What is a Hedge Fund?
/in Business Contracts, Buying or Selling a Business, Mergers and Acquisitions /by mcduff_adminHedge funds are privately held investments that use resources pooled together from investors to capture a particular market segment that offers high returns. Investors are therefore required to commit their monies for a minimum period after which they can redeem their investments. These funds are aggressively managed and are only open to select investors with a minimum set net worth.
The original purpose of creating hedge funds was to capture equity securities investments and to utilize leverage and short selling to monitor the movements of the equity market. This purpose has however been overridden to accommodate other investments that can offer higher returns. Aggressive managers observe the market trends and make speculative investments that at times carry a bigger risk to that of the overall market.
Hedge fund strategies
Their approach to the market structure can take any of the following forms:
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- Short selling
Short selling commonly referred to as shorting is a strategy whereby stocks that are not in use are sold and then bought later at a discounted price thereby making real returns. Only a few hedge fund managers can be entrusted with this high-risk venture.
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- Equity market neutral
This is an asset stock-picking with the aim of hedging against volatility in the market using the long-short method. The hedge-manager can buy one stock and, on the other hand, short another stock in the same asset class. Regardless of the performance of the individual markets, the investors will still make some money from the investment.
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- Market neutral arbitrage
This technique exploits the imbalances in the pricing of different securities. For instance, a manager may short sell a company’s stock and still buy the same companies bond.
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- Merger arbitrage
Merger arbitrage focuses on the companies on the verge of an amalgamation. For instance when a corporation Y announces that it is buying company Z at $100 per share, the stock price for company Z will rise by a margin let’s say at $105 by share. The difference between the two stocks is called the spread. A hedge manager can use this chance to make a short term profit from the spread.
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- Convertible arbitrage
It’s a corporate bond that is redeemed for a company stock in the future. The price of this bond can fall when the credit ratings fall or when the interest rates shoot up. Profit is achieved from the difference between the price of the bond and the stock it can be redeemed for.
Hedge funds are like a double bladed sword. When you make the right bet, then you are sure to smile all the way to the bank. If you are not lucky, then your lifetime savings can be swept with the speed of the lightning. In the 1990’s, Manhattan investment fund clearing through Bear Stearns lost close to $400 million of their investors assets. The firm, however, collapsed in the 2000s having made $2.4 million and with losses of up to $160 million which the court ordered they should pay.
President Obama’s Overtime Pay Proposal: The Ups and Downs
/in Business Contracts, General Law /by mcduff_adminFor more and more American workers, putting in work weeks longer than 40 hours is becoming the norm. However, working more than 40 hours per week has not necessarily meant getting paid for more than 40 hours per week. Yet with President Obama’s recent proposal to change the rules concerning overtime pay, many more people may find themselves with bigger paychecks as a result of their extra hours.
What the Law Will Do
In essence, the overtime pay proposal will make workers who earn less than $50,440 annually eligible for overtime pay. Under the current rules, the salary threshold is $23,660, which means millions of workers would be eligible for extra pay. According to the Labor Department, the change could give back to workers more than $1.3 billion per year. However, before everyone starts to assume they will be receiving bigger paychecks, there are many factors that must be taken into consideration.
How the Law Will Affect Businesses
Needless to say, most businesses are not happy at the proposed rules changes. By making more employees eligible for overtime pay, employers will then be faced with a decision. They can either pay their employees the extra money, or possibly reduce hours or lay off employees in an effort to keep their costs down. In addition, businesses can reduce an employee’s rate of pay in order to keep them from earning any more in salary, even if they are working more than 40 hours per week. While this may sound as if it’s illegal, the fact is employers cannot be told to pay employees any certain amount of money. So long as they are following state and federal laws by paying at least minimum wage, they are free to do as they choose.
Upsides
For employees, there are many potential upsides to this proposal. For example, lower-paid managers who had previously been classified as “exempt” would now be considered “non-exempt,” meaning any hours they work over 40 would be subject to overtime pay. Some employees may also get a raise, since their employers may decide it is cheaper to do this than pay them for overtime. And for those who may be looking for part-time jobs, the overtime pay proposal could work in their favor as well. If employers choose to stop letting employees work overtime, they may instead hire part-time workers to make up the difference, which could inadvertently lead to job growth.
Downsides
As with any type of proposal, there is always a downside for someone, and this proposal has many potential downsides for employees. In addition to hours being reduced, employers could also decide to lower a person’s base rate of pay to make sure they don’t make any more money despite still working more than 40 hours. Along with a possible reduction in pay, benefits packages could be greatly altered. Workers who find themselves reclassified as non-exempt employees may find it harder to accrue vacation or leave time, have fewer health benefits and no longer be eligible for profit-sharing or other bonus programs.
So as lawmakers begin the process of discussing the overtime pay proposal, both employees and employers will find themselves very interested in the results. No matter what the ultimate ruling may be, both sides are sure to feel both positive and negative effects.
Patent Trolls
/in Business Contracts, Business Litigation, General Law /by mcduff_adminWhat is a Patent Troll?
The most basic definition of a patent troll is an individual or company that obtains patents in bad faith and then proceeds to misuse them to assist with business strategy. Often, they gain their patents through purchasing them; the most common sellers are companies facing bankruptcy. They will then use the patents they’ve obtained to launch infringement lawsuits against companies in order to gain a profit. Patent trolls also commonly lay on their patents in hopes of halting the productivity of other establishments.
History of the Term
Although not definite, other common terms for patent trolls are patent-holding companies (PHCs), patent assertion entities (PAEs), or non-practicing entities (NPEs). The term “patent troll” itself gained notoriety in the early 1990s when a video depicting a troll rushing into offices and swiping patents from their original owners was released to companies. The goal of the film was to alert people to the growing presence of unethical litigants in the business world, and how it may harm them.
The Effect of Patent Trolls on Business
Patent trolls are a hot topic of debate, but their effect on companies and the overall economy of the United States is no mystery. Not only are they a plague to large corporations, but they have played a big part in discouraging start-up businesses. People grow fearful of the infringement lawsuits perpetrated by trolls, and for good reason. In 2011 alone, they cost U.S companies over $27 billion in cost. Not only that, but a study out of MIT’s Sloan School of Business indicated that investment in startups and otherwise smaller establishments would have been $21.772 billion dollars higher if it had not been for the frequency of patent trolls’ litigation.
Laws Regarding Patent Trolls
There has been a variety of legislation, both proposed and passed, with goals of limiting the power of these companies. A notable example is the Innovation Act of 2013, which would have made it more difficult for non-practicing entities to file frivolous or vague lawsuits. It passed in the House, but was put on indefinite hold in the Senate in 2014 and left to collect dust.
New Horizons
A version of a bill known as the Patent Act has recently been approved by the Senate Judiciary Committee. Although it has the same goal as the Innovation Act, its proposals are a little different. First, it raises the requirements necessary to file a legitimate patent lawsuit. Plaintiffs must clearly indicate which of their patents are being infringed upon and explain why, among other things. Not only that, but it lays out conditions stating that the loser in an infringement suit must pay for the winner’s legal fees. This will weed out the patent trolls who like to file lawsuits despite knowing they will lose in court. Furthermore, it sets limits to the amount of “discovery” that occurs during lawsuits. Discovery is the amount of work that either side involved in a lawsuit must do to produce evidence in their favor. Startups and smaller businesses must often settle during infringement lawsuits because they cannot afford to produce favorable evidence. If passed, this legislation will hopefully put an end to a lot of unsavory patent abuse and improve economical conditions.
Why Form a C Corporation?
/in Business Contracts /by mcduff_adminOwning a business is part of the classic American dream.
That doesn’t mean business owners should leave their personal assets at risk while building up. Incorporation protects the owner(s) by making the corporation a separate entity from the owners, and usually falls into one of three types: LLC, S Corporation, and C corporation.
C corporations, or standard corporations, must be owned by shareholders and run by a board of directors. The board of directors then elects a president to manage the company’s daily business.
A C corporation must follow certain practices in order to maintain their status. Stockholders meetings must be held at least annually, and minutes must be taken at each meeting. Officers must be properly elected, usually the aforementioned president, a secretary, and a treasurer. Stock must be issued to all shareholders, including the owners that formed the corporation. The corporation must also keep enough capital on hand to cover potential debts, or risk being viewed as a sham corporation when sued, which removes the liability protection provided by incorporation.
Some states also require a C corporation to write a company charter and/or bylaws, dictating the structure and policies of the company, and the range of situations that can arise is enormous.
There are some other disadvantages to a C corporation in addition to the required hoop-jumping. The most notable is that profit is taxed twice: once when brought in by the company, and once when profits are issued to shareholders as dividends. This can be avoided by incorporating as an S corporation, but S corporations come with shareholder restrictions.
There’s also a high cost to forming and operating a C corporation, from filing fees and legal fees required when conducting business across state borders. C corporations often need to hire lawyers to navigate all these legal hurdles.
There are advantages to forming a C corporation, or they wouldn’t exist in the first place.
Because of the ability to issue shares, it is easier to acquire capital to grow the business. Bank loans come with interest, and some banks avoid the risk that comes with a recently opened business, but some investors are willing to gamble on a company’s success in exchange for a share of future profits.
C corporations also exist in perpetuity, only dissolving after shareholders vote on the action. The business will continue on, guided by the company bylaws, regardless of ownership or leadership changes.
C corporations are also eligible for extra tax breaks on certain employee benefits, like medical costs not cover by insurance, allowing for more income to be sheltered from taxation.
An unincorporated business, since it does not exist as a separate entity, is difficult to directly pass on to a new owner or to heirs, but shares are easily transferred via sale, gift, or will.
Every situation is different. Many small businesses choose to incorporate as an LLC, and an S corporation if effective, but a C corporation is a better long-term solution if a company has the potential to grow into a large corporation.
What is a Limited Liability Company?
/in Business Contracts, General Law /by mcduff_adminOne of the challenges that most entrepreneurs face is choosing the most suitable business entity. The entity that one chooses has its repercussions. It determines how taxes are paid, the regulations that come along with it as well as personal liability. A limited liability company is one of these entities. Before making a decision, it is important for one to understand what is entailed in the entity.
The Definition and Categories of LLC
An LLC is a hybrid kind of a legal structure that has limited liability features and also provides operational flexibility and tax effectiveness of a partnership. Its structure majorly depends on the state that one is in. However, broadly, it is possible to choose one of the three types of LLC’s:
- Professional LLC– It is organized with the aim of providing professional services. In most states, the individuals involved are required to have their respective licenses, such as architects, doctors or lawyers. The members are usually individuals within a similar profession. They must operate within the profession’s code of practice.
- L3C– This is an enterprise that should not be aimed at maximizing income, but rather for performing socially beneficial activities. It combines the benefits of nonprofit organizations, the market position of a social enterprise and the legal flexibility of a traditional LLC.
- Series LLC– It allows a single LLC to separate its assets into separate series. This is advantageous in that in case the lender forecloses on one series, the others are not affected.
Advantages of LLC
Fewer Compliance Requirements– whereas corporations are required to have annual reports, regular meetings with shareholders and the board of directors as well as have written corporate minutes, LLCs do not have to hold frequent meeting. This largely reduces the paperwork that ought to be done.
- Tax Flexibility– The members do not experience double taxation. The IRS does not regard an LLC as a separate entity. Thus, it is not taxed directly. Instead, the members decide on how they will be taxed. The can choose to be partners, single members, or as corporations.
- Limitless Members– There are no restrictions on the number of members required. Thus, the LLC can have many or as few members as desired. However, the IRS recognizes LLCs, which have at least two members.
- Protected Assets– They provide limited liability to the members. Therefore, the members are not regarded to be personally responsible for the business debts. This means that their creditors cannot pursue their personal assets.
Disadvantages of LLC
- Transferring Ownership– It is quite difficult to transfer ownership. The owners must first approve the addition of new members or altering of the existing member percentage.
- Additional Taxes– In some states such as New York and California, these companies are required to pay capital values tax or franchise tax.
- Raising Capital– It is harder to raise money due to two reasons. One of them is that some people find it difficult to put their money in the company because of lack of a strict corporate structure. The other reason is that it cannot be easily converted into a tradable stock company.
- Less Precedent– This form of business is a new concept. Therefore, there is not much law precedent for the limited liability companies, unlike corporations.
What Are Confidentiality Agreements?
/in Business Contracts, General Law /by mcduff_adminDefinition
A confidentiality agreement, also known as a non-disclosure agreement, is a legal agreement between at least two parties that stipulates that specific confidential material that can be shared only with the agreeing parties and none outside. There are two forms of a confidentiality agreement: a unilateral agreement is a one-way share of information from one party, and the other party must keep it secret, and in a bilateral agreement both parties supply confidential information, such as during a merger.
Uses
A confidentiality agreement can be used in several different situations. A common usage is for strategic business meetings where sensitive information may be shared between companies but not be accessible to a competitor or the general public. The agreement creates a confidential partnership to guard trade secrets or proprietary information. Often when individuals are exposed to sensitive information through work, they are required to sign a confidentiality agreement as both a legal guard for the company they work for and a way to impress upon them the need for secrecy. Whether the agreement is between two companies or an individual employee and employer, a confidentiality agreement makes any potential legal issues much easier to deal with.
Pertinent Cases
One well-known confidentially agreement court case was RRK Holding Company v. Sears, Roebuck & Co, decided on May 27th, 2008. RRK had entered into a confidentiality agreement with Sears in 1997 when RRK agreed to produce a next generation spiral saw under Sears store brand, Craftsman, and sold exclusively in Sears stores. The two companies signed a confidentiality agreement that prohibited the disclosure of the prototype concept. When negotiations eventually failed and the two companies parted ways, Sears manufactured a similar product two weeks before RRK, and with a lower price. In court, Sears argues that the product designs fell within the general knowledge of the industry and was not a trade secret. A jury found that the product was innovative and that Sears had breached the confidentiality agreement, and Sears was hit with a $25 million judgement.
Consequences of Violation
For employees who breaches a confidentiality agreement with their employers, their jobs could be terminated immediately even with an employment contract, and that is just the start. An employer can sue and if successful, obtain monetary damages from the employee. In some cases, the employee can be charged with criminal activity (by the government, but instigated by the employer) for intellectual property theft or other similar crimes. Outside the law, a fired employee may have trouble finding another job in the same field if it is a specialized and close-knit industry.
That being said, sometimes a confidentiality agreement can be hard to prove in court. The suing party must prove that they suffered monetary damages and that the agreement was not overly broad in regards to what could not be revealed – and no matter how much money they potentially gain back, the once-secret information is out there and can never go back to being confidential. Any competitive advantage that those secrets once held is now gone.
4 Things to Consider When Deciding to Start a Business
/in Business Contracts, Business Transactions, General Law /by mcduff_adminAfter losing a job (or even quitting a job), the thought of how fulfilling and satisfying owning and running your own business would be tends to cross your mind. While taking on self-employment can be the most rewarding decision of your life, it can also be a costly one. Here are some questions to consider before you decide to forego applying for new jobs in exchange for starting your own business.
- Do you have passion and motivation?
- Starting your own business is going to have several ups-and-downs, if you do not have the passion or motivation to roll with the punches, then you will sink with your business. Having passion means that this business may have been on your mind for several years now. Your idea should not only be something that you believe in, but something that you think others will want to be a part of. Once you recognize your own vision for the future of your business, you have to take action. Your motivation will give you the strength to overcome obstacles because as a new business owner, you are the one responsible for its success or failure.
- Do you have a business plan?
- All the passion in the world means nothing if you do not have the right business model, plan, and skills to get the job done. Do the research and master your understanding of the field that you want to enter. Many models have been tested and proven, but now you have to develop your own business plan that will be able to standout and compete in the market. Take classes in business management or teach yourself how to read and understand financial reports, best practices, legal requirements, and marketing. All of these skills will help you to be better prepared in business meetings, employee interviews, and any court situations that may arise (lawsuits or patent-filing).
- Do you have financial resources?
- Having the right financial backing is key to getting a start-up off the ground. You may already have some savings for the venture or a great credit score/history, but money goes fast. It is hard to find people that will recognize your vision and be willing to work for free, so you be will have to give your employees their paychecks, pay for all of your resources, and probably start paying rent or developing a store location. If you think your family or friends are willing to contribute, don’t be afraid to ask. Some of them might even want to form a partnership. If you do form a partnership, be specific on the terms and thoroughly explain the role you want to have and the role you want them to have.
- Do you have an exit strategy?
- Whether your business becomes a huge success or it doesn’t quite reach its potential, you are going to want to have an exit strategy. An exit strategy will help you to better understand your goals and aspirations, which in turn will help you to make important decisions. For example, if you want to keep it a family business and exit on your own one day, you will have to choose and train your protege. If you plan to sell if for a large profit, you have to document everything to back its history, have signed and valid contracts, and keep good relationships with customers and clients. Most importantly, if your business is not turning the profit you expected, you have to have a strategy in place that keeps a roof over your head.
The Advantages and Disadvantages of a Company Buyout
/in Buying or Selling a Business /by mcduff_adminThere may come a time when the management of one company considers giving a buyout offer to another company. There will probably be many advantages and disadvantages on both sides. Several things must be taken into consideration for this to be successful. The agreement should be structured so the needs of both companies are met. Neither side will get everything they want or be required to give up everything. All the pros and cons of a company buyout need to be carefully considered on both sides.
ADVANTAGE: Gaining New Products Or Technology
There are situations where an established company desires to purchase a smaller company that has developed a very promising new product or technology. This can quickly benefit each company. The smaller business will have access to more and better resources. It will also be able to offer its products or technology to a larger customer base. The larger business will be able to incorporate new products or technology into their existing product line. This can be done without paying to license the acquired company’s product or technology.
DISADVANTAGE: Increased Debt
It’s possible the larger company may have to borrow money to acquire the new company. This will change their debt structure and increase any loan payments on the books. This also can require a company to make drastic cuts in their expenses. It may require layoffs or selling another part of the business to remain profitable. The money a company uses to buyout a business also takes funds away from any in-house product development.
ADVANTAGE: Reduced Competition
When a business is able to purchase its competition, it is able to increase its profits. The buyout will provide them with an increased scale of economics. It will also eliminate the need to participate in a price war with the competition. This can have a positive impact on customers if they experience decreased prices for a company’s products or services. Less competition means a business can spend more time expanding.
DISADVANTAGE: Loss of Key Personnel
Company buyouts can be viewed as a time for founders or key personnel to leave for a new challenge or retirement. Depending on their contract with the business, they may sell their interest to the company or an outside business. It can be a challenge for a company to find individuals with the same level of knowledge and experience. This may cause a period of adjustment that could be hard on the business.
ADVANTAGE: Increased Efficiency
A buyout may do away with any areas of product or service duplication between businesses. This could lead to a raise in profits resulting from a decrease in expenses. The companies involved in the buyout will be able to compare their processes and choose the best one. The newly formed company will be able to get better prices for products, insurance and more. Office spaces and other working areas can be combined for additional cost savings.
DISADVANTAGE: Integration
It will take time to integrate the procedures and personnel of one company into another. The two companies may do similar things but have very opposite corporate cultures. Resistance to change is a very real thing in the business world. It has been known to cause serious problems. Unless there is a plan to address integration issues, it could take a long time and become costly. It could lead to a loss in productivity and have a negative impact on the newly formed business.
Different Types of Business Contracts
/in Business Contracts /by mcduff_adminLegal agreements, called contracts, are essential for successful business relationships. Contracts help to provide clear parameters for fulfillment of required work or other actions. They also offer protections for both parties if unusual circumstances should arise. Entrepreneurs should educate themselves on the features of common business contracts and engage a business attorney, when necessary, to ensure their legal interests are properly protected when they enter into contracts.
Commercial Leases
Businesses frequently must enter into commercial lease agreements to provide a physical location for their enterprise. State laws generally dictate the terms of these leases, which often include the location and description of the premises, the amount of rent, terms of the lease, terms for renewal, capacity for parking, requirements for signage and security requirements.
Bills of Sale
Bills of sale are generally used to transfer legal ownership of property. These contracts may be used for equipment, vehicles, or other physical property. Bills of sale generally describe the property to be transferred, as well as the purchase price. This information can be important in proving whether merchandise has been delivered or the purchase price has been paid in full.
Nondisclosure Agreements
Nondisclosure agreements may be used for a variety of purposes. These agreements may protect proprietary information during quotation of jobs, during manufacture of parts or when joint ventures are being considered. Information covered by the non-disclosure agreement should be defined clearly to ensure proper compliance for all parties. Some exclusions may be provided in the agreement, such as for information provided by a third party not covered by an obligation of confidentiality, for information in the public domain and for information already disclosed before entering into the agreement.
Manufacturing Contracts
Some types of business may be required to enter into manufacturing contracts to produce various parts to another company. These contracts may include information about quality measures, delivery schedules and other requirements that are necessary for ensuring the proper execution of the contract. Penalties for failure to comply with the contract are also included.
Employment Agreements
High-level executives and key personnel of a company may be required to sign employment contracts when high salary levels and proprietary information may be at stake. Employment contracts generally define the terms of employment, compensation, final compensation at termination, restrictions on competition with the company and methods of having disputes arbitrated.
Government Contracts
Government contracts are often deemed to be highly desirable for business, because they often mean long-term work with clear requirements. However, government contracts may include stringent compliance criteria that can add significant expense to the job. Business owners that do business with the government should consult with an attorney who can help them decipher the often-confusing language of government contracts. They should also be fully aware of the consequences if they breach the contract.
Franchise Agreements
Franchise agreements to operate established brand name businesses can be very complicated and involve both federal and state laws. Any businessperson interested in engaging in a franchise agreement should consult with an attorney who is experienced in these agreements. Franchise contracts generally include requirements for using the, name, trademark or logo of the franchise; payment of fees to join the franchise; legal requirements for use of products, ingredients or other matters determined by the franchise; and the parameters of control over the individual business by the franchise. Because these requirements are often very restrictive, legal counsel is critical to the entrepreneur.
http://smallbusiness.findlaw.com/business-contracts-forms/common-business-contracts.html
https://www.legalzoom.com/articles/8-common-contracts-to-know-about
Profitability of Blogs and Web Videos
/in Business Transactions, Buying or Selling a Business /by mcduff_adminWith billions of people flocking to the Internet for shopping, news, entertainment and communication, users have taken to the Web at an incredibly fast pace. This technological revolution has changed the way people work as well. Many Internet users have found ways to make money with their websites and create businesses of their own.
Making money with blogs and web videos
Websites who are successful have been creating a slew of great content that compels readers to come back every time they update their site. This type of content is valuable and useful to the reader of the site. It can be easily shared and distributed amongst a network of friends, family members and colleagues.
Readers of these successful websites tend to consume useful and entertaining content on a regular basis. By giving content away for free, the owner of the website is building an audience who digests and expects more content in the future. There is a relationship between the content consumer and the content creator that is strong and secure. This can quickly turn into a string of revenue if the website owner knows what to do.
Successful websites that begin collecting revenue tend to have advertisements on their site. They will also try to use affiliate links. The website owners may recommend specific services or products to their audience. When the reader buys the product, the website owner will receive a cut of the profits.
Website owners who monetize their business will also create their own products and services for their audience. Since the readers already know and trust the website owner, they are more likely to buy from them.
Making a sustainable business
Bloggers and website owners who make their living this way plan their strategy carefully. Creating a balance between free content and paid content, they give back to their readers generously before asking them to buy a product or service.
These creators pursue partnerships with businesses, and businesses ask to partner with them as well. From large to small corporations, the website owner takes their relationships with companies seriously. They tend to partner with companies their readers will like.
Website and blog owners who are successful will also go on to sell books, membership sites and high-end services. They may also be featured in blogs, magazine and television shows.
Websites that create revenue
With this business model, many websites have found a way to make the projects they’re passionate about into a lucrative company. Here are a couple of websites that made their hobbies into a business.
The blog “Oh Joy!” has made its own success with partnerships and products that celebrate color and artistry. Joy Cho is a graphic designer, author and blogger, and posts free content regularly on her blog and video channel.
Collaborating with companies, she creates products, recipes and party ideas for them. She sells items like bowls, serving plates and cake platters for celebrations. She has also written the books, “Blog, Inc.” and “Creative, Inc.”
Pemberley Digital is a digital media company. It produces popular web video series on their website like “Emma Approved” and “The Lizzie Bennet Diaries.” Allowing the videos to be free online, these videos have gained an incredible amount of attention from their avid fan bases.
Now both of these web series shows are featured on larger sites where fans can buy episodes of the series whenever they want. Pemberley Digital also gains money by selling merchandise affiliated with their web shows.
The Crack Down of Corporate Inversion
/in Business Transactions, Buying or Selling a Business, Taxation /by mcduff_adminThe term “corporate inversion” has been in the news, with the recent announcement of Burger King buying a Canadian company called Tim Horton’s. The deal brought to light the corporate tactic of purchasing another company to acquire its favorable tax status, and has provoked considerable discussion about whether the practice should continue to be permitted.
Understanding Corporate Inversion
Corporate inversion sounds like an exercise practiced in the company gym, but in fact, it is a financial term that is used to describe the process of purchasing a company in a foreign country to access that company’s favorable tax status. The “inversion” aspect can occur when a larger company buys out a smaller firm and changes its headquarters to the country of the smaller firm. Generally, in a corporate inversion, one company purchases a smaller company in a country that has a lower corporate tax rate. Although the practice isn’t currently illegal, many people feel that corporate inversion smacks of a lack of patriotism, at best, and a slick method of tax evasion, at worst.
History of Corporate Inversion
The practice of corporate inversion has gone on for at least thirty years. It is believed that McDermott was the first company to engage in the practice, announcing it would become a part of a Panamanian corporation. It subsequently re-incorporated in Panama and moved its headquarters there, allowing the company to avoid paying U.S. taxes. Since that time, the number of U.S. companies that chose to implement the practice has steadily increased. As many as 76 companies have employed corporate inversion since 1983, and 19 companies have announced their intentions to re-incorporate overseas since January 2013 alone. This exodus of American companies to foreign countries has prompted the U.S. Treasury and U.S. Congress to consider revising the laws governing corporations to limit the practice.
Why Corporate Inversion Is Bad
As a result of these companies changing their incorporation to other countries, less tax is collected, increasing the burden on other U.S. taxpayers. Meanwhile, these corporations reap the benefits of lower taxes and higher returns on investment. The Congressional Joint Committee on Taxation estimates that these inversions would have brought in an estimated $19.5 billion to the U.S. Treasury over the next decade. In addition, tax experts note that the corporate inversion process itself causes a taxable event that could affect shareholders. Even holders of mutual funds that include stock from the company could take a sizeable tax hit. These problems have prompted the U.S. Treasury to begin looking into corporate inversions.
The Crackdown on Corporate Inversions
In September of 2014, the U.S. Treasury, in cooperation with the Internal Revenue Service, announced steps targeting the practice of corporate inversion. They hope to eliminate the specific techniques that allow companies to make the inversions, as well as diminish the ability to avoid taxes by doing the inversion. They intend to strengthen the requirement that former owners of the U.S. company own less than 80 percent of the new, combined entity. These actions will make inversion less financially lucrative.
In his budget for 2015, President Obama included a legislative plan to help curtail the practice of corporate inversion and make such inversions much more difficult to accomplish. Recent efforts by the Democrats in Congress have initiated legislation to stop the practice, but it is unclear whether Republicans will support such legislation.
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