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There’s a new way for Delaware companies to highlight their sustainability chops. Will it be meaningful?

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By Lois Yurow – Fellow, G&A Institute

Delaware companies that are focused on sustainability will soon have a new way to demonstrate their dedication.

Effective October 1, any Delaware “entity”—a term that encompasses corporations, partnerships, limited liability companies, statutory trusts, and certain associations—may elect to apply for a so-called “certificate of adoption of transparency and sustainability standards.”

The newly enacted Certification of Adoption of Transparency and Sustainability Standards Act is designed to give Delaware companies a platform for signaling their “commitment to global sustainability.” Since this is the first statute of its kind in the United States, and Delaware is home to a disproportionate number of U.S. companies, it’s worth looking at how the Certification Act is intended to work.

The statute at a glance

On its face, it looks like the Certification Act offers a formal seal of approval — a certificate from the Secretary of State to any entity that commits to publish an annual sustainability report. No big deal, right? But if you look deeper, it becomes clear that a certificate will represent both significant board-level involvement and greater corporate transparency.

Let’s start with key terms

Several definitions in the Certification Act are substantive and intertwined. It will be easier to appreciate what it means to get a certificate if you first understand some terminology.

Standards—the “governing body” (such as the board of directors, general partner, or a “duly authorized and empowered committee”) of a “reporting entity” (one that has or wants a certificate) must adopt “principles, guidelines or standards” against which the entity will measure “the impacts of its activities on society and the environment.” Standards must be “based on or derived from third-party criteria.”

Third-party criteria are “principles, guidelines or standards developed and maintained by” someone unaffiliated with the reporting entity — such as a government unit, an NGO, or an independent consultant—for the purpose of “measuring, managing or reporting the social and environmental impact of businesses or other entities.”

Presumably, the requirement that standards have some relationship to third-party criteria will improve the odds that companies will select credible standards that are tangible and objective. This requirement also may accelerate the movement toward uniform disclosure and reporting standards — such as those developed by GRI or SASB.

Assessment measures—the governing body of a reporting entity must adopt “policies, procedures or practices” that will generate “objective factual information” about how well the entity is performing against the standards it adopted. (In other words, performance metrics.) This includes deciding whether to provide for “internal or external verification” of performance results.

Standards statement—the first step to getting a certificate is filing a standards statement. The most important things a standards statement must do are:

  • affirm that the entity’s governing body adopted resolutions that enumerate standards and assessment measures;
  • affirm that the entity will use those assessment measures to evaluate the entity’s performance in relation to those standards;
  • affirm that the entity will periodically revisit its standards and assessment measures and adjust them if the governing body thinks changes are appropriate;
  • affirm that the entity will publish a report (described below) every year; and
  • indicate where on the reporting entity’s principal website a visitor can (without paying a fee or providing any information) find a discussion of the entity’s “standards and assessment measures, the third-party criteria used . . .[and] the process by which such standards were identified, developed and approved,” as well as all of the entity’s reports.

Report—in order to maintain its certificate, a reporting entity will need to publish on its primary website comprehensive annual performance reports covering these topics:

  • “the standards and assessment measures in effect” over the past year, “the third-party criteria and any other source used to develop [those] standards and assessment measures,” and how the entity identified, developed and approved its standards and assessment measures;
  • the type of information described above regarding any standards or assessment measures the entity changed;
  • how the reporting entity has endeavored to satisfy its standards and whether those efforts included any interaction with stakeholders;
  • current “objective and factual information developed pursuant to the assessment measures” to gauge how the entity performed in relation to its standards;
  • the governing body’s view of “whether the entity has been successful in meeting the standards”;
  • if the entity was not successful, whether the governing body has ordered “additional efforts” to improve performance, and if not, why not;
  • whether the entity retained an independent consultant to help measure, manage, or report on its performance, and if so, whom; and if “materially different,” how the entity intends measure, manage, and report its performance in the next annual reporting period.

With these definitions under our belt, the statute is pretty straightforward.

Putting it all together

Any Delaware entity in good standing will be able to apply to the Secretary of State for a certificate of adoption of transparency and sustainability standards by delivering a standards statement and paying the prescribed fees ($200 to file and $50 for the certificate).

All the certificate will do is attest that the named entity filed a standards statement. The Secretary of State will not even confirm that the entity actually implemented the standards and assessment measures it purports to have adopted. Certificates are renewable every year, also with an application and a fee.

It looks so easy—until you return to the definition of “standards statement.” The seemingly simple application process belies the two rigorous obligations at the core of the statute: board-level involvement and complete transparency around standards, metrics, and results.

Again, the standards statement must affirm that the decision to adopt particular standards and assessment measures was made by formal action at the entity’s highest levels. The standards statement also must promise that the entity will issue an annual report. The prescribed content of that report—standards, metrics, results, and the governing body‘s reaction to it all—suggests this will not be a simple undertaking.

So why would a company bother getting a certificate (and paying fees, and assuming a disclosure obligation)?

Every company is at liberty now, certificate or no certificate, to voluntarily issue a sustainability report. Indeed, 85% of the Fortune 500 published a sustainability report in 2017. No doubt those reports represent a genuine commitment on the part of the issuing companies. Still, it pays to consider who chooses what a given company reports on: what goals it adopts, what metrics it uses to gauge progress, who measures that progress, and what specific information will be shared. With voluntary reporting, companies have almost infinite flexibility.

Under the Certification Act, reporting entities will need to disclose “objective and factual” performance results, and each entity’s governing body will be required to specifically address those results, offering its view of whether they represent success. By imposing these rules, the statute responds to the ever lingering concern that at least some sustainability reports are as much about marketing as they are about real change. The public in general, and investors in particular, may find the Certification Act’s data-heavy reports more valuable.

Liability concerns

Any company thinking about assuming the obligations of a reporting entity will want to consider whether there are any risks. The Certification Act explicitly eliminates two.

First, there is no audit or merit review required. The statute expressly does not prescribe particular sustainability standards. Moreover, every certificate will state that the Secretary of State does not verify standards statements or annual performance reports.

Second, no one will have a cause of action against a Delaware entity because of anything the entity does (such as choosing particular standards and assessment measures) or fails to do (such as falling short of a standard, or refusing to become a reporting entity at all).

Reporting entities may suffer reputational harm if their goals are unrealistically ambitious or easy, or if their disclosure seems inadequate, but these risks are largely controllable. In addition, the standards statement, the annual performance report, and every application to renew a certificate must be “acknowledged.” That means an “authorized person” of the reporting entity must “certif[y], under penalty of perjury, that the information [provided] is accurate and complete to the best of such authorized person’s actual knowledge after due inquiry.” This too presents a largely controllable potential risk.

Conclusion

A few Delaware companies reportedly are mulling whether they want to be the pioneer reporting entities. Many organizations already have the requisite governance and data-gathering processes in place, so applying for a certificate would be a relatively uncomplicated—and possibly logical—next step. For those companies that have not fully implemented sustainability practices and reporting protocols, the Certification Act may serve as another nudge.

Contents Copyright © by Lois Yurow, All Rights Reserved

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. Mutual Fund Regulation and Compliance Handbook, a book she 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

Lois Yurow is a Fellow the Governance & Accountability Institute

 

 

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

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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