What are the Types of Investment Organizations? Below I describe types of American business organizations, types of investment companies, and some of the most important financial instruments offered by the investment banking firms.
There are two basic types of American business organizations: corporations and partnerships. A thorough knowledge of both types of organizations is helpful in understanding the financial instruments discussed below. A corporation has a legal identity of its own, pays taxes and assumes a broad range of legal and financial responsibilities. A corporation raises capital by issuing equity securities (stocks) and debt securities (bonds). Stock is an equity security because it represents ownership of a corporation. There are two types of equity securities: common stock and preferred stock. All corporations issue common stock, but not all corporations have preferred stock as part of their capitalization. Bonds are debt securities because they represent loans to a corporation rather than ownership. The corporate organization is popular because the owner’s (stockholder’s) liability is limited. If a corporation goes into bankruptcy, creditors have recourse to the corporation’s assets and not to the assets of individual owners. The stockholders risk only the amount of their individual investments.
In partnerships, the partners and not the stockholders own the business and the burden of many of these obligations falls on the individual owner, rather than the business itself. This is more of a risk than most passive investors would ever want to take. As a result, the concept of “limited” partnerships evolved, as opposed to “general” partnerships. To attract capital from limited partners, general partners exempt them from some of the risks and responsibilities involved in the business. In return, limited partners generally agree to abide by whatever decisions general partners make.
In limited partnership investments, the firm that organizes and sells the venture typically names itself as the sole general partner. It then offers a piece of the action to the limited partners as “units”. Some limited partnerships are referred to as “private”. They are not registered with the Securities and Exchange Commission (SEC) and are sold to a small number of wealthy investors. “Public” limited partnerships are registered with and reviewed by the SEC. Limited partnerships enjoyed tremendous popularity in the mid 1980’s. The goal of the first established partnerships was to defer tax liabilities from generated income. Today, some partnerships offer extremely attractive income, while others are used to create pools for trading commodity futures. I’m convinced that in the future, many additional uses for limited partnerships may be devised.
The most important financial instruments offered by the investment banking companies are:
Open-End Funds (Mutual Funds)
Unit Investment Trust (UIT)
More about them in next post.