LAW AND SOCIAL ENTREPRENEURSHIP

CROWDFUNDING: THE REAL AND THE ILLUSORY EXEMPTION

From the Harvard Law Review – Volume 4, Issue 2

Crowdfunding is commonly defined as raising small amounts of capital from a large number of people over the Internet. To avoid the expense of securities regulation, companies often crowdfund by giving away rewards (such as a free t-shirt) instead of selling stock or other securities. In April 2012, Title III of the JOBS Act sought to change this status quo by directing the Securities and Ex- change Commission (SEC) to facilitate securities-based crowdfunding through websites like Kickstarter. Congress and the President believed this would broaden access to sidelined capital and help companies grow and hire. But this “retail crowdfunding” exemption, open to all investors, was not the only means of crowdfunding in the bill. A last minute compromise, which has been largely overlooked, expanded the ability of issuers to use the private placement exemption, as revised in new Rule 506(c), to crowdfund from accredited investors. This “accredited crowdfunding” exemption provides a less regulated capital-raising alternative to retail crowdfunding that is available to the same companies and more.

This article is the first to examine the impact that accredited crowdfunding will have on retail crowdfunding. It claims that accredited crowdfunding is likely to dominate and, depending on SEC action, could render retail crowdfunding superfluous or a market for lemons. But it also claims that accredited crowdfunding—when compared to traditional private placements—may face a similar lemons problem over the longer term on account of rules that discourage investors from fending for themselves. These potential problems threaten to under- mine the social welfare goals of the JOBS Act: increasing access to capital, spurring business growth, and creating jobs. But the SEC can minimize these problems and promote social welfare by strengthening the bargaining incentives of accredited investors and encouraging retail investors to piggyback off of ac- credited investors’ work. The normative section of this Article provides targeted recommendations that balance the need for capital formation against a novel incentives-based theory of investor protection.

Full article can be found here

M&A UNDER DELAWARE’S PUBLIC BENEFIT CORPORATION STATUTE: A HYPOTHETICAL TOUR

From the Harvard Law Review – Volume 4, Issue 2

Noting the enthusiastic initial response to Delaware’s 2013 public benefit corporation statute, this Article presents a series of hypotheticals as vehicles for comment on issues that are likely to arise in the context of mergers and acquisitions of public benefit corporations. The Article first examines appraisal rights, concluding that such rights will be generally available to stockholders in public benefit corporations, and noting the potential for ambiguity in defining “fair value” where the corporation’s purposes extend to public purposes as well as private profit. Next, the Article examines whether and to what extent “Revlon” duties and limitations on deal protection devices may be relaxed or modified in the context of the sale of a public benefit corporation. Finally, the Article examines whether and to what extent a commitment to promote the specified public purposes of a public benefit corporation can be made enforceable against the buyer of the corporation

Full article can be found here

MAKING IT EASIER FOR DIRECTORS TO “DO THE RIGHT THING”?

From the Harvard Business Law Review – Volume 4, Issue 2

Some scholars argue that managers should take constituencies other than stockholders into account when running a corporation, and refuse to put short – term profit for stockholders over the best interests of the corporation’s employees, consumers, and communities, as well as the environment and society generally. In other words, they argue that managers should “do the right thing,” while ignoring that in the current corporate accountability structure, stockholders are the only constituency given any enforceable rights, and thus are the only one with substantial influence over managers. Few commentators have pro- posed real solutions that would give corporate managers more ability and greater incentives to consider the interests of other constituencies.

This Article posits that benefit corporation statutes have the potential to change the accountability structure within which managers operate. These statutes create incremental reform that puts actual power behind the idea that corporations should “do the right thing.” Certain provisions of the Delaware benefit corporation statute are discussed as an example of how these statutes can create a meaningful shift in the balance of power that will in fact give corporate managers more ability to and impose upon them an enforceable duty to “do the right thing.”

But this Article acknowledges that several important questions must be answered to determine whether benefit corporation statutes will have the durable, systemic effect desired. First, the initial wave of entrepreneurs who form benefit corporations must demonstrate a genuine commitment to social responsibility to preserve the credibility of the movement. Second, because the benefit corporation model relies on stockholders to enforce the duties to other constituencies, socially responsible investment funds must be willing to vote their long-term consciences instead of cashing in for short-term gains. To that end, it is crucial that benefit corporations show that doing things “the right way” will be profitable in the long run. Third, benefit corporations must pass the “going public” test. Finally, subsidiaries that are governed as benefit corporations must honor their commitments and grow successfully, if the movement is to grow to scale.

Click here for the complete article.

ELLO AND SOCIAL ENTERPRISE

Cross-posted at Business Law Prof Blog.

My co-blogger Stefan Padfield [at Business Law Prof Blog] passed along this article from The New York Times Dealbook on the social network Ello.

Ello is a Delaware public benefit corporation. The social enterprise terminology is proving difficult, even for sophisticated authors at the New York Times Dealbook. The article calls Patagonia and Ben & Jerry’s public benefit corporations. Patagonia, however, is a California benefit corporation. I wrote about the differences between public benefit corporations and benefit corporations here. Ben & Jerry’s is a certified B corporation, but, as far as I know, Ben & Jerry’s has not yet made the legal change to convert to any of the social enterprise forms. I wrote about the differences between benefit corporations and certified B corporations here and here. Just as my co-blogger Joshua Fershee remains vigilant at pointing out the differences between LLCs and corporations, so I will remain vigilant on the social enterprise distinctions.

Besides my nitpicking on the use of social enterprise terminology, there are a few other things I want to say about this article.

First, Ello raised $5.5 million dollars, which is not that much money in the financial world, but puts Ello in pretty rare company in the U.S. social enterprise world. The vast majority of U.S. social enterprises are owned by a single individual or family; some social enterprises have raised outside capital, but not many. The increasing presence of outside investors in social enterprise means two main things to me: (1) the social enterprise concept is starting to gain some traction with previously skeptical investors, and (2) we may see a shareholder derivative lawsuit in the near future, which would give us all more to write about.

Second, Ello included a clause in its charter that “forbids the company from using ads or selling user data to make money.” This provision seems a direct response to the eBay v. Newmark case. The business judgment rule provides significant protection to directors and, at least theoretically, should calm many of the fears of social entrepreneurs. But risk adverse individuals may seek additional layers of protection.

Third, Ello claims that their charter provision “basically means no investor can force us to take a really good financial deal if it forces us to take advertising.” This seems overstated.  Charters can be amended, but at least the charter puts outside investors on notice. This provision in the charter does not, however, protect against a change of heart by the founders and a selling of the company (such as in the case of Ben & Jerry’s sale to Unilever).

Fourth, this October 4, 2014 article claims that Ello is pre-revenue. The NYT Dealbook article notes that “[u]sers will eventually be able to download widgets and modifications, paying a few dollars for each purchase.” (emphasis added). Ello seems to be one of the growing number of technology companies that are being valued by number of users rather than by revenues or profits. Ello “grew from an initial 90 users on Aug. 7 to over a million now, with a waiting list of about 3 million.”

Fifth, even if traditional investors are (somewhat) warming up to social enterprises, social entrepreneurs still seem to be a bit skeptical of traditional investors. When raising money, Ello “drew the attention of the usual giants in the venture capital world. . . . But Mr. Budnitz said he instead turned to investors whom he could trust to back the start-up’s mission, including the Foundry Group, whom he came to know when he lived in the firm’s hometown, Boulder, Colo.” There are increasing sources of capital for social enterprises from investors who also have a stated social goal (See, e.g., JP Morgan’s May 2014 survey of impact investors).

Some in the academic world have wondered if social enterprise is just a fad. While I am confident that the space will and must continue to evolve, if it is a fad, it has already been a long-running one. The names and details of the statutes may change, but I see a growing interest in marrying profit and social purpose, and I think that interest is likely to continue in some form.