Benefit Corporations and Certified B Corps: A Case of Tomato v. To-mah-toe?

Are Benefit Corporations and Certified B Corps simply a case of tomato versus to-mah-toe?

Not quite.

As their names suggest, Benefit Corporations and Certified B Corps do have much in common. They are linked by the idea of running a company using socially and environmentally driven business practices. In fact, it appears this key similarity has led to the interchangeable, and incorrect, use of the terms by some parties when describing socially conscious businesses.

Benefit Corporations and Certified B Corps share other similarities as well. Directors of both must consider the effects business decisions may have on parties other than shareholders-parties such as employees, the local community, and even Mother Nature. In addition, the social and environmental goals of each must be assessed against a neutral, third party standard. This assessment is then published in a public report for all to see. B Lab, a non-profit organization, is also connected to both types of entities. B Lab is a non-profit that certifies and supports Certified B Corps and helps provide access to the network of other Certified B Corps for support and other services. In addition, B Lab helped develop the model benefit corporation statute that many states have used in drafting their own benefit corporations laws.

However, despite these similarities, and incorrect interchangeable use, the differences between Benefit Corporations and Certified B Crops are significant, and could carry many implications.

One of the key differences is that a Benefit Corporation carries a legal status bestowed by the state. This means Benefit Corporations are subject to the specific provisions of the statute creating their existence. Certified B Corps do not necessarily have this recognition (unless of course a business is a Benefit Corporation AND a Certified B Corp). Instead, certification is granted to a business operating as a different type of business entity, such as a regular business corporation, limited liability company, or partnership. Think of it as a third party seal of approval.

This difference in status may create implications for a Certified B Corp in its pursuit of its social goals. While directors are protected under the benefit corporation statute for decisions made in furtherance of a general public benefit (or a specific public benefit for that matter), Certified B Corps not formed as a benefit corporation do not necessarily have the same protection. In other words, Certified B Corps are still subject to the established practice of emphasizing shareholder returns over all else. Should stakeholders in a Certified B Corp begin to value profits over certification and social aims, both the directors’ and the company’s mission may be at risk.

On the flip side, Certified B Corps are given opportunities due to their certification status that non-certified Benefit Corporations do not have. To obtain certification, companies must score 80 out of 200 points on B Lab’s Impact Assessment. Once granted, certification offers certified companies access to a range of services and support from both B Lab and other certified businesses. These services not only provide access to the network of other Certified B Corps, but also help with raising money, marketing, and business growth. Legal status alone does not grant a Benefit Corporation access to these types of benefits.

Clearly, Benefit Corporations and Certified B Corps should not be mistaken for one another. Each offers distinct benefits and disadvantages, but mistaking one for the other could carry future implications. Any business looking at legal recognition and/or certification should be sure to understand the differences between the two before making any decisions on which path to follow.

Yet, businesses truly committed to making the world a better place though social and environmental good may want to consider both. Legal recognition would help ensure the company stays true to its social mission and third party certification would provide access to a series of benefits supplied by the network of certified businesses. Combined, both may show consumers that the business is committed to furthering its mission and provide a competitive edge in a market where such consumers are becoming more conscious of their purchasing power.

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It’s Not “Just Good Business” Anymore – It’s Better Business.

“It’s just good business” can have such a negative meaning. The idea that profit should outweigh all other business considerations—a fact the law not only recognizes, but protects—can be distasteful to some consumers and young professionals who want to be a part of something more than just growing the bottom line. Many want to be a part of something greater that publicly is committed to having a positive impact on our communities and the world around us.

And now they can.

Effective January 1, 2016, Indiana will become the 28th state to recognize a new type of business organization/entity—the benefit corporation. A benefit corporation is a for-profit entity formally and legally committed to benefitting society and the environment as well as making a profit. This creates a triple bottom line: people, planet, profit.

What makes benefit corporations so unique? Under the new law, the founders of a benefit corporation incorporate their social mission directly into the company’s founding documents. This is because the purpose of a benefit corporation is to create a “general public benefit.” Consequently, unlike traditional for-profit entities where the general expectation is that they will maximize shareholder value, a benefit corporation must consider other factors such as employees, the environment, and societal concerns in order to accomplish that purpose and its mission.

These required additional considerations provide protection for a benefit corporation’s social goals. The creation of a “general public benefit” is the foundation of the law establishing benefit corporations. Quite simply, a benefit corporation exists to carry out its mission, and that mission cannot simply be abandoned in favor of larger profits. The law requires that the mission be pursued. This not only allows the founders’ mission to be integrated into the organization’s founding documents, but allows for the protection of that mission over time.

The benefit corporation structure can provide the means to fund a company’s social mission as well. Quite often, funding social and environmental issues can be difficult since stakeholders rarely see a return on investment. Yet by tying a social mission together with a for-profit enterprise, some investors may be more likely to contribute capital. Further, more and more investors are engaging in socially responsible investing (SRI) and designing portfolios around triple bottom line companies. Thus, benefit corporations may have a competitive advantage in the capital market, attracting investors other for-profits are unable to.

Simply, whether as consumers or business entrepreneurs, we just might be able to have our cake, and eat it too.

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Show Me the Money (Later)! – Non-Cash & Equity Incentives for LLCs

Authored by John Millspaugh and Kevin Halloran

Our clients frequently ask us to advise them on how to provide equity-based incentives to employees in their limited liability company (LLC).  Knowing that simply answering the question may involve much more than our clients bargained for, our first instinct is to suggest that our clients have their LLCs pay cash bonuses instead.  As compared to equity-based incentives, cash bonuses are easier to administer, have clear-cut tax ramifications for the LLC and recipient, and do not involve long-term entanglements (such as fiduciary duties, voting rights, and other rights attendant to equity ownership).  Cash bonuses can be tied to LLC events in order to more closely imitate equity, such as achievement of profit targets or liquidity events.   Also, unlike most equity-based incentives which carry an uncertain and delayed payout, bonuses could only be more liquid if paid in molten precious metal.  (This we do not recommend.)

Being uncommonly intelligent, successful and attractive businesspeople, by the time they ask us this question our clients usually have already considered paying bonuses and have identified good reasons to pursue an equity-based alternative.  These reasons typically include all or some of the following:   a goal of providing a long-term and potentially significant incentive to key personnel, a desire to avoid or delay taxes payable by employees in connection with those incentives, and a need to preserve cash for other uses.  Or sometimes our clients have determined that they will pay a cash bonus, and then allow employees to buy into the LLC.

This is when the real work, and the fun, begins.  If there is beauty and elegance to LLCs (which is surely debatable), those attributes derive from the flexibility LLCs provide when it comes to structuring ownership, voting and management rights.  This flexibility extends to the equity and quasi-equity incentives that can be offered in LLCs.  Selecting the right incentive in each situation can be daunting given the multiple and seemingly complex alternatives available.  This article and the included chart provide a brief and selective overview of these alternatives and highlight some of the differences among the typical LLC incentive vehicles.

Download a pdf of the chart.LLC-Equity-Incentives-Chart Continue reading

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Not Much to See Here: IRPTL Repeal Now Effective

Since many M&A transactions involve transfers of real estate, we are hopefully not straying too far afield (pun intended) in noting that the repeal of the Indiana Responsible Property Transfer Law (a/k/a IRPTL) became effective July 1, 2014.  IRPTL’s time seemed to have come and gone and its repeal is unlikely to affect Indiana M&A deals in a significant way.

IRPTL required sellers of certain Indiana commercial and residential real estate to provide a state-mandated environmental disclosure form to buyers, and to record the form in the real property records.  Disclosure and filing was also required in connection with loans secured by certain real property (although lenders could waive the requirement).

IRPTL only applied in transactions dealing with (a) real estate parcels containing a regulated underground storage tank (or UST); (b) properties subject to reporting under Section 312 of the federal Emergency Planning and Community Right-to-Know Act (which requires, essentially, that Material Safety Data Sheets are made available to fire officials with respect to properties where certain hazardous materials are used or stored); or (c) parcels listed on the EPA’s database of hazardous waste and remediation sites (i.e., the elegantly named Comprehensive Environmental Response, Compensation and Liability Information System (CERCLIS)).

The repeal of IRPTL eliminates one potential headache because failure to comply was grounds for pre-closing termination of real estate sales and could lead to state-imposed penalties. That aside, the M&A process in Indiana will likely not change much due to IRPTL’s repeal.  Ubiquitous are due diligence requests, environmental surveys (Phase I, Phase II and so on), representations and warranties, and indemnification clauses identifying and addressing environmental concerns.  These typically duplicate IRPTL’s impact for buyers and lenders.  Likewise, when appropriate, remediation covenants, discrete purchase price holdbacks or adjustments and other special provisions aimed squarely at treating known environmental issues have long been commonplace in M&A transactions involving commercial property.  The biggest effects of IRPTL’s repeal on M&A transactions may only be slightly shorter closing checklists, and a new impetus for lawyers to delete outdated IRPTL references from their form documents.

Read more information on IRPTL and its repeal in the linked Bose McKinney & Evans client alert.

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Understanding the Indiana Venture Capital Investment Tax Credit

What is the Indiana Venture Capital Investment Tax Credit?

Indiana provides a significant incentive to investors in early stage Indiana companies through the Indiana Venture Capital Investment Tax Credit (VCI Credit).  The VCI Credit was established to facilitate capital access for emerging Indiana companies by providing state tax credits to investors in qualified Indiana businesses.  If an Indiana company qualifies, its investors can receive Indiana state tax credits in an amount equal to 20% of their qualifying investment.

What Companies Qualify?

The VCI Credit is available to any company determined by the Indiana Economic Development Corporation (IEDC) to be a “qualified Indiana business” (QIB).  To become a QIB a company must satisfy all four of these requirements:

  1. Indiana Headquarters.  The company must have its headquarters in Indiana;
  2. Indiana Operations.  The company must have at least 50% of its employees residing in Indiana, or at least 75% of its assets located in Indiana.
  3. Involved in Technology, Innovation, Motor Racing or Other Valued Industry. The company (a) must be primarily focused on professional motor vehicle racing, or (b) must be primarily focused on commercialization of research and development, technology transfers or the application of new technology, or (c) must otherwise be determined by IEDC to have significant potential to: bring substantial capital into Indiana; or create jobs; or diversify the business base of Indiana; or significantly promote the purposes of the VCI Credit in any other way.
  4. Startup/Emerging Growth Stage.  The company must have had average annual revenues of less than $10 million in the two years preceding the year in which the business receives qualified investment capital from an investor claiming a VCI Credit.

Unfortunately for those businesses which deal in technology and innovation but in supporting roles, there are other limits on their ability to qualify for the VCI Credit.  The VCI Credit is not available to any business involved primarily in real estate; real estate development; insurance; professional services provided by an accountant, a lawyer or a physician; retail sales (except when the primary purpose is development or support of electronic commerce over the Internet); or oil and gas exploration.

Which Investors and Investments Qualify?

Generally speaking, the VCI Credit is available to an individual or entity providing debt or equity capital to a QIB if the investor receives prior approval from IEDC (described below).

Pass-through entities with Indiana tax liabilities may use the VCI Credit themselves.  A pass-through entity with no available Indiana tax liabilities may also pass the VCI Credit on to its owners on a pro rata basis (i.e., based on the percentages at which net income and net losses are passed through to the owners).

Despite the broad application of the VCI Credit program, some investors and investments will not qualify for the VCI Credit:

  • Investments by Control Persons.  Investors providing additional capital who already (pre-investment) own a majority interest in the QIB cannot use the VCI Credit.  In determining an investor’s ownership percentage, ownership by family members and affiliates (other entities, trusts, etc., in which the investor has a stake or over which the investor exercises control) is attributed to the investor.
  • Investments by Investors Acquiring Control.  An investor who acquires a majority ownership position in a QIB may only claim the VCI Credit in the control acquisition transaction up to the 50% threshold.  Amounts invested that carry the investor over 50% do not qualify.  Again, attribution rules apply for determining ownership percentages as described above.
  • Debt Investments from Financial Institutions with First Priority Security Interests.  The VCI Credit is not available to financial institutions in connection with the provision of debt that is secured by a mortgage or other security interest that is superior in priority to all collateral or security interests of other Indiana taxpayers who provide qualified investment capital.
  • Provision of Short-Term Debt.  Finally, debt investments likely will not qualify for the VCI Credit if principal is required to be repaid, or may be repaid, within 36 months of the investment date.

There is also a company-based limit on the amount of VCI Credits that can be used by investors.  The maximum amount of tax credits available to a QIB’s investors for capital provided in a given calendar year is equal to 20% of the qualified investment capital provided to the QIB in that calendar year, up to a maximum of $1 million of tax credits.

How Do We Get the VCI Credit?

These are the steps companies and investors will need to take to qualify for and utilize the VCI Credit program:

  • Company Application.  First, before accepting investments intended to qualify for the VCI Credit, a company must file an application with IEDC and also certify to IEDC that it will meet the QIB standards described above for two years.  If approved, IEDC will provide a certification letter to the QIB which will include the amount of VCI Credits available for use by the QIB and its investors.  This application may be submitted online to IEDC via its website.
  • Investor Application.  Second, before making an investment intended to qualify for the VCI Credit, the investor must apply to IEDC for approval of its proposed investment plan.  The application must include the name and address of the investor, the name and address of the proposed recipient of the investment, the amount of the proposed investment, and a copy of the recipient company’s QIB certification letter from IEDC.  This application may be submitted online to IEDC via its website.  Even an approved investment plan is not good forever; an investor must make the investment within two years of IEDC’s approval in order to claim the VCI Credit for that investment.  (An investor should also be mindful of the VCI Credit program’s December 31, 2016 sunset provision which is discussed below.)
  • QIB Confirms Investment.  Third, after the investor makes a qualifying investment, the QIB must provide a letter to the investor verifying the amount invested.
  • IEDC Provides Tax Credit Certificate.  Fourth, the investor must submit the letter from the QIB verifying the investment, along with a copy of the fully-executed investment document(s) (subscription agreement, promissory note, etc.) and a copy of the cancelled check or evidence of the wire transfer for the investment, as applicable, to IEDC.  Upon receiving this qualifying documentation, IEDC will provide the investor with a certificate verifying that the investor is entitled to a VCI Credit.
  • Claim VCI Credit on Tax Returns.  The investor should then claim the VCI Credit on the applicable state tax return(s) and submit a copy of the VCI Credit certificate from IEDC along with the return(s).  If the amount of the credit for an investor exceeds the investor’s state tax liability for the tax year in which the investment is made, the excess VCI Credit may be carried forward for up to five years but may not be applied to taxes for prior years.

What Else Should I Know?

The Indiana State Legislature has placed limits on the dollar value of credits that IEDC can approve.  Under current law, IEDC may approve up to $12,500,000 of VCI Credits for a particular calendar year.  Interested companies may want to apply early in the year in order to ensure VCI Credits are available.

Also, current law provides a sunset provision for the VCI Credit program.  Unless extended by the legislature, VCI Credits will not be available for investments made after December 31, 2016.  However, for qualifying investments made before January 1, 2017, the VCI Credits may be carried forward into 2017 and beyond (subject to the five-year carry-forward time limit described above).

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Indiana Court of Appeals Narrows the “Blue Pencil” Doctrine as Applied to Employee Non-Compete Agreements

Employee non-compete agreements are key to many transactions, whether as part of acquisitions, joint ventures, conditions to investments, or the (rarely simple) addition of key employees.  This guest post provided by our Labor and Employment Group discusses a very important narrowing of the “blue pencil” doctrine in Indiana relevant to employee non-compete agreements in virtually all contexts.

As the result of an Indiana Court of Appeals’ recent decision, it just became more difficult to enforce employee non-compete agreements in Indiana.

Indiana courts have long held that employment-based restrictive covenants – agreements that prohibit a former employee from competing with a former employer in a defined geographic area for a specified period of time, as well as those that prohibit former employees from contacting, soliciting or servicing the former employer’s customers – are disfavored as restraints on trade. Yet the courts consistently have enforced such covenants if they protect a legitimate business interest of the employer (such as confidential information and trade secrets, customer relationships or business goodwill) and provided they are not overly restrictive on the former employee’s post-employment activities. The breadth of such covenants is evaluated in terms of their geographic scope, the activities that are restricted and the length of time the restrictions apply.

Read the entire article on this change to enforceability of non-compete agreements in Indiana.

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Changes to Indiana Business Flexibility Act Likely to Impact LLCs Significantly

Authored by John Millspaugh and Alan Becker

The Indiana General Assembly recently approved changes to the Indiana Business Flexibility Act that appear likely to have a significant impact on LLCs, especially related to estate planning for LLC members and fiduciary relationships between LLC members.

House Enrolled Act (HEA) 1394 (the “Act”) was signed into law by Governor Pence on April 9, 2013.  The revisions become effective July 1, 2013.  All together, the Act impacts Indiana corporations, partnerships, LLCs, nonprofit corporations and limited partnerships, although the biggest changes affect Indiana LLCs.

These seem to be the most important developments for LLC owners and we lawyers who serve them:

  • Nonprofit LLCs – The Act now explicitly permits LLCs to have a specified business, personal or nonprofit purpose.  The addition of personal or nonprofit purposes likely clarifies what was previously allowed (but was not explicit), and also forecloses potential disagreements over whether an LLC must maximize profits or member returns (if a different purpose is specified).  I.C. 23-18-2-1.
  • LLC Officers – Management structure flexibility serves as a big selling point for the LLC over other entity types.  The Indiana law previously spoke in terms of member-managed or manager-managed companies exclusively, although many an LLC boasts a superimposed pseudo-corporate management structure with more traditional director and officer titles created solely by the operating agreement.  The Act embraces this pseudo-corporate structure and allows creation of “officers” in the operating agreement.  As defined in the Act, these officers will have the duties and powers specified in the operating agreement, will be agents of the LLC, may bind the LLC through acts within the officer’s apparent authority, and notice of business matters provided to an officer will be deemed notice to the LLC.  However, authority to manage the LLC was not granted to officers by the Act; this power is still reserved to members or managers unless passed down to an officer in the operating agreement.  In many cases, officers will already be designated as managers in the operating agreement or will already be members with management authority, so actual authority will not be a question (except as and if limited in the operating agreement).  But if officers are not designated as managers or are not managing members, it will be important to address the scope of officers’ management authority in the operating agreement.  I.C. 23-18-3-2.5 and I.C. 23-18-4-4.
  • Contractual Limitation or Elimination of Fiduciary Duties.  Indiana common law imposes fiduciary duties on members of LLCs similar to those imposed on shareholders in close corporations.  Unlike in some other states, in Indiana the extent to which members could modify or eliminate those fiduciary duties by contract was unclear.  The Act settles this issue by allowing members to “modify, increase, decrease, limit or eliminate the duties (including fiduciary duties) . . . of a member or manager” in the operating agreement.  I.C. 23-18-4-4.
  • Agreement of the Members is Paramount.  The Act includes a broad statement that Indiana policy “is to give the maximum effect to the principle of freedom of contract and to the enforceability of operating agreements of limited liability companies.”  This gives LLC members authority to create enforceable business arrangements in their operating agreements even if the law is silent about whether they are permitted.  I.C. 23-17-4-13.
  • Estate Planning – In order to facilitate estate planning by LLC owners, the Act amended Indiana law to permit LLC interests to be held by two or more persons as joint tenants with right of survivorship, and to permit LLC interests to be designated as “transfer on death property” with a designated beneficiary of the interest on the death of the member.  In both instances, the survivor/beneficiary following the death of a member automatically receives the interest of the deceased member (without probate), and the survivor is treated as an assignee of the interest (meaning, essentially, they have an economic interest but no voting or management authority in the LLC) unless and until the survivor is admitted as a full member of the LLC by the other members.  (That is, except in the case where the surviving joint tenant was admitted as a member before the death of the deceased joint tenant, in which case the survivor continues as a member.)  More than one joint tenant may be admitted as a full member with respect to the interest held in the joint tenancy.  The Act also clarifies that all transfer restrictions, redemption provisions and the like contained in an LLC’s operating agreement will likewise apply to the interest held by the survivor/beneficiary.  I.C. 23-18-6-2.5.
  • Unanimous Approval of LLC Dissolution – The Act fixes what this author viewed as a flaw in current Indiana law, which required dissolution of LLCs upon approval of 2/3rds in interest of the members (or 2/3rds in interest of each class of members if more than one class) but did not allow modification of the dissolution approval threshold by agreement.  This yielded a unique and immutable statutory pressure point reserved (somewhat arbitrarily) for the benefit of significant (2/3rds or greater) majority owners.  The Act now defaults to a rule that protects minority owners but also provides contractual flexibility:  unanimous member approval of dissolution is now mandatory for LLCs formed after June 30, 2013, unless a lower approval threshold is specified in the operating agreement.  This is a positive development, but it will also be a trap for the unwary operating agreement drafter whose client owns more than 2/3rds of a new LLC, yet fails to recognize that unanimous approval of dissolution is now the default rule.  I.C. 23-18-9-1.1.
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