The Benefit Corporation

Tuesday, 26 June 2012 00:48 -     - {{hitsCtrl.values.hits}}

A solution for loss-making SOEs?



In the USA, a new corporate entity referred to as a Benefit Corporation (B-Corp) has been brought into being. The states of Maryland, New Jersey, Virginia, California and Vermont have legislation which permits companies to combine the profit motive with the purpose of making a positive impact on society and the environment.



In their articles of incorporation, Benefit Corporations declare their public missions – things like bringing a polluted local river back to life, providing affordable housing to the poor and marginalised or promoting adult literacy.



Under the legislation, such Benefit Corporations must periodically go before a third party independent validator to prove that they are not only meeting their goals but also treating their employees, customers, communities and local environments with the same respect as their shareholders.

In keeping with the standard the B-Corp has set for itself, Benefit Corporations are liable to lose their status as a ‘B-Corp’ by not being able to establish adherence to the standards they have set for themselves on these matters by their Articles of Association.



An example of an existing third party independent validator would be B Lab, the visionary Philadelphia based alliance of more than 400 B-Corps across the country. This is a voluntary standard imposed by the B-Corps on themselves, regulated by an autonomous agency created by the B-Corp community, to ensure that they are abiding with the mission they have set out for themselves in their Articles of Association, over and above simply making a profit for their shareholders and investors. This would be over and above standards imposed by the State regulator of companies under the company law and the requirements of corporate governance.



The special feature of B-Corps is that while making a profit, they set themselves other targets to achieve in the area of community or social service or corporate behaviour, of which they monitor adherence by delegating such monitoring to an autonomous entity voluntarily. Compulsory ‘Corporate Sustainability Reporting’ is an aspect which lobbyists are promoting at the current Rio+20 UN environment Heads of Government Summit in Brazil.

 



Relevance to Sri Lanka

In Sri Lanka Company law, while there is provision for limited liability for profit and stock, also non stock and not for profit companies, limited by guarantee, there does not seem any limitation for a profit making corporate entity to include in its Articles of Association social and community service or charitable objectives.



While the Registrar of Companies may not be interested in monitoring these objectives, over and above his normal regulatory functions, there seems to be no bar on the corporates themselves establishing, recognising and delegating the monitoring and evaluation of their compliance with such social objectives, to an independent entity set up by themselves.



Certainly, one can see the possibility of investors who appreciate a social objective of the company they invest in, in addition to the profit making aspect, investing their money in such B-Corps, to further that social development objective. Of course fiscal incentives will help to promote the cause.



What is the relevance of the B-Corp model to Sri Lanka’s State-Owned Enterprises (SOEs)? State-Owned Enterprises providing utilities and services to the general public such as water, power, financial services and transport, etc. have become a liability to the tax payer in developing countries such as ours due to excessive politicisation, inefficiency, lack of accountability and colossal losses which have to be borne by the consumer/taxpayer, in addition to low quality service, whose tax money is used to subsidise these inefficient organisations, depriving the tax payer of other services which the tax money could be spent on such as education, health, infrastructure and poverty alleviation. This is on top of having to put up with the arrogant and incompetence service delivery of State-Owned Enterprises.



Many times senior politicians have decried the loss-making role and inefficiency of SOEs like the Petroleum Corporation, the Electricity Board, the State Transport Corporation and many others. At the time of the State getting into such areas of economic activity, by investing tax payers funds, through nationalisation or purchase of shares by captive State-controlled funds, various motives were put forward as the justification.



They range from plain old socialism, the need for the State to dominate the heights of the economy, basic and simple political vendetta and vengeance, the lack of the capital needed for the private enterprise to start up such ventures such as steel production, shipping lines, airlines, tyre production, telecommunication services, radio and TV channels, etc., to the need for subsidies to provide rural houses holds with bus and rail transport, with fertiliser at reasonable prices, with power and energy.



Most of these entities ended up as monopolies, which compounds the problem. Any monopoly is bad; a state monopoly in a politicised environment is the worst. They simply become a bottomless pit which drains away taxpayers’ resources, which can be put to much better use.

Badly managed, over staffed, corrupt, devoid of even an iota of customer service orientation, governments have tries various methods to overcome the problem. In 2011, of 74 SOEs, only 36 were earning enough to cover their costs; all the others lost money and the tax payer had to subsidise them to keep afloat. What a waste of money!

 



Remedies

Many remedies have been tried. One was to bring private sector managers to run the SOEs. But the politics rampant in the sector has proved too much of an obstacle. Privatisation, disinvestment by the State, setting up joint ventures, public private partnerships, etc. also have been tried.



In some cases it has worked. But unfortunately there were some misguided virtual renationalisation, through urgent bills, judicial intervention, etc. which sullied the pitch and no sensible investor will seriously look at investing in SOEs, unless cast iron investment guarantee protection is provided, which is nigh impossible in a populist democracy which knows no rule of law.



Some SOEs, which were bleeding money, after the State disinvested, were, with much difficulty and new investments, moulded into profit-making enterprises, but after renationalisation, have reverted to their old bad habit of losing money and living off the taxpayer!



On top of this, the State has been using captive funds to invest in the corporate sector through the stock market and imposes stooges as chairpersons and directors on what were earlier private companies, run by competent executive managers. While the return on investment is also questionable, the calibre of the ex-bureaucrats, ex-regulators, defeated politicians, retired soldiers, ‘hangers on’ and general ‘catchers’ and relatives and friends of powerful people appointed to run these corporates, leaves much to be desired.



The saving grace may be that some of these corporates are listed entities, therefore coming under the rules of governance imposed by regulating agencies. The pits to which SOE have fallen in Sri Lanka can be judged by the fact that most of them are unable to get their annual reports and audited statement of accounts to the Committee on Public Enterprises (COPE) in Parliament within the time, prescribed by statute.



A special program to supervise and monitor the preparation, finalisation, presentation to audit and thereafter to COPE, instituted in the early 2000s, saw some progress in keeping to a schedule, but news is that the process has since deteriorated and reverted to its old anarchy.



The comments of COPE, on the annual reports and audited accounts which reach them, is scary reading; how cavalierly the managers of public assets play ducks and drakes with them, but there is hardly any sanction and the virtual piracy carries on regardless.





Securitisation and listing of SOEs

Is there any other remedy? One remedy which has been talked about but never really tried is securitisation of SOEs and thereafter listing them on the stock market. The requirement of compliance with the regulations of the Colombo Stock Exchange (CSE), the Securities and Exchange Commission (SEC) and the Registrar of Companies (RoC), it is argued, will impose a discipline, the discipline of the market, on the SOEs which a politicised system of bureaucratic management and supervision can never impose.



The readers will recall former State/private enterprise joint venture of the Ceylon Hotels Corporation and Kandy Hotels Co. (1938) Ltd., both which the State later disinvested. Of course the critics will shout themselves hoarse on covert privatisation, crony capitalism, etc. But the recently-reversed National Savings Bank-The Finance Company transaction, which stank to high heaven, surely imposes some sort of moral limitation, on that chorus?



The other argument is, what about the social objectives of SOEs, for example ‘electricity for all’ by the Ceylon Electricity Board, subsidised diesel and kerosene for the poor and marginalised by the Ceylon Petroleum Corporation, subsidised rural transport by the Transport Board and the Bank of Ceylon funding a bankrupt Cricket Board with loans of depositors’ money?



It is well known that rural electrification, through connecting rural households to the national power grid, can never ever provide a return on investment, the average rural household’s consumption of power being so low that the capital cost of connecting up isolated rural households can never be recovered by consumption charges.



In the same way, the cross subsidy provided by high petrol prices which helps to subsidise diesel and petrol distorts the economic environment, by multimillionaires driving around in diesel SUVs, polluting the environment and pushing the consumption of diesel fuel to unsustainable levels. Some ceramic factories even converted their furnaces to kerosene to profit from the subsidy.



The Cricket Board has been described as one of the most corrupt institutions in the country, by no lesser person than a one-time Minister of Sports and is a serial loser of money; the Bank of Ceylon depositors can wave goodbye to their funds lent to that entity.

 



Social objective

If the securitisation solution to controlling the excesses and abuses of SOEs is taken, the concept of the Benefit Corporation can be used to protect the so-called social objective of the SOE, if that social objective is deemed essential.



For example, when the Ceylon Electricity Board is converted into a company for the purpose of its shares being listed on the stock exchange, the Articles of Association could be written to include the social objective of ‘electricity for all’.



On top of this, other important objectives, such as the obligation to generate power from sustainable renewable energy sources as an alternative to relying on expensive and polluting oil and coal, can also be written into the Articles.



In the same way for the Petroleum Corporation, the obligation to supply subsidised kerosene to the poor and marginalised and the duty of the Bank of Ceylon to support popular sports can be included in the Articles of the B-Corp, which succeeds the SOE



In the same way a B-Corp succeeding serial loss-maker Mihin Air can, by its Articles of Association, have as a social mission subsidising the travel of pilgrims to Bodh Gaya or housemaids to West Asia.



Those who oppose the securitisation on the grounds that it is a covert privatisation should note that no investor in his right mind will purchase shares in a B-Corp which such expensive and unaffordable social objectives!



On the other hand social activists may be interested in taking a stake in such a public utility B-Corp, to have the legal standing to go before the validator, which would have to be established, and challenge the B-Corp, as to whether the B-Corp is in reality working towards the social objectives set out in the Articles and further the efficiency and viability of the approach.



If the example of the Bank of Ceylon and Cricket Board is considered, social activists may go before the validator and argue that some other viable collateral other than ‘future earnings’ should be made available as collateral, as the Cricket Board in its recent history earned nothing more than continuing losses!



Or in the case of the Petroleum Corporation, if diesel fuel has to be subsidised, at least negotiate with the Government, through the validator, to have the need for catalytic converters to be fitted on to the exhaust pipes of such diesel vehicles to minimise the environmental pollution.



Setting up an autonomous validator may be a challenge in our highly-politicised culture, but again, if this requirement is articulated clearly in the Articles and strengthened by a requirement that the B-Corp is obliged by the Articles to cooperate with other B-Corps in setting up an autonomous and independent validator and contribute towards the costs, it may be a solution.

 



Example of a B-Corp

An example of a B-Corp would be a corporate named Patagonia of Ventura, California, an outdoor and adventure clothing company, with annual sales of more than US$ 414 million. Patagonia’s Vice President for Environmental Initiatives has gone on record saying that drafting of the company’s Articles of Association was “the most fulfilling and satisfying thing that I’ve ever done”.



The company’s corporate philosophy is reflected in the founder Yvon Chouinard’s autobiography: ‘Let My People Go Surfing’. Patagonia has converted its business, environmental and social values laid out by Chouinard into a legally-binding corporate credo.



Patagonia made a complete study of various corporate models before deciding that B-Corp suited their business culture best. Patagonia sees the B-Corp as a middle way between traditional listed companies, whose directors have to chase profit to the exclusion of all else, and non profit organisations, such as charities.



Social entrepreneurs like Chouinard feel that the global re-examination of corporate models, after the recent financial and economic crisis, has presented itself with an opportunity, due to the wave of change swirling through capitalism, to make fundamental changes in some long-held preconceptions about the way business is done.



John Montgomery, a Silicon Valley corporate lawyer, says: “It’s either a paradigm shift or it’s a fringe movement – and I think it’s the former.” Corporates that wish to enshrine the triple bottom line approach to business, combining environmental and social considerations with economic ones, now have the B-Corp model.



A new class of corporate entity

B-Corps is a new class of corporate entity. Like not for profit corporate entities, B-Corps can pursue a wide range of social missions. Like for profits, B-Corps can generate a broad range of beneficial products, including a return on investment for investors, and services that improve the quality of life for consumers, create jobs, and contribute to the economy.



B-Corps represent a new paradigm in organisational design. They aim to link two concepts, which in other models are falsely thought to be contradictory, i.e. private interest and public benefit. B-Corps seek to maximise benefit to all stakeholders, and because of their structure they can embody some of the best attributes of other organisational forms. They strive to be transparent, accountable, effective, efficient, democratic, inclusive, open and cooperative.



The B-Corps, in terms of its Articles of Association, have a social purpose embedded in its organisational structure, the right to conduct any lawful business activity which is consistent with its social purpose and stakeholder responsibilities, it equally distributes ownership rights among all its stakeholders in accordance with their contributions, it provides for stakeholder governance by sharing information and control among stakeholder constituencies as they develop, employees and other stakeholders are fairly compensated in proportion to their contributions, investors are rewarded subject to reasonable limitations that protect the ability of the organisation to achieve its mission as laid out in the articles of Association, it is committed to continuously improve its social an environmental performance throughout its stakeholder network, it is committed to full transparency – a full and accurate assessment and reporting of its social, environmental, and financial performance and impact and its assets are protected in that a B-Crop can merge with and acquire any other company, as long as the resulting entity is also a social purpose entity. In the event of liquidation, the assets of a B-Corp remain dedicated to social purposes and may not be used for private gain beyond reasonable limits of compensation.



Most importantly, B-Corps sends a powerful message to shareholders, employees, business partners and consumers about what kind of corporate entity is being run. This signal generates instant branding, internal cohesion and consumer enthusiasm. It imposes a responsibility on managers of the B-Corp to be responsive to all stakeholders, in the widest sense, while at the same time run a viable business with a social mission, in an open, transparent and accountable manner. How different from the way our SOEs are run and managed now?



This may be the only way to bring in some sense, transparency and accountability into Sri Lanka’s SOE sector and safeguard taxpayers’ money.




(The writer is a lawyer, who has over 30 years experience as a CEO in both government and private sectors. He retired from the office of Secretary, Ministry of Finance and currently is the Managing Director of the Sri Lanka Business Development Centre.)

 

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