What is important (and what is not) in corporate law for social enterprises?

Over the past few decades, legislators around the globe have promulgated specific corporate laws for social enterprises, which combine a profit purpose with a significant social purpose. These laws have created social enterprise labels that can be used by several or all existing corporate forms, social enterprise variants of one specific existing corporate form, or new, dedicated corporate forms that are open exclusively to social enterprises. Some jurisdictions offer several of these techniques, while others offer none, leaving social enterprises to use conventional corporate forms without becoming subject to any specific social enterprise regulation. In this post, based on a paper recently published in the European Company and Financial Law Review, I show the importance of the legal background against which these different techniques operate and I provide guidance on choosing between these various techniques.

An important part of the legal background that one must bear in mind to fully grasp social enterprise regulation concerns the distinction between nonprofit associations (and foundations) and corporations. There is at least a conceptual correlation between the level of stringency of the definition of a corporation and the need for specific social enterprise regulation. This stringency can, first of all, relate to the scope of permissible deviation from the profit purpose that is typically mandated in corporations. In jurisdictions where the profit distribution purpose of corporations is merely a default rule, like the Netherlands and Germany, conventional corporations can be used for purely nonprofit endeavors (as is the case for the German gGmbH) or social enterprises. In France, by contrast, the profit purpose requirement in corporations is of a mandatory nature. This insight sheds a new light on the fact that neither Germany nor the Netherlands has enacted specific corporate law for social enterprises yet, and on the recently introduced option for French corporations to embrace an additional corporate purpose (the raison d’être)—in fact, the latter innovation explicitly authorized what conventional corporations can do in many other jurisdictions.

Differences with regard to the stringency of the profit purpose requirement in corporations can also relate to its content. For instance, the United States traditionally have had a strong focus on shareholder wealth maximization and left less room for consideration of stakeholder interests than continental European jurisdictions. This allegedly caused legal uncertainty about the effect of including a social purpose in a for-profit corporation. Since 2010, many US states introduced the ‘benefit corporation’, which also pursues a public benefit purpose. Benefit corporations were thus designed to expressly allow and even require a consideration of stakeholder interests—again, something that conventional corporations do in many other jurisdictions.

How should then lawmakers choose between labels, variants, dedicated corporate forms and flexible conventional corporate law? Some of this categorization of the various existing techniques is of limited practical importance. Even dedicated corporate forms (like the US benefit corporations) are to a large extent governed by the general provisions of corporate law. Relying on general corporate law yields a number of advantages in terms of network effects and easy adoption of the social enterprise form. Forgoing these advantages and actually creating a dedicated corporate form is justified only if there are compelling reasons for a complete overhaul of existing corporate law. In all other scenarios, simply employing a label (like the Italian società benefit and the French société à mission) is likely the better option.

From this perspective, a variant (like the Belgian social enterprise certification for cooperative companies) also seems a good option, as it is basically a label limited to one specific corporate form. However, the limitation to one single corporate form does not do justice to the broad diversity of social enterprises. Not limiting a label to a specific corporate form has the advantage that social entrepreneurs can choose the underlying corporate form on the basis of factors specific to their situation, just like for-profit entrepreneurs do, thus making the label more attractive.

Considering the goal of providing social entrepreneurs with the same degree of flexibility as for-profit entrepreneurs, should lawmakers simply make conventional corporate forms available to social enterprises? In other words, does it suffice to relax any profit purpose requirement in corporations? Unfortunately, the answer is no. The success of social enterprises relies heavily on the willingness of third parties to support social enterprises with a view to furthering their social purpose. Investors do so by investing against a lower return, clients by purchasing goods at a higher price, and employees by working for a lower wage. For them to be willing to do so, the social enterprise must credibly signal its commitment to both a profit purpose and a social purpose. Conventional corporate forms fail to convey this signal, as they can be used (and are mainly used) for for-profit undertakings. Indeed, social enterprises in the Netherlands (which have to use conventional corporate forms) reported that they are often not recognized as such. From a signaling standpoint, a technique that alters a company name, in the form of a label, a variant or a dedicated corporate form, is to be preferred. For the signal to be credible, it is crucial that the chosen label, variant or dedicated corporate form is subject to mandatory restrictions that ensure the commitment to both the profit purpose and the social purpose.

Before lawmakers devise new social enterprise labels with strong signals, however, a warning is in order. The existence of numerous social enterprise labels, variants and forms, however strong their individual signal, could potentially diminish their recognizability by third parties. Especially when considered on a global level, the variety of social enterprise forms is vast and even comparative law scholars are getting lost in translation. This problem is exacerbated by the broad range of situations covered under the term ‘social purpose’. The notion of purpose can refer to a corporate purpose in the traditional legal sense, in which case an additional purpose comes at the cost of profit distribution prospects. More frequently, however, it simply refers to a company’s mission in a CSR-like fashion, without presenting any noteworthy conflict with the company’s ability to distribute profits. This is for instance generally the case for the French raison d’être. Legislators should be cautious before creating a signal for those lower commitment devices, at the risk of generating noise that interferes with the signals of genuine social enterprises.

Sofie Cools is Professor of Corporate Law at KU Leuven, Professor of Sustainable Company Law at RU Nijmegen.