2.1 Advantages
There are many advantages to operating your business as a partnership:
• Quick start. As in the case of the sole proprietorship, in a partnership, you and your partners can start doing business immediately. However, you must register your partnership’s name. It is also advisable for all partners to enter into a written partnership agreement.
• Pooling of resources. Your restaurant venture will be strengthened by the combined skills and financial resources of several people, rather than only what you alone can bring to the business.
• Possession of profits. Profits earned by the business flow directly to the partners, according to the distribution formula to which the partners agreed in their partnership agreement. Each partner declares this income personally.
• Potential tax benefits. Any losses incurred by the partnership can be used to decrease the personal income tax of the partners.
2.2 Disadvantages
There are, however, some disadvantages to a partnership:
• Possession of debts. Each partner is responsible, both individually and together with the other partners, for debts incurred by the partnership.
• Liability. Each partner is personally liable for the debts and obligations of the partnership, and this liability is unlimited. The personal assets of the partners may be attached to satisfy the business’s debts.
• Potential tax problems. A partnership is not eligible for certain tax breaks available to corporations, and all partners will be taxed at the individual rate. This is likely to become an issue as your restaurant becomes more and more profitable.
• Personality conflicts. The more people involved in the partnership, the greater the potential for disagreement.
• Instability. A partnership dissolves upon the death or withdrawal of any partner or upon the acceptance of a new partner. In each case, a new partnership agreement will have to be drawn up to allow the partnership to carry on.
Most new restaurants begin as partnerships. Each partner brings a unique quality to the business. One may be the financial or business specialist, another may have years of experience in running a similar restaurant. More and more we find financial, accounting, and public-relations specialists teaming up with a kitchen manager or chef. Each partner should bring talent or capital to the business.
If you will be operating your restaurant in partnership with other people, it is crucial that you create a written partnership agreement, and we advise you to do this with the aid of an independent lawyer (one who is not affiliated with any of the partners). If you follow only this advice, your investment in this book will be repaid many times over. A partnership agreement will cover, among other things, the partners’ rights, responsibilities, contributions, and liabilities, as well as procedures for voting, dispute resolution, buying/ selling of shares among the partners, and termination of the partnership. You may wish to use the Partnership Agreement forms on CD available from Self-Counsel Press.
Most partnerships, unless carefully structured, end in failure. The operating partner spends countless hours running the restaurant, with little initial financial reward. Financial-investment partners never seem to receive expected returns quickly enough, and often lose interest in the business (with which they have little day-to-day involvement) and want to divert their money into another “more successful” venture. Initial interests wane, and lives and priorities change. Often no one is to blame for a partnership turned sour, but the best time to consider the potential breakup is at the beginning, before the signatures go on any business loan.
A partnership agreement, signed by all the partners, will set specific terms by which a partnership can be amicably ended. Often, the ending of a partnership is triggered by one or more partners expressing a desire to dissolve the partnership and settling a price for the original and earned revenue accomplished as a result of the partnership. Rarely do partners agree on the current value of the business at time of dissolution. A simple but effective clause can be inserted in the buy/sell provisions that requires that one partner tender to purchase the assets of the other partner or partners. If the partners who are being tendered upon are not satisfied, they can themselves take over the business by offering $1.00 more to the tendering partner. This clause prevents any partner from bidding “cheap” for the business, and allows both sides to walk away from the investment with reasonable satisfaction. However, you must set the buy/sell terms before the partnership is formalized.
Go into any partnership with your eyes wide open. Say to yourself at every stage, “What could go wrong with my partnership?” and realize that at some time during the partnership, something probably will go wrong with it. Doing your homework now can prevent the lawyers from getting rich at your expense later.
3. The Corporation
A corporation is a legal entity in and of itself, and exists separately from its shareholders. Often a corporate structure will evolve out of a partnership, once you and those involved can more clearly see the potential of your restaurant.
3.1 Advantages
Some advantages of a corporation include the following:
• Limited liability. No member of a company is personally liable for the debts, obligations, or acts of the company over and above the amount paid or owed for the purchase of shares, unless he or she has signed a personal guarantee.
• Potential tax benefits. Corporations have access to certain tax benefits that are not available to proprietorships or partnerships.
• Ease of financing. Because of the limited liability mentioned above, many investors feel more secure about putting money into a corporation, knowing that their personal assets are protected.
• Stability. Because a corporation is an entity separate from its shareholders, it does not cease to exist upon the death of a shareholder. In addition, shares can be transferred without disturbing the management of the business.
3.2 Disadvantages
Some disadvantages of a corporation include the following:
• Expense. There are substantial costs involved in incorporating.
• Potential tax difficulties. Operation losses and tax credits must remain within the corporation and cannot be used by individual shareholders against personal tax.
• Difficulty of dissolution. Because a corporation is a legal entity, it can be difficult to dissolve. All the obligations of the corporation must be satisfied and documentation must be filed with the appropriate government authorities.
Depending on the terms contained in the shareholder’s agreement you can easily expand your dream operation and franchise additional units as time and finances permit. If one investor disagrees with the direction of new growth, the will of the majority of investors will prevail, allowing for smoother operation. Again, as with partnerships, we strongly recommend that you enlist the aid of a lawyer in drawing up a shareholder’s agreement, including a buy/sell provision.
4. Franchising
Franchising is the leasing of a name, concept, and management system for a percentage of sales. Many people consider franchising an easier and less risky means by which to enter an arena as fraught with pitfalls as the restaurant business. And indeed, in some ways it is. New franchisees, especially in national or international companies, do have a much higher success rate on average than independent, first-time restaurateurs.
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