Corporate Finance → Business StructureDefinition → Corporation

What is a corporation? How it is formed and what are its main functions? Who own the corporation and who run a corporation?

How corporations are formed?
Suppose you decide to start a firm to make some goods. To do this you hire managers to buy raw material, and you assemble a work force that will produce and sell finished goods. You can finance your investment by borrowing and selling some shares of the firm. A large corporation may have hundreds of thousands of shareholders, who become owners of the fraction of the firm by their fraction of investment. And your business set-up is called a “corporation”.

What is a corporation?
A corporation is a legal entity owned by its shareholders and run by its managers. According to the law, it is a legal person that is owned by its shareholders. As a legal person, a corporation can have a name and enjoy many of the legal powers of natural persons. The corporation can make contracts, carry on a business, borrow or lend money, and sue or be sued. One corporation can make a takeover bid for another and then merge the two businesses. Corporations pay taxes but cannot vote!

Functions of a corporation
Corporations invest in real assets, which generate cash inflows and income. The shareholders, who own the corporation, wants its managers, who run the corporation, to maximize its overall value and the current price of its shares.

To maximize the value for the owners, corporations face two principal decisions:

  1. Investment decision: what investments should the corporation make?
  2. Financing decision: how should it pay for the investments?Investment decision: what investments should the corporation make?