What is the Best Structure for Social Ventures?

September 4th, 2009

The SOCAP09 conference on social entrepreneurship has swamped my Twitter feed for most of this week and I had a chance to stop in Wednesday evening to check it out.  The conference is for people starting companies looking to do well by doing good.

Todd Johnson, a preeminent lawyer in this area, posed a question via Twitter last week about the best type of entity structure for social ventures.  It’s a good question and there are some very interesting developments in the staid realm of corporate law that can help these types of companies along.  At the same time, there is tremendous diversity in the types of businesses being created, so if I had to give a one-line answer it would be “whatever structure makes partner organizations yawn the most”.

That’s probably not tremendously helpful, so here is my quick survey of social venture entity structures.  I’ve posted on this topic before and will continue to revisit as the landscape changes.  If readers know of other entity structures, and especially if you have seen certain structures work well in specific environments, please leave a note in the comments.

Nonprofit.  With apologies to non-profits and their lawyers everywhere for collapsing an entire sector into a pithy sentence, what most differentiates a nonprofit from a for-profit company is that the nonprofit has no owners in the financial-return sense.  Benefits are potential tax deductions for donors to the business and pure focus on the mission without having to consider shareholder returns.  A major drawback is that if the mission changes and participants wish to take profits out of the business it can be difficult or impossible to do so.  I have worked with nonprofits only in passing, so I won’t go any further except to note that non-profits run the gamut from entirely donation-dependent organizations such as the General Assistance Advocacy Project I worked with in law school to significant revenue-generating businesses like Kiva.org.

L3C. This is a new flavor of for-profit entity intended to help charitable foundations make grants more easily.  I don’t do anything remotely like this kind of work, so I can’t speak much to it except to say that the L3C was designed to allow foundations to meet their Program Related Investment guidelines under federal tax law more easily.  The first L3C was adopted in Vermont in February 2008 and as of today (Sept 4, 2009) there are at least 6 states with similar statutes in effect or pending, so I will assume they fill a need and leave it to more knowledgeable people to advise further.

Plain Old Company.  In many cases this is a great option and all a social entrepreneur needs. A “regular” corporation or LLC is simple, well-understood and easy to form.  One drawback is that while the owner/managers can dedicate the business to social goals, there is nothing to prevent the mission from being overridden.  Many social venture experts look to Ben & Jerry’s acquisition by Unilever as an example of this shortcoming- the B&J Board had an offer that was financially rewarding, but there were apprehensions that Unilever would not retain B&J’s commitment to support communities around its stores.  In the end, the Board decided it did not have discretion to put social-welfare goals over shareholder returns and accepted the Unilever buyout.  Many of B&J’s social programs ended shortly thereafter.

B Corporation.  The good folks at B Labs are setting standards to address this problem, along with many others.  A B corporation is a “regular” corporation (or LLC or other entity) that has made a commitment its charter documents to consider factors other than shareholder returns in determining corporate actions, esp. environmental, community, social and employee welfare.  The benefit of this is that the Board can, if necessary, choose paths that may lead to a lower shareholder return if circumstances require.  The problem is that only 32 US states allow this type of language in corporate charters, so businesses in California and elsewhere need to incorporate in B-corp friendly states to get the full benefit.

Social Venture Company.  You may be able to see where this is going.  There are groups in California, Minnesota (I think) and possibly other states working on legislation to create a new type of entity that permits the broad-constituency language promoted by B corp and others.  Like England’s Community Interest Company, these entities would be separate from “plain old” corporations or LLCs by their commitment to work toward positive outcomes for shareholders and non-financial stakeholders.  We don’t know much about these proposed entities yet and many of the draft ideas are subject to change so there isn’t much to say about them currently.

Going back to the start of this post, I strongly believe that the best entity structure for a given project is the one that investors, donors and business partners can gloss over without thinking about much.  We don’t quite have a standardized approach that allows this yet.  With luck in a few more years we will.

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HUB Berkeley Fireside Chat on the Edge Between Nonprofit and for-Profits

July 28th, 2009

I attended a fascinating talk on social entrepreneurship at the brand new HUB Berkeley last night.  HUB is a shared workspace concept especially for socially innovative people.  They have facilities in 12 cities around the world, including the brand new, gorgeous David Brower Center in Berkeley, CA.  This event + last week’s Cleantech Open event at AutoDesk’s One Market gallery made for two LEED Platinum building visits for me in a week, which was a minor milestone for me.

The talk featured Matt Flannery from Kiva.org, Steve Newcomb from Virgance and Ben Rattray from Change.org.  Discussion was lively and instructive on a number of levels.  I was especially fascinated by the fact that all three businesses stand on the line between traditional nonprofits and for-profit businesses.  All three panelists spoke about why they chose one form over another.  If I understood them correctly, Kiva’s founders simply felt that non-profit status was the right fit; Virgance and Change.org both raised money from investors and that required them to use for-profit entities.

From the discussion, though, I got the impression that any of them could have gone either way with their businesses.  As Newcomb said, it is a great moment in history when people can be capitalists and activists at the same time.

The legal framework needed to build businesses at this balance point is not fully developed, but through the efforts of B corporation and others they are coming into shape quickly.  I love working in this space and look forward to its full development.

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Quick Review of Social Benefit Business Structures

October 15th, 2008

I have been fortunate to get involved lately with a couple of social benefit businesses.  These are companies formed to bring on investment, have shareholders and turn a profit- and the larger the better- but also to explicitly serve a social purpose that goes beyond mere shareholder returns.  Working with these companies has caused me to review a variety of business types that work for social benefit companies in various ways.  Here is an ultra-quick summary of the several types I have found.

Non-profit. I don’t work with non-profits, but I am listing their characteristics here for comparison purposes.  A non-profit has no owners/shareholders, is dedicated to social goals and can only use the money it makes for programmatic and charitable goals.  State authorities can and do enforce these requirements.

Plain Old Corporation with Social Aims. This is the simplest type of for-profit social benefit entity.  A corporation is created, does business and uses some of its time, capital or other resources to pursue social goals.  Ben & Jerry’s (pre-sale to Unilever) is many people’s favorite example of this type of company.  The advantage of the entity type is that it is simple for everyone to understand.  One disadvantage is that in many states as well, the Board is constrained from considering non-shareholder interests in deciding on courses of action.  It is important to note as well that the social purpose can be changed relatively easily if management decides to go in a different direction.  This could be a positive or a negative depending on circumstances.

The B Corporation.  The B corporation name distills years of work refining the principles above and packages them with a title.  B corporations build specific provisions into their formative documents that give the Board discretion to consider a variety of interests beyond shareholder return.  For maximum effect, corporations must form themselves in a state that allows such flexibility.  In other respects, though, B corporations are just like plain-old C corporations: they can take investment, turn profit and have no state-mandated restrictions on how to operate.  The social benefit goals are also purely voluntary.  A B corp could turn into a regular C corp if it so chose.

The Low Profit LLC or L3C. This is a brand new entity type that exists only in Vermont so far as I know.  Unlike a nonprofit it is permitted to have shareholders (technically Members since it is an LLC) and to distribute profits to them.  The main goal seems to be to make it simple for foundations to put money into programmatic investments, generate returns and eventually trade in and out of different program vehicles.

The Community Interest Company.  CICs are a mix of all of these.  They combine the explicit social purpose of the B corporation with a regulatory layer similar to a non-profit or possibly an L3C.  Companies choosing social benefit are not as closely regulated as non-profits, but are nevertheless required to maintain their devotion to the social purpose.  They can take investment and issue shares, but an “asset lock” restricts the company’s ability to transfer assets to a purely for-profit entity.  CICs are also an English form of entity, so American social entrepreneurs need not apply.

Which entity is best for a given situation?  It depends on what the goals are, of course.  Simple is good, but sometimes entrepreneurs want to make a stronger statement than the plain old C corp, so a B corp is the next step.  The L3C looks to be a special-purpose entity and we will have to wait and see a bit how it evolves.  CICs are an interesting model and it is possible that something like it could come into existence in the US.  I worry a little that the asset lock commits a business irrevocably down a certain path and makes it hard to adapt if market conditions dictate a different path.

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Charity-Owned Companies or For-Profit Companies Devoted to Social Good?

July 23rd, 2008

Attorney Gene Takagi has a really informative blog on legal issues for nonprofit businesses.  He has a post today on LLCs owned by charities and raises some good questions about how to insulate the charity from liability (e.g. if the charity owns real estate) and whether donations from to the LLC would be deductible.

Nonprofit Law Blog: Charity-Owned Limited Liability Companies

In many ways, this structure is a complement to the B Corporation idea I have blogged about previously.  A charity-owned LLC is essentially a for-profit subsidiary of the charity, while the B corporation is a for-profit company that may provide economic benefit to charitable organizations.

I am presently working on the latter concept- a B corporation set up specifically so that it can grow as a for-profit company, but which is very closely tied to a non-profit business and provides economic benefits back to the non-profit.  As the project matures, I hope to share detailed information about the business and its structure.  I would love to write a case study comparing the relative merits of the B corporation approach with the charity-owned LLC.  It seems clear that the structures serve related but different purposes.  A primer that helped figure out which to use when could be valuable.

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