Sunday, January 1, 2012

- California’s new laws for socially responsible businesses take effect today

SAN DIEGO. Today, on January 1, 2012, two new business structures become available for socially responsible California organizations: Flexible Purpose Corporation and B Corporation. California is the first state in the nation to authorize Flexible Purpose Corporation. Six other states (Virginia, Vermont, Hawaii, Maryland, New Jersey and New York) have already passed Benefit Corporation legislation.

Flexible Purpose Corporation

The Flexible Purpose Corporation is created by the Senate Bill 201, which adds special provisions to the California Corporations Code. The basic idea of a Flexible Purpose Corporation is essentially the same as that of a Benefit Corporation: to give directors the opportunity to simultaneously pursue public purposes and shareholder profit maximization.

The articles of incorporation limit Flexible Purpose Corporation’s “special purpose” to the following:

-          The usual charitable/public purpose activities of a nonprofit corporation;
-          Promoting positive effects or reducing adverse effects upon the environment, community at large or the flexible purpose corporation’s employees, suppliers, customers, and creditors.

The new law authorizes a flexible purpose corporation to convert into a nonprofit corporation, a corporation, or another domestic business entity. The law requires the board of directors to specify objectives for measuring the impact of the flexible purpose corporation’s efforts relating to its special purpose, and to include an analysis of those efforts in annual reports, together with specified financial statements, to shareholders and would require specified information to be made publicly available, as specified. The law also provides that a flexible purpose corporation is subject to many existing provisions of the Corporations Code.
To change the purpose(s) of a flexible purpose corporation, a 2/3+ vote of the outstanding shares is needed. The directors will not be responsible to anybody other than the corporation itself and its shareholders for failure to achieve or pursue the special purposes.

B Corporation

“B” stands for “benefit,” as in “public benefit.” B Corps, created by Assembly Bill 361, may harness the power of business to pursue either general or specific public interest purposes, as well as profit.

General public benefit is defined as a “material positive impact on society and the environment, taken as a whole, as assessed against a third-party standard.” Third-party standard is basically an evaluator with no financial interest in the B Corps it evaluates. Enumerated specific public benefits are, without limitation, providing low-income or underserved individuals or communities with beneficial products or services, promoting economic opportunity for individuals or communities beyond the creation of jobs in the ordinary course of business, preserving the environment, and improving human health.”

The new law permits an existing corporation or a non-profit to convert to a benefit corporation. This could be beneficial for a number of tax planning and funding reasons. For example, CouchSurfing (CS), a worldwide hospitality network that connects travelers, was registered as a New Hampshire non-profit organization with its headquarters in California. State-level non-profit status does not provide the tax advantages of the federal 501(c)(3) non-profit registration, and restricts the organization’s ability to accept certain funding. For various reasons, CS was not able to obtain the federal 501(c)(3) non-profit status, while its overhead of maintaining a platform for 3.2 million participants continued to rise. However, by converting to a benefit corporation, CS was able to acquire $7.6 million of venture capital, on terms acceptable to both investors and the vast majority of socially-minded participants of the network.

The law requires the board of directors to prepare a specified statement of the public benefit purposes of the corporation. The law also requires the benefit corporation to prepare an annual benefit report with a statement indicating whether the benefit corporation failed to pursue its general or specific public benefit, a description of how the benefit corporation pursued those benefits, and the rationale for selecting the third-party evaluation standard.

Which one is better?
It is difficult to say at this point which new entity form is better for what purposes, because much of it is going to depend on how exactly those entities will be taxed and whether other states that currently do not have those forms will recognize them. Generally speaking, shareholders that are not comfortable having too broad of a social purpose to pursue, will probably prefer the possibility of a narrower focus of a flexible purpose corporation.

The general advantages and disadvantages of both flexible purpose and benefit corporations are similar:

- May simultaneously pursue profit and socially important purposes.
- Directors are shielded from personal liability.
- Existing corporation may convert into a B Corp or Flexible Purpose Corporation by amendment to articles of organization, merger or reorganization.

- Potential recognition problems in other states that currently do not have this corporate form.
- Potential for abuse, if directors try to hide own business incompetence and try to justify losses with the pretense of pursuing social interests rather than profit.