Two weeks ago, we forecast that Colorado would join 15 other states in allowing for the creation of benefit corporations. House Bill 13-1138 had passed both the Colorado House and Senate, and was awaiting the governor’s signature. On May 15, 2013, Governor Hickenlooper did, indeed, sign the Bill into law officially making benefit corporations an additional choice of entity in Colorado for social enterprises, starting April 1, 2014.

Technically, these new hybrid entities will be called “public benefit corporations” rather than “benefit corporations” in Colorado. But the idea is basically the same: they are for-profit corporations that are authorized and directed by statute to serve a dual purpose of pursuing profits and promoting social objectives.

Today’s post is the second of a four-part series designed to inform our readers about these new hybrid entities and their potential implications for (or intersections with) the nonprofit sector:

1. Our first post provided a brief history of the Public Benefit Corporation Act of Colorado (the “Act”), described how these new entities came to be called “public benefit corporations” rather than “benefit corporations,” and expressed our concern about potential confusion with the use of that term in the nonprofit sector.
2. This second post provides an overview of how public benefit corporations will be organized and operated in Colorado, starting April 1, 2014.
3. The third post, next Wednesday, will discuss the potential impact of the Colorado Charitable Solicitations Act on these new entities, and whether they will be on a level playing field with the nonprofit sector when it comes to charitable sales promotions.
4. The fourth post, in two weeks, will discuss other implications for the nonprofit sector, such as whether benefit corporations qualify for program-related investments by charitable entities.

What is a public benefit corporation in Colorado? The new law defines a “public benefit corporation” as a for-profit corporation that is formed under the Colorado Business Corporation Act, which is intended to produce public benefit and operate in a responsible, sustainable manner. To this end, the corporation will be expected to balance (i) the pecuniary interests of shareholders, (ii) the best interests of those materially affected by the corporation’s conduct, and (ii) the public benefit identified in the corporation’s articles of incorporation.

Why do we need these entities? The impetus for the new law grew largely out of a desire to protect corporate directors, who wish to make decisions based on public benefit in addition to profits, or to consider the interests of other groups in addition to shareholders, against potential derivative lawsuits by shareholders. Under traditional notions of corporate law, it has been understood that directors have a duty to the shareholders to maximize profits to the exclusion of all other considerations. While many non-traditional decisions can be blessed under the business judgment rule—such as only utilizing packaging made from recycled materials—this is often justified under marketing or another area that is ultimately linked to profit, and such initiatives are generally fairly limited in scope. Colorado’s new law will expressly authorize and direct directors of public benefit corporations to balance all the relevant considerations, and protect them against liability for doing do.

What is considered a public benefit? The Act defines “public benefit” as “one or more positive effects or reduction of negative effects on one or more categories of persons, entities, communities or interest other than shareholders in their capacities as shareholders, including effects of an artistic, charitable, cultural, economic, educational, environmental, literary, medical, religious, scientific, or technological nature.”

How does one become a public benefit corporation? Once the new law becomes effective, the corporation will be required to have on file with the Colorado Secretary of State articles of incorporation that (i) state at the beginning that the entity is a public benefit corporation, and (ii) identify in the statement of purpose the specific public benefits to be promoted by the corporation. In addition, the corporation will be required to include the words or abbreviation “public benefit corporation,” “p.b.c.” or “pbc” in its name. Last, any shares of stock (or notices as to uncertificated stock) will have to conspicuously state that the entity is public benefit corporation.

For an existing corporation, two-thirds approval of all shareholders of each class (both voting and nonvoting) will be required to become to a public benefit corporation (or to cease being a public benefit corporation once established), whether that occurs by virtue of an amendment to the articles of incorporation, a conversion or a merger with another entity. Shareholders will be allowed to exercise dissenters rights as to any action that would result in an existing corporation becoming a public benefit corporation.

What laws will govern public benefit corporations? Because public benefit corporations are, in essence, a special type of for-profit corporation, they will be subject to all of the provisions of the Colorado Business Corporation Act and the Colorado Corporations and Associations Act, except to the extent that the new law imposes additional or different requirements, in which case the latter will apply.

What are the fiduciary duties of directors in this context? In managing the affairs of the corporation, directors will have an affirmative duty to balance (i) the pecuniary interests of shareholders, (ii) the best interests of those materially affected by the corporation’s conduct, and (iii) the public benefit identified the corporation’s articles of incorporation. For decisions implicating this balance requirement, directors will be deemed to have satisfied their fiduciary duties to both the shareholders and the corporation if the decision is informed, disinterested and not such that no person of ordinary, sound judgment would approve. The new law is clear that directors will not owe additional fiduciary duties to members of the public by virtue of their interest in the corporation’s specified public benefit, or because they have an interest that materially affected by the conduct of the  corporation.

What are the fiduciary duties of officers in this context? The Act is silent as to the duties of officers, but presumably, they too will be required to balance (i) the pecuniary interests of shareholders, (ii) the best interests of those materially affected by the corporation’s conduct, and (iii) the public benefit identified the corporation’s articles of incorporation.

How will the corporation be accountable for the public benefit? Each public benefit corporation will be required to select a “third-party standard” against which the corporation will define, report and assess its overall social and environmental performance. It is important to note, however, that the assessment will not have to be performed, audited or certified by a third party. Rather, there will just need to be a third-party standard against which performance can be measured.

The third-party standard must be prepared by an independent organization that makes publicly available (i) the criteria considered when measuring performance, the relative weighting of those criteria and any process for development or revision of the standard; and (ii) any material owners of the developer of the standard, its directors and their method of selection, and sources of financial support in order to disclose relationships that potentially could compromise independence.

Based on this third-party standard, each public benefit corporation will be required to prepare an annual “benefit report” for its shareholders and make that report publicly available. The report must include:

• A narrative description of (i) the ways in which the corporation promoted its specified public benefit and the best interests of those materially affected by the corporation’s conduct; (ii) any circumstances that hindered that promotion; and (iii) the process and rationale for selecting the third-party standard; and
• An assessment of the corporation’s overall social and environmental performance against the third-party standard, applied consistently with use of the standard in previous reports (or an explanation for any inconsistent application).

Shareholders will be allowed to pursue a derivative suit to enforce the public benefit requirements, if certain ownership thresholds are met.

What is the difference between Colorado’s legislation and B Lab’s model legislation? As mentioned in our first post, model benefit corporation legislation was developed by B Lab, a nonprofit corporation which operates a proprietary certification program related to the model legislation. That legislation has been adopted in several states and differs in several material respects. In addition to the different entity name, the key differences are:

• The model legislation requires benefit corporations to have a purpose of creating  general public benefit, defined as “a material positive impact on society and the environment, taken as a whole.” They may have specific public benefit purposes as well, such as improving human health, promoting the arts or sciences, or increasing the flow of capital to entities with a public benefit purpose, but a specific public benefit purpose alone is not sufficient.
• The model legislation requires directors, for each decision, in carrying out their fiduciary duties, to consider several non-financial interests, including the interests of the employees and work force of the benefit corporation, its subsidiaries and suppliers; customers as beneficiaries of general or special public benefit purposes; community and societal considerations; and other pertinent factors or interests of any other group that the directors deem appropriate.
• The model legislation requires the presence of a “benefit director” in some circumstances, who is responsible for preparing an opinion whether the organization acted in accordance with its benefit purposes and whether directors and officers acted in compliance with their duties.

Check back next week for Part III  in our series on Colorado public benefit corporations.