Should You Form a Social Purpose Corporation?

In the current climate of consumer activism, companies are trying to find ways to show their commitment to principles beyond the financial bottom line. California law provides for “social purpose corporations,” creating a legal structure for companies that are for-profit, and yet want to pursue social and community goals as well. This article describes some of the advantages and disadvantages of forming a company as a California social purpose corporation.

Advantages

• Legal protection for objectives other than profits. The social purpose corporation structure specifically allows corporations to pursue goals other than profits. While “regular” for-profit companies, of course, engage in community activities, the fundamental legal obligations of the board and management are, generally speaking, to generate profits for shareholders. Therefore, in a standard for-profit business, community activities have to be justified with reference to the financial bottom line, e.g., they create a positive image for the company among potential customers. A social purpose corporation, on the other hand, explicitly has independent goals other than profits in its corporate charter. Thus, the social impact of the company does not need to be a means to an end (i.e., shareholder profits), but can be an end in itself.

• Customers and employees. For customers that want to engage in consumer activism, a company’s status as a social purpose corporation may help differentiate that company from others. Similarly, this status may be attractive to potential employees that feel strongly about their employer’s activities having a social impact.

• Appeal to certain types of investors. While the social purpose corporation structure may not be attractive to pure financial investors, this structure may be attractive to other types of investors, such as certain “angel” investors who are focused on the social impact of their own investments.

Disadvantages

1. Lack of appeal for certain investors. As noted above, the social purpose corporation structure may not be attractive to most institutional financial investors, such as VC and private equity funds. These types of investors generally prefer to invest in Delaware C-corporations and are hesitant about investing in alternative corporate structures. Moreover, these institutional funds are generally set up so that their underlying legal obligation is to generate return for their limited partners, so it is not in their interest to invest in companies that are focused on goals other than investor profits.

2. Reporting requirements. Social purpose corporations are required under California law to prepare annual shareholder reports which, among other things, describe the company’s efforts towards its special purpose. Parts of these reports must be made publicly available. Social purpose corporations are also required to provide special reports of certain specific events. Companies may find these requirements burdensome to comply with.

3. New type of legal entity. The body of law that created the California social purpose corporation in its current form only came into effect in January 2015. Since this is a relatively new law, there is likely to be some uncertainty around the application of the law until a body of case law and “best practices” evolves over time.