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Your Legal Corner - Client Alert Blog

New CA 'Flexible Purpose' & 'Benefit' Corporations

Written By: Melissa C. Marsh, Esq., California Attorney, November 2011 Add to Favorites
If you plan to form or change a business in California, then your decision on what type of corporation to form just got even more difficult. Prior to January 1, 2012, individuals seeking to form a corporation had two options: form a for profit corporation which focuses on maximizing shareholder profit, or form a nonprofit corporation which prohibits investor profit. With the enactment of A.B. 361 and S.B. 201, individuals will now have two more options: (1) the Flexible Purpose Corporation and (2) the Benefit Corporation. Although both of the new corporate entities are legally required to pursue a philanthropic activity, there are major differences between the two.

Flexible Purpose Corporations.

S.B. 201 adds Division 1.5 to Title 1 of the California Corporations Code to establish the Flexible Purpose Corporation. The Flexible Purpose Corporation is designed to provide directors with the flexibility to pursue environmental and social purposes while still maximizing shareholder profit.

Formation and Organization.

The Flexible Purpose Corporation is organized much the same way as a California for profit corporation with both shareholders and a Board of Directors, but its Articles of Incorporation must set forth the corporation's intended "special purpose" which must be limited to one of the following:

  1. One or more charitable or public purpose activities that a nonprofit public benefit corporation could pursue; OR
  2. The purpose of promoting positive short-term, or long-term, effects of the flexible purpose corporation's activities upon any of the following: (a) The flexible purpose corporation's employees, suppliers, customers, and creditors; (b) The community and society; or (c) The environment; OR
  3. The purpose of minimizing adverse short-term, or long-term, effects of flexible purpose corporation's activities upon any of the following: (a) The flexible purpose corporation's employees, suppliers, customers, and creditors; (b) The community and society; or (c) The environment
Management and Maintenance.

In addition to the regular and special Board of Director and Shareholder Meetings all regular for profit corporations must hold, the Board of Directors and Shareholders of a Flexible Purpose Corporation have a few additional duties.

Once annually, the Board of Directors of a Flexible Purpose Corporation must prepare, publically post on its website, and send to each of its shareholders a summary analysis of the corporation's activities. The summary analysis must state: (1) the corporation's short and long-term objectives relating to its special purpose(s), (2) the material actions taken during the year to achieve the corporation's special purpose(s), (3) the impact such actions have had on the corporation and the public, (4) the measures used by the Board to evaluate the corporation's performance in achieving its special purpose(s), (5) the future material actions expected to be taken in both the short and long-term to achieve the corporation's special purpose(s), and (6) any expenditures incurred by the corporation to achieve its special purpose(s).

A Flexible Purpose Corporation must also send to shareholders and make publicly available current reports summarizing (i) any expenditure(s) that will likely to have a material adverse impact on the corporation's operations or financial condition for a quarterly or annual fiscal period, and (ii) any resolution(s) by the board:

(a) approving the withholding of expenditures that were to have been made in furtherance of the corporation's special purpose(s) and were likely to have made positive impact, or

(b) stating that the corporation's special purpose has been achieved, or should no longer be pursued.

It should be noted that for Flexible Purpose Corporation's with less than 100 shareholders, the shareholders can elect to waive the requirements that the corporation send and publish annual and current reports.

Director Liability.

S.B .201 specifically states that there shall be no private right of action created for members of the public to sue a Flexible Purpose Corporation on the basis that it failed to pursue, or achieve its special purpose(s). It should also be noted that S.B. 201 also provides that directors of a Flexible Purpose Corporation are not responsible to any parties, other than the flexible purpose corporation itself and its shareholders.

As stated in the above paragraph, directors of a Flexible Purpose Corporation are liable to the corporation and its shareholders. For this reason, and in contrast to a regular for profit corporation, the directors of a Flexible Purpose Corporation are not required to merely consider the fiscal impact of their decisions on the shareholders and the Corporation itself, but should also consider the special purpose(s) for which the corporation was organized.

Changing the Special Purpose, Merger, and Conversion to a Regular For Profit Corporation.

To change the stated flexible purpose set forth in a Flexible Purpose Corporation's Articles of Incorporation, a Flexible Purpose Corporation must first get 2/3 of the outstanding shares, or a greater percentage if so stated in the Articles of Incorporation, to approve of the change. If approved, the Board may arrange for the Corporation's Articles of Incorporation to be amended.

The same procedure must be followed to covert from a Flexible Purpose Corporation to a general for profit corporation, and to merge with any other entity. A Flexible Purpose Corporation can merge with any other entity in the same manner as a for-profit corporation, except that in most cases the merger must be approved by at least 2/3 of the outstanding shares. A unanimous vote is required if the Flexible Purpose Corporation seeks to merge with a non-profit corporation and the surviving entity in the merger is the non-profit corporation.

Benefit Corporations.

A.B. 361 adds Part 13 to Division 3 of Title 1 of the California Corporations Code to establish the new California Benefit Corporation. A Benefit Corporation's primary purpose must be the creation of a "general public benefit," but it may also pursue optional specific public benefits. Unlike a non-profit, the Benefit Corporation can generate shareholder profits. A "general public benefit" is defined as a "material positive impact on society and the environment, taken as a whole, as assessed against a third-party standard." This assessment appears to require a third party to certify the entity as a Benefit Corporation annually, and the annual certification could cost as much as $25,000. This article will not address the in depth nature of the Benefit Corporation because its use by small business entrepreneurs is likely to be limited due to the large certification expense. If competitors emerge to provide such certificate, this office will more fully examine the Benefit Corporation.

Which is Right For You?

At present, no one can really answer that question. When California first adopted the limited liability company it was meant to be the premier entity choice for small business. But then the laws changed and with franchise taxes assessed on the limited liability company's gross revenues, the corporate form for most small businesses who primary business activity involves something other than a personal service again became the preferred entity of choice.

As between the two new entity choices, it at first glance appears that the Flexible Purpose Corporation offers greater flexibility in choice of endeavors and less onerous maintenance requirements. However, it should be noted that such an entity does not exist in any other state and this may pose recognition problems if the corporation plans to engage in business outside of California. The Benefit Corporation, on the other hand, is recognized in at least 9 other states but is subject to annual certification requirements which may be cost prohibitive.

Posted In: Business Law Bulletin  Corporate Client Bulletin 

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Located in Los Angeles, California, the Law Office of Melissa C. Marsh handles business law and corporation law matters as a lawyer for clients throughout Los Angeles including Burbank, Sherman Oaks, Studio City, Valley Village, North Hollywood, Woodland Hills, Hollywood, West LA as well as Riverside County, San Fernando, Ventura County, and Santa Clarita. Attorney Melissa C. Marsh has considerable experience handling business matters both nationally and internationally. We routinely assist our clients with incorporation, forming a California corporation, forming a California llc, partnership, annual minutes, shareholder meetings, director meetings, getting a taxpayer ID number (EIN), buying a business, selling a business, commercial lease review, employee disputes, independent contractors, construction, and personal matters such as preparing a will, living trust, power of attorney, health care directive, and more.