Screen shot 2014-04-16 at 4.52.15 PM“A business corporation is organized and carried on primarily for the profit of the stockholders. The powers of the directors are to be employed for that end.” – Supreme Court Ruling, Dodge V. Ford Motor Company

“We have no choice but to harness the power of business to address society’s greatest challenges.” – Jay Coen Gilbert, B Lab Founder

BY HANI KFOURI: Benefit Corporations, or B-Corps, are a new corporate entity legally recognized in a number of U.S. states, with many other states introducing legislation on the matter. Their existence is based on a perceived incongruence between the legal framework governing for-profit corporations and the social purpose goals of sustainable business, impact investment, and social enterprise actors. While the directors of for-profit companies have a fiduciary duty to maximize shareholder wealth, B-Corps are required to pursue a social mission and consider all stakeholders, internal and external, when making business decisions. Hence, the directors of B-Corps are faced with a very different set of fiduciary responsibilities. A new legal framework for Benefit Corporations go a long way in clarifying the duty the directors of these corporations have to shareholders and the wider society yet there is significant room for improvements to the model.

The current legal corporate framework is designed with for-profit firms in mind. The Golden Rule for directors of for-profit companies is to act prudently and in the best interest of the corporation, rather than in their own interest, and with the sole purpose of advancing the company. The 1919 Supreme Court ruling in Dodge V. Ford is considered to have articulated the concept that a corporation’s purpose is to maximize shareholder wealth, therefore aligning directors to this mission through their fiduciary duty. Shareholders are allowed to sue the board if the shareholders feel that the board has violated this fiduciary duty. In order to have legal standing to sue, the plaintiff must be a stockholder of the corporation. Most states, however, have provisions to that protect directors from liability in the case of fiduciary misconduct, provided that the courts determine that they have met their duty of loyalty and good faith. Additionally, under the case-law concept of the Business Judgment rule, courts presume that business decisions are made by disinterested independent directors with informed due care and with a belief that the decision is in the company’s best interest. This rule limits courts from second-guessing the decisions of directors.

Some businesses concerned with a broader social purpose consider the current system’s focus on maximizing shareholder wealth to be a legal barrier to achieving broader social benefit. Benefit Corporation legislation can overcome this barrier in part by amending the fiduciary responsibility of directors so that they can pursue a social purpose, even if it comes at the expense of shareholder wealth. The non-profit organization B Lab, whose mission is to use the power of business to solve social and environmental problems, has promoted model Benefit Corporation legislation intended to reflect the expressed needs of those interested in using their business to promote social welfare. Variations of this legislation have been adopted in 22 states.

Under this model legislation, B-Corps are subject both to existing laws regarding the fiduciary duties of directors in addition to new ones imposed in this model. Directors must consider not only the interests of the corporation and its shareholders, but must also consider the effects of any corporate action or inaction on the interests of all stakeholders. These stakeholders can include internal and external parties such as the employees, customers, community, and the local and global environment. The directors must also consider both the short-term and long-term interest of the B-Corp. The model legislation further suggests that firms name a benefit director with additional responsibilities related to the corporation’s public benefit purpose. This director is responsible for preparing a statement on the corporation’s compliance with its public purse, to be included in the annual benefit report to shareholders.

Shareholders of public B-Corps may sue directors who violate their duty to carry out the social purpose of the organization. There is also a limitation on standing, which states that those who are only beneficiaries of the B-Corps’ “general public benefit” purpose cannot sue a director. However, B-Corps can define a category of non-shareholder individuals who may bring forward a “benefit enforcement proceeding” for failure of the corporation to pursue or create general public purpose. Comparable to cases of traditional fiduciary responsibility, a B- Corp director does not face personal liability for violations of duty. The Business Judgment rule similarly applies, holding that a director acting rationally and in good faith is deemed to have fulfilled his or her duty as director.

B-Corp model legislation is not without its shortcomings, which can lead to conflict within the corporation, between the corporation and its numerous stakeholders, and can also lead to the corporation’s failure to achieve its stated public benefit. Part of the appeal of B-Corps to socially conscious entrepreneurs and investors is the fact that the directors have a fiduciary responsibility to stakeholders both within and outside the corporation. However, in reality, B-Corp directors have minimal accountability to outside stakeholders, since a benefit enforcement proceeding cannot be brought forward by non-shareholder constituents, as with a traditional corporation. The exception is if the B-Corp chooses to grant a certain group of shareholders the ability to do so. So, B-Corp directors are only required to consider the interests of external stakeholders, without giving them any legal standing to enforce this fiduciary duty. Although the lack of standing avoids the possibility of costly and time-consuming litigation, it means that external stakeholders have no means of holding Benefit Corporation directors accountable and no decision-making power, not unlike in a traditional corporation.

To remedy this shortcoming, while acknowledging the infeasibility of allowing every stakeholder from a potentially infinite number of stakeholders to sue, I recommend requiring B-Corps to designate at least one outside stakeholder group that has the ability to enforce fiduciary duty—a practice that many B-Corps currently do not do. This requirement would ensure that B-Corps are accountable to at least one social group beyond their shareholders and would discourage corporations that are not serious about pursuing a social benefit from seeking B-Corp status purely for marketing purposes.

Another problem with the current state of B-Corp legislation is the vague and broad language used to describe the “general public benefit” the corporation intends to achieve. According to the model legislation, this benefit is defined as “a material positive impact on society and the environment, taken as a whole, assessed against third-party standards from the business and operations of a benefit corporation.” As a result of this broad language, different stakeholders can have a very different interpretation of whether or not certain behavior is in line with achieving a general public benefit. This creates confusion about the goals of the corporation, and if many stakeholders are given standing to sue, there is the risk of multiple suits against the directors for not acting in line with their perceived responsibilities to stakeholders with different and possibly contradictory interests. For example, will economic empowerment of low-income individuals have priority over environmental concerns if it is impossible to achieve positive developments in both? In order to overcome this shortcoming, a B-Corp’s incorporating documents and corporate charter should be required to specify what types of public benefit it is most concerned with and how it intends to achieve that benefit.

The legacy of the Supreme Court’s ruling in Dodge v. Ford supports the common perception that the directors of for-profit corporations have a fiduciary responsibility to maximize shareholder wealth. Model Benefit Corporation Legislation can provide a legal framework better suited to the interests of social entrepreneurs. By clarifying the corporation’s perception of its public benefit and laying out how it intends to achieve it, and by mandating that the interests of at least one outside stakeholder be considered legally enforceable, B-Corps can increase the potential for creating real public benefit while minimizing the risk of unproductive suits. The widespread adoption of Benefit Corporation laws that build and improve on the model legislation will legitimize this new corporate entity and facilitate the efforts of future socially conscious entrepreneurs and investors to earn a profit while benefitting the public.