In the latest Weekly Wright Report:
- Benefit Corporations and Limited Liability Companies
Benefit Corporations and Limited Liability Companies
Directors and officers of for- profit companies have traditionally managed the assets and work force to achieve the greatest financial return for investors. That is their job. Directors have a fiduciary duty to the owners. The owners were considered the only stakeholders. Decisions by the directors must be prudent and reasonable. Directors must be loyal to the company, and decisions must be in the best interest of the owners, including minority investors and not to their other business interests. This is typically understood to mean making money through earnings. If the company is to be acquired, seeking the highest price and best deal. Directors that divert the assets and work force to missions that may not have an acceptable return may be subject to claims of breach of fiduciary duty unless all owners are on board. They are disincentivized by the threat of criticism or litigation, whether or not that concern is justified. A grocery chain or bank may not open a store or branch in a food desert or underprivileged area. When selling the business, management may not have the option to sell to a socially responsible buyer if a higher price can be obtained by selling to a company that is focused only on the bottom line. While that fear is not always justified, it is often a deterrent. Companies owned by one or two investors who agree on social responsibility may not worry. Companies that have minority shareholders have greater exposure since societal focus by the majority may diminish the return to the minority
The Maryland Annotated Code codifies the fiduciary duty of company management. Under Annotated Code of Maryland, Corporations and Associations Article, Section 2-401.1 a director must perform his or her duty as a director in good faith, in a matter that the director reasonable believes is in the best interest of the business, and exercising “***the care that an ordinary prudent person in a like position would use under similar circumstances.” This is commonly known as the business judgment rule. Generally speaking, so long as the director of a corporation follows those requirements, the director has immunity from a claim of violation of that duty.
The last several decades have seen greater pressure being put on companies to become more socially conscious. The popularity of socially responsible investing has grown rapidly. An increasing number of investors are looking at companies not so much for their profits, but for how the profits are made. Witness the popularity of ESG investing, particularly among the young investors. Socially conscious investors encourage companies to broaden their mission beyond return on investment. They consider that the stakeholders of the business to include employees, customers, the environment, society and the community.
In 2010, Maryland answered the call and enacted legislation authorizing a new class of corporations called Benefit Corporations. This was followed a year later when the Maryland legislation recognized Benefit Limited Liability Companies. Maryland was the first state to allow benefit companies. At least thirty-five other states have followed. There are now well over one hundred companies formed under Maryland law that are registered as “Benefit” companies. There are thousands throughout the globe in addition to the 3,000 plus in the US. What is the appeal? Is it image, protection of directors, raising capital? The answer is all of the above.
A Benefit Corporation or Limited Liability Company legitimizes socially responsible decisions by management. It also makes a statement. Being perceived as a company willing to invest in the community and society is a significant public relations plus. In fact, some customers are willing to pay a premium to support the societal cause.
What is a Benefit Company?
A benefit company fills the gap between for-profit companies on the one hand and non-profit charitable entities on the other. It legitimizes socially beneficial use of company assets in areas that may not be profitable, and shields management from claims of breach of fiduciary duty. The benefit company is designed to make a profit for its investors while at the same time giving back to the community. Management has more flexibility in where it focuses the company’s assets and work force. It allows management to open a grocery store in a food desert even at a loss. Employees may be given the right to use some company time towards community causes. Being known as a benefit company also has an appeal to customers, employees and like-minded investors. For instance, Patagonia and Ben & Jerry’s increase sales by being Benefit Corporations.
A wide variety of industry groups are represented in the roster of benefit companies- for example: community banks that focus on underprivileged communities (Beneficial State Bank), food suppliers that emphasize the well being of employees , treatment of animals, education, and source of products (King Arthur Flour, Vital Farms), software designers (Veeva Systems), energy (Bullfrog Power markets green energy from renewable sources), breweries (New Belgium Brewery), creamery co-ops (Cabot Creamery), cleaning products (Seventh Generation), sellers of footwear (AllBirds) and prescription glasses (Warby Parker which donates prescription glasses to the underprivileged) insurance companies(Lemonade Insurance Co. allows portions of premiums to be directed to causes chosen by the insured) and fundraisers (YouCaring raises funds for charitable causes and medical treatment without charging a fee).
In Maryland, benefit companies are regulated by Annotated Code of Maryland, Corporations and Associations Article, Subtitle 6C, at Sections 5-6C-01 through 5-6C-08 and Subtitle 4A for limited liability companies at Sections 1201 through 1303. The two subtitles are very similar in their requirements. The company must elect to be a benefit company either at formation or by amendment to its Articles of Corporation or Articles of Organization. Its Bylaws or Operating Agreement must be consistent with the Articles. The fact that it is a benefit company must appear prominently in the Articles. In addition to the purposes of the business, the Articles must also list the purpose of delivering a public benefit. Public benefit is defined in 5-6C-01(d) for corporations and 4A-1201(d) for limited liability companies:
“Specific public benefit” includes:
- Providing 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; or
- The accomplishment of any other particular benefit for society or the environment.
In making any managerial decision, consideration should be given to its effect on shareholders or members of the benefit company, the workforce, suppliers of the company and its subsidiaries, the interest of its customers in the context of the public benefit, community and societal consideration within and without the locale of the business, and the local and global environment.
In addition, within 120 days from the end of its fiscal year, the company must report its actions to its shareholders or members and post on its website a statement describing the efforts to pursue a benefit described in the purposes set forth in its Articles of Incorporation or Organization and the extent to which each benefit was achieved. In the absence of a website, the company must give a copy of the annual report to anyone who asks for one. The report must also contain an “*** assessment of the societal and environmental performance of the benefit *** prepared in accordance with a third-party standard applied consistently with the prior year’s benefit report or accompanied by an explanation of the reasons for any inconsistent application.”
The third-party standard under the Maryland law requires an independent third party that is credible, transparent, and accountable to the stakeholders. In many cases, the third party uses a questionnaire. B Lab is the most recognized third party. Carrying the certification as a B Corp by B Lab is a badge of honor. To become certified, the company must pass a B comprehensive impact assessment and audit and pay an annual fee. There are now over 5,000 certified B Corps across the globe. That certification tells its investors and the public that it is truly altruistic while at the same time will not ignore profit.
If you have any questions, please email me at jconstable@wcslaw.com.