Guest Articles

Wednesday
February 5
2020

Jasper J. van Brakel

A Future Beyond Short-Term Profit: A Movement Builds for Mission-First Business Structures

Social entrepreneurs and impact investors have long known that business as usual is not working to solve major world problems—in many cases it’s actually causing them. That’s why people found and fund social enterprises. But what’s only now becoming clear is that the fault lies not just in skewed values or the lack of a core social or environmental mission in the traditional business sector. Rather, the flaws are built into the foundation of conventional business and investing structures.

This realization is coming into focus as the first wave of social entrepreneurs approaches retirement and looks for succession plans that provide liquidity without destroying everything they’ve built – and as the succeeding waves of founders and CEOs grapple with how to protect their companies’ missions while enabling growth. The challenges they face are sparking a grassroots global movement behind mission-first business structures.

RSF Social Finance and the Purpose Foundation began mapping this movement with State of Alternative Ownership in the US: Emerging Trends in Steward Ownership and Alternative Financing, a recently published report based on a year of field research and consulting with companies considering conversions to mission-first structures. These business forms are rooted in stakeholder governance—decision-making based on the needs of all stakeholders—and they position profit not as an end but as an engine for creating social, cultural and ecological good.

 

Rethinking ownership and control of business

Mission-first (or steward ownership) structures share three foundational principles:

  • Profits serve purpose (they are reinvested in the business, shared with stakeholders, or donated);
  • Control resides with stakeholders who are actively engaged in or connected to the business, and it can’t be purchased or inherited; and
  • Economic and voting rights are separate – steward-owned companies can bring in outside investors, but can’t sell voting or controlling shares.

This form of ownership empowers companies to value long-term strategy over short-term profits. It protects companies from hostile takeovers, eliminates the potential for individuals to profit at the expense of the business, and prioritizes profitability in service to the well-being of the company and its mission, investors, employees, customers and suppliers collectively. In other words, these structures allow decision making based on the economic needs of the system and all of its stakeholders, rather than on the maximization of self-interest.

They also create community benefits. Steward-owned companies can invest a higher percentage of revenues in R&D, driving innovation. They can pay higher wages, since they are not extracting profit. They are free to elevate social and environmental impact over growth. And their overall commitment to putting money back into the business makes them more resilient to economic and political cycles.

 

Three promising models for mission-first business

The Purpose Foundation has identified several steward ownership structures in current use; among the most compelling are the perpetual purpose trust, golden share and employee ownership trust models. Let’s take a look at the key characteristics of each.

Perpetual purpose trust: In this model, a non-charitable perpetual trust owns a majority of voting shares in the business, and appoints a board of directors. The trust redefines fiduciary duty, which can include multiple stakeholders, and prevents a sale of the business or undue extraction of profits. Profits are reinvested and shared with stakeholders. Outside investors can purchase stock and receive a dividend from the corporation, even while voting control is held in trust.

Last year Portland, Oregon–based Organically Grown Company (OGC) restructured as a perpetual purpose trust in order to scale the business and transition its founders without “selling out”—and without ever being sold. Previously employee- and grower-owned, OGC bought back all the shares from its stockholders and transferred them to the Sustainable Food and Agriculture Perpetual Purpose Trust, which ultimately will hold 100% of the ownership rights. (RSF Social Finance provided a $10 million loan to help buy out OGC’s previous shareholders and recapitalize the business, plus $1 million in working capital.) The new structure removes the pressure to maximize short-term quarterly profits and exit value for shareholders. Instead, OGC is creating long-term returns for mission-aligned evergreen investors, and sharing the balance of profits with stakeholders – including farmers, co-workers, customers and the surrounding community.

Golden share: B Lab General Counsel Rick Alexander developed the U.S. Golden Share charter in collaboration with the Purpose Foundation. In this model, a foundation holds a “golden share” that allows it to veto a sale of the business for private profit, or a change in the steward ownership structure. The individuals who hold voting shares in the company control all decisions, but these shares have no economic value. Golden share companies may also offer non-voting shares with economic rights.

Employee ownership trust: The employee ownership trust is a type of perpetual purpose trust that defines employees or members as the “purpose” of the business. Employee-ownership in the trust is contingent on employment with the business, and all privileges and rights end when a person leaves the company. Members can’t sell or transfer rights or privileges. Businesses that have considered employee stock ownership plans may gravitate to this model, but there is legitimate concern that a transfer of power from shareholders to employees ignores the voice of other important stakeholders, such as customers, vendors and investors.

 

Cultivating patient capital for mission-first companies

Mission-first structures are not a hidden way to turn businesses into nonprofits, but these businesses can’t thrive with returns-only capital—i.e.: investments targeted only or primarily at generating investor profits. In order to grow, companies with mission-first structures need access to patient capital deployed with the goal of optimizing financial return and impact in combination, rather than maximizing the money paid out to investors.

Those investors are out there—their voices informed the State of Alternative Ownership report—but many are ex­hausted by having to shape a new structure around every deal. That increases transaction costs for investors, and makes the fundraising deal cycle more costly and confusing for entrepreneurs. The report discusses pros and cons of several alternative deal structures; the one that appears to have gained the most traction among both entrepreneurs and investors is revenue-based financing.

Revenue-based financing can work for companies at various growth stages. These deals are often booked as equity (particularly if the company is a startup), but they look like debt: Investors receive payment from company revenue, usually with a clearly defined schedule for starting the revenue returns after a holding period – as well as a limit to the investor’s return.

 

Building momentum for mission-first business structures

The challenges to building momentum for mission-first structures are easy to see, and will take real commitment to resolve. In addition to access to aligned capital, they include the need for replicable legal and regulatory structures, and for more companies to take the leap and offer their legal and investment structures as open-source models (as OGC is doing). As these hurdles drop, this movement will accelerate.

Honestly, we need it to. As Otto Scharmer, chair of the MIT IDEAS program for sustainability and cross-sector innovation, and founder of the Presencing Institute, has said: “At the heart of our current predicament is a disconnect between the real-world challenges—the widening ecological, social and spiritual divides—and the outdated economic models we use to respond to them.”

If we want business to create economic, social and environmental value, we need to toss a number of paradigms out the window. What got us here won’t get us there: Shareholder primacy needs to make way for stakeholder governance, and we need to redefine the role of profits as a tool to serve purpose. We made the current system, and the downsides it has created; we can remake it to create a positive future.

 

Jasper van Brakel is CEO of RSF Social Finance, an innovative lending, giving and investing organization based in San Francisco.

Photo credit: Jamie Street, via Unsplash.

 


 

 

Categories
Entrepreneurship
Tags
business development, business models, corporate social responsibility, impact investing, inclusive business, social business, social enterprise, social entrepreneurship, social impact, sustainable business, sustainable investing