U.S. citizens or permanent residents of the United States.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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268) Although it is a small company, Zorn Enterprises owns a large number of inexpensive

rental housing units in Texas and Louisiana. Currently, the company is a chartered C

corporation, but the owners are interested in switching to be an S corporation. After consulting a

lawyer, they learned that Zorn Enterprises does not qualify to be designated as an S corporation.

Which of the following characteristics of Zorn Enterprises would prevent it from becoming an S

corporation?

A) The firm has fewer than 75 stockholders.

B) The firm is chartered in one state, but owns property in another.

C) The firm has only one class of stock, all owned by U.S. citizens.

D) The firm receives more than 70 percent of its income from rents and other passive sources.

Answer: D

Explanation: An S corporation may earn no more than 25 percent of its income from passive

sources such as rents, royalties, and interest.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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103

written consent of McGraw-Hill Education.269) Mackenzie’s dream is to open a chain of salons. She hopes to attract investors to help

finance growth. Having once considered forming a C corporation, Mackenzie wants to have

more flexibility about how the new business will be taxed. She also wants to offer

investors/owners limited liability. Mackenzie can satisfy her objectives by setting up a(n)

A) limited liability company.

B) S corporation.

C) alien corporation.

D) general partnership.

Answer: A

Explanation: Limited liability companies offer limited liability protection while allowing the

company the choice of being taxed as a corporation or as a partnership. Although S corporations

also offer limited liability, they do not offer the tax flexibility. Moreover, an S corporation has

more stringent ownership rules.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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104

written consent of McGraw-Hill Education.270) Your three friends from Wyoming inherited an old dude ranch. They now plan to turn it

into a pasture for retired racehorses. Serenity Stables wants to open its doors by spring of 2020.

After going to several small business seminars, your friends are certain they need limited

liability. The high-risk, labor-intensive business will require a sizeable investment including an

air-conditioned barn, several fenced-in pastures, and loads of animal feed. You explain to them

that LLC ownership requires owners to pay self-employment taxes on the entire amount of

earnings. You are fairly certain this is one tax liability your friends would like to avoid. You

instead recommend

A) sole proprietorship.

B) general partnership.

C) limited liability company.

D) S corporation.

Answer: D

Explanation: Unlike the limited liability company, the S corporation form of business ownership

avoids paying self-employment taxes on total earnings and still provides limited liability to

business owners who are U.S. citizens.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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105

written consent of McGraw-Hill Education.271) Double taxation is experienced by corporations that pay dividends. Which of the following

scenarios is an accurate example of double taxation?

A) If Game Guys, Inc. distributes 20% of its net profit after taxes to its stockholders, these funds

will be taxed again, when each individual stockholder claims his/her portion as earnings.

B) By law, Game Guys, Inc. is permitted to tax its executive employees twice on their earnings,

and then pass those funds on to its stockholders in the form of dividends.

C) Due to the fact that it is a corporation, the accountants of Game Guys, Inc. calculate 35% of

the company’s earnings, multiply it by 2, and then distribute that amount to the federal

government each year for taxes.

D) If Game Guys, Inc. fails to pay its taxes on time during any given year, it must pay the current

year and the delinquent year, in order to stay in business, similar to being taxed two times.

Answer: A

Explanation: The corporation is a separate entity, and as such, it pays its own taxes on its

earnings. If there are earnings after taxes, the corporation may distribute these after-tax funds to

its stockholders (owners) in the form of dividends. However, the stockholders must then claim

the dividends as income on their individual tax returns. A portion of the firm’s earnings (the

dividend portion) may be taxed twice. This constitutes double taxation.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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106

written consent of McGraw-Hill Education.272) Joji is a 37-year-old married business owner. He runs a dry cleaning service with three

locations in Toledo, Ohio. His personal obligations are the home that he owns with his wife, who

works for a large financial consulting firm; the healthcare of his family; and his commitment

toward saving for his three children’s college educations. Joji knows that two of his locations

require a large infusion of cash to pay for new and expensive dry cleaning equipment. Although

his wife’s job provides the family with health insurance, it also places the family in a higher

income tax bracket. Joji would certainly like to minimize his taxes. Which of the following

forms of business ownership would you suggest for him?

A) Joji should consider a sole proprietorship due to the fact that it pays its own taxes and it has

limited liability.

B) Joji should consider a sole proprietorship due to the fact that it has unlimited liability and it

will protect the family’s personal assets.

C) Joji should consider a corporation because he can avoid the negative aspect of limited

liability. Corporations are always taxed at a lower rate than individuals.

D) Joji should consider a limited liability company because he will only be liable for what he has

invested in the business. His personal assets will be protected, and he can be taxed like a sole

proprietorship.

Answer: D

Explanation: LLC provides the owner(s) with limited liability, which means the owners are only

liable for the funds they have invested in the business. Personal assets are protected. It also

permits the owner to account for his earnings on his individual tax return. The company does not

submit a tax return. Company earnings are passed through to the owner’s individual return, just

like a sole proprietorship or a general partnership.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Apply

AACSB: Knowledge Application

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107

written consent of McGraw-Hill Education.273) One reason that companies participate in mergers and acquisitions is

A) to do the same thing as the competition because it makes for a highly leveraged company.

B) to convert a sole proprietorship into a partnership.

C) to expand within their own field or enter new markets.

D) to take the first step toward a join venture.

Answer: C

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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274) A ________ is two firms combining to form one company.

A) joint tenancy

B) tenancy in common

C) merger

D) leveraged buyout

Answer: C

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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275) A(n) ________ occurs when one company buys the property and obligations of another

company.

A) cooperative

B) hostile takeover

C) leveraged buyout

D) acquisition

Answer: D

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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108

written consent of McGraw-Hill Education.276) Three types of corporate mergers are

A) economic, geographic, and financial.

B) vertical, horizontal, and conglomerate.

C) flexible, differentiated, and conditional.

D) explicit, implicit, and intrinsic.

Answer: B

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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277) A ________ merger unites firms at different stages of related businesses.

A) vertical

B) horizontal

C) diagonal

D) conglomerate

Answer: A

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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278) When two companies in the same industry agree to become one firm, the result is called a

A) vertical merger.

B) joint venture.

C) monopoly.

D) horizontal merger.

Answer: D

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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109

written consent of McGraw-Hill Education.279) When two companies in completely unrelated industries agree to become one firm, the

result is called a

A) vertical merger.

B) joint venture.

C) conglomerate merger.

D) horizontal merger.

Answer: C

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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280) A conglomerate merger will

A) diversify business operations and investments.

B) allow the firm to have a less dominant position in its market.

C) enable the firm to enjoy a higher degree of specialization.

D) give the firm a more secure access to needed materials and components and better control

over quality.

Answer: A

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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281) One result of taking a firm private is

A) the firm’s stock is no longer available for purchase on the open market.

B) managers lose some control as the number of stockholders increases.

C) the public image of the firm will suffer.

D) the firm will have access to more capital.

Answer: A

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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110

written consent of McGraw-Hill Education.282) An attempt by employees, management, or a group of investors to purchase an organization

primarily through borrowing is called a(n)

A) golden parachute.

B) arbitrage agreement.

C) factor transaction.

D) leveraged buyout.

Answer: D

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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283) If a group of stockholders or management obtain all the stock of a previously publicly

traded firm for themselves, this is referred to as

A) capitalizing.

B) stock turning.

C) turning the equity.

D) taking the firm private.

Answer: D

Difficulty: 1 Easy

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Remember

AACSB: Reflective Thinking

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111

written consent of McGraw-Hill Education.284) The difference between a merger and an acquisition is

A) a merger does not combine the assets and liabilities of firms, whereas an acquisition combines

assets and liabilities.

B) a merger combines the assets of the two firms, but each company continues to assume its own

liabilities, whereas an acquisition is a total buyout of one firm by another.

C) a merger is the joining of resources of two companies, whereas an acquisition is a buyout of

one firm by the other. The new company concerns itself with merging of resources.

D) a merger is always something smaller tagging onto something larger, like a merging lane onto

an interstate, whereas an acquisition is two firms that are relatively the same size agreeing to

continue as one, more like two major interstates that come together and travel as one for several

miles.

Answer: C

Explanation: A merger is the result of two firms combining their resources and forming one

company. An acquisition is when one firm purchases the assets and obligations of another firm.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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285) When two firms which do not participate in the same industries, for example, a software

company and a fast food restaurant company, decide to merge, the result is called a ________

merger.

A) vertical

B) horizontal

C) linear

D) conglomerate

Answer: D

Explanation: A conglomerate merger involves two firms from different industries.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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112

written consent of McGraw-Hill Education.286) A merger involving a commercial bakery and a grocery retailer would be an example of a

________ merger.

A) vertical

B) horizontal

C) linear

D) conglomerate

Answer: A

Explanation: A vertical merger involves two firms in different stages of related businesses. The

bakery would make bread and other items to be sold in the grocery.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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287) A merger involving a software producer and a clothing manufacturer is an example of a

________ merger.

A) vertical

B) horizontal

C) linear

D) conglomerate

Answer: D

Explanation: A conglomerate merger is two firms from unrelated industries combining their

resources.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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113

written consent of McGraw-Hill Education.288) In a leveraged buyout, the managers of a firm, its employees, or other investors

A) move the company elsewhere and start over.

B) obtain the assets of the company through bankruptcy proceedings.

C) borrow funds to buy out the firm’s stockholders.

D) negotiate a merger with another firm to create a conglomerate.

Answer: C

Explanation: A leveraged buyout is an attempt by employees, management, or a group of

investors to use borrowed funds to buy out the existing owners of a firm.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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289) When investors successfully take a firm private, the company’s stock is

A) converted into bonds.

B) converted into cash.

C) no longer sold to investors on the open market.

D) pledged as collateral to its bondholders.

Answer: C

Explanation: When investors take a firm private, they obtain all of the stock for themselves. The

stock is no longer traded on the open market.

Difficulty: 2 Medium

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Understand

AACSB: Reflective Thinking

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114

written consent of McGraw-Hill Education.290) Silver Screen Pictures, Inc. recently bought Superstar Entertainment, Inc. for an undisclosed

amount of money. It now owns all of Superstar Entertainment’s properties and obligations. This

is an example of a(n)

A) merger.

B) combination.

C) expropriation.

D) acquisition.

Answer: D

Explanation: When one company buys out another firm’s property and obligations, the result is

called an acquisition.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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291) Intercontinental Provisions, a specialty grocery store, is considering a conglomerate merger

with a company that makes storage solutions. A likely reason is

A) to expand its market share.

B) to develop spin-off companies.

C) diversification.

D) to meet the requirements to convert to a limited liability company.

Answer: C

Explanation: A conglomerate merger is between firms in unrelated markets. One of the common

motivations for this type of merger is the desire to diversify business operations and investments.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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115

written consent of McGraw-Hill Education.292) Kooky Cookies Corporation purchased the Crazy Cookie Company. Although this was

initially an acquisition, the merging of these two businesses was a ________ merger. Kooky

Cookies went on to purchase several baking product companies. Joining forces with some of its

suppliers would represent a ________ merger.

A) conglomerate; horizontal

B) vertical; horizontal

C) horizontal; vertical

D) conglomerate; conglomerate

Answer: C

Explanation: A merger of two companies which compete in the same industry and for the same

market is a horizontal merger. A merger between two firms at different stages of related

businesses is a vertical merger.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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293) The strategy of investors who are attempting a leveraged buyout is to

A) shape up the company for quick resale.

B) use debt to finance the buyout of the firm’s stockholders and gain control of the firm

themselves.

C) secure ownership of all of the existing stock in a company by issuing and selling large

amounts of new stock.

D) use investment tax credits from the government to acquire all of the physical assets owned by

the firm.

Answer: B

Explanation: In a leveraged buyout, the objective of the investors is to use debt financing to gain

control of the firm’s stock for themselves.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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116

written consent of McGraw-Hill Education.294) Foreign investment in U.S. companies continues to be strong. When Belgian-based In-Bev

purchased the largest beer company in the U.S., Anheuser-Busch, this action constituted a(n)

________ with a negotiated selling price of $52 billion.

A) merger

B) aggregate

C) acquisition

D) unequivocal buy-in

Answer: C

Explanation: An outright buy-out or purchase is known as an acquisition. As noted in the

textbook, In-Bev bought the largest brewer of beer in the U.S., Anheuser-Busch. The purchase

included all of the company’s assets and all the companies it owned. This is known as an

acquisition.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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295) Kevin is a major stockholder in Professional Transmission Services (PTS), a nationwide

network of transmission repair shops founded in 1975 by his father. Currently, PTS stock is sold

on the open market, but Kevin has talked to several relatives about his desire to get all of the PTS

stock back in his family’s hands. Kevin is interested in ________.

A) taking the firm private

B) a hostile takeover of the firm

C) converting the firm to a general partnership

D) forming a master limited partnership

Answer: A

Explanation: When a group of stockholders, such as a family, obtains all of the stock in a

company for themselves, they have taken the firm private.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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117

written consent of McGraw-Hill Education.296) Hidden Valley Communications, Inc., located in a remote area of Utah, made a special

device that was used in LTE phones. After three years of local operations, the company that

employed 4,000 people was planning to close its Utah operation and move the assembly

offshore. Under the direction of a financial services company that financed the deal, the

employees agreed to become owners of the company and continue to operate the business. The

business concept that describes this arrangement is

A) IPO (initial public offering).

B) LBO (leveraged buyout).

C) EPO (equity public offering).

D) HM (horizontal merger).

Answer: B

Explanation: A leveraged buyout or LBO is an attempt by employees, management, or investors

to buy out the stockholders in a company. This action usually requires the buyers to borrow a

sizeable amount of funds.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Apply

AACSB: Knowledge Application

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297) A(n) ________ is an arrangement whereby someone with a proven idea for a business sells

the rights to use the business model, to sell a product or service to others in a given territory.

A) conditional grant

B) franchise agreement

C) trade contract

D) extended ownership agreement

Answer: B

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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118

written consent of McGraw-Hill Education.298) A(n) ________ is a company that has a proven business model and is willing to sell the

rights to use the business model to others so that they can sell the same product or service within

a given territory.

A) intrapreneur

B) franchisee

C) limited partner

D) franchisor

Answer: D

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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299) A person who buys the right to use a business name and sell a product within a given

territory is called a

A) stockholder.

B) franchisee.

C) limited franchisor.

D) venture capitalist.

Answer: B

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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119

written consent of McGraw-Hill Education.300) A franchise can be formed

A) only as a general partnership.

B) only as a corporation.

C) as either a corporation or partnership, but not as a sole proprietorship.

D) as a corporation, partnership, or sole proprietorship.

Answer: D

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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301) The most popular type of business for franchising is

A) consumer wholesale firms.

B) restaurants.

C) specialty steel manufacturing.

D) medical services.

Answer: B

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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302) A ________ is the share of profits or percentage of sales a franchisee pays to a franchisor.

A) royalty

B) dividend

C) premium

D) co-pay

Answer: A

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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120

written consent of McGraw-Hill Education.303) Which of the following is an advantage of franchises?

A) Shared profit

B) Management regulation

C) Management and marketing assistance

D) Coattail effects

Answer: C

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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304) One reason franchises have become so popular is that this arrangement provides the

franchisee with

A) a nationally recognized name and product.

B) a low-cost way to start a business.

C) limited liability.

D) the right to retain all profits earned by their franchise.

Answer: A

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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305) Global franchising offers

A) few opportunities for American investors.

B) opportunities for large franchise systems, but not small ones.

C) opportunities for both large and small franchises.

D) American firms the opportunity to market goods overseas without any need to adjust for

cultural differences.

Answer: C

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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121

written consent of McGraw-Hill Education.306) Opening and operating a franchise in a different country

A) is illegal according to the Clayton Antitrust Act.

B) is no different than setting up a franchise in the domestic market.

C) may require the owner to adapt to social and cultural differences.

D) is much less risky than owning a domestically based franchise.

Answer: C

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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307) Franchisors may send reverse royalties to franchisees who

A) have not yet created their own website.

B) feel their sales have been hurt by the franchisor’s online sales.

C) are using e-commerce to expand their sales territory.

D) desire to streamline their communication with employees, customers, and vendors.

Answer: B

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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308) ________ is by far the most popular target for American franchisors seeking to establish

franchises in other countries.

A) Canada

B) Mexico

C) Great Britain

D) Japan

Answer: A

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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122

written consent of McGraw-Hill Education.309) Franchised businesses are successful (both domestically and internationally) because

A) they require very little start-up revenue.

B) people prefer the owners and employees of franchised businesses.

C) laws require franchisors to provide the same level of service to franchisees.

D) customers like the predictability of the product and/or service.

Answer: D

Difficulty: 1 Easy

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Remember

AACSB: Reflective Thinking

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310) An evaluation of franchising would conclude that this type of arrangement

A) has become the dominant form of business organization in the United States because it has

many advantages and almost no disadvantages.

B) appeals to people who want to own a business, but are not comfortable starting a company

from scratch.

C) has a much higher risk of failure than independent companies.

D) has little chance of success outside the United States because many foreign countries do not

allow such arrangements.

Answer: B

Explanation: An advantage of franchising is that it allows franchisees to own their business

while taking advantage of an established name and product.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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123

written consent of McGraw-Hill Education.311) Which of the following statements best summarizes the experience of American franchisors

in foreign countries?

A) Very few American franchisors of any size have had success in international markets.

B) Large franchisors have had success in other nations, but newer and smaller franchisors have

lacked the financial strength and reputation to succeed in global markets.

C) The only nations in which American franchisors have achieved any success are Great Britain

and Mexico.

D) Both large and small franchises have found success in foreign countries by providing

convenience and a predictable level of service and quality.

Answer: D

Explanation: U.S.-based franchisors have many outlets in foreign countries. Even new and

relatively small franchisors are finding success in other countries. The key to international

success in franchising is the same as the key to success in the United States: providing the

customer with convenience and a predictable level of service and quality.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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312) One important consideration when prospecting for a good franchise business is

A) the saturation rate of the franchise. The more saturation the better.

B) the market potential for the product or service, at the prices you need to charge.

C) the population level of the area where you will operate. Large populations are too

overwhelming, often needlessly increasing demand.

D) a limited disclosure statement, and being mindful that any disclosure statement may limit

your success.

Answer: B

Explanation: The market potential is very important. Your goal should be to establish yourself

with a franchisor whose product or service has increasing demand in the area where you will

operate. You do not want your idea to be saturated in your territory. You will want the franchisor

to offer full disclosure of rules, policies, and procedures.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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124

written consent of McGraw-Hill Education.313) Which of the following statements about buying a franchise is most accurate?

A) One of the advantages of buying a franchise is that franchisors are so closely regulated that

there is virtually no chance for scams to succeed.

B) Before purchasing a franchise, the buyer should carefully evaluate the franchise, the

franchisor, his or her own situation, and the nature of the market.

C) Franchise agreements are simple to evaluate, since federal law requires that all such

agreements must be written in plain English with all fees and terms clearly explained.

D) Buying a franchise is the simplest and least expensive way to set up a business, since the

franchisor has already worked out all of the details for setting up and running the business.

Answer: B

Explanation: This question is based on information in Figure 5.9. The figure provides a lengthy

checklist of questions for evaluating a franchise, including questions about the franchise itself,

the franchisor, the franchisee, and the market.

Difficulty: 2 Medium

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Understand

AACSB: Reflective Thinking

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314) Qiang is ready to become a franchise owner and open one of the 50 Southwest Diners, a

very successful fast food chain specializing in dishes from the American Southwest. Which of

the following problems is Qiang most likely to encounter if she agrees to become a franchisee?

A) High initial costs and fees

B) Poor name recognition and visibility

C) Lack of financing

D) Lack of managerial assistance

Answer: A

Explanation: While franchisors often provide franchisees with financial and managerial

assistance, they typically demand a fee just to obtain the rights to the franchise. The fees charged

by successful franchisors can be quite high. In addition, most franchisors also require franchisees

to pay a fee, called a royalty, based on profits or sales.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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125

written consent of McGraw-Hill Education.315) Zach is a franchisee with Digger’s Doggies, a chain of hotdog shops. He was doing well

until several other Digger’s Doggies franchisees got in trouble and were forced to close their

shops. Soon afterward, Zach’s business declined and was also forced to close. This is an example

A) an economic shakeout at work.

B) the coattail effect.

C) the law of diminishing returns.

D) management by exception.

Answer: B

Explanation: Coattail effects refer to situations where the actions of other franchisees can have

an impact on the success or failure of a particular franchisee’s business.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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316) The Sandwich Emporium, Inc. sells the rights to use its name and sell its signature

sandwiches in a given market area to those willing to pay agreed-upon fees and meet specific

contractual terms. The Sandwich Emporium is

A) offering investors the opportunity to form limited partnerships.

B) a franchisor.

C) creating private subsidiary companies.

D) offering a tax-free investment potential.

Answer: B

Explanation: A franchisor is someone with a good idea for a business who sells the rights to use

the business name and to sell its products or services in a given territory.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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126

written consent of McGraw-Hill Education.317) Midwest Auto Experts, Inc. sells franchises to prospective businesspersons who want to use

the Midwest Auto Experts name and offer its products. In a franchise arrangement, Midwest

Auto Experts would be the ________, and the buyer of the franchise is the ________.

A) owner; limited partner

B) co-signer; co-signee

C) franchisor; franchisee

D) franchisee; franchisor

Answer: C

Explanation: In a franchising arrangement, the person or company that sells the right to use the

name and product is the franchisor, and the person who buys the rights is known as the

franchisee.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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318) Ivy is investing in a home cleaning franchise called HomeKeepers. At her first interview

with the franchisor’s selling agent, she was told the parent company expects 5% royalties. What

are royalties?

A) The initial investment, also known as the franchise fee paid to the franchisor

B) The cost of supplies that she will purchase one time each month from the parent company

C) The milestones that the parent company expects her to reach. With each milestone, she will be

rewarded with commissions

D) The share of the profits or a percentage share of revenues (net sales)

Answer: D

Explanation: Franchisors usually require a royalty fee which can be a portion of the profits of

each franchised operation, or a percentage of the revenues (net sales) of each operation. These

are typically collected on a monthly basis.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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127

written consent of McGraw-Hill Education.319) Enok, a prospective franchise owner, is looking to keep his monthly costs as low as

possible. The franchisor he is checking out is advertising that royalty payments of 8% of sales

could be as high as $300,000 per month. The franchisor is claiming that a franchisee can expect

monthly sales to be as high as

A) $3,125,000.

B) $3,000,000.

C) $3,750,000.

D) $300,000.

Answer: C

Explanation: Royalties are monthly fees collected by the franchisor. These fees are a percentage

of the total monthly sales. If the franchisee generates $3,750,000 in sales, he/she will pay 8% of

that amount to the franchisor. 8% of $3,750,000 = $300,000. The mathematical question is: 8%

of what revenue amount = $300,000? 8% of X = $300,000. X = $300,000/.08. X = $3,750,000.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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320) Lucy is preparing to invest in a new online franchise, Notable Moments. The franchisor

provides the exclusive software and training for designing invitations and cards for special

occasions such as weddings, graduations, and birth announcements. In return, the franchisee is

required to pay a monthly fee to the franchisor. Lucy will use the Notable Moments software to

create her own special designs that she will ultimately feature on her website. Order turnaround

time must be fast. She can only take on as many clients as she can make good on delivery. An

advantage of Lucy’s online franchise is that she

A) has a limited territory.

B) has a narrow product offering.

C) does not need name recognition or marketing assistance.

D) has an unlimited territory.

Answer: D

Explanation: A distinct advantage of online franchising is the unlimited territory regulations.

The franchisee can sell to anyone, anywhere. This makes for an instant global business.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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128

written consent of McGraw-Hill Education.321) Declan plans to open up three Pizza Pals franchises in the greater Phoenix area. He tells you

that he plans to negotiate with the franchisor to get rid of the giant Preston the Pizza that sits on

the roof of all Pizza Pal restaurants. Declan is likely to learn that

A) the parent company will give him a start-up cost break for the same amount that it would have

to pay for three of these signs.

B) he is making a smart decision because it is not the sign that will bring customers to his pizza

joint. It is the wide selection of toppings and six different crust offerings that keep the customers

coming in.

C) it is nonnegotiable due to company rules.

D) his failure rate will not increase or decrease because franchises traditionally have low failure

rates.

Answer: C

Explanation: Franchisors quite often require franchisees to adhere to strict rules when it comes

to the design of their buildings, the signs that they use, and other mandates. The proven business

model usually has centralized regulations that franchisees must follow.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Apply

AACSB: Knowledge Application

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322) A ________ is an organization that is owned and controlled by the people who use it—

producers, consumers, and workers with similar needs pool their resources for mutual gain.

A) corporation

B) limited partnership

C) mutual fund

D) cooperative

Answer: D

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

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129

written consent of McGraw-Hill Education.323) In rural areas electrical power is often sold by ________ that take advantage of the

government’s policy to sell them electricity at wholesale rates.

A) franchises

B) limited partnerships

C) mutual funds

D) cooperatives

Answer: D

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

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324) Some ________ ask members/customers to work at the organization for a number of hours

a month as part of their duties.

A) franchises

B) limited partnerships

C) mutual funds

D) cooperatives

Answer: D

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

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325) The purpose of a farm cooperative is to

A) give members more economic power as a group than they would have as individuals.

B) give each farm an equal share in the running of the cooperative.

C) equalize the members’ standard of living.

D) allow socialism a foothold in the U.S.

Answer: A

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

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130

written consent of McGraw-Hill Education.326) In a cooperative, members/customers

A) democratically control their businesses by electing a board of directors.

B) are known as limited partners.

C) each have unlimited liability for the debts of the firm.

D) take turns serving on the board that manages the company.

Answer: A

Difficulty: 1 Easy

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Remember

AACSB: Reflective Thinking

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327) People who form cooperatives

A) believe the government should play a larger role in the economy.

B) dislike the notion of having owners, managers, and customers as separate individuals with

separate goals.

C) see competitive behavior as the key to ensuring rapid economic growth.

D) want to find a way to supply basic necessities free of charge to everyone.

Answer: B

Explanation: People who form cooperatives dislike the notion of separating owners, managers,

and customers into separate groups with separate goals. They tend to favor more cooperation and

a more equal distribution of wealth.

Difficulty: 2 Medium

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Understand

AACSB: Reflective Thinking

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131

written consent of McGraw-Hill Education.328) A distinguishing feature of a cooperative is that it

A) maintains a distinct separation between ownership and management.

B) is only intended to operate for a limited period of time.

C) is owned and operated by the people who use it.

D) can have no more than 75 owners, all of whom must be citizens of the United States.

Answer: C

Explanation: A cooperative is an organization that is owned and operated by the people who use

it—producers, consumers, and workers with similar needs who pool their resources for mutual

gain.

Difficulty: 2 Medium

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Understand

AACSB: Reflective Thinking

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329) Which of the following statements about farm cooperatives is most accurate?

A) Farm cooperatives have declined in importance in recent years.

B) Farm cooperatives have become a major force in American agriculture.

C) Farm cooperatives have run afoul of U.S. antitrust laws in recent years.

D) Farm cooperatives have increased in number, but decreased in size in recent years.

Answer: B

Explanation: Statistics and examples cited in the text clearly indicate that farm cooperatives,

such as Welch’s, Sunkist, Land O’Lakes, Blue Diamond, and Ocean Spray, are a major force in

U.S. agriculture.

Difficulty: 2 Medium

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Understand

AACSB: Reflective Thinking

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132

written consent of McGraw-Hill Education.330) Which of the following people would be most interested in participating in a business

organized as a cooperative?

A) Eric is interested in the idea of combining his time and resources with others to operate a

business providing a good or service that they all will use.

B) Rose looks to be an owner of a business and share in its profits, but does not want to take an

active role in managing the company or participating in its daily operations.

C) Matteo wants to work for a government-owned business because he believes government

ownership ensures a more equitable distribution of income and wealth.

D) Juliana prefers to work for a charitable organization that emphasizes helping people who are

less fortunate than she is.

Answer: A

Explanation: As its name implies, a cooperative emphasizes cooperation. A cooperative appeals

to people who dislike the notion of having owners, managers, workers, and customers as separate

groups with different goals. In a cooperative, the people who will use a product join together and

pool resources to operate the business for their mutual gain.

Difficulty: 3 Hard

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Apply

AACSB: Knowledge Application

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331) Several small vineyard owners in the Napa Valley region of California banded together to

market their grapes and wine in an attempt to get better prices. Over the years they expanded the

organization to include other services such as buying and selling farm supplies and equipment

and providing financial and technical services. The arrangement established by these vineyard

owners is an example of a

A) closed corporation.

B) joint venture.

C) limited agricultural partnership.

D) farm cooperative.

Answer: D

Explanation: A farm cooperative is an organization of farmers who have joined to gain more

economic power than they would have as individuals. These organizations often buy and sell

supplies and equipment, provide warehouses, offer insurance and financial and technical

services, and even operate manufacturing facilities.

Difficulty: 3 Hard

Topic: Cooperatives

Learning Objective: 05-06 Explain the role of cooperatives.

Bloom’s: Apply

AACSB: Knowledge Application

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133

written consent of McGraw-Hill Education.332) Although most new firms start out as sole proprietorships, few large firms are organized

this way. Why is the sole proprietorship such a popular form of ownership for new firms? What

features of the sole proprietorship make it unattractive to growing firms?

Answer: Sole proprietorships have many features that are attractive to people starting a new

business, including the following: 1. They are relatively easy and inexpensive to set up. 2. The

owner can be his or her own boss, which appeals to many entrepreneurs who want to do things

their own way, without the need to consult others. 3. The owner can keep all of the profits

(except what the government takes in taxes). 4. Proprietors can take a great deal of pride in

owning their own independent business and running it as they see fit. 5. The owner’s work

establishes a legacy on which future generations may build.6. There are no special taxes on

proprietorships.However, sole proprietorships also have some disadvantages that limit their

growth potential: 1. With only one owner, sole proprietorships have limited access to the

financial capital needed by rapidly growing firms. 2. As the firm grows and becomes more

complex, the owner may become overwhelmed with the tasks of running the firm and need to

attract qualified help. 3. Unfortunately, qualified professional workers are often reluctant to work

in a sole proprietorship. 4. One of the biggest drawbacks for sole proprietorships is the unlimited

liability of the owner. This means that the owner can lose much more than the amount he or she

initially invested in the company (including personal property and savings) if the company gets

into severe financial trouble. In this respect, a sole proprietorship is a risky form of ownership.

Many growing companies decide to change their form of ownership to a corporation to overcome

these drawbacks.

Difficulty: 3 Hard

Topic: Sole Proprietorship

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Analyze

AACSB: Analytic Thinking

333) What is the difference between a general partner and a limited partner? Give an example of

a situation in which a person would want to be a limited partner.

Answer: A general partner is an owner who has unlimited liability and is active in managing the

firm. A limited partner invests money in the business and shares in the profits, but has limited

liability and cannot legally assume any management responsibility.Students should be able to

offer any number of examples. Among them might be: 1. Wealthy persons who want to invest in

what they think could be a successful firm, but don’t want to risk their personal assets. 2. Persons

who do not want the responsibility of managing a partnership. 3. Persons who are interested in a

particular type of business but know nothing about the field.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Analyze

AACSB: Analytic Thinking

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written consent of McGraw-Hill Education.334) What is a C corporation? What are the major advantages and disadvantages of this form of

business ownership?

Answer: The C corporation is a state-chartered legal entity with authority to act and have

liability separate from its owners. The text identifies many advantages of corporations. Among

the major advantages are: 1. More money for investment. A corporation can sell stock (shares of

ownership) to large numbers of interested investors. This enables corporations to finance growth,

modernize facilities, and invest in the latest technologies. 2. Limited liability. The personal assets

of the stockholders are not at risk. This is a major advantage to investors who want to invest in a

company but want to limit potential losses. 3. Perpetual life. Unlike a sole proprietorship or

partnership, a corporation is separate from its owners, so its existence is not threatened by the

death of an owner. 4. Ease of ownership change. Unlike the other major forms of business

ownership, stockholders in corporations can easily transfer ownership by simply selling their

stock. 5. Ability to attract talented employees. Because of their ability to grow and offer

opportunities for advancement, as well as the ability to offer fringe benefits (including stock

options), corporations often can attract talented and highly qualified employees. The text also

mentions disadvantages of becoming a C corporation, including: 1. High initial cost of

formation. It is generally more expensive and time consuming to form a corporation than to form

a sole proprietorship or partnership. 2. Increased regulation and paperwork. Corporations are

subject to closer government regulation than other forms of ownership, and must keep detailed

records. 3. Possible conflicts between the corporation’s board of directors and management.

Stockholders elect the board of directors, and may choose members who are at odds with top

management. As the text points out, this can result in an entrepreneur being forced out of the

very company he or she founded. 4. Double taxation. If a corporation pays dividends, its

earnings are taxed both as income to the corporation and as income to the stockholders. In other

forms of ownership, earnings are taxed only once.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Analyze

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written consent of McGraw-Hill Education.335) How does a limited liability company (LLC) compare to an S corporation? What are the

major advantages and disadvantages of an LLC?

Answer: A limited liability company (LLC) has some similarities to S corporations. Both of

these forms of ownership have the advantage of providing limited liability for their owners while

allowing the earnings of the company to be taxed as a partnership, thus avoiding the problem of

double taxation that is a disadvantage of the conventional (or C) corporation. S corporations

must meet certain eligibility requirements. For example, they can have no more than 100

stockholders (entire families are considered one stockholder), and all of the stockholders must be

either individuals or estates and the individuals must be citizens or permanent residents of the

United States. LLCs avoid these special eligibility requirements. Moreover, LLCs offer even

more flexibility than S corporations in the choice of taxation methods and they provide a great

deal of flexibility in the way they are operated, and in the way profits and losses are distributed.

For all of these reasons, LLCs have quickly become a very popular form of ownership. However,

LLCs also have some disadvantages. For example, shares of ownership in LLCs are not

transferable without the approval of other owners. In addition, LLCs have a limited life, and

members of LLCs must pay self-employment taxes on profits. (In contrast, owners of S

corporations pay self-employment taxes only on salary, not on the entire profits of their

company.) LLCs cannot deduct the cost of fringe benefits as an expense, and there is more

paperwork for an LLC than there is for a sole proprietorship. Thus, though LLCs offer many

attractive benefits, they are not the best choice in all situations.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Analyze

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written consent of McGraw-Hill Education.336) Describe and differentiate between the three types of corporate mergers. Give an example

of each type.

Answer: A vertical merger is the joining of two firms involved in different stages of related

businesses. A horizontal merger joins two firms in the same industry and allows them to expand

their product offerings and/or achieve efficiencies in production and distribution. A

conglomerate merger unites completely unrelated firms for the purpose of diversifying

operations and investments. Students should be able to come up with many different examples

here. Probably most will draw from the examples in the chapter but other examples could

include: 1. Vertical: a candy producer that merges with a sugar refiner. 2. Vertical: a swimming

pool contractor that merges with a pool filter manufacturer to ensure a constant supply of filters.

3. Horizontal: a publisher of business textbooks merges with a publisher that specializes in legal

and political texts. 4. Horizontal: a chain of donut shops merges with a company that operates a

chain of shops selling fresh baked cookies and candy in shopping malls. 5. Conglomerate: an

insurance company that merges with a magazine publisher. 6. Conglomerate: an auto parts

manufacturer merges with a clothing store chain.

Difficulty: 3 Hard

Topic: Mergers and Acquisitions

Learning Objective: 05-04 Define and give examples of three types of corporate mergers, and

explain the role of leveraged buyouts and taking a firm private.

Bloom’s: Analyze

AACSB: Analytic Thinking

137

written consent of McGraw-Hill Education.337) Franchising is a key component of the U.S. economy. What are the major advantages and

disadvantages of franchising?

Answer: Students should be able to identify and discuss several of the following advantages: 1.

Management assistance: most franchisors offer franchisees advice and managerial assistance. 2.

Personal ownership: the business is still owned by the franchisee. 3. Use of a nationally

recognized name: Many franchises have established a national reputation. 4. Financial advice

and assistance: Franchisors often provide franchisees with expert financial advice and may even

be willing to provide financing to franchisees. 5. Lower failure rate than that of other business

ventures. Again, students can select from several disadvantages cited in the text. Among them

are: 1. Large start-up costs to obtain the franchise. 2. Sharing profits with the franchisor, or

paying a royalty based on sales to the franchisor. 3. Management regulations: franchisees have to

follow rules and regulations set by the franchisor that can limit their freedom. Thus, even though

the franchisees own their business, they do not have as much control as owners of independent

small businesses do. 4. Negative coattail effects: the owners of a successful outlet can be

adversely affected by the problems and poor performance of less successful franchisees in the

same franchise. 5. Restrictions on selling: many franchisees face restrictions in the reselling of

their franchises. 6. Fraudulent franchisors: many franchisors are small, rather obscure companies

that prospective franchisees may know little about. There has been an increase in complaints to

the Federal Trade Commission about franchisors that delivered little or nothing of what they

promised.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Analyze

AACSB: Analytic Thinking

138

written consent of McGraw-Hill Education.Mini-Case

Genna Raiter’s passion has always been cars, cars, cars! As a teen, she would spend hours with

her dad fixing the family car, and he taught her how to change the oil and make minor repairs.

While still in high school, Genna got a job at a local garage. After high school graduation, she

completed the auto mechanics degree at a local community college and quickly decided she

wanted to be her own boss. She quit her job at her first garage, borrowed some money from her

dad, and created her own repair shop, the Car Keepers Garage. Genna’s hard work gradually

attracted a loyal clientele of satisfied customers. Her success has her thinking about expanding

and opening garages in two other locations, but she lacks the financial resources needed for

development. Furthermore, the success of her business is forcing Genna to spend more time

managing the business and less time doing the actual technical work she still enjoys. She wants

to find business partners who can help her with management and provide additional financial

resources. She has approached a couple of friends she met in high school: Al Ternator and Lou

Banfilter, to see if they would like to join the business.

338) Right now, Car Keepers Garage is operated as a

A) limited liability company.

B) cooperative.

C) sole proprietorship.

D) solitary subsidiary.

Answer: C

Explanation: A business that is owned, and usually managed, by one person (such as Genna) is a

sole proprietorship.

Difficulty: 3 Hard

Topic: Sole Proprietorship

Learning Objective: 05-01 Compare the advantages and disadvantages of sole proprietorships.

Bloom’s: Analyze

AACSB: Analytical Thinking

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written consent of McGraw-Hill Education.339) Genna approached Al Ternator about joining the business as an owner. She offered to

provide the technical expertise and deal directly with customers, while Al, who has a degree in

finance, takes care of the financial side of running Car Keepers. In addition, Genna wants Al to

contribute some much-needed money for expansion. Under Genna’s proposal, she and Al would

operate the business together as

A) limited partners.

B) general partners.

C) majority shareholders.

D) business consultants.

Answer: B

Explanation: Since both partners are taking an active role in the business, they would be

considered general partners.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

340) Although Lou Banfilter, now a young attorney, is impressed with Car Keepers and believes

it could be a good investment, he told Genna that his professional position at a law firm prevents

him from taking an active role in the business. He is also concerned about accepting more risk

since he and his wife are expecting a child. He mentioned a preference for limited liability. If

Lou joined Genna and Al, the three might consider forming a

A) limited partnership.

B) general partnership.

C) sole proprietorship.

D) master limited partnership.

Answer: A

Explanation: A limited partner invests in the business and shares in the profits, but has limited

liability and does not take an active role in the management of the company. This type of

arrangement would meet Lou’s goals of investing without incurring unlimited liability.

Difficulty: 3 Hard

Topic: Partnerships

Learning Objective: 05-02 Describe the differences between general and limited partners, and

compare the advantages and disadvantages of partnerships.

Bloom’s: Analyze

AACSB: Analytical Thinking

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written consent of McGraw-Hill Education.341) When Genna confided in Lou and Al that she too was concerned about adding additional

risk, Lou suggested that they explore the possibility of a different type of business ownership,

a(n) ________, which has very flexible ownership rules and would give them more choices in

how the company’s earnings are taxed while still protecting all owners from high levels of risk.

A) alien corporation

B) master limited partnership

C) limited partnership

D) limited liability company

Answer: D

Explanation: Limited liability companies offer the protection of limited liability, but allow the

company a great deal of flexibility in how the earnings of the business are taxed. In many cases,

the company will choose to have its earnings taxed as if it were a partnership, thus avoiding the

problem of double taxation. However, the company can also choose to have its earnings taxed as

a corporation if that is more advantageous.

Difficulty: 3 Hard

Topic: Corporations

Learning Objective: 05-03 Compare the advantages and disadvantages of corporations, and

summarize the differences between C corporations, S corporations, and limited liability

companies.

Bloom’s: Analyze

AACSB: Analytical Thinking

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141

written consent of McGraw-Hill Education.342) Al also suggested another way Genna could finance her expansion. He described setting up

a chain of Car Keepers Garages by selling the rights to use the Car Keepers’ name, business

model, garage design, and service ideas to others who would like to own a similar shop. These

individuals would pay Car Keepers an initial fee and monthly royalties based on earnings. Al is

suggesting that Genna set up a

A) joint venture.

B) franchise arrangement.

C) C corporation.

D) master limited partnership.

Answer: B

Explanation: A franchise arrangement exists when someone with an idea for a business (the

franchisor) sells the right to use the business name and to sell a product or a service (the

franchise) to others (the franchisees) in a given territory. Franchisees usually pay the franchisor

an initial fee and royalties. Many women have turned to franchising as a means of financing an

expansion of their business.

Difficulty: 3 Hard

Topic: Franchising

Learning Objective: 05-05 Outline the advantages and disadvantages of franchises, and discuss

the opportunities for diversity in franchising and the challenges of global franchising.

Bloom’s: Analyze

AACSB: Analytical Thinking

Accessibility: Keyboard Navigation

142

written consent of McGraw-Hill Education.

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