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PBCs explained

Herrick Lidstone //July 10, 2013//

PBCs explained

Herrick Lidstone //July 10, 2013//

Effective April 1, 2014, Colorado corporations and certain cooperatives can elect to be “public benefit corporations” (“PBCs”).  Proponents of the 2013 amendments see it as a major step in encouraging corporations to pursue charitable, social and other causes. Others question whether PBC classification is necessary under existing Colorado law.

When the legislation is effective, a corporation can become a PBC by a two-thirds shareholder vote.  After a successful vote, the corporation must then add to its articles of incorporation at least one “public benefit” that is “artistic, charitable, cultural, economic, educational, environmental, literary, medical, religious, scientific, or technological” in nature. In addition, the articles of incorporation must state that the corporation is a PBC and the corporation must indicate so in its title and on share certificates.

Once a corporation becomes a PBC, its board of directors must thereafter balance the pecuniary interest of the shareholders with the PBC’s identified public benefits and with the best interests of those “materially affected” by the corporation’s conduct.   Directors of non-PBCs must act only in the best interests of the corporation – usually defined by profit.  The balancing requirement clearly expands the directors’ duties.  The Board may prioritize certain groups ahead of others, but the fact remains that it must display in its decision-making (and minutes) an awareness for the broader community affected by the corporation.

It is important that non-shareholder groups cannot enforce the directors’ public benefit duties.  Just like regular, non-PBC corporations, only shareholders can bring derivative actions to enforce the duties of the Board. And even then, PBC directors generally are still protected in decisions that divert some profit towards the specific public benefit.

Becoming a PBC is not irreversible. If two-thirds of shareholders later agree, the corporation can terminate its shareholder status and become a regular corporation once again.

Colorado’s embrace of PBCs fits into a larger national trend of encouraging corporations to contribute to their surrounding communities. The Delaware legislature recently passed a similar bill that is awaiting governor signature.  In addition, B Lab, a nonprofit dedicated to implementing a benefit corporation infrastructure and encouraging corporations to become PBCs, works nationally by offering a model benefit corporation act to state legislatures.  The Colorado Bar Association identified a number of significant issues in the B Lab model act and favored the greater clarity and flexibility bill found in the Delaware bill.

There undoubtedly will be some growing pains for the new PBCA as corporations and courts begin to consider how it fits in with other state and federal statutes. For example, PBCs will be subject to regulation under the Colorado Securities Act as are all business entities.  PBCs must disclose to investors that the directors must balance the interests of the shareholders with other constituencies, and their decisions may be for other than short-term, or even long-term profit. 

If PBCs raise funds intended for their “public benefit purpose” they may also have to abide by the reporting and other requirements of the Colorado Charitable Solicitations Act.  PBCs are also subject to all other laws normally impacting Colorado businesses.

In terms of federal law, PBCs will encounter issues with the Internal Revenue Code. Generally, companies can deduct ordinary and necessary business expenses from their revenues in determining taxable income.  Unless expenditures by the PBC for its public benefit fall within the definition of “marketing,” those expenditures are unlikely to be deductible.  Corporate charitable contributions are also limited by the Internal Revenue Code.

Under the federal Employee Retirement Income Security Act (“ERISA”), PBCs may be wholly unsuitable investments for trusts like employee stock ownership plans (“ESOPs”). ERISA fiduciaries are required to invest their trust funds to maximize return on investments. Where a fiduciary invests in a PBC which has a goal not tied to maximizing profit, the fiduciary may be breaching his or her standard of care.  At this point, any decision to invest in a PBC would be a personally risky decision for an ERISA fiduciary.

It is important to note that a PBC is not a “not-for-profit” corporation and contributions to the PBC will not qualify as a charitable contribution.  PBCs are “for-profit corporations” as any other regular business corporations.  The law has made it clear that regular corporations can act in a socially-responsible manner even without meeting the PBC requirements.  The PBC legislation is clear in stating that this new corporate form does not create a negative implication against regular corporations.

Given these facts, some commentators argue that carving out a place for PBCs is unnecessary under Colorado law and provides no protections that directors do not already possess. Others, however, note that normally directors are not protected in decisions that intentionally divert profit to socially-beneficial purposes, and highlight the additional protections provided to PBC directors.  As a result, forming a PBC may be attractive to some businessmen and women to engrain their long-term socially-responsible vision in the fiber of their corporation.  The PBC must be carefully operated and professionally run to take advantage of its benefits, however.  We will have to see whether PBCs play a significant role in the Colorado business environment.