What Are Articles of Incorporation?

Articles of incorporation are a set of formal documents filed with a government body to legally document the creation of a corporation. Articles of incorporation generally contain pertinent information such as the firm’s name, street address, agent for service of process, and the amount and type of stock to be issued. The articles of incorporation are used to legally form the corporation.

Understanding Articles of Incorporation

Many businesses in the U.S. and Canada are formed as a corporation, which is a type of business operation that is formed in the state where the company carries out its operations. To be recognized legally as a corporation, a business must incorporate by taking certain steps and making certain decisions required under corporate law. One such step is filing a document known as articles of incorporation.

Articles of incorporation are in the document necessary to register a corporation with a state and acts as a charter to recognize the establishment of a corporation. The document outlines the basic information needed to form a corporation, the governance of a corporation, and the corporate statutes in the state where the articles of incorporation are filed.

Where to File Articles of Incorporation

In the U.S., articles of incorporation are filed with the Office of the Secretary of State in the state where the business chooses to incorporate. Some states offer more favorable regulatory and tax environments and, as a result, attract a greater proportion of firms seeking incorporation.

For example, Delaware and Nevada attract about half of the public corporations in the U.S., in part because of the state laws that protect their corporations. Once established, the articles become a public record and provide important information about the corporation.

Many states charge filing fees for a business that incorporates in the state, whether the business operates there or not. A business that is incorporated in one state and is physically located or doing business in another state must register in the other state as well, which involves paying that state’s filing fees and taxes.

Depending on the state of incorporation, a company may pay filing fees ranging from $50 (as in Iowa, Arkansas, and Michigan) to $275 (as in Massachusetts) as of 2020. The fees can vary depending on whether the articles of incorporation were filed online or by mail.

Articles of Incorporation Document Requirements

The articles in the document vary by state, but the following items (i.e. “articles” are typically included:

1. Name of corporation
2. Name and address of the registered agent
3. Type of corporate structure (e.g., profit corporation, nonprofit corporation, non-stock corporation, professional corporation, etc.)
4. Names and addresses of the initial board of directors
5. Number and type of authorized shares
6. Duration of the corporation, if it wasn’t established to exist perpetually
7. Name, signature, and address of the incorporator, who is the person in charge of setting up a corporation

Most states also require the articles to state the firm’s purpose, though the corporation may define its purpose very broadly to maintain flexibility in its operations. Amazon’s certificate of incorporation, for example, states that the corporation’s purpose is “to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of Delaware.”

Other provisions outlined in a company’s articles of incorporation may include the limitation of the directors’ liability, actions by stockholders without a meeting, and the authority to call special meetings of stockholders. Each state has certain mandatory provisions that must be contained in the articles of incorporation and other optional provisions that the company can decide whether to include.

Articles of Incorporation vs. Other Documents

Articles of Incorporation vs. Bylaws

While the articles of incorporation are externally-filed formation documents, bylaws are more of use to a company when used internally. Bylaws set the internal processes and organization of how the company should be run. Bylaws outline the rules and procedures for the management of a company. Not all states require a company to maintain bylaws, though many require a company to formally memorialize the bylaws.

Articles of Incorporation vs. LLC Operating Agreement

Articles of incorporation are required state filings to form a corporation, while LLC operating agreements are used exclusively for LLCs. In addition, the articles of incorporation outline the information structure of the company. Meanwhile, operating agreements often outline how internal disputes will be resolved between members or owners. An LLC operating agreement acts more of a personal protection document than the articles of incorporation.

Articles of Incorporation vs. Business License

A business license often permits a company to operate within a specific jurisdiction or industry. It gives the holder the right to start and run a business in the designed geographical location that issues the license. The rights granted by a business license are often more specific and niche than the articles of incorporation; though similar information may be required for both, the articles of incorporation simply legally form an organization and is the highest governing document for a corporation.

Articles of Incorporation vs. Business Plan

A business plan is an internal document that may be shared with major customers, investors, or lending institutions that communicates the formal operating plan of a company. Often a strategic document, a business plan is mainly used by internal management as a roadmap for decision-making. This is in stark contrast of the articles of incorporation which are information-only, non-strategic requirements for legal reasons.

Importance of Articles of Incorporation

A corporation should take care when filings its articles of incorporation as these formation documents carry great significance. For starters, they are legally required to structure a new business or company. The corporation can not form and be recognized by the state as a legal business entity until the forms are registered.

Once a business is incorporated, it often has a greater ability to raise capital via stock issuances. A corporation cannot sell stock until is incorporated via the filing of its articles of incorporation. Corporations may also receive more favorable tax treatment compared to individual or personal tax rates.

In addition, there are personal liability considerations for companies being formed. Individuals are often held liable for a company’s obligations until it is incorporated. By forming a legal corporation, business owners may be shielded from some personal liability for the company’s debts. This liability protection cannot occur until the articles of incorporation have been filed.

Example of Articles of Incorporation

The image below captures the first few requirements from the Secretary of State form required by the state of Washington. This form is to be completed and returned to the government agency for review.

Some sections simply require a check mark for applicability or a ‘yes/no’ mutually exclusive selection. Other areas (such as the purpose of the corporation) require written response. As designated by the top of the form, this specific article of incorporation document template is for specific use for the formation of non-profit corporations.

The Washington State Articles of Incorporation form ends with the certification section in which an incorporator must certify the information given is correct to the best of their knowledge. The incorporator is also required to provide some personal information along with their signature.

The form above had been filed by Parrot Foundation, a Washington nonprofit organization. A snipped of Parrot Foundation’s articles of incorporation has been provided below as an example of the dates, structure, and business purpose a company may request when filing its articles of incorporation.

The Bottom Line

If a company wants to become a corporation, it must file articles of incorporation with its appropriate state agency. This formation document is required as part of the incorporation process, and the articles provide the state a variety of information about the company and its incorporators. Different from other legal documents that outline how a company will operate internally, the article of incorporation is intended to help external parties evaluate and form a corporation.

What Are Agency Costs?

An agency cost is a type of internal company expense, which comes from the actions of an agent acting on behalf of a principal. Agency costs typically arise in the wake of core inefficiencies, dissatisfactions, and disruptions, such as conflicts of interest between shareholders and management. The payment of the agency cost is to the acting agent.

Understanding Agency Cost

Agency costs can occur when the interests of the executive management of a corporation conflict with its shareholders. Shareholders may want management to run the company in a certain manner, which increases shareholder value.

Conversely, the management may look to grow the company in other ways, which may conceivably run counter to the shareholders’ best interests. As a result, the shareholders would experience agency costs.

As early as 1932, American economists Gardiner Coit Means and Adolf Augustus Berle discussed corporate governance in terms of an “agent” and a “principal,” in applying these principals towards the development of large corporations, where the interests of the directors and managers differed from those of owners.

Principal-Agent Relationship

The opposing party dynamic is called the principal-agent relationship, which primarily refers to the relationships between shareholders and management personnel. In this scenario, the shareholders are principals, and the management operatives act as agents.

However, the principal-agent relationship may also refer to other pairs of connected parties with similar power characteristics. For example, the relationship between politicians (the agents), and the voters (the principals) can result in agency costs. If the politicians promise to take certain legislative actions while running for election and once elected, don’t fulfill those promises, the voters experience agency costs. In an extension of the principal-agent dynamic known as the “multiple principal problems” describes a scenario where a person acts on behalf of a group of other individuals.

A Closer Look at Agency Costs

Agency costs include any fees associated with managing the needs of conflicting parties, in the process of evaluating and resolving disputes. This cost is also known as agency risk. Agency costs are necessary expenses within any organization where the principals do not yield complete autonomous power.

Due to their failure to operate in a way that benefits the agents working underneath them, it can ultimately negatively impact their profitability. These costs also refer to economic incentives such as performance bonuses, stock options, and other carrots, which would stimulate agents to execute their duties properly. The agent’s purpose is to help a company thrive, thereby aligning the interests of all stakeholders.

Dissatisfied Shareholders

Shareholders who disagree with the direction management takes, may be less inclined to hold on to the company’s stock over the long term. Also, if a specific action triggers enough shareholders to sell their shares, a mass sell-off could happen, resulting in a decline in the stock price. As a result, companies have a financial interest in benefitting shareholders and improving the company’s financial position, as failing to do so could result in stock prices dropping.

Additionally, a significant purge of shares could potentially spook potential new investors from taking positions, thus causing a chain reaction, which could depress stock prices even further.

In cases where the shareholders become particularly distressed with the actions of a company’s top brass, an attempt to elect different members to the board of directors may occur. The ouster of the existing management can happen if shareholders vote to appoint new members to the board. Not only can this jarring action result in significant financial costs, but it can also result in the expenditure of time and mental resources.

Such upheavals also cause unpleasant and exorbitant red-tape problems, inherent in top-chain recalibration of power.

Real-World Example of Agency Costs

Some of the most notorious examples of agency risks come during financial scandals, such as the Enron debacle in 2001. As reported in this article on SmallBusiness.chron.com, the company’s board of directors and senior officers sold off their stock shares at higher prices, due to fraudulent accounting information, which artificially inflated the stock’s value. As a result, shareholders lost significant money, when Enron share price consequently nosedived.

Broken down to its simplest terms, according to the Journal of Accountancy, the Enron debacle happened because of “individual and collective greed born in an atmosphere of market euphoria and corporate arrogance.”

What Is a 10-K?

A 10-K is a comprehensive report filed annually by a publicly-traded company about its financial performance and is required by the U.S. Securities and Exchange Commission (SEC). The report contains much more detail than a company’s annual report, which is sent to its shareholders before an annual meeting to elect company directors.

Some of the information a company is required to document in the 10-K includes its history, organizational structure, financial statements, earnings per share, subsidiaries, executive compensation, and any other relevant data.

The SEC requires this report to keep investors aware of a company’s financial condition and to allow them to have enough information before they buy or sell shares in the corporation, or before investing in the firm’s corporate bonds.

Understanding 10-Ks

Because of the depth and nature of the information they contain, 10-Ks are fairly long and tend to be complicated. But investors need to understand that this is one of the most comprehensive and most important documents a public company can publish on a yearly basis. The more information they can gather from the 10-K, the more they can understand the company.

The government requires companies to publish 10-K forms so investors have fundamental information about companies so they can make informed investment decisions. This form gives a clearer picture of everything a company does and what kinds of risks it faces.

The 10-K includes five distinct sections:

• Business. This provides an overview of the company’s main operations, including its products and services (i.e., how it makes money).
• Risk factors. These outline any and all risks the company faces or may face in the future. The risks are typically listed in order of importance.
• Selected financial data. This section details specific financial information about the company over the last five years. This section presents more of a near-term view of the company’s recent performance.
• Management’s discussion and analysis of financial condition and results of operations. Also known as MD&A, this gives the company an opportunity to explain its business results from the previous fiscal year. This section is where the company can tell its story in its own words.
• Financial statements and supplementary data. This includes the company’s audited financial statements including the income statement, balance sheets, and statement of cash flows. A letter from the company’s independent auditor certifying the scope of their review is also included in this section.

A 10-K filing also includes signed letters from the company’s chief executive officer and chief financial officer. In it, the executives swear under oath that the information included in the 10-K is accurate. These letters became a requirement after several high-profile cases involving accounting fraud following the dot-com bust.

Where to Find a 10-K

Notably, 10-K filings are public information and readily available through a number of sources. In fact, the vast majority of companies include them in the Investor Relations section of their website. The information included in a 10-K can be difficult to move through, but the more familiar investors become with the layout and the type of information included, it will likely become easier to identify the most important details.

10-K Filing Deadlines

Filing deadlines for the 10-K vary based on the size of the company. According to the SEC, companies with a public float—shares issued to the public that are available to trade—of $700 million or more must file their 10-K within 60 days after the end of their fiscal year. Companies with a float between $75 million and $700 million have 75 days, while companies with less than $75 million in their float have 90 days.

Forms 10-Q and 8-K

Along with the 10-K, the SEC requires that public companies regularly file forms 10-Q and 8-K.

Form 10-Q must be submitted to the SEC on a quarterly basis. This form is a comprehensive report of a company’s performance and includes relevant information about its financial position. Unlike the 10-K, the information in the 10-Q is usually unaudited. The company is only required to file it three times a year as the 10-K is filed in the fourth quarter.

The form 8-K though is required by the SEC whenever companies announce major events of which shareholders must be made aware. These events may include (but aren’t limited to) sales, acquisitions, delistings, departures, and elections of executives, as well as changes in a company’s status or control, bankruptcies, information about operations, assets, and any other relevant news.