How a Uniform Disclosure Regime Would Empower Benefit Corporations

Benefit corporations[1] are free to pursue profit and purpose.[2]  That is to say, each benefit corporation is free to focus on good acts, defined as those acts that have “a material positive impact on society and the environment.”[3]  One high profile benefit corporation is Patagonia.  While Patagonia pursues profit for its owners, it is also committed to using a substantial amount of its revenue to help the environment.[4]  Patagonia spends large sums of money on renewable raw materials (when non-renewable raw materials would be cheaper) and even donates cash outright to environmental nonprofits.

The Problem with Benefit Corporation Disclosure 

My Article is about the chaotic nature of benefit corporation disclosure (benefit corporations currently prepare annual or biannual benefit reports) and how to fix it.[5] I start by assuming that the goal of disclosure, at least in the benefit corporation context, is two-fold: (1) to allow the public to compare social performance across companies and (2) to guard against greenwashing, the practice of falsely portraying a company as protecting the environment. Regarding comparison of social performance, there are two problems:

First, each state has its own rules governing benefit corporation disclosure.  The state-by-state nature of the rules frustrates comparison. The natural analogy is to the blue sky disclosure regime that governed before enactment of the federal Securities Act.  Some states do not even require that benefit corporations make benefit reports publicly available.[6]

Second, even where two companies are subject to the same disclosure rule, the rule almost always leaves too much discretion to the benefit corporation.  Such is the case in New York.  It requires that the benefit report measure “the performance of the benefit corporation . . . against a third-party standard.”[7]  However, there are many promulgators of third-party standards (e.g., B Lab, GRE, etc.), and each measures different things.  And even when they measure the same thing, they do so differently.

Here is an illustration: Patagonia’s third-party assessor is B Lab.  B Lab awarded Patagonia an environmental score of 45, which Patagonia dutifully reports in its benefit report.[8]  Seventh Generation’s third-party assessor is GRI.  Rather than providing an environmental score, GRI measures various inputs and outputs (e.g., recycled material used in manufacturing spray bottles increased from 50 percent to 100 percent), which Seventh Generation reports in its benefit report.[9]

As one commentator eloquently put it, “the market for corporate social performance information is characterized by a cacophony of indices, each measuring a different aspect, but also measuring similar aspects differently.”[10]

Why Disclosure Matters

Here, I am reminded of Easterbrook and Fischel’s admonition, “a world without adequate truthful information, is a world with too little investment.”[11]  I believe the poor state of benefit corporation disclosure is impeding the flow of capital into social enterprise.  There are many investors (i.e., angel investors) willing to invest in a social enterprise, where in addition to a financial return, they also get the “warm glow” that comes from doing good.[12]  Yet they are not.[13]  That is because potential investors cannot distinguish those benefit corporations that are doing well from those that are not.  When I use the term “doing well,” I am referring to both financial return (e.g., what is the company’s net profit) and social return (e.g., what is the company’s positive impact on the environment).

Disclosure also matters for purposes of preventing greenwashing, defined as a business portraying itself “as being more environmentally and socially responsible than they actually are.”[14]  While greenwashing is often thought of in terms of the environment, it need not be.  A benefit corporation is also representing—by virtue of choosing to be a benefit corporation—that its suppliers (often in less developed countries) treat their employees well.  That representation can be confirmed by disclosing hours worked, wages, etc.  To very loosely borrow from Louis Brandeis, “if sweatshops are a virus, disclosure is the disinfectant.”[15]

Proposal

As a starting point, I should emphasize that benefit corporations are already required to prepare benefit reports.  My proposal is that the current state-by-state patchwork of disclosure requirements—which is made worse by a reliance on third-party standards—be replaced with a uniform disclosure regime that would apply to all benefit corporations.  The proposed regime would standardize disclosure and thus allow stakeholders (both investors and the broader public) to compare and contrast competing firms.

I propose that all benefit corporations file a BC-1 with the Securities and Exchange Commission (the BC stands for benefit corporation).  The BC-1 would include both financial disclosure (allowing prospective investors to gauge financial performance) and social disclosures (allowing prospective investors to gauge social performance).  The social disclosures would also allow the broader public to guard against greenwashing.

It is, of course, important that any disclosure requirements be narrowly tailored to avoid burdening benefit corporations, many of which have limited resources.  In fact, my proposed regime may actually save benefit corporations time and money, because it would replace the current patchwork of state-by-state disclosure requirements with a single, simple regime.  There are several possibilities here.  One is that the actual disclosure schedules could be scaled based on the size of the benefit corporation (but not eliminated).  Another is that the reports be filed biannually rather than annually.

Finally, a disclosure regime is worthless without an enforceability mechanism.  While I propose that the BC-1 be filed on the federal level, states should have the ability to terminate a benefit corporation’s status in the event it fails to file.[16] Further, there should be civil liability for misstatements within the BC-1.

Many of the mechanics of such a disclosure regime remain to be worked out.  It is my hope that my article draws attention to the problem of benefit corporation disclosure and provides some ideas for moving forward.  Put differently, I hope this discussion helps benefit corporations rise to their full potential.

ENDNOTES

[1] New York passed benefit corporation legislation in December 2011. 2012 N.Y. Laws 1549 (codified as amended at N.Y. Bus. Corp. Law §§ 1701-09). Today, thirty-three states and the District of Columbia allow social entrepreneurs to form benefit corporations. State by State Status of Legislation, Benefit Corporation, http://benefitcorp.net/policymakers/state-by-state-status (last visited July 7, 2018).

[2] I use the term “free” because management is freed from the traditional shareholder-centric duty to maximize shareholder profit.  See Dodge v. Ford Motor Co., 170 N.W. 668 (Mich. 1919).  When making decisions, management of a benefit corporation can (indeed must) take into account the company’s public benefit purpose.  See N.Y. Bus Corp. Law § 1707(a)(1). However, some scholars argue that traditional corporations are flexible enough to allow pursuing a social purpose.  See Joseph W. Yockey, Does Social Enterprise Law Matter? 66 Ala. L. Rev. 767, 780-81 (2014); see also Joan MacCleod Heminway, Let’s Not Give Up On Traditional For-Profit Corporations For Sustainable Social Enterprise, 86 UMKC L. Rev. 779, 779 (2018).

[3] N.Y. Bus Corp. Law § 1708(b).

[4] Patagonia, Inc., Annual Benefit Corporation Report 10 (2017) [hereinafter Patagonia 2017 Report], https://www.patagonia.com/static/on/demandware.static/-/Library-Sites-PatagoniaShared/default/dw824fac0f/PDF-US/2017-BCORP-pages_022218.pdf.

[5] Work has also been done in this area by Ronnie Cohen & Gabriele Lingenfelter, Money Isn’t Everything: Why Public Benefit Corporations Should Be Required To Disclose Non-Financial Information, 42 Del. J. Corp. L. 115 (2017).

[6] Del. Code Ann. tit. 8, § 366(c)(2); Ky. Rev. Stat. Ann § 271B.16-210(3)(a).

[7] N.Y. Bus Corp. Law § 1708(a)(2).  Not all states require the use of a third-party standard.  See Del. Code Ann. tit. 8, § 366(c)(3); Ky. Rev. Stat. Ann § 271B.16-210(3)(b).

[8] Patagonia 2017 Report, supra note 4, at 21 (included in broader score of 152).

[9] Seventh Generation, Inc., 2015 Corporate Consciousness Report 13 (2015), https://www.seventhgeneration.com/sites/default/files/2015_seventh_generation_corporate_responsibility_report.pdf.

[10] Roy Shapira, Corporate Philanthropy as Signaling and Co-Optation, 80 Fordham L. Rev. 1889, 1898 (2012).

[11] Frank H. Easterbrook & Daniel R. Fischel, Mandatory Disclosure And The Protection Of Investors, 70 Va. L. Rev. 669, 673 (1984).

[12] Yockey, supra note 2, at 789-90; Alicia E. Plerhoples, Nonprofit Displacement and The Pursuit Of Charity Through Public Benefit Corporations, 21 Lewis & Clark L. Rev. 525, 569 (2017).

[13] See David Bornstein, How to Change the World: Social Entrepreneurs and the Power of New Ideas 278 (2007) (the inability to compare social enterprise performance leads to poor capital allocation); Mark Horowszowski, The Truth About Raising Money as a Benefit Corporation, MovingWorlds Blog (June 3, 2014), https://blog.movingworlds.org/the-truth-about-raising-money-as-a-benefit-corporation/ (stating that for-profit social enterprise finds it hard to raise capital, in part, because it is difficult to explain the hybrid nature of the corporation to prospective investors).

[14] Cohen & Lingenfelter, supra note 5, at 124.

[15] The correct quote is: “sunlight is said to be the best of disinfectants; electric light the most efficient policeman.”  Louis D. Brandeis, Other People’s Money 92 (1914).

[16] Currently, New Jersey is the only state with such power. See N.J. Stat. Ann. § 14A:18-11(d)(2).

This post comes to us from Brent J. Horton, associate professor at Fordham University’s Gabelli School of Business. It is based on his recent paper, Rising to Their Full Potential: How a Uniform Disclosure Regime Will Empower Benefit Corporations, forthcoming in the Harvard Business Law Review and available here.