Question

In early 2003, Doc and Lyn McGee formed the McGee Cake Company. The company produced a full line of cakes, and its specialties included chess cake, lemon pound cake, and double-iced, double-chocolate cake. The couple formed the company as an outside interest, and both continued to work at their current jobs. Doc did all the baking, and handled the marketing and distribution. With good product quality and a sound marketing plan, the company grew rapidly. In early 2008, the company was featured in a widely distributed entrepreneurial magazine. Later that year, the company was featured in Gourmet Desserts, a leading specialty food magazine. After the article appeared in Gourmet Desserts, sales exploded, and the company began receiving from all over the world.
Because of the increased sales, Doc left his other job, followed shortly by Lyn. The company hired additional workers to meet demand. Unfortunately, the fast growth experienced by the company led to cash flow and capacity problems. The company is currently producing as many cakes as possible with the assets owns, but demand for its cakes is still growing. Further the company has been approached by a national supermarket chain with a proposal to put four of its cakes in all of the chain’s stores, and a national restaurant chain has contacted the company about selling McGee cakes in its restaurants. The restaurant would sell the cakes without a brand name.
Doc and Lyn have operated the company as a sole proprietorship. They have approached you to help manage and direct the company’s growth. Specifically, they have asked you to answer the following questions.
Questions:
1. What are the advantages and disadvantages of changing the company organization from a sole proprietorship to an LLC?

2. What are the advantages and disadvantages of changing the company organization from a sole proprietorship to a corporation? 3. Ultimately, what action would you recommend the company undertake? Why?

3. Ultimately, what action would you recommend the company undertake? Why?

Answer 1

1.

A limited liability company (LLC) is a business structure that can be used in the expansion phase of a business. It has features of a partnership and corporation, without some of the negative aspects of both. ie: Like a Corporation LLC provide limited liability to its shareholder and like a partnership its has a certain authority by the owners.

Advantages

• Tax benefit: Income need not be taxed at corporate level. This means owners can take the responsibility of the losses and claim this on their individual tax return. This can avoid double taxation.
• Liability protection: The liability of the owners are in proportion with the shares they hold.
• Financing & Expansion option: Compared to sole proprietorship, it is much easier to get financed through loans and equities which helps in expansion of companies.
• Flexibility: From the owners perspective they are as flexible as Sole Proprietorship

Disadvantages

• Less Profitability: Compared to the profitability potential of sole proprietorship, LLC is less profitabel
• Investors: Due to business flexibility by the owners not all investors will be intersted in this scheme.
• Additional taxes and fees: Additional taxes based on revenue, owners, capital employed in the state or any combination of these factors can be levied.

2.

A Corporation is considered as an entity which is a business structure and generally use when the expansion potential for a business is massive.

Advantages

• Limited liability: The liability of the owners are in proportion with the shares they hold.
• Unlimited lifespan: The legacy of the business can be carried even after the lifespan of owners
• Financing & Expansion option: FInancing is much easier. Even better than LLC.
• More stable and risk less than sole proprietorship: From the owners perspective they are as flexible as Sole Proprietorship

Disadvantages

• Legal requirement & Paperwork:  Every decision the company take has to get approval by shareholder. Everything should be under a governance system.
• Can loss control of the business by hostile takeover

3.

The action to be recommended depends on what is the objective of the owners. If they want to expand the company by holding majority of control over the company also with less legal requirements, it is recommended to follow LLC model. Whereas if they want to expand on a larger scale by reducing their liability and increasing the stability of the company with more financing options, they should go for Corporation model.

But as in the case it is mentioned that the company has approached by super market chain, restaurant chain etc with some proposal, so considering this it is better for the company to go for LLC model by making contracts with these chains.