Insights and Analysis
Social Enterprise, Health And Wellness, And The Law: A New Frontier
By Carson Porter | May 21, 2012
There is a movement afoot in the for-profit social enterprise world and new business forms are being crafted to meet the objectives of these social entrepreneurs. They may not be right for all businesses; but, for those who want to create what we might call “enlightened profits” the legal community is creating new business formats to assist. Stay tuned, because this movement will only grow bigger and stronger.
As the late, great soul singer, Sam Cooke, sang: “A change is gonna come…” And here we are in 2012 and change is upon us: changes in the way wedeliver healthcare in the U.S.; changes in the way we view personal health and wellness; changes in the way we look at our collective commitment to social good; and, even changes in the legal structures available to those wishing to develop enterprises aiming to positively impact our world.
Entrepreneurs are embracing “corporate social responsibility” as their mantra. Muhammad Yunus, the Nobel Peace Prize recipient, calls it “social business”. Others refer to the “triple bottom line: people, planet, profit”. Even others call it “for-profit social enterprise”. Regardless the name, each of the above concepts places significant emphasis on the entity’s social awareness and commitment to improve the communities where those businesses are located.
While some may say this is not new; many businesses have been espousing social responsibility as part of their mission for years. And, that is certainly true; but, not to the public extent as in the past decade. And, the future seems even more focused on the good companies can do beyond (or in addition to) delivering profits for their owners.
As entrepreneurs develop new business approaches the legal community creates new legal structures to assist these entrepreneurs in reaching their objectives. In this paper we shall endeavor to describe these various entities and compare and contrast them. Generally speaking, the approaches fall into two categories: third-party certification and incorporation structure. The primary certifying agency is B Lab, developer of the B Certification designation. On the other hand, two different incorporation approaches for social enterprises have sprung up: Benefit corporation and L3C. California has also passed legislation authorizing flexible corporations, which took effect January 1, 2012. But, no entity has yet sought flexible corporation status, so we shall not address that type of entity in this article. Please understand, our objective herein is to provide an introduction to the topic as opposed to a comprehensive analysis as one might find in a law review article. We shall leave that to the academic community.
CERTIFICATION: B CERT.
Developed by B Lab (www.bcorporation.net), this certification is available to any business entity that seeks the designation and completes the certification requirements.
Simply put, B is for Brand. A “B Corporation” (also called “B Corps” or “Bs”) is a company that has been certified as meeting minimum environmental and social responsibility standards by a non-profit named B Lab. which is dedicated to using the power of business to solve social and environmental problems. B Lab was founded in 2008 to support triple bottom line companies.
B Lab offers an Impact Assessment Survey (“Survey”) to help businesses identify and improve upon various environmental and social responsibility practices. The Survey is a confidential and free tool that any business can use to establish its social responsibility baseline and to set benchmarks for improvement. The Survey includes five main categories: accountability; employees; consumers; community and environment. It also offers best practices to help businesses become better corporate citizens. B Lab has two independent Standards Advisory Councils – one for Current and Developed Markets and the other for Emerging Markets – that oversee the certification ratings and auditing requirements to ensure that the system is both rigorous and fair.
Businesses with Survey scores of at least 80 out of 200 are eligible to become Certified B Corporations. When a business decides to become certified it must first review its Survey responses with a B Lab staff member and provide supporting documentation to substantiate 20% of its Survey responses. Next, and perhaps most importantly, businesses must amend their governing documents to incorporate consideration of all stakeholder interests (and not just shareholder profits). This helps founders and business owners ensure that their social responsibility principles will remain after they exit from the company. It also is intended to help insulate executives from liability for making decisions that may produce long-term benefit instead of short-term profit. Beneath a lengthy disclaimer, B Lab even provides the suggested language to use for each legal structure in each state. The final step in the certification process is the execution of a Term Sheet, which outlines the terms for certification as a B Corporation, and a Declaration of Interdependence, which states:
“We envision a new sector of the economy which harnesses the power of private enterprise to create public benefit. This sector is comprised of a new type of corporation – the B Corporation™ – which is purpose-driven and creates benefit for all stakeholders, not just shareholders.
As members of this emerging sector and as entrepreneurs and investors in B Corporations,™
We hold these truths to be self-evident:
That we must be the change we seek in the world;
That all business ought to be conducted as if people and place mattered;
That, through their products, practices, and profits, businesses should aspire to do no harm and benefit all.
To do so, requires that we act with the understanding that we are each dependent upon another and thus responsible for each other and future generations.”
Once a business is certified, B Lab randomly audits 10% of its members each year through site visits. While over 3,000 businesses have taken the B Impact Assessment Survey 517 have attained B Corps certification. Companies that become Certified Bs demonstrate a commitment not only to environmental and social responsibility, but also to transparency, as certified companies’ ratings are made available to the public on www.bcorporation.net. As the B Corp logo becomes more recognizable, certification becomes a compelling and concise way for a company to convey its social responsibility commitment. While the folks at B Lab work to increase brand awareness, they also are working on benefit corporation legislation, which has been passed in several states since 2009.
In addition to certification, various states have passed legislation authorizing the incorporation of entities known collectively as “hybrid corporations”. These entities declare in their organizational documents that they intend to pursue social enterprise that contains both for-profit and not-for-profit objectives. One legal commentator calls this “blended enterprise” and defines it as aiming to “blend components of both nonprofit and for-profit endeavors…typically by operating a revenue-generating business…” There are three legal structures available to establish such a blended enterprise: Benefit Corporation; L3C; and flexible corporation. However, since the flexible corporation has only been adopted in California (and only been effective since January 1, 2012) and because no entity has yet applied for flexible corporation status, we shall limit our analysis in this article to benefit corporations and L3Cs. Let’s begin our analysis with the benefit corporation entity.
This is an outgrowth of B Certification. Benefit corporations are for-profit entities. But, their corporate charter requires them to benefit the public in some manner (in addition to making a profit). This could include improving the environment, employing disadvantaged workers, enhancing the community, etc. It also provides protection to the directors and officers from claims by shareholders for making business decisions that emphasize mission over profits.
This is how the Virginia statute is described in the legislative tracking summary:
“A benefit corporation is required to have, as one of its purposes, the purpose of creating a general public benefit, which is defined as a material positive impact on society and the environment taken as a whole, as measured by a third-party standard, from the business and operations of a benefit corporation. In addition, a benefit corporation may have the purpose of creating one or more specific public benefits, which include 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 normal course of business; preserving the environment; improving human health; promoting the arts, sciences, or advancement of knowledge; increasing the flow of capital to entities with a public benefit purpose; and conferring any other particular benefit on society or the environment. In discharging their duties and considering the best interests of the benefit corporation, the board of directors and individual directors consider the effects of any corporate action on shareholders, employees, customers, and other persons and issues. A benefit corporation shall deliver to shareholders an annual report describing the ways in which the corporation generally pursued its general public benefit and related matters. A copy of the report shall be posted on the corporation's website.” (The Virginia statute is typical of the enabling legislation in each state.)
Each state requires passage of enabling legislation at the state level to authorize incorporation of special benefit corporations. This includes certain provisions inserted in the corporate formation documents.
As of January, 2012 enabling legislation has been adopted in: VA, MD, NJ, CA, VT, HI and NY.
LOW PROFIT LIMITED LIABILITY COMPANY (L3C):
An L3C is officially designated as a “low profit limited liability company”.This means that it utilizes the traditional LLC structure with a declared social mission. As Robert Lang (the L3C originator) likes to say: “An L3C is a for-profit with a non-profit soul.” By that he means the L3C can be used by a for-profit enterprise to pursue social missions.
To date nine states and 2 Indian tribes have adopted the L3C business organizational form. The official Synopsis of the Illinois statute establishing the authority to set up an L3C entity in Illinois provided the following summary:
“Amends the Limited Liability Company Act. Allows for the creation of a low-profit limited liability company or L3C. Defines "L3C" or "low-profit limited liability company" to mean a limited liability company that does not have as a significant purpose the production of income or the appreciation of property and is organized for a business purpose that satisfies and is at all times operated to satisfy each of the following requirements: (1) it significantly furthers the accomplishment of one or more educational purposes within the meaning of the Internal Revenue Code of 1986 and would not have been formed but for the company's relationship to the accomplishment of charitable or educational purposes; (2) no significant purpose of the company is the production of income or the appreciation of property; and (3) the purpose of the company is not to accomplish one or more political or legislative purposes…”
The Illinois statute permits production of income by the L3C as follows:
“…the fact that a person produces significant income or capital appreciation shall not, in the absence of other factors, be conclusive evidence of a significant purpose involving the production of income or the appreciation of property…”.
As the CEO of a family foundation Mr. Lang was frustrated by the limitations for foundation funders to invest in ventures with positive social impact. Thus, he conceived a new use for an LLC that encompassed the flexibility and simplified taxation of a partnership with the liability protection and ease of ownership transfer of a corporation. In addition, like an LLC, the L3C could accommodate different ownership rights and interests. Prior to the advent of the L3C the typical option available to a foundation and similar entities was to make a grant and watch the results (hoping for a positive outcome). In short, the foundation awards a grant and hopes they chose well, since those funds will not be returned to the grantor. In the L3C the foundation can become part owner of the enterprise with the opportunity to recoup the original investment along with a modest return. If successful, when the original investment is recovered those funds can support a new investment or a traditional grant. Thus, the foundation has the chance to make an even greater social impact with its funds.
Another benefit of the L3C structure is that it accommodates layering of investments into different categories of risk and reward. This is also known as creating investment tranches. In the L3C investors can be placed in different investment layers that match their risk exposure. In the typical L3C the foundation funder will accept the greatest amount risk along with a modest return on investment anticipation (typically less than 5%) while the traditional for-profit investor will join a layer with very limited risk and a somewhat lower anticipated return than they would require in a for-profit company investment.
Why would the foundation accept the major risk of loss in the enterprise? Think of it this way: in a traditional grant the foundation gives its money away with zero expectation of any return as compared to an investment in the L3C where the return of capital is anticipated if the enterprise is successful. Give it away and never get it back, or invest with the prospect of recouping the capital? Which is better?
PROGRAM RELATED INVESTMENT (PRI):
Under the Internal Revenue Code foundations and similar entities are required to pay out annually a minimum of five percent of their assets to qualifying nonprofits. However, through program related investments the foundation can make investments in both for-profit and non-profit endeavors. The PRI investment can take many forms: equity, loan, loan guarantee, or some other legal form of investment as long as the PRI comports with the investing foundation’s philanthropic purpose. However, very few foundations use PRIs due to the hassles associated with them, which include costs incurred with seeking a letter ruling from the IRS for each PRI stating that the planned investment will meet IRS standards. Seeking a letter ruling takes considerable time without any guarantee of approval.
In November 2011 a bipartisan bill was introduced in the House of Representatives known as the Philanthropic Facilitation Act of 2011 (H.R. 3420). According to a press release announcing the legislation this Act “is expected to make PRIs more prevalent by providing for a simple registration and approval process by the IRS. Although not required, many foundations have sought approval from the Internal Revenue Service before entering into a PRI. However, the present legal process for obtaining approval, the private letter ruling, has been extremely costly and lengthy, discouraging the creation of vital programs and their potential for jobs.
The act will increase the efficiency of this system because the process can be initiated by the entity that seeks to receive PRIs. Once granted, multiple foundation investors could rely on the approval rather than each having to spend time and money on a separate approval. The measure will also improve transparency by requiring entities that go through the voluntary registration process to report separately and publicly on the PRI dollars they receive…”
HEALTH AND WELLNESS USES:
Most businesses engaged in health and wellness endeavors contain a social purpose. Let’s take a look at some L3Cs that operate in the health and wellness realm:
Safer Pediatric Imaging L3C (VT): Research organization focusing on improving CT scan safety through better x-ray technology aimed at the problem that 3,000 of 6 million children who receive CT scans each year develop cancer later in life as a result of their scan!
Healthstore Holdings L3C (VT): Affiliated with Healthstore Foundation; provides innovative micro-franchising of pharmacies and clinics in Africa.
Heart Drishti Yoga L3C (UT): Yoga studio in Salt Lake City.
Alliance of Chicago Community Health Services L3C (IL):
Mission: to share resources and integrate services in order to more effectively and efficiently deliver accessible quality healthcare to the communities we serve.
Vision: to continue promoting the thoughtful use of Health Information Technology in the Safety Net to promote access, quality and efficiency.
Gorilla Dental L3C (IL): Mission: to improve the efficacy of outreach dentistry and facilitate the delivery of quality dental care abroad.
Complete Health Solutions L3C (IL): Hybrid nonprofit health and wellness consulting firm. Provides exercise prescription and programming, nutrition and weight management, as well as clinical and therapeutic massage.
Healthcare Awareness and Logistics L3C (MN): Mission: to assist our fellow humans with their responsibility to personal preventive health.
New Birth L3C (KS): Operates birthing centers with midwives
Mission: to establish and advance high performing birth centers that give back to the communities they serve.
Autism Compass L3C (VT): Establish resources for families, educators and medial professionals to obtain and share information on autism.
As you can see from these limited examples the world of opportunity for the use of these new hybrid corporate formats is just getting started in the health and wellness space. Look for more to spring up in the future.