Benefit Corporations and the Public Markets — Will We Ever See a Public Benefit Corporation?

Lois Yurow-Nov 14-016eQuestion:  Benefit Corporations and the Public Markets — Will We Ever See a Public Benefit Corporation?

by Guest Commentator Lois Yurow

The United States is home to over 1,100 privately-held benefit corporations—for-profit entities organized under state statutes that require them to pursue a general public benefit in the ordinary course of business.  Many commentators have discussed whether directors of socially-oriented companies need legislation to protect them from liability for breach of fiduciary duty when they strive for goals other than financial return.  Others have argued that benefit corporation legislation is counterproductive because it wrongly implies that traditional corporations are required to make shareholder value their exclusive priority. 

This essay will not revisit those issues.  Instead, I want to consider whether it would be viable for a public company to become a benefit corporation, or for a benefit corporation to go public.  I will describe benefit corporations and some distinct obligations of public companies, and then explain why benefit corporations are not suited to the public markets.

Benefit corporations, B corporations, and public companies

Corporate law in 26 states and the District of Columbia permits for-profit entities to become benefit corporations.[1]  The various state statutes differ, but all benefit corporations have three distinct features: charter documents must state that the corporation’s purpose is to create a material, positive impact on society and the environment; benefit corporation directors must consider the interests of stakeholders other than shareholders, such as employees and the surrounding community; and benefit corporations must report periodically on their social and environmental performance. 

The first benefit corporation statute was enacted (by Maryland) roughly five years ago, placing benefit corporations among the rare subjects that garner bipartisan support and inspire legislative speed.  Currently, there are 1,140 known benefit corporations in the United States.  The most familiar are Method Products (which makes cleaning supplies) and Patagonia (which specializes in outdoor apparel).

Benefit corporations are easily confused with B corps, but they are different.  A B corp is an entity—not necessarily a corporation—that is certified by B Lab, a nonprofit organization committed to “using the power of business to solve social and environmental problems.”  Unlike programs to certify a particular product (say, Fair Trade coffee) or facility (an LEED building), the B Lab certification is comprehensive.  The idea is to identify good companies instead of just good products or good marketing.  As of this writing, there are 1161 B corps in 37 countries.  Some are benefit corporations, but most are not.  The most recognizable B corp is Ben & Jerry’s.

Public companies offer their shares to the general public, typically on a stock exchange.  To become public, a company must file with the Securities and Exchange Commission (the “SEC”) a registration statement that contains audited financial statements and describes the business and the risks of the investment.  Once public, the company is subject to ongoing reporting and auditing requirements.  According to B Lab (a driving force behind benefit corporation legislation), no existing benefit corporation is publicly traded.[2]

Existing corporations cannot convert into benefit corporations without the approval of a supermajority of their shareholders.  It would be difficult for a public company to muster that support.  But could a benefit corporation go public?  That would be a bad idea, for two reasons: becoming and remaining a public company is too expensive, and broad ownership might jeopardize the company’s mission. 

Going public is too expensive

According to a 2011 study prepared by the IPO Task Force for the U.S. Treasury Department, it costs approximately US$2.5 million for a company to achieve regulatory compliance for an initial public offering, and another $1.5 million per year for ongoing compliance. These costs include underwriting commissions; filing fees; and fees for lawyers, accountants, and transfer agents.  Even typical for-profit companies need to be large and successful to absorb those costs.  For a benefit corporation that already may need to sacrifice potential earnings, steep compliance costs would further diminish the company’s resources for engaging in business and pursuing a public benefit.

Moreover, the SEC’s disclosure regime focuses on financial and economic analysis; it does not elicit the type of social benefit assessment that benefit corporations must provide under state law.  Indeed, many investors have complained to the SEC about inadequate reporting of environmental, social, and governance (ESG) information.  Thus, a public benefit corporation that produced the periodic reports required by federal law would still need to prepare an annual benefit report to satisfy state law. 

Under the Model Benefit Corporation Legislation, which is the starting point for most state laws, the benefit report must describe “[t]he ways in which the benefit corporation pursued general public benefit during the year and the extent to which general public benefit was created,” and assess “the overall social and environmental performance of the benefit corporation against a third-party standard.”  This is not an inconsequential or inexpensive undertaking. 

Benefit corporations are more likely to succeed with a small number of investors

Benefit corporations commit to pursue (in some states, to “create”) a public benefit, which serves as a signal to socially responsible investors.  As corporate law professor Lynn Stout says, “‘it’s like hanging a sign around your neck: Nice people invest here.’”[3]  One commentator likens benefit corporations to multiparty contracts because they “average the collective desires” of unrelated investors with a variety of social concerns.[4]  Those who invest in a benefit corporation—or opt in to the contract—are  “a self-selected, ideologically similar group” that is likely to remain committed to the company’s mission, even in circumstances that might prompt profit-oriented investors to insist that management defer social endeavors to pursue better returns.

This contractual dynamic could shift if a benefit corporation were to go public.  Activist investors often buy stock with complete understanding of a company and then agitate for change anyway.  Witness the public battles waged by investors urging EBay, EMC, and JDS Uniphase (among others) to spin off assets. 

If a benefit corporation’s business model has substantial earnings potential absent the “public benefit” mission, there is nothing to stop frustrated investors from campaigning to amend the company’s charter.  Even if activists cannot attain the supermajority vote that benefit corporation statutes require, defending the company’s mission would be a significant distraction and expense for management.

Conclusion: 

Benefit corporations appeal to the subset of investors that are willing to sacrifice some earnings to support more responsible business practices.  These companies are unlikely to generate enough new capital in the public market to justify the expense of being there.  In addition, offering stock to the general public, without any opportunity to assess the purchasers’ commitment, can jeopardize a benefit corporation’s mission.  This class of companies should stay in the private market.

Footnotes:


[1] This tally includes Arizona, where the statute is not effective until December 31, 2014, and Minnesota and New Hampshire, where the statutes are not effective until January 1, 2015.  Legislation is pending in twelve other states and Puerto Rico.

[2] Plum Organics, a benefit corporation, is wholly-owned by Campbell Soup Company, a public company.

[3] Quoted in Gunther, M. (2013, August 12). B corps: Sustainability will be shaped by the market, not corporate law. The Guardian. Retrieved from http://www.theguardian.com/sustainable-business/b-corps-markets-corporate-law.

[4] Hasler, J. E. (2014, October). Contracting for good: How benefit corporations empower investors and redefine shareholder value. Virginia Law Review, 100(6), 1279-1322, 1305.

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Guest Commentator Lois Yurow is founder and president of Investor Communications Services, LLC, where she specializes in converting complex legal, business, and financial documents into plain English.  Lois was Managing Editor of Wall Street Lawyer, a monthly newsletter focused on securities law, for seven years, and Managing Editor of RealCorporateLawyer.com, a website serving corporate and securities lawyers, for five.  Mutual Fund Regulation and Compliance Handbook, a book Lois co-authored and updates annually, is published by Thomson West.  Lois writes and speaks frequently about plain English, disclosure, and other securities law matters.  Before forming Investor Communications Services, Lois practiced corporate and securities law, first in Chicago and then in New Jersey.  Email: lois@securitieseditor.com

 

 

Pension Fund Activists Focus on Climate Change, Diversity, Director Nomination Process — with New York City Funds in the Lead

by Hank Boerner– Chairman, G&A Institute

Leading and influential activists in the sustainable & responsible investment community are focusing on the filing of their 2015 corporate proxy ballots with ESG issues top-of-mind. Let’s take a look at the actions of the New York City (5) pension funds (with US$160 billion in Assets Under Management).

The city comptroller, Scott M. Stringer, was elected in November 2013, along with the new high-visibility mayor (Bill DeBlasio).  Under Comptroller Stringer’s direction, the fund(s) are filing proxy proposals with 75 companies to demand a greater voice in the nomination of boards of directors.  This is the characterized as “giving shareowners a true voice in how boards are elected.” .

This campaign is designed to roll out proxy access demands across the broad public company universe in the United States.  Back in the 1800s, one of the corrupt big city political bosses was William M. “Boss” Tweed.  Said Comptroller Stringer:  “The current ]corporate] election procedures would make Boss Tweed blush. We are seeing to change the market by having more meaningful director elections through proxy access, which will make boards more responsive to shareowners.  We expect to see better long-term performance across our portfolio…”

(As local point of reference, Boss Tweed of Tammany Hall was a member of Congress and director of the Erie Railroad Company and 10th National Bank.  He was convicted of corruption and died in jail in 1878.  His name is synonymous with corruption, cronyism, political back slapping.)

The NYC comptroller serves as investment advisor to, and custodian and trustee of the 5 funds, which are for city employee beneficiaries — teachers, police, fire department, board of education, city employees.

Proxy access” is the ability for owners to nominate directors in addition to — or in opposition to — the company’s slate of directors (in the proxy statement).  Comptroller Stringer wants to give shareholders with (1) 3% of shares and (2) holding the shares for 3 years the “threshold” of being able to nominate candidates for board service, up to (3) 25% of the total board membership.  Those companies not agreeing to the proposal received the NYC fund ballot initiative.

And big corporate names are involved; the resolutions are being filed at:

  • 33 carbon intensive coal, oil & gas, and utility companies (such as Duke Energy, ExxonMobil, Chevron, Apache, AEP (power), Southwestern Energy, ConocoPhilipps, Peabody Energy);
  • 24 companies with few / or no women on the board, and “little or no” racial or ethnic diversity – including eBay, Priceline, Level 3 Communications, Urban Outfitters, Alexion Pharma;
  • 25 companies that received “significant” opposition to 2014 shareholder votes (advisory, not binding) on their executive compensation plans.

In focus: :”Zombie directors”  – of 41 corporate directors receiving less than a majority vote in 2013, 40 remain on their boards.  As Comptroller Stringer described them, “unelected, but still serving…

“This is all part of what the pension fund leaders call their “Boardroom Accountability Project,” designed to call attention to as boards of directors and their perceived failure to address critical issues — climate risk, excessive compensation and lack of diversity in the board room.

Note that under “”plurality” voting in un-contested elections, a director who receives just one vote (his or hers counts if shares are owned) is re-elected…even if every other vote is cast against him.  The project seeks to have companies amend their bylaws to change that situation.

New York State Comptroller Tom DiNapoli was re-elected by an overwhelming statewide majority in November; he enthusiastically endorsed the city funds’ project (he is the sole trustee of the US$180 billion New York State Common Fund). He described the Board Accountability Project as a wake-up call to boards of directors to change the way business in the board room is done.

Also in support:  Anne Stausboll, CEO for California Public Employees Retirement System (CalPERS) — the nation’s largest public employee pension fund with US$ 300 billion in AUM.

Her colleague, Anne Sheehan, corporate governance director at the California State Teachers Retirement System (CalSTRS) termed the board accountability project “long overdue for our country,” voicing her support.  The fund has US$186 billion AUM.

This is not just a “New York City” liberal-leaning thing — voicing support for the project were other public sector fiduciaries:

  • William R. Atwood, executive director of the Illinois State Board of Investment. (US$5 billion AUM)
  • Francis X. Bielli, executive director of the Philadelphia Board of Pensions & Retirement.   (US$4.5 billion AUM)
  • Travis Williams, chairman of the Firefighters Pension System of Kansas City, Missouri (US$460 million AUM)
  • Alex Fernandez, chairman of the Miami (Florida) Firefighters Relief and Pension Fund.( US$1.5 billion AUM)

Comptroller Scott Singer explained that the U.S. Securities & Exchange Commission (SEC) first proposed “universal proxy access” (for all shareholders) back in 2003 as a “way to end the Imperial CEO,” as Enron, WorldCom and other large-caps imploded and many went out of business.  In 2010, the SEC approved a universal policy access rule in response to the financial crisis.” In a federal district court case, the rule was set aside; the SEC still allows “private ordering,” the ability for shareowners such as pension funds to file resolutions to be placed on the annual voting ballot.

And so the battle lines are being drawn for 2015 corporate engagements.  Many of the public companies named by New York City funds are seen as leaders in sustainability, responsibility and accountability.  The proxy resolutions would seem to state otherwise.

It will be interesting to see how the Board Accountability Project progresses, and how corporate boards and C-suites see the demands presented for greater “Corporate Democracy.”