Alternative legal structures for value-driven nonprofits

Legal structures define how businesses will be held accountable in the court of law.
Nonprofits are entirely different structure than pure for profit organizations. As time goes on, more and more private corporations are becoming socially aware and wanting to combine profit with some product or service that simultaneously benefits society. Nonprofit organizations exist as executors of a socially beneficial service or product. This paper will discuss the benefits and disadvantages that both of these structures face. Additionally, this paper will examine benefits of the nonprofit sector’s consideration of newer legal structures as a future platform for business.
There are many reasons nonprofits may want to adjust business as usual but, here are just a few: Experts are predicting that with the current economic environment eating away at nonprofit’s primary sources of funding (charitable donations and foundation funding), that as many as 100,000 of the nations roughly one million nonprofit organizations will close their doors in 2009.(REF)” This is the reality for most organizations across the board. The credit market and the capital market turned upside down during the economic crisis in 2008. Foundations are making fewer grants because their endowments portfolios also changed along with the recent recession. Economic turmoil affects for profits and nonprofits differently, but, it makes sense for nonprofits to plan for business cycles, booms and busts, and periods when donors just aren’t lending as much.
Nonprofits can learn from businesses and for-profits businesses can learn from nonprofits. Nonprofits and for-profits need to start working together. One alternative legal structure that allows them to do this is the L3C. The L3c legal structures are a fairly new way to fulfill a social mission. As of now, their structures is only approved in a handful of states
(although, they are recognized by all the states in the U.S. ) and up for consideration in Georgia.
“ A hybrid of a nonprofit and for-profit corporation, the L3C is run in a similar way to a for- profit company, but is like a nonprofit in that its mission is to do something for the social good.(REF)” The L3C, unlike most nonprofits, generates a profit but that is not its sole priority.
Like for-profits, an L3C is not tax-exempt, but it can seek investors and investments that are program related for funding. The IRS also puts restrictions on how much profit an L3C can make and the amount of property it can own. While 501(c)4 can lobby as nonprofit organizations, L3Cs are not allowed to engage in political work. In order to receive L3c status, the organization must make clear that fulfilling a charitable goal is the primary reason for existence. L3Cs are intended to take advantage of two major sources of capital. They can both attract capital investment from for-profit enterprises and investment by foundations.
Nontraditional for-profit investors who are willing to sacrifice market-level returns in exchange for social impact are prime candidates to provide capital investments or loans to L3Cs. Similarly, private foundations that wish to provide support in the form of a loan or equity rather than a grant may find an L3C to be attractive because the enabling legislation is written in such a way as to comply with the IRS “program related investment” or “PRI” regulations, thus eliminating the need for private letter rulings or legal opinions for such investments. PRIs can be attractive to foundations because they count toward its 5% minimum payout requirement, just as if they were grants. But if the investment is successful, the foundation could recapture the full amount of the investment, plus a reasonable rate of return, which it then must pay out again in the form of grants or more PRIs.
Existing nonprofits can also potentially benefit fromt the L3c structure. Existing nonprofit corporations can utilize the L3C structure in at least two ways. First, if the nonprofit generates enough earned income to qualify as “low profit,” it could reincorporate as a stand- alone L3C. Second, it could establish a subsidiary as an L3C to conduct low-profit earned income activities.

Another type of legal structure that nonprofits may want to consider is a B Corp. One nonprofit, B Labs, certifes B-corporations; "companies that meet strict legal accountability, environmental, and social performance standards--has only been around for half a decade.(Schwarz)""There are currently about 280 companies representing over 60 industries that have been certified as B Corps since mid-2007, according to B Labs co-founder Jay Coen
Gilbert. While B Corp is not yet legally recognized as a standalone business classification, companies that have received the distinction are part of a significant group of social enterprises
(including Seventh Generation, Method, and White Dog Café) that have chosen to operate according to a higher set of standards (Schweitzer)."

Alternative legal structures for value-driven nonprofits(Examples; Toms, BWB, 7th generation,)

Turning a profit has been essential to the success and impact of the previously mentioned organizations. Toms could not have donated thousands of shoes without the revenue they make from selling shoes for $50+ dollars in the U.S. and other developed countries. Financial health enables organizations to be a successful social enterprise. “According to Nelson, there's a saying in the social entrepreneurship community: "No margin, no mission," and Hollender at Seventh
Generation was a case in point. He says the biggest mistake he made when he was first starting out was he focused too much on his mission at the exclusion of profits and, as a result, the company functioned largely as a non-profit for the first 13 years in business.(REF)” Now, if you enter into a Target, Walmart, or many other local retail stores, you will Seventh Generation products lining a long stretch of the cleaning supplies section. While Hollender was operating for thirteen years as a nonprofit, they were forced to constantly raise additional capital until they were able to balance out the business side with their mission. Profit margins can influence the mission and help direct how much impact an organization can have.
It is quite possible that a shift towards L3cs or B Corps and a drift from the traditional nonprofit sector could lead to negative consequences. Businesses may attempt to abuse this particular system even though it is supposedly set up so that extensive profit gathering is not allowed. However, people have been known to find loopholes and with
L3cs being a relatively new concept, several scenarios could occur. For one, some for- profit companies which originally intend to develop a nonprofit arm may forego the route of zero returns and seek to make a low profit instead. This is not inherently bad but, many people are attached to the zero profit concept of the sector. When zero profit is involved, there is less reason to question motives. Additionally, some issues nonprofits face will not go away but morph into a problem with a different source. For example, resource dependency, isomorphism, and goal displacement are three problem that nonprofits already combat. According to the resource dependency theory, we can understand an organization’s function by observing their interaction with their external resource providers. Isomorphism refers to an organization’s likelihood to mimic practices and structure of its grant providers. In short, goal displacement describes the actions a nonprofit takes in order to satisfy their contributors(“Worth 2009 pg. 47). These would not be new problem if nonprofits switched legal structures. However, if we agree with these theories, we can expect nonprofits to behave more like private corporations and foundations if those entities become the new main sources of income.

Future Problems
Right now, there is no “low profit” police. No one will be watching over your shoulder deciding how much profit is too much profit. Ultimately, social purpose is your guiding star and if you’ll have to answer to anyone, regarding profit, it may be those that that your L3C serves.

t is too early to tell whether L3Cs will proliferate and whether they will attract significant investments from non-traditional investors and foundations. Some experts have predicted that since PRIs comprise a relatively small amount of foundation grants and capital, the L3C will not succeed in attracting significant funds from foundations and thus this form of organization will not become the preferred vehicle.

Tamara Schweitzer
Mar 31, 2010
How to Build a Values-Driven Business

Low-Profit Limited Liability Companies http://www.lawforchange.org/NewsBot.asp?MODE=VIEW&ID=2238

August, 14,2009How-to: An Insider’s Look at the L3C and What it Could Mean For You and Your Social
Enterprisehttp://www.socialearth.org/how-to-an-insider%E2%80%99s-look-at-the-l3c-and-what-it-could-mean-for-you-and-your-social-enterprise

Scwarz, A. The 20 Best Businesses For The World. Coexist
http://www.fastcoexist.com/1679419/the-20-best-businesses-for-the-world