Corporate purpose is having a moment. Large corporations face pressure to behave in socially responsible ways, while entrepreneurs seek investors in social enterprises that pursue profits while advancing social goals. These movements problematize how businesses and the law conceive the purpose of organizations. In my handbook chapter, I ask how business association statutes regulate purpose to help either block or facilitate businesses that want to behave ethically while also generating profits for their investors.
Many think that traditional business law discourages ordinary businesses from pursuing social good unless it increases profits. Is that true for the two main legal types of American businesses, namely corporations and limited liability companies (LLCs)?
Delaware corporate law does pose a barrier to for-profit corporations with a social mission. The Revlon and eBay cases hold that the purpose of a Delaware for-profit corporation is to maximize shareholder value. However, most businesses can justify considering social values by pointing to gains in long-term profitability (eg, due to an improved reputation), and under the business judgement rule Delaware courts won’t second guess that justification. Delaware corporations can also opt out of the shareholder wealth maximization norm in their certificate of incorporation. For companies incorporated in a state with a corporate constituency statute, there is not even a need to point to a long-term effect on profits or amend the certificate, the statute allows them to consider interests other than shareholder wealth.
Thus, the obstacle that corporate law poses to considering social values is very limited. For businesses formed as LLCs, the obstacle disappears entirely. LLCs are allowed to pursue any legal purpose, and there is no statutory or judicial norm of member wealth maximization. LLCs are the most popular form of organization for smaller US businesses today. Between the limited obstacles in Delaware corporate law and the lack of any obstacle in LLC law, American law does not stop businesses from pursuing social goods while also generating profits for their investors.
But while corporate and LLC law don’t stop businesses from pursuing social missions, they do nothing to facilitate it either. Social enterprises face hard problems in balancing profitability with doing good and in convincing investors, employees, and consumers that they will do so effectively. Various old and new statutory forms address the needs of such organizations. What role does purpose play in such statutes?
One new statutory form is the low-profit LLC (L3C). L3Cs are LLCs that must ‘significantly further. . . the accomplishment of one or more charitable or educational purpose’. The only governance mechanism invoked in L3C statutes to encourage social enterprises is this definition of purpose. Only eight states have an L3C statute, and there are only a few thousand L3Cs. That may be because the purpose provision does nothing to help companies commit to truly pursuing social goods.
The more popular new statutory form for social enterprise is the benefit corporation. These statutes also invoke purpose: in the model statute, benefit corporations must have as a purpose the creation of a ‘general public benefit’. But the statutes go beyond purpose, imposing a duty to consider social impacts and a periodic reporting requirement. Benefit corporations have been adopted by more states and businesses than L3Cs, perhaps because being a benefit corporation makes more of a difference. Still, benefit corporations are not common yet, maybe because neither their purpose, duty, nor reporting provisions act as strong commitments to doing good.
Nonprofit corporations are an older statutory form that may be used for some social enterprises. The state statutes defining them do not necessarily impose any public purpose requirement. However, Internal Revenue Code § 501(c)(3) and the regulations enforcing it require companies to be organized and operated exclusively for a social purpose. This purpose rule is much more actively defined and enforced by the IRS than the purpose rules for L3Cs and benefit corporations. But the law goes beyond purpose. Nonprofits can’t have equity investors or generate profits for those who control them. This powerful (albeit imperfect) legal constraint prevents the search for profits from trumping social mission.
A final statutory form of interest is the cooperative. State cooperative statutes may have no particular purpose requirement, but the modern version of the Rochdale principles that define cooperatives as a social movement includes ‘concern for community’ as one of seven defining principles. But cooperatives commit to pursuing the good of beneficiaries other than investors in a more powerful way: by making them the source of ultimate authority in the organization.
Thus, a social purpose is a defining element in all of the four forms considered here that can be used to facilitate social enterprises. This suggests that purpose must be of some use. However, the form that relies only on purpose has done little, and the two oldest and most widely adopted forms use much more powerful governance tools alongside purpose (a prohibition on distributing profits in nonprofits, allocation of authority in coops). This suggests that purpose only goes so far. Those who really want to change how corporations behave should look more to power, not purpose.
Brett McDonnell holds the Dorsey & Whitney Chair in Law at the University of Minnesota.