A rise in the use of social enterprises as business structures reflects a shift in consumer preferences towards businesses with a socially conscious focus. Social enterprises are for-profit entities that are authorized to both make money and benefit society. These types of hybrid entities combine the structure, management, and protection of a traditional for-profit entity while still allowing the company to consider social or environmental goals in making decisions.
Outdoor company Patagonia was the first California business to be certified as a socially conscious business back in 2012, and online retailer Etsy was the first to go public back in 2015. Since then, social enterprises have become increasingly popular amongst socially minded entrepreneurs who are seeking to attract socially responsible consumers or investors. “Various studies have shown that companies that take into account broad social and environmental concerns perform far better financially in the long run than companies that focus exclusively on monetary profits.”[1] The hope is that by encouraging the growth of the social enterprise sector (benefit corporations, social purpose corporations) we will see a lot more positive social change.
There are different types of entities and certifications that a business can obtain to be considered a “social enterprise.” In California, a business can form a “Social Purpose Corporation” or a “Benefit Corporation.” Businesses can also obtain additional certification as a Certified B-Corporation, which is obtained by completing a rigorous application process and annual evaluations to ensure that such business meets the highest standards of social and environmental performance.
For-Profit Entity vs. Social Enterprise
A for-profit business, such as a corporation or a limited liability company (“LLC”), is the structure that most people are familiar with. These types of entities can engage in some charitable activities, but the directors of a for-profit company have a fiduciary duty to make decisions on behalf of the corporation that will be in the best interests of the company owners.[2] This means that the main goal of a for-profit corporation must be to “maximize shareholder value.” That being said, some businesses have charitable goals they want to pursue that may not directly “maximize shareholder value.” These activities may include: donating a percentage of revenues or goods to a charity; purchasing premium ingredients from local vendors; limiting waste output and carbon footprint; or treating employees better.
For example, certified B corporation and sock retailer Bombas’ business model is based on the concept of “buy one, give one” – for each pair of socks they sell, they donate a pair. With this structure, Bombas has been able to donate more than 47 million items since its inception.
If a for-profit corporation were to do the same, it could result in liability to the board of directors, dissolution of the corporation, or a corporate takeover, because such charitable or socially conscious activities do not directly result in increasing profits for the shareholders. In contrast, directors of a social enterprise can engage in these types of activities, as long as it benefits the company’s general or specific purpose.
The specific purpose of the social enterprise is established in the articles of incorporation, which allows the founders of a social enterprise to insure that the charitable, environmental, or social purpose for which they formed the business is carried on through different generations, economic times, and changes in ownership.
Non-Profit Entity vs. Social Enterprise
While a social enterprise may engage in charitable activities, it differs greatly from a non-profit entity. A social enterprise is still owned by shareholders who can earn dividends and profit from the future sale of the business (just like a for-profit corporation). A non-profit corporation, on the other hand, does not have shareholders or owners. The assets of the non-profit are irrevocably dedicated to charity and the founders cannot profit from the busines personally. One of the benefits of a non-profit corporation is that it can receive federal and tax-exempt status as a 501(c)(3). But the activities of a non-profit entity with tax exempt status are greatly restricted and regulated by the Internal Revenue Service. Furthermore, the process for obtaining (and maintaining) tax-free status can be burdensome and time consuming.
The California Social Purpose Corporation
A Social Purpose Corporation (“SPC”) is a for-profit corporation that may pursue “social or environmental” objectives. For the most part it is treated as any other for-profit corporation, but there are some significant differences. Primarily, an SPC’s business activities must be consistent with its “special purpose,” and directors have a significant amount of freedom in conducting the corporation’s business without profit-making as the sole mission of the company.
SPC’s in California are governed by the Social Purpose Corporations Act codified in Corporations Code Division 1.5 (Corp. C. §§ 2500-3503), originally enacted in 2011, and was amended as of January 1, 2015. Although SPC’s combine charitable objectives with profit-making objectives, they receive no special tax benefit. SPC’s are taxed as a for-profit corporation under State and Federal Law, but they may elect S-Corp. status.
The SPC must also have a specific purpose, which can be: (1) a charitable or public purpose similar to that of a nonprofit corporation; or (2) to promote positive effects, minimize adverse effects on the SPC’s employees, suppliers, customers, creditors, the community, society, or the environment.[3]
In terms of operating the SPC, the activities of the business must be consistent with its special purpose.[4] Directors of an SPC are now required to take into account factors such as the overall prospects of the corporation and the social purposes set forth in its articles, as they deem relevant in their decision-making. The SPC, unlike the for-profit corporation, provides protection from liability for directors and management who make decisions on the basis of the agreed special purpose.[5]
The California Benefit Corporation
Enacted in 2012, a Benefit Corporation is a for-profit corporation organized under the General Corporation Law that elects to be subject to Benefit Corporation law.[6] It was developed because there was no framework for a corporation to organize and operate for a public benefit purpose greater than just seeking profits. The benefit corporation framework provides “an alternative corporate structure with higher standards of corporate purpose, accountability, and transparency.†It was created for entrepreneurs and investors who want to build businesses “with an eye toward the triple bottom line of people, planet, and profit.â€[7]
A benefit corporation must have the purpose of creating a “general benefit,” which is “a material positive impact on society and the environment, taken as a whole, as assessed against a third party standard.” [8]The articles of incorporation may also identify one or more specific public benefits in addition to the general public purpose. The creation of this general public benefit, and any specific, is deemed to be in the corporation’s best interests. Some examples of a “Specific Public Benefit,” includes: Promoting economic opportunity, preserving the environment, improving human health, and promoting arts and science.
Directors of a benefit corporation must act in a manner the director believes to be the best interest of the benefit corporation. The directors must also consider: the shareholders and employees of the corporation, the interests of its customers, the community and societal considerations. The officers must also take all of these interests into consideration in discharging duties.[9]
In an effort to increase transparency and to measure the effectiveness of the benefit corporation, the benefit corporation must deliver an annual benefit report to its shareholders.[10] The report must include how the general public benefit was pursued and extent to which the benefit was created, and circumstances that may have hindered, and process and rationale for selecting third-party standard.[11] It must also include an assessment of the overall social and environmental performance compared to a third party standard.[12] Among other things, the report must include the name of each person who owns 5% or more of the benefit corporation’s outstanding shares.[13] All reports must be posted on the benefit corporation’s website. If there is no website, the most recent benefit report must be provided without charge to any person requesting the report.[14] The third party standard is the most challenging hurdle to overcome, however there are organizations that promulgate standards at www.benefitcorp.net/third-party-standards.
Certified B Corporations
Certified B Corporation is a type of certification that businesses, such as a Benefit Corporation, can apply for.[15] Certified B Corporations are certified by the an organization called B Lab, which assures that the business meets the highest standards of overall social and environmental performance.[16]
To become a Certified B Corporation, the business must complete and pass a B Impact Assessment, which assesses the overall impact of the company on its workers, community, environment, and customers. The company must also sign the B Corp. Declaration of Interdependence and Term Sheet. This can all be found on the B Lab website.[17] Thereafter, B Corps are required to maintain certification and reverify their B Impact Assessment.
Entrepreneurs have many options today when it comes to running businesses that are both profitable and purpose-driven. What we’ve learned is that structuring a business this way not only makes a positive social or environmental impact, but it also helps the business standout amongst its competitors when it comes to both attracting customers and talent. If you are considering starting a purpose driven business, make sure to consult with an attorney who can help you select the proper structure and walk you through the formation and maintenance process.
[1] The Rutter Group, CA CORPS CH. 9(I)-A, § 9.8.
[2] Dodge v. Ford Motors Co. (Mich. 1919) 170 N.W. 668, 684.
[3] Cal. Corp. C. § 2602(b)
[4] Cal. Corp. C. §§ 2604, 2605(a).
[5] Cal. Corp. C. § 2700.
[6] Cal. Corp. C. §§ 14600 et. seq.
[7] Assembly Judiciary Committee Analysis of AB 361 (5/2/11); Senate Banking & Financial Institutions Committee Analysis of AB 361 (6/24/11).
[8] Cal. Corp. C. § 14610.
[9] Cal. Corp. C. § 14620(d).
[10] Cal. Corp. C. § 14630.
[11] Id.
[12] Id.
[13] Id.
[14] Id.
[15] Benefit Corp vs. Certified B Corp, http://benefitcorp.net/what-makes-benefit-corp-different/benefit-corp-vs-certified-b-corp (April 21, 2015).
[16] Id.
[17] How to Become a B Corp, https://www.bcorporation.net/become-a-b-corp/how-to-become-a-b-corp (April 21, 2015).
