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Chapter 40
TYPES OF BUSINESS ORGANIZATIONS
RESTATEMENTS
The principal forms of business organizations are sole proprietorships, partnerships and corporations. These
forms of doing business have various advantages and disadvantages. Those deciding how to organize their
businesses should consider various issues such as personal liability, management, ease of transferability,
taxation and liquidation.
The specialized forms of business organizations include joint ventures, cooperatives and franchises. Each of
these specialized forms of doing business also has advantages and disadvantages as well as specific
requirements for formation and operation. An unincorporated association is not necessarily a business
organization but two or more people joining together for a common purpose. Those involved in the association
may have individual liability.
The franchise format for business is one in which the franchisor grants the franchise the right to use a trademark,
the FTC, and franchisors can incur liability for activities by franchisees.
STUDENT LEARNING OUTCOMES
LO.1: Explain the advantages and disadvantages of the three principal forms of business organizations.
LO.2: Recognize that the rules of law governing the rights and liabilities of joint ventures are substantially the
same as those that govern partnerships.
LO.3: Evaluate whether a business arrangement is a franchise protected under state or federal law.
LO.4: Explain how the rights of the parties to a franchise agreement are determined by their contract.
LO.5: Explain why freedom from vicarious liability is a reason for franchisors to use the franchise format.
LO.6: Recognize the implications of the misclassifications of employees as franchisee-independent
contractors.
INSTRUCTOR’S INSIGHTS
Break the chapter down into three components – related Learning Outcomes are indicated in ( ):
1. What are the principal forms of business organizations? (LO.1)
Define and discuss individual proprietorships
2. What are the specialized forms of business organizations? (LO.2)
Define and discuss joint ventures
3. What is the franchise business format? (LO.3, LO.4, LO.5, and LO.6)
Define franchise
List the types of franchises
Discuss franchise agreements
CHAPTER OUTLINE
I. What are the Principal Forms of Business Organizations?
A. Emphasize that the choice of form of a business organization has to be custom fitted to the needs of the
particular individuals faced with the choice. No general rules can be used to ensure the correct decision,
B. Individual proprietorships
1. Advantages
a. No organizational fees
b. Decision making – all in one individual
2. Disadvantages
a. Unlimited liability
C. Partnerships, LLPs, and LLCs
1. Advantages
2. Disadvantages
a. Unlimited liability
3. Limited Liability Companies (LLC)/LLPs have now taken over as a popular means of doing business
because they enjoy the advantages without personal liability exposure for members/partners
D. Corporations
1. Advantages
a. Limited liability
2. Disadvantages
a. A corporation is subject to double taxation
b. Organizational fees are imposed
c. Strict reporting requirements exist
d. Emphasize the comparison problem, and to get your students thinking about a real -world
organizational choice, have them consider opening a small business locally (for example, a
pizza business) with three of their classmates. If you ask them for the advantages of the
corporate form, they will list such things as limited liability, transferability of shares, and
II. What are the Specialized Forms of Business Organizations?
A. Joint ventures
1. Two or more persons combine for a single business undertaking
CASE BRIEF: Kurwa v. Kislinger
138 Cal. Rptr. 3d 610 (Cal. App. 2012)
FACTS: The plaintiff, Dr. Kurwa, and the defendant, Dr. Kislinger, formed a joint medical
practice. They agreed to incorporate as a professional medical corporation. In 2003, Dr. Kurwa
was suspended from the practice of medicine and placed on probation for five years by the
California Medical Board. Dr. Kislinger discovered that they had not originally incorporated as a
professional medical corporation, as intended, but instead where a normal for profit corporation.
Dr. Kislinger unilaterally terminated the joint venture and appropriated the joint venture company
without compensating Dr. Kurwa.
ISSUE: Did Dr. Kislinger break his fiduciary duty to Dr. Kurwa, as joint venturers?
REASONING: The court held that even though the practice was formed as a corporation, it was still vested
with the rights and obligations of a joint venture. While Dr. Kurwa may have been precluded
from owning shares in a professional corporation during his suspension, that does not mean Dr.
Kislinger is not required to account to Dr. Kurwa for his interest in the joint venture enterprise or
allow Dr. Kurwa to sell his shares in Trans Valley to an eligible licensed person.
B. Unincorporated associations
1. Nonprofit purpose
CASE BRIEF: Smith & Edwards v. Golden Spike Little League
577 P. 2d 132 (Utah 1978)
FACTS: Golden Spike Little League was an unincorporated association of persons who joined together
to promote a little league baseball team in Ogden, Utah. They sent one of their members to
arrange for credit at Smith & Edwards, a local sporting goods store. After getting credit, various
members went to the store and picked up and signed for different items of baseball equipment
and uniforms, at a total cost of $3,900. When Mr. Smith, the owner, requested payment, the
members arranged a fundraising activity that produced only $149. Smith sued the Golden
Spike Little League as an entity and the members who had picked up and signed for the
equipment individually. The individual defendants denied that they had any personal liability,
contending that only the Golden Spike Little League could be held responsible.
ISSUE: Do the members have individual liability for the equipment?
REASONING: The association could not be held liable because it did not have any legal existence. The
persons who purchased the goods from the seller were personally liable as buyers even though
they had purported to act on behalf of the unincorporated association.
C. Cooperatives
1. Common objectives
III. What is the Franchise Business Format?
A. Franchises are regulated by state law and the FTC
B. Definitions
Franchising is becoming a very popular way of doing business. Most students probably think of
franchising in terms of motor vehicle sales or convenience food operations. Point out different types of
local franchising operations that the students may be unaware of. Students may have also heard of
“fly-by-night” franchising operations, which prey on people’s desires to get rich quickly. Ask the students
C. Nature of relationship
D. The franchise agreement
E. Special protections under federal and state law
1. Bad-faith termination; Automobile Dealers’ Franchise Act
2. Petroleum Marketing Products Act
CASE BRIEF: Giuffre Hyundai, LTD. v. Hyundai Motor America
756 F. 3d 204 (2d Cir. 2014)
FACTS: Giuffre Hyundai contracted with Hyundai Motor America to be an authorized Hyundai
dealer. After a court found that Giuffre had engaged in fraudulent, illegal, and deceptive
practices, including false advertising and strong-arm sales methods, Hyundai terminated the
dealership. Giuffre sued to enjoin termination of the dealership.
ISSUE: Was Giuffre protected by a New York statute that required franchisors to give adequate
notice and an opportunity to cure a breach of the contract agreement?
REASONING: The court stated that a franchisor must have due cause to terminate a franchise agreement.
Due cause exists if there has been a material breach of the agreement and if the breach is not
cured within a reasonable time. In this case, the court found that the illegal practices of the
franchisee created a material and incurable breach.
DISCUSSION POINTS: Students should discuss the importance of a franchise’s reputation.
F. Disclosure
1. Franchise disclosure rule – advance information for franchisees
2. FTC and about 1/3 of the states have accepted the 1993 revised version of the Uniform Franchise
offering circular for disclosure
3. Disclosure statement must include:
a. Business experience of franchisor and brokers
b. Any current and past litigation against franchisor
4. Civil penalties for non-disclosure
G. Vicarious liability claims against the franchisor by third persons
1. Normally, the franchisor is not liable for the acts of a franchisee
CASE BRIEF: D.L.S. v. Maybin
121 P. 3d 1210 (Wash. App. 2005)
FACTS: William Roberts operated a McDonald’s restaurant in Newcastle, Washington, under a franchise
agreement with McDonald’s Corporation. A thriving drug scene existed among employees and
assistant managers at the restaurant. In May of 2000, fifteen-year-old D.L.S. was hired by the
restaurant and within weeks, she was part of the drug scene there, and thereafter she left
home to live with an assistant manager and use drugs. Her father, Clifford Street, and D.L.S.
sued McDonald’s Corp. and Roberts for introducing D.L.S. to drugs and sex. The trial court
dismissed the claims against McDonald’s Corp., and D.L.S. and her father appealed. Mr. Street
testified that “no person in their right mind would believe that McDonald’s did not control what
happened at the individual restaurants.”
ISSUE: Did McDonald’s Corporation either serve as actual principal of Roberts or create apparent
authority over the Newscastle restaurant?
REASONING: The franchise agreement clearly provided that Roberts was not an agent of McDonald’s
Corporation and that McDonald’s had no control over the daily operations of the restaurant.
Thus, McDonald’s has no liability as Roberts’ actual principal. An apparent authority theory was
next considered by the court, to determine if McDonald’s created apparent authority that it
operated the Newcastle restaurant and would ensure a safe working environment for young
workers there. Beyond the general impression created by advertising that McDonald’s
restaurants offer a wholesome environment, no representations or acts of McDonald’s existed
to create an apparent employment relationship between McDonald’s and D.L.S. D.L.S. and her
parents must pursue their claims against the franchisee.
DISCUSSION POINTS: Have the students discuss the D.L.S. v. Maybin case in which the franchisee was liable
for the torts to the minor emanating from the McDonald's restaurant.
DISCUSSION POINTS: Thinking Things Through
Don't Finagle the Bagel!
Students may be directed to re-read Section 9 of Chapter 13, regarding fraud. Franchise disclosure acts protect
franchisees against misrepresentations by franchisors. Discuss how limited liability of corporate franchisors is
lost because of material misstatements of fact by dishonest representatives of the franchisors.
2. Actual control
3. Product liability – the franchisor is liable on product liability
H. The franchisee and third persons: the franchisee is liable for his or her own torts and contracts
I. Franchises and employee misclassifications
1. Employee vs. independent contractor
ANSWERS TO QUESTIONS AND CASE PROBLEMS
1. Termination of franchises. Miller and Coors exercise control over the MillerCoors joint venture. From a
common sense standpoint, equal control is a form of control. Even though the formation papers indicated the
2. Unincorporated associations. The neighbors were not partners or joint venturers. They were an association
3. Franchises. Friedman need not call the business opportunities franchises for them to be labeled as such.
4. Franchise disclosure rule. An argument could be made that the outright sale of vending machines does not
amount to a franchise as defined in section 7 of the chapter. However, Wolf and King's advertisements
referred to buying a business “opportunity." In fact, the evidence shows that "closers" were promising "very
5. Termination of franchise contracts. The franchisor, Dunkin' Donuts, breached its implied obligation of good
faith and fair dealing in conducting the audit of the franchisee ’s stores. Evidence suggested that the audits
6. Vicarious liability of franchisor. The court held that Domino’s was not vicariously liable for the conduct of the
franchisee’s employee because it lacked the general control of an employer or principal over relevant
7. Vicarious liability claims against franchisors. Judgment for Taco Bell Corporation. Laurie Henry’s employer,
James Doull, was the franchise owner, not the franchisor, Taco Bell Corporation. She had actual knowledge
8. Unincorporated associations; joint ventures. The Armory Committee was a voluntary unincorporated
association with the nonprofit purpose of running this social function. It was not a joint venture for the chief
reason that the committee did not seek to make a profit. Judgment was for Libby against the committee. The
9. Termination of franchises. Judgment for the dealer. The termination of the dealer because of the dealer’s
affiliation with a competitor, Honda, violated the site control provision of the Illinois Motor Vehicle Franchise
10. Cooperatives. The local cranberry growers formed a sellers ’ cooperative; Goodward is correct in believing
that such an agreement is in restraint of trade. However, such a cooperative does not violate the antitrust
11. The franchisor and third persons. No. The fact that Carfiro was doing acts that would benefit Chicken Delight
12. Termination of franchises. The Wisconsin Fair Dealership Law (WFDL) is similar to most state franchise laws.
It forbids a franchisor to “terminate, cancel, fail to renew or substantially change the competitive
circumstances of a dealership agreement without good cause.” A “dealer” is defined as the grantee of a
dealership and a “dealership agreement” as an agreement that authorizes the grantee to use the grantor’s
trademark and creates a community of interest between the parties in the business of offering, selling or
distributing goods or services. The court recognized that the commercial activity of nonprofits has grown
substantially in recent decades. One of the objectives of dealer protection laws is to prevent franchisors from
13. Debtor-creditor relationship distinguished from joint venture and partnership. It was not a joint venture, but
simply a debtor-creditor relationship. The mere sharing of profits does not make either a partnership or a
14. Franchisors and third parties. Judgment for Realty World. A declaration in a franchise agreement that a
relationship is franchisor/franchisee and not principal/agent is not controlling when in fact there is a holding
out to the public of the franchisee as an agent. However, in this case, the franchisee maintained its individual
15. Franchises: bad-faith termination of auto dealerships. Judgment for Blackwell. The statute requires that a
franchisor act in good faith in terminating or refusing to renew a franchise. Kenworth acted in bad faith when
management system for classroom use.
