A guide to selecting a legal form for your business that will maximize social impact

Article

The introduction of the limited liability company in the early 1800s has empowered entrepreneurship and innovation to the point where some companies are more powerful than countries nowadays. A major caveat is however that business has been permitted, and at times even endorsed, to operate contrary to social and environmental interests. The stakeholder-centric model of doing business was only introduced relatively recently and is still far from the norm.

Although some jurisdictions have introduced pioneering legal structures for social enterprises, they may not be the most suitable for you, even if you want to pursue a social impact purpose.  There are many great resources that set out the pros and cons of various legal forms for social enterprise under different jurisdictions.

·      United Kingdom: Link
·      United States: Link
·      India: Link
·      South Africa: Link
·      EU Countries: Link (Page 114 onwards)

 Over the past decades, there has been increased attention for business’ complicity in the furtherance of major social issues, such as discrimination, income inequality, an array of human rights abuses, and the climate crisis. Albeit negatively, the legal forms adopted by companies globally obviously have the potential to be very impactful.

First steps

The above resources set out in detail the pros and cons of various legal forms in different jurisdictions. Regardless of your jurisdiction, there are important considerations prior to incorporation if you want to select the most suitable legal form. The purpose of this article is therefore not to describe the options available to you one by one, but rather the long-term factors you need to take into account when you make your decision.  

Your business can have significant social and environmental impact irrespective of the legal structure your select. Selecting a legal social enterprise form does not make the business undertakings any more impactful. Yet, the legal structure does influence the governance and operations of the business and some legal forms will suit your purposes better than others.

The most important issue facing entrepreneurs who want to pursue a social purpose through a corporate form is the contradiction between the social mission and growth/profit-making. The selection of a non-traditional legal form may put more legal pressure on directors and officers to pursue a social mission. Rather than a value-driven commitment, it will be a legal obligation. A major benefit to the novel social entrepreneurship legal models (such as the CIC in the UK, the B corporation in the US, and the BVm in the Netherlands) is that they reduce the risk of litigation for directors or officers for breach of a fiduciary duty (to the extent relevant in the jurisdiction).

Choosing a legal structure

The main considerations for selecting the legal structure that will allow you to pursue your social mission and maximize your social impact.

An important question to ask prior to setting up your business is whether you intend to scale the business, and if so, how quickly you want to do so. Scaling the business, especially if you want to do it on a short timeline, requires a significant amount of funding. The sources of funding a business has access to, depend on its legal form. All legal forms will have access to debt financing. For example, certain trusts or donors will only fund companies if they do not distribute profits. Most limited liability companies or corporations however are able to attract equity investment.

 You will also need to think about profit distribution once the business is up and running. External investors will expect a return on their investment. Depending on how you set up your business, this return might be capped in order to serve certain social missions. Profit distribution is however one of the main points of conflict between the financial and social interests of different parties.

Conclusion

The legal structure you choose has great impact on funding and financial considerations for the business. We would argue that your decision will depend mostly on your mission. What is the social or environmental issue you are trying to solve? Is that the core mission to your business, or a supplementary one? The consideration of whether, and how, you want to scale-up should be at the basis of any decision to incorporate a business. In the current business climate, it is difficult to scale-up using external financing if there is little promise of a return on investment. However, properly governed traditional business structures may be extremely impactful and perfectly serve your social mission. We make the case that traditional legal structures are great tools to be used to further social or environmental missions, provided that the necessary steps are taken to ensure governance of the company is held to the proper standards. Even though there are options available to you that are tailored to social entrepreneurship in multiple jurisdictions, you need to consider whether these will allow you to bring your business to the scale where it needs to be to have impact.