By E. Wilkinson & S. Mazzeo | November 2016
Social Good Organizations From A Lawyer's Perspective
Navigating the various business entities available to social entrepreneurs can be difficult and if you've ever found yourself wondering - so what it a certified B Corporation anyways?! - you are certainly not alone. We asked two friends, who happen to be lawyers, to break down a few of the rising social good hybrid organizations for social good entrepreneurs and consumers alike.
Understanding Hybrid Organizations
Entrepreneurs no longer must feel forced to pursue a for-profit or non-profit model, they can now take avail of emerging hybrid business entities. After all, turning a profit and contributing to the good of society are not always necessarily aligned. The golden rule for a corporation requires those who run it to base their decision-making on whatever will maximize profits. This profit-seeking “duty” is so central to the corporate identity that those who make decisions that end up hurting the bottom line can be held responsible.
Here are the hybrid business entities working to bridge this gap:
1. Low profit limited liability company (L3C)
In 2005, Robert Lang developed the low-profit liability company (the “L3C”), a hybrid business entity which allows companies to “do well” and also “do good.” A L3C can pursue profit-oriented objectives, as long as they are secondary to its social goals.
Lang created the L3C as a win-win for private foundations and for-profit entities. In order to maintain tax-exempt status, private foundations must make “qualified distributions,” yet avoid high risk investments. A “program-related investment” (PRI) is one way foundations can hit this middle ground. A PRI is an investment for a purely charitable, nonpolitical purpose, which also counts as a “qualified distribution,” but not a high risk investment. This is where L3Cs come into play. Foundations and other tax-exempt organizations can more confidently invest in a L3C because it makes it more likely the IRS will consider these distributions as non-taxable PRIs.
Nine states recognize the L3C business entity: Vermont, Utah, Louisiana, Michigan, Illinois, Maine, Wyoming, North Carolina, and Rhode Island. Although California never got on board with the L3Cs, it does recognize other similar hybrid forms such as benefit corporations and social purpose corporations.
2. Benefit Corporation and Social purpose corporation (SPC)
A benefit corporation and a social purpose corporation are two types of hybrid-business entities in that they allow a company to pursue both a profit and a social purpose. We’ve dedicated an entire article to benefit corporations which you can read here.
The SPC was born due to the perceived drawbacks of benefit corporation requirements, mainly being subject to an independent third party standard. Furthermore, the SPC offers more flexibility in balancing profitability and the pursuit of a social purpose.
Some key distinctions between the two entities to note:
Public benefit: A benefit corporation must pursue a “general” public benefit, which is a benefit that significantly and positively impacts society or the environment, as determined by an independent third-party standard. A social purpose corporation, on the other hand, must pursue a “special purpose,” which means any public purpose activity that a nonprofit pursues or any purpose that positively effects its employees, suppliers, customers, and creditors, the community, society, or the environment.
Annual reports for shareholders: Benefit corporations and SPCs must prepare an annual report on how effective it was in achieving its purpose, but the standard used to measure success for both entities differs. An independent, third party standard measures a benefit corporation’s success, whereas a SPC may conduct its own assessment internally.
Fiduciary duties: SPC directors (and traditional corporate directors) owe special duties to a corporation, known as fiduciary duties. As such, corporate shareholders may sue directors for breach of fiduciary duties if directors act contrary to maximizing shareholders’ profit.
Benefit corporate directors also owe fiduciary duties but such duties are subject to the corporation’s public benefit as well. This means that a benefit corporate shareholder may not sure a director for breach of fiduciary duty if the director acted towards pursuing the corporation’s public benefit at the expense of shareholder profit.
3. Certified B CorporatioN
Although similar in name, a “benefit corporation” and a “Certified B Corporation” are completely separate concepts spearheaded by the nonprofit B Lab. The latter certification initiative offers every business (regardless of corporate structure, state, or country of incorporation) a tool to brand itself as a socially responsible business. Thus, a “Certified B Corporation” must meet rigorous standards of social and environmental performance, accountability, and transparency. Read more about certified B Corporations here.
Social welfare mixed with commercial enterprise have exploded into new forms of business entities that pursue both social and financial goals. Hybrid organizations are relatively new in California, so stay tuned for the interesting developments that are sure to come.