 Corporations are a form of business organization where the company is a separate legal entity from its owners. Corporations can be classified either by purpose or by ownership type, as you can see on the slide. The corporate form of business organization has some advantages over other business organizations like sole proprietorships or partnerships. Specifically, it is a separate legal entity, so corporations can enter into contracts, obtain financing, and be sued. Stockholders have limited liability, so although they could lose their entire investment if a corporation goes bankrupt, none of their personal assets would be at risk. Corporations often find it easier to obtain capital either from creditors or investors. Corporations also have continuous life. So when Alexander Graham Bell died, AT&T continued as a corporation. Finally, ease of ownership transferability is often cited as an advantage of a corporation. This is true when an organization is publicly traded on a stock market. This is not always true for private or closely held corporations. The corporate form also has some disadvantages that sole proprietorships and partnerships don't have. Corporations have more government regulation than other business forms, including more required filings with various agencies. Income earned by a corporation can be subject to double taxation. Here's how that works. The corporation pays income tax on its earnings, because it's a separate legal entity. If the corporation then pays out some of those remaining after-tax earnings, which we call dividends, to its stockholders, the stockholder must report the dividend as income and pay taxes on that money again. Finally, often the manager of a corporation aren't the owners. Some consider this a disadvantage, but this could also be an advantage too. Corporations have the following organization. The board of directors hires a CEO, which is the chief executive officer or president of the company. In turn, the CEO hires other senior management, which is shown on the slide. So who does the board of directors report to? In theory, the board is responsible to the stockholders at large. The board is often made up of stockholders, and annually stockholders get to vote for who should be on the board of directors. Corporations are formed by state charter. A charter contains the bylaws of how a corporation will be governed. This slide shows the state flag of Delaware. This is because most corporations are formed in Delaware due to favorable corporate laws. Corporations do not have to be chartered in the state in which they are headquartered. Stockholders are the owners of a corporation. In fact, the term shareholder and stockholder are interchangeable, and it's likely that you will hear both. Stockholders have certain rights as shown on the slide. Let's go over those in some detail. Stockholders have the right to vote for the board of directors. Usually, one share of stock equals one vote. So you can imagine that the stockholders who have the majority of stock often sit on the board. Stockholders are entitled to receive dividends in proportion to their ownership. If someone owned 5% of a company's stock, they would be entitled to receive 5% of the dividend declared. The preemptive right is more of a theoretical right than one actually used in practice. It means that when a corporation issues additional shares of stock, the existing stockholders have the first right to buy it before it goes on sale to the public. Here's why that's important. If I were a 51% stockholder in a company, I would have an absolute majority interest. When new stock is issued, I might want to buy 51% of the new stock so I can remain the absolute majority stockholder. Again, in practice, that would become cost prohibitive. That's why the Alexander Graham Bell estate isn't a majority shareholder in AT&T. It's just too expensive to buy so much of each new stock offering. Finally, stockholders are entitled to residual income and the assets of a corporation. Again, this doesn't really happen for publicly traded companies, but it is possible that a privately held corporation could shut down and liquidate. If that happens, the stockholders are entitled to residual claims in the proportion to their ownership. Finally, the stockholders' equity section of the balance sheet shows the equity of a corporation and it's divided into two sections, paid in capital and retained earnings. Paid in capital, which is sometimes called contributed capital, is the amount stockholders have contributed to the corporation. This is the section that reports capital stock. We'll learn more about stock in future video lectures. Retained earnings is exactly what the name implies. It is the earnings or net income of a corporation that it has retained rather than paid out in the form of dividends. Here you can see an example of stockholders' equity section. Notice the two groups, paid in capital and retained earnings.