1. Base of Pyramid

Social enterprises address the pressing needs of the poor and outcasts, those at the base of the pyramid. Although extreme poverty rate has decreased in the past thirty years, poverty remains the world’s biggest challenge.Footnote ⁴³ As a result of the COVID-19 pandemic, global extreme poverty rose in 2020 for the first time in twenty years.Footnote ⁴⁴ Moreover, as a result of the COVID-19 pandemic, there will be an additional estimated 143 to 163 million people who will be plunged into extreme poverty, increasing the total number of people living in extreme poverty to approximately 751 million.Footnote ⁴⁵ This group of people consists of the base of pyramid who can provide an untapped source of revenue for business. But most businesses avoid transacting with the poor as they are not able to pay for the goods and services consumed by those in developed countries. However, social enterprises view these group of people as an important source of revenue. Social enterprises have to deliver quality and yet affordable goods and services on a large scale to this segment of the population. The goal is to produce social benefit for the poor and at the same time be profitable. The most prominent and successful example is the microfinance institution Grameen Bank, founded by the Nobel Laureate Mohammed Yanus, which extends loans to the rural poor people without requiring collateral in order to reduce poverty and to empower the poor to set up their own businesses in order to be financially independent.Footnote ⁴⁶ As of January 2021, Grameen Bank has 2,568 branches in 81,678 villages, as well as 9.38 million members, 97% of whom are women.Footnote ⁴⁷

2. Inclusive BusinessFootnote ⁴⁸

Inclusive businesses involve integrating the beneficiaries of the social enterprise in its value chain not only as consumers or clients, but also as employees, distributors, and suppliers. The social benefit extends beyond delivering essential goods or services to the needy and vulnerable to allowing them to participate in how the benefits are being structured and delivered. In other words, they are not merely passive recipients of the benefits (in the form of acquired goods or services) but they play a role in creating and delivering the benefit. Three important illustrations of inclusive business are WISEs, intermediaries, and cooperatives. WISEs provide not only financial benefit to the needy and disadvantaged in the form of wages earned from employment, but also crucial upskilling so that they can become more employable, which increases their social mobility. Further, WISEs help to integrate the severely neglected members of the community such as the disabled and ex-convicts back to society, thereby restoring their dignity. Depending on the nature and extent of their roles as employees, they can make important contributions to how the goods and services are being produced, marketed, and sold. For example, WISEs are the most prominent type of social enterprises in Europe.Footnote ⁴⁹ The clients or consumers of the goods and services produced, managed, or sold by the employees may or may not be another disadvantaged group within society.

The second illustration of inclusive business is intermediaries whereby social enterprises engage with Fair Trade businessesFootnote ⁵⁰ or other types of sellers and producers by acquiring or marketing their products. In doing so, social enterprises increase the access of these fair trade producers and suppliers.

The final illustration is cooperatives, which represent 3% to 5% of the world’s GDP.Footnote ⁵¹ These are organizations in which the beneficiaries of the social benefit are also the customers or clients, and crucially, these beneficiaries have the decision-making powers to govern the organizations. Cooperatives allow for democratic participation, unlike other types of social enterprises such as WISE or intermediaries or those catering to the base of pyramid in which the beneficiaries generally do not have governance rights.Footnote ⁵² In a cooperative, the interests of the beneficiary, the customer, and the decision-maker are aligned. A McKinsey study comparing forty-seven cooperatives with fifty-four publicly listed companies found that cooperatives are better at growing market share than publicly listed companies.Footnote ⁵³ Cooperatives can be found in the retail, insurance, agriculture, and financial sectors. The beneficiaries of cooperatives include not only the members, but also nonmembers who acquire the goods and services from the cooperatives.

In sum, as shown in these two main types of business models – Base of Pyramid and Inclusive Business – social enterprises seek to create social benefit first and foremost and the means through which they do so is by establishing and sustaining a viable business. Social enterprises thus play critical roles in reducing poverty, integrating the socially excluded into society, and delivering essential and quality goods and services to otherwise neglected segments of society, while being financially viable. Further, they are engines of economic growth in societies because the combined pursuit of social mission and profit enables them to tap into underexplored markets and gather important market intelligence on goods, services, workers, suppliers, and consumers that is usually neglected by nonsocial enterprises.

Given that social enterprises are a valuable and workable model of how businesses can protect and promote the long-term interests of stakeholders as evidenced in their purposes and business models, the question is whether the law enables or undermines the role of social enterprises in advancing stakeholders’ interests and social benefit. I argue that the existing legal forms used by social enterprises in common law Asia are ill-equipped to serve a critical and unique function of social enterprises, that is, to prioritize social mission over profit while remaining financially viable. In Section III, I first provide a brief overview of the social enterprises in Asia by explaining the domains in which they operate, the factors that drive their development, and the challenges facing them. After that, I analyze the six legal forms used by social enterprises in Asia and I demonstrate that they are afflicted with one or more of the conflicts of interest and that none of the legal forms could satisfactorily address these conflicts.

1. Social Entrepreneurs v. Investors

From the perspective of investors, they are willing to accept a lower return on their investments in exchange for the pursuit of social good, which is one important reason why they choose to invest in a social enterprise instead of a conventional profit maximization company. But these investors may be concerned that social entrepreneurs embrace social impact in their mission statement as a form of branding or public relations exercise.Footnote ¹⁰⁴ Further, they are concerned that social entrepreneurs, who could be the directors and managers, may subsequently change their minds and subordinate the promotion of social good to the pursuit of profit. Another concern the initial investors may have is that the social entrepreneur may subsequently bring in other investors who are more financially oriented, and thus potentially jeopardizing the social mission of the firm because these new investors either become the majority shareholders or have special rights such as board representation, special dividends, and exit rights (that are not available to the other shareholders). The challenge then is how social entrepreneurs can convince pro-social investors that they are genuine and committed to the pursuit of social good, and that the capital provided by the investors are being put to good use to achieve public benefit.

From the perspective of social entrepreneurs, they are interested in making sure that their pro-social vision and strategies are not only implemented but are also prioritized where the promotion of social benefit in a particular situation will reduce profits. They are concerned that the shareholders, while having pro-social objectives in investing in the company, may subsequently change their minds, and subordinate the pursuit of social benefit to profit. This risk is all the more real given that shareholders under the company laws of the four common law Asian jurisdictions wield tremendous voting powers (especially if they are controlling shareholders), including but not limited to the power to appoint and dismiss directors (who are likely to include the entrepreneurs), the power to alter the company’s constitution, and the power to dispose of corporate assets.Footnote ¹⁰⁵ It would be a different matter of course if the entrepreneurs themselves are the majority shareholders. But this will give rise to a different type of conflict of interest – between social entrepreneurs and consumers, which will be discussed in Section III(D)(3).

2. Pro-social Investors/Members v. For-Profit Investors/Members

A unique characteristic of social enterprises is that they seek not only to promote social good through standard legal forms, but also to prioritize social good in the aggregate while aiming to make profits. This gives rise to the second type of conflicts of interest – between pro-social investors (or members) and for-profit investors (or members). Ideally, in a social enterprise, the interests of the public and community should not only be given effect to, but also, crucially, accorded primacy where those interests conflict with those of for-profit investors who aim for for-profit maximization. However, in reality, there are different types of investors whose interests may conflict. When for-profit investors invest in a social enterprise, they take a different view on the objectives and strategies of social enterprise from pro-social investors. To for-profit investors, social enterprises should take into account social good and public benefit – the interests of the wider constituencies – so that profits can be maximized. In other words, the promotion of social benefit is merely a means to an end. However, to pro-social investors, they invest in social enterprises with the primary aim of promoting social benefit and the secondary aim of making money, such that where both aims conflict, the former is given primacy. By contrast, to for-profit investors, the promotion of social benefit is subordinated to profit maximization; insofar as the corporate action benefits the public but do not maximize profits, for-profit investors will generally avoid them. The problem becomes pronounced when for-profit investors become the majority shareholders, and pro-social ones the minority, because the social enterprise subsequently is in need of critical financing. Where there are no shareholders but only members (such as in companies limited by guarantees and societies), there could also be a conflict of interest between the pro-social members and for-profit members as will be explained in Sections III(E)(2) and E(4).

Of course, to be clear, the dichotomy between pro-social and for-profit investors (or members) is not as stark as it seems. There are investors who may not fall into either category. But the point remains that because of the varying intensity of preferences and objectives of different shareholders (or members) at different stages of the social enterprise (such as an enterprise when it is first established versus one that has been operating for some years), there are bound to be conflicts of interest.

To be clear, from the perspective of pro-social investors (or members), social enterprises need not always give priority to social benefit in all transactions and all circumstances, but only that on the whole, social benefit is given primacy. This raises an important but separate question of how to, and who should, ascertain whether social benefit is prioritized on the whole,Footnote ¹⁰⁶ which will be examined in Chapter 2.

3. Social Entrepreneurs v. Consumers/Clients/Intermediaries

To ensure that the social enterprise not only survives in the short-term, but also achieves long-term financial sustainability, it needs to be able to attract pro-social consumers or clients. But these pro-social consumers are willing to buy the social enterprise’s products and services, particularly if they are at above market price, if they can be relatively certain that the social enterprise is indeed contributing to the social cause that it claims to be pursuing. But these pro-social consumers may be concerned that the social entrepreneurs (who may be the shareholders, members, or directors/officers) may be using the label of social enterprise or the language of public benefit as a branding or public relations exercise, and in reality, is primarily pursuing profit-making. And they may be concerned that even if the social entrepreneurs may initially start out promoting and prioritizing social benefit, they may subsequently change their minds and subordinate it to the pursuit of profit.

The conflict can also arise between the entrepreneurs and their “clients,” specifically the government. The government could be an important source of funding. For example, one study found that 50% of the capital of social enterprises in Hong Kong comes from government grants.Footnote ¹⁰⁷ Further, the government collaborates with social enterprises to deliver essential goods and services such as in India and Malaysia.Footnote ¹⁰⁸ The government may be concerned that the social entrepreneurs will prioritize profit-making over the delivery of public benefit in how the funds will be used.

Finally, given that social enterprises have increasingly sought crowdfunding,Footnote ¹⁰⁹ a conflict can arise between the social entrepreneurs and the intermediaries responsible for managing the crowdfunding platforms. On the part of the social entrepreneurs, there is a risk of greenwashing and the danger that they may not deliver the social benefit that they claim they will deliver. The intermediaries need to balance two objectives: First, they need to attract and protect the funders by preventing fraud and by ensuring that the social enterprises that they permit to solicit funds on their platforms are firmly committed to their social mission and are capable of producing verifiable social impact. Second, the intermediaries make money by charging fees to social enterprises who use their platforms. If the intermediaries are too demanding in their verification of the social objectives and the likely impact of social enterprises before permitting them to use the platform, and too stringent in their monitoring of the disclosures of social enterprises during the period of use, they may deter social enterprises from using their platforms.

In light of the conflicts of interest affecting social enterprises, the next issue is whether the existing legal forms used by social enterprises in Asia are able to address or mitigate these conflicts.

1. Company Limited by Shares

The private company limited by shares is the dominant legal form used by social enterprises in the four Asian common law jurisdictions, accounting for 72%, 58%, 43%, and 39%, in Singapore, India, Malaysia, and Hong Kong, respectively.Footnote ¹¹⁰ Are there any mechanisms in this legal form that can effectively address the problem of conflicts of interest? It has been said that the flexibility inherent in the corporate constitution enables shareholders and the company to design and enforce bespoke terms and conditions.Footnote ¹¹¹ Consider the first type of conflict of interest – between social entrepreneurs and investors. For example, the corporate constitution can include provisions to the effect that the board and management have to prioritize and deliver social benefits. However, to begin with, there are transaction costs involved in the negotiation of the provisions that can promote and protect the social mission. The provisions do not pertain merely to corporate mission. These also include and are not limited to shareholders’ governance rights; reporting, impact measurement and certification mechanisms; as well as distribution of assets and dividends.

Even if the transaction costs are manageable and hence do not deter investors from incurring them, the pro-social provisions in the corporate constitution can be amended or removed by a special resolution (under the company laws of the four Asian common law jurisdictions).Footnote ¹¹² Although the amendment is subject to the restriction that it has to be done bona fide for the company’s benefit as a whole,Footnote ¹¹³ it is a low threshold, and as long as shareholders can come up with a plausible reason for the amendment, it will not be invalidated by the court.Footnote ¹¹⁴ So, for instance, should majority shareholders amend or remove the provision such that profit maximization becomes the corporate goal, it is unlikely that minority shareholders will succeed in striking down this amendment insofar as the majority shareholders can provide a rational reason for this change. For example, these majority investors can say that prioritizing the social mission of the company is no longer a financially sound strategy for the company because it has been unprofitable for some time, and thus it is beneficial to give greater weight to profit generation.

However, to forestall shareholders from deviating from the social mission of the social enterprise by altering the constitution, the pro-social provisions in the corporate constitution could be entrenched such that they can be altered only with the unanimous consent of all shareholders or in accordance with certain procedures prescribed in the constitution.Footnote ¹¹⁵ Apart from the fact that entrenchment provision is only allowable at the point of incorporation (or with the unanimous consent of all members post-incorporation),Footnote ¹¹⁶ entrenchment provisions may not be effective in promoting the social mission. One reason is that because shareholders want to preserve their ability to change course, they will be inclined to retain as many control rights as possible and will be unwilling to bind themselves to provisions that severely curtail their ability to initiate/make decisions or to exit from the company. So either the entrenchment provision will be drafted at a high level of generality (and hence rendering it less efficacious) or the constitution will stipulate procedures (likely to be inserted by the investors that bring in the most funds) that permit the provision to be amended.

From the perspective of the shareholders, they will be concerned that the board or management will not give adequate or proper effect to the pro-social provisions in the corporate constitution. There are four options available to the shareholders.

First, they may consider enforcing this provision. But under the qua member rule, shareholders cannot enforce a provision in the corporate constitution unless the provision confers a benefit on them in their capacity as shareholders.Footnote ¹¹⁷ Thus, it will be difficult to argue that a provision that purports to deliver public benefit is intended to confer benefit on shareholders in their capacity as shareholders.Footnote ¹¹⁸

Second, shareholders can dismiss or threaten to dismiss directors for failing to give effect to the provision.Footnote ¹¹⁹ But this can work if the pro-social shareholders are in the majority but not if they are in the minority. For example, a social enterprise can start off by having all shareholders buying into the vision and mission of prioritizing social benefit. But midway through the life of the social enterprise, the majority of shareholders may change their minds and either seek to prioritize profit maximization or because of the need for additional funds, the social enterprise will attract investors who place a premium on profitability. However, it may be argued that to prevent the majority of for-profit investors from dismissing the pro-social directors, the company could, when it was incorporated, include a provision in the constitution that gives the directors who may be removed weighted shares so as to make it difficult or impossible for them to be removed.Footnote ¹²⁰ But this is a double-edge sword: Should the directors deviate or act contrary to the corporate purpose of the company, there is a risk that pro-social investors may not be able to remove them. It may be argued that the pro-social investors can bring a derivative action against the delinquent director for alleged breach of duties if he cannot be removed or if he will not be sued by the board.

Third, while pro-social shareholders can bring derivative action on behalf of the company against the directors for alleged breach of duties,Footnote ¹²¹ there are several constraints. For a start, not only will the shareholder who brings the lawsuit has to generally pay for the lawyer and court fees, any damages that the court award will generally go to the company, not to the aggrieved shareholder. This creates a huge disincentive for the shareholders to bring any legal proceedings. Further, shareholders (in Hong Kong, Singapore, and Malaysia) face hurdles as they must demonstrate when they seek the court’s permission to commence the statutory derivative action that they are acting in good faithFootnote ¹²² and that the action is prima facie in the interests of the company.Footnote ¹²³ India does not have a statutory derivative action and thus, shareholders have to rely on the common law derivative action,Footnote ¹²⁴ but there are uncertainties as to the meaning of the requirements of fraud on the minority and of the wrongdoer being in control, and it is unclear whether the director must personally benefit from the breach of duties.Footnote ¹²⁵

Finally, the aggrieved minority shareholders can bring an oppression or unfair prejudice action against the company to address the wrongs done to them personally if they can show that the company’s affairs are being conducted in a manner unfairly prejudicial or oppressive to their interests.Footnote ¹²⁶ After all, a breach of directors’ fiduciary dutiesFootnote ¹²⁷ or of the corporate constitutionFootnote ¹²⁸ could amount to oppression. Further, there may be a breach of legitimate expectations arising from mutual trust and confidence that is characteristic of quasi-partnerships.Footnote ¹²⁹ However, breaches of fiduciary duties or corporate constitution do not always result in unfair prejudice or oppression.Footnote ¹³⁰ Moreover, should there be new investors midway through the social enterprise, it would be difficult to argue that it remains a quasi-partnership. In any event, it would be difficult to argue that shareholders have suffered prejudice or commercial unfairness if, for example, directors prioritize profit maximization in contravention of the corporate constitution, and social enterprise becomes highly profitable and dividends have been distributed to shareholders.

Having analyzed the difficulties and costs arising from using contractual devices to address the problem of conflict of interest between the social entrepreneurs and investors, another conflict of interest pertains to that between pro-social investors and for-profit investors. The concern here is that while a social enterprise may initially start off with pro-social investors or a majority of them, these investors may subsequently become for-profit. Or for-profit investors may subsequently invest in the social enterprise and they become the majority shareholders. If either situation occurs, the for-profit investors can set the agenda of the company by primarily appointing, re-appointing, and dismissing directors. The risk then is that the company will deviate from its social mission. It may be argued that shareholders can enter into an agreement under which all of them agree to prioritize the social mission. But the problem with such an agreement is twofold: First, unlike the corporate constitution that binds all future shareholders, the shareholder agreement has to be renegotiated and executed whenever there are new shareholders. A valid shareholder agreement requires the consent of all the parties. This will incur transaction costs. Second, whether the social mission of the social enterprise remains a priority depends on the objectives and strategies of the shareholders, of which those who contribute the bulk of the funding will have the greatest bargaining power in shaping the terms and conditions of the shareholders’ agreement. If the shareholders cannot come to an agreement, and if the new for-profit shareholders decide not to invest, the social enterprise will lose an important source of funding. But if an agreement is reached with the new for-profit investors, the social mission is likely to be compromised. The social enterprise is caught between a rock and a hard place. Alternatively, for-profit investors need not resort to shareholders’ agreement. In exchange for the funding they provide, they could enter into a contract with the company under which they are provided with board seats, special dividend rights, and exit rights. For example, special or additional governance rights could be given to the new investors such as the venture capital funds that will allow them to steer the social enterprise in the direction of profit-making, to the detriment of the interests of pro-social investors.Footnote ¹³¹ Thus, contractual devices such as shareholders’ agreements are not effective in addressing the conflicts of interest between different types of shareholders in a social enterprise.

Consider the third type of conflict of interest – between social entrepreneurs versus consumers/clients/intermediaries. The fundamental problem is how these third parties can know or be assured that the social enterprises are indeed pursuing the social purpose and delivering the public benefit that they claim they are doing. One possibility is for these third parties to inspect a copy of the corporate constitution, shareholders’ agreement, or any other relevant corporate documents. This will pose serious inconvenience to the third parties. It could be time and energy consuming to request, wait, and review the documents. Further, company law does not require the social enterprise to provide such information to third parties.Footnote ¹³² So the social enterprise has every right to reject such requests. Moreover, the shareholders’ agreement or other contracts could be confidential and thus directors will be in breach of confidentiality obligations should these documents be disclosed to third parties. And even if the social enterprise supplies the relevant documents to the third parties, the latter may not be able to identify and understand the relevant provisions and terms. In any event, even if third parties completely understand the nature, scope, and effect of the relevant terms in the relevant documents, they are unlikely to have the expertise to verify the social impact that the social enterprises claim that they are generating. Further, the claims of social impact made by the social enterprises are generally not certified.Footnote ¹³³ After all, social enterprises are not legally required to subscribe to a certification system. Thus, the concerns of third parties are unlikely to be addressed. It is entirely up to the social enterprise whether they would like to be certified and if so, to what extent.

2. Company Limited by Guarantee

The available data shows that 5%Footnote ¹³⁴ and 3%Footnote ¹³⁵ of social enterprises in Singapore and Malaysia respectively are incorporated as companies limited by guarantee in which the liability of members to contribute to the assets of the company when it is wound up is limited to the amount that the members have guaranteed. Such companies do not have investors, unlike companies limited by shares. Thus, the first type of conflict of interest does not apply.

But the second type of conflict of interest – between pro-social members and for-profit members – will apply. Admittedly, the model constitution of companies limited by guarantee in Singapore states that any income or profits of the company are required to be applied toward the promotion of the objects of the company, and no dividends or profits could be issued to members.Footnote ¹³⁶ However, companies limited by guarantee can opt out of the model constitution. Moreover, the Singapore Companies Act (notwithstanding the model constitution), Hong Kong Companies Ordinance, and Indian Companies Act do not prohibit members of companies limited by guarantee to participate in the divisible profits of the company.Footnote ¹³⁷ This creates the risk that members in companies limited by guarantee can prioritize profit-making above social benefit. Further, nothing in the companies’ statute or model articles in Hong Kong seem to mandate the sort of pro-social clauses contained in the Singapore model constitution. Although Malaysia requires that the income and profits of the company must be used for the promotion of the corporate objects, dispensation can be sought from the Companies Registrar.Footnote ¹³⁸

Even if the Singapore model constitution is adopted or the latter’s pro-social clauses are voluntarily adopted in the constitutions of companies in other jurisdictions, minority members of the company may not be able to enforce the provision in the corporate constitution that requires the income of the company to be used only to promote social objects. This is because the qua member rule may apply – it would be difficult to argue that a provision that prescribes the delivery of social benefit or restricts how income is to be used will benefit the members in their capacity as membersFootnote ¹³⁹; such a provision is intended to benefit certain members of the community stated in the objects clause. It is also unlikely for an aggrieved minority member of a company limited by guarantee to pursue derivative actions against the delinquent director for breaching these pro-social clauses for three reasonsFootnote ¹⁴⁰: the rules governing common law and statutory derivative actions can be unclear and restrictive; the litigation cost will be paid by the member bringing the action; and any compensation the court awards will go to the company and not to the aggrieved member. The aggrieved member may also encounter obstacles in proving that she has suffered unfair prejudice or oppression if she has not personally suffered detriment or the only detriment that she has suffered is the breach of the objects clause in the corporate constitution, which is intended to benefit third parties and not the members.

Finally, companies limited by guarantee will also be affected by the third type of conflict of interest – between the social entrepreneurs and the consumers/clients. Unless there is assurance from companies limited by guarantee that they are indeed delivering the social benefit and making the social impact that they claim to be doing, consumers will not be incentivized to acquire their goods and services at above market price, and donors may be reluctant to provide sustained funding. Even if companies adopt the model constitution such as the one in Singapore, consumers who acquire the goods and services from such social enterprises or the donors may not know of the existence of the model constitution; even if they do, they cannot enforce these clauses because they are not parties to the corporate constitution.

Another significant problem is that companies limited by guarantee deprive themselves of important sources of funding from shareholders particularly impact investors. They cannot gain additional funds through the issue of shares. Instead, they have to rely on donations from the public or philanthropic organizations. However, unless these donations are tax-deductible, donors will not be incentivized to donate on a regular basis. Other than Malaysia which provides tax deductions for donations to certified social enterprises (which include those that used the legal form of companies limited by guarantee),Footnote ¹⁴¹ the other three Asian jurisdictions do not automatically grant tax deductions for donations to companies limited by guarantee.Footnote ¹⁴² Instead, these companies have to separately apply for charitable status in order for donations to be tax deductible.Footnote ¹⁴³ In addition, organizations with charitable status are not permitted to engage in business activities such as the provision of goods and services for the sole purpose of generating income even if the income is subsequently used to promote the charitable objects; the charity has to set up a subsidiary company to carry out such a business.Footnote ¹⁴⁴

3. Sole Proprietorship

The sole proprietorship is among the top three legal forms used by social enterprises in Malaysia, Singapore, and India, accounting for 19%,Footnote ¹⁴⁵ 7%,Footnote ¹⁴⁶ and 6%,Footnote ¹⁴⁷ respectively. There appears to be no data for Hong Kong. An important reason for its popularity is that the sole proprietorship is not subject to any regulatory, filing, or reporting requirements. Nor is it subject to any restrictions on how the business should be governed, and how and to whom profits should be distributed. Given that a sole proprietorship has no shareholders or members, the first and second types of conflict of interest will not arise. But the third type of conflict – between the social entrepreneurs on the one hand, and the consumers, clients, and intermediaries on the other – persists. The conflict is arguably exacerbated because sole proprietors are less likely to obtain certification for their products and services – an important form of assurance that they are delivering the social impact that they claim to be doing – due to the time and expense involved. They are likely to hold the view that on a cost–benefit analysis, their products and services are of too small a scale to warrant certification. Other than the conflict of interest, a serious and intractable issue is that sole proprietorships will not be able to attract funding on a sustained basis and therefore not scalable. Shareholders cannot invest. And donations to sole proprietorships are not tax-deductible. At best, sole proprietorships can rely on short-term, limited, and sporadic government grants. But reliance on government funding alone cannot make sole proprietorships financially viable on a long-term basis. Finally, the sole proprietor is liable for the debts and obligations of the business as it is trite law that sole proprietorships unlike companies do not have limited liability.

4. Society

The society is one of the most popular vehicles used by social enterprises. For example, 23% of social enterprises in India consist of societies and trusts.Footnote ¹⁴⁸ The society is the third most popular legal form used by social enterprises in Malaysia, accounting for 11% of all social enterprises.Footnote ¹⁴⁹ In Hong Kong, 60% of social enterprises use legal forms (including but not limited to the society) that are neither companies nor cooperatives.Footnote ¹⁵⁰ But in Singapore, only 1% of social enterprises are societies.Footnote ¹⁵¹

In Singapore and Malaysia, the conflict of interest is not between the social enterprise and the consumers. This is because societies in Singapore and Malaysia do not seem to be allowed to engage in profit-making business according to the definition of society in the Singapore and Malaysian statutes, which excludes an association formed for the sole purpose of carrying on any lawful business that has for its object “the acquisition of gain” by the association or the individual members.Footnote ¹⁵² Rather, the conflict can arise between the society (the social enterprise) and its client, that is, the government who either provides funding to the society or collaborates with the society to promote social benefit (such as by providing assistance to the society in its production of goods and services to certain members of the community). There is nothing in the legal form of society to prevent societies from labelling themselves as social enterprises for marketing or public relations purposes. When the government provides funding, the legal form of society does not provide any assurance to the government that the society will deliver the social benefit; rather it depends on how the government sets the eligibility criteria for funding and whether the government monitors how the society uses the fund. If the funding criteria or conditions are insufficiently rigorous, or if the monitoring mechanism is not robust, then societies that label themselves as social enterprises can get away with it and there is little accountability as to whether the funds are being used to deliver the social impact claimed by the societies.

In Hong Kong, societies that are established solely for religious, charitable, social, or recreational purposes are exempted from registration under the statute.Footnote ¹⁵³ Unlike the Singapore and Malaysian statutes, nothing in the statute in Hong Kong appears to bar societies from pursuing profit-generating business.Footnote ¹⁵⁴ Thus, a society that is established for a social purpose can be affected by the second type of conflict of interest between pro-social members and for-profit members, and the third type of conflict between social entrepreneurs and consumers/clients. There is no mechanism in the law regulating societies that ensure that they prioritize social benefit above profit maximization. Nor are there mechanisms to assure the society’s consumers or clients – who pay above market price for the goods or services or who provide funding to the societies – that they are delivering social benefit or making the social impact that they claim to be doing. It may be argued, however, that if the object clauses in the society’s constitution state the social purpose of the society and when certain members of the society act contrary to the object clause, other members can sue to enforce the object clause and can sue the members for breaching the constitution. This is possible but there appears to be no reported cases of such lawsuits. Moreover, the fact that the objects clause contains the social mission of the society provides insufficient assurance to the consumers and clients: The clause alone does not verify or certify that social benefit has indeed been delivered or social impact has been created.

In India, societies will be affected by the second and third types of conflict of interest. A society is defined under the statute as persons associated with any literary, scientific, or charitable purpose, the latter of which refers to (i) relief of poverty, (ii) education, (iii) advancement of religion, and (iv) other purposes beneficial to the community not coming under any of the preceding heads.Footnote ¹⁵⁵ Thus, social enterprises that adopt the legal form of societies are established to pursue charitable purposes. The fact that a society has been formed for a charitable purpose does not preclude it from pursing profit-making business. Nor is that society barred from distributing profits to its members (unless the society is seeking tax exemptions or deductions). Thus, there is a risk that the society will prioritize profit over social benefit, such as by distributing a significant percentage of the profits to the members instead of reinvesting the surplus in order to promote social benefit. Admittedly, the statute specifically prohibits the distribution of assets or profits to members after the society is dissolved and after it has discharged all its debts and obligations.Footnote ¹⁵⁶ But there is no such restriction on the distribution of profits when the society is solvent. Further, the fact that the society is set up for a charitable purpose provides insufficient assurance to its consumers or clients that it has indeed delivered the social benefit or made the social impact. Thus, the legal form of society could hardly address the second and third type of conflicts of interest.

5. Partnership and Limited Liability Partnership

Another common type of legal form adopted by social enterprises in Asia consists of partnerships and LLPs. But these legal forms are not equipped to effectively address the conflicts of interest analyzed in Section III (D).

First, although there are no shareholders in a partnership and LLP unlike in a company, the conflict of interest between pro-social and for-profit shareholders will have parallels in a partnership. Such conflicts are likely to be absent at the start of the partnership and LLP given that the partners will have the same objectives. However, midway through the partnership and LLP, some partners may exit and new ones may join. The latter may take a different approach toward the goals and strategies of the social enterprise. They may be more financially oriented and thus place greater emphasis on profit-making rather than making social impact. Of course, the existing partners may insist that the new ones sign a new partnership agreement that upholds the vision and mission of the social enterprise. But the new ones who bring in new capital may be able to dictate new terms that benefit them but at the expense of the social mission. The existing partners will be torn between retaining the existing partnership agreement and being financially insecure or accepting the funding of the new partners in exchange for a more profit-driven approach.

Second, the conflict of interest between social entrepreneurs and third parties (consumers and clients) will still be present in a partnership and LLP. Although partners in a partnership and LLP can have strong pro-social terms and conditions in the partnership agreement that seek to deliver public benefit, these third parties do not have governance and enforcement rights, similar to those in social enterprises that adopt the company form. However, it may be argued that unlike companies, the contract laws of certain jurisdictions such as Hong KongFootnote ¹⁵⁷ and SingaporeFootnote ¹⁵⁸ (but not IndiaFootnote ¹⁵⁹ and MalaysiaFootnote ¹⁶⁰) permit partnerships (including LLPs) to confer third-party rights in the partnership agreements on consumers, clients, and even the beneficiaries that are enforceable by these third parties. However, most Asian jurisdictions are bound by the privity rule, which do not allow third parties to enforce rights in contracts to which they are not parties. Even in jurisdictions that allow third-party beneficiaries to enforce those rights, it is unclear how third-party beneficiaries know that rights have been conferred on them in the partnership agreements and that they can enforce these rights. Next, even if the consumers, clients, or members of the community know of these rights, it is unlikely that they will incur the time and cost of bringing legal proceedings against the social enterprise to enforce these rights. This is so especially if the gains from the lawsuit will not exceed (a) the litigation expenses (lawyer and court fees) and (b) the losses resulting from “walking away,” which means that the consumers and clients stop buying the products and services of the social enterprise and instead acquire them from a conventional profit-driven company. The third parties who will be adversely affected are the beneficiaries, that is, the disadvantaged and vulnerable members of the community whose interests the social enterprise was set up to promote and protect. But these people will not have the resources to bring lawsuits against the social enterprise for breaching the partnership agreement.

Third, because partners in a partnership do not have limited liability (unlike those in an LLP) and are therefore liable for the debts of a partnership,Footnote ¹⁶¹ financial considerations may subsequently or eventually weigh heavily in their minds, and hence there is a greater risk of them deviating from the social mission. They can deviate by amending the partnership agreement or by entering into a new one. On the one hand, it may be said that because a partnership (including an LLP) is governed by the partnership agreement, it has greater flexibility to design and enforce pro-social terms than the corporate constitution of a company. On the other hand, because partners in a partnership do not have limited liability (unlike partners in an LLP or shareholders in a company), there is a real risk that they will subsequently subordinate the pursuit of social benefit to profit generation by amending the partnership agreement. To address this problem, the partnership agreement can stipulate stringent conditions (such as unanimous consent) for the amendment of important terms. However, if unanimous consent is not obtained, the partners who wish to deviate from the social mission can simply leave. This is likely to result in the dissolution of the partnership, which is likely to harm the interests of the beneficiaries (such as the vulnerable and disadvantaged members of the community).

It might also be argued that the risk of unlimited liability is counterbalanced by the fact that partners are entitled to profits (according to the terms stated in the partnership agreement), whereas shareholders are not entitled to profits (but only dividends and only if and when declared by the board from the distributable profits as the board can choose not to distribute dividends and instead use the profits for other purposes). But this does not minimize the risk of deviation from the social mission. Precisely because partners (in a partnership and in an LLP) are entitled to profits, they may be tempted to maximize profits at the expense of the pursuit of social benefit. While the founding partners (in a partnership and in an LLP) can include terms in the partnership agreement that require them to prioritize social mission over profit maximization, and although the partners’ fiduciary duties require them to act in accordance with the partnership agreement, they are not barred from subsequently amending the terms to accord primacy to financial benefit. Although unanimous consent for the amendment of the partnership agreement is required, the partners are not subject to the common law restriction that applies to corporate constitution amendment – it has to be done bona fide for the benefit of the company as a whole.

Finally, social enterprises that adopt the form of LLP are at a higher risk of subordinating the pursuit of social benefit to profit as compared to partners in a partnership and shareholders in a company. This is because partners in an LLP enjoy the privilege of limited liability (like shareholders in a company but unlike partners in a partnership) and they are entitled to profits (like partners in partnership but unlike shareholders). This risk will not occur when the social enterprise LLP is established, but it could occur subsequently, especially if there is a concern with financial sustainability. Then the existing LLP partners can choose to prioritize profit-making. Or they can invite new partners to join the LLP who may in turn be more financially oriented.

6. Cooperative Society

A cooperative society is another legal form that has been used by social enterprises. However, it is one of the least popular forms: Only 1% of social enterprises in MalaysiaFootnote ¹⁶² and Hong KongFootnote ¹⁶³ have used it. It is unclear what the percentage is in Singapore but it is likely to be low.Footnote ¹⁶⁴ As for India, the percentage is unclear.Footnote ¹⁶⁵

A cooperative society, which is a voluntary association of persons, has as its object the promotion of the economic interestsFootnote ¹⁶⁶ of its members by allowing the members to share in the cooperative’s profits/surpluses divided among the members in proportion to the share capital held by them or in proportion to the volume of transactions entered into between the members and the cooperative.Footnote ¹⁶⁷ Cooperatives are also democratic organizations as they are controlled by their members on the basis of one member having only one vote.Footnote ¹⁶⁸ Cooperatives are also governed by the members who at the general meeting elect a committee or board to manage the cooperative.Footnote ¹⁶⁹ Cooperatives provide education and training, and deliver goods and services to their members.Footnote ¹⁷⁰ Thus a unique feature of cooperative is that the members are controllers, directors and managers, customers, and beneficiaries. To be clear, the beneficiaries can also include nonmembers but the primary objective of cooperatives is to advance the economic interests of their members. Moreover, members of cooperatives generally enjoy limited liabilityFootnote ¹⁷¹ (like members of a company limited by shares and guarantees). Cooperatives are active in areas including retail, insurance, and agriculture.Footnote ¹⁷²

Because the raison d’etre of cooperatives is to advance the economic interests of their members (in terms of, for example, distribution of profits), the question is whether the legal form of cooperatives has mechanisms to address the second type of conflict of interest – between pro-social members and for-profit members. It may be argued that there should be no conflict because the interests of members will align given that they are one and the same shareholders, consumers of the goods and services (provided by the cooperatives), and the beneficiaries of the social impact (as the members are precisely the segments of the community to which the cooperative will deliver the social benefit in terms of the goods and services).

However, there could be a conflict between members who prioritize social benefit and those who prioritize financial benefit. Members who prioritize social benefit may insist that the profits be used predominantly to lower the price of the goods and services (through subsidies) while ensuring they are of higher quality (through investments in research and development). But members who prioritize financial benefit are likely to insist that the bulk of the profits be distributed to them, for example, as dividends (after the requisite amount of profits has been set aside as reserves if required by the statuteFootnote ¹⁷³). If the by-laws are silent on how the profits will be used and distributed and for what purposes, those decisions will be made by the management committee to whom management powers have been delegated by the general meeting of members. And the management committee is likely to heed the wishes of the majority members of the general meeting. This is because should the committee defy the majority members, the committee can be removed by the requisite majority in a general meeting.Footnote ¹⁷⁴

Alternatively, the general meeting can alterFootnote ¹⁷⁵ the by-laws to prescribe that the bulk of the profits will be distributed as dividends (provided that the requisite sum is set aside for a reserve fund if required by the statute), subject to the registration of the amendment by the registrar.

The common law doctrine that the alteration of corporate constitution has to be done bona fide for the benefit of the company as a whole does not seem to apply to cooperatives. And even if it does, one can argue that altering the by-laws to prioritize financial benefit over social benefit by requiring a significant percentage of profits to be distributed as dividends benefits the members as it furthers the object of the cooperative as stated in the cooperative statutes, that is, to advance the members’ economic interests.Footnote ¹⁷⁶ Conversely, it can be argued that to prioritize social benefit at the expense of financial benefit would be contrary to the objects of cooperatives, a contravention of the statutory law. In sum, the legal form of cooperatives does not ensure that the conflict of interest between pro-social members and for-profit members is properly addressed.

The other conflict of interest is between for-profit members and external, pro-social consumers or clients. Generally, the consumers of the goods and services provided by the cooperatives are also the members. Thus, their interests should be aligned. But cooperatives also sell their goods and services to nonmembers; in other words, it is not always the case that the consumers must be the members. The external, pro-social consumers may acquire the goods and services at above market value on the understanding that the cooperatives will prioritize and deliver social benefit. But where the members prioritize financial benefit, the profits generated by the sale of goods and services to nonmember consumers will be distributed to the members (in the form of dividends, bonuses or other means). The legal form of cooperatives provides no assurance to pro-social nonmember consumers that social benefit will be prioritized. It may be argued however that the by-laws of cooperatives can prioritize social benefit by restricting the amount of profits distributable to members. While possible, this depends on whether the requisite majority of members are pro-social. Even if the by-laws have such restrictions when these were first registered, the cooperative can change course midstream and should the requisite majority of members prioritize profit, they can amend the by-laws.

Because of the deficiencies in the existing legal forms used by social enterprises, conflicts of interest are not addressed and the transformative potential of social enterprises is not unleased. It is thus important to consider whether there are alternative legal forms or whether a new legal form should be created. I advance a framework for understanding and evaluating the new legal form consisting of five criteria: (1) corporate purpose; (2) directors’ duties; (3) decision-making powers; (4) reporting, impact measurement, and certification; and (5) distribution of dividends, assets, and tax benefits. I show how this framework can address the conflicts of interest. Chapters 2–6 explain each of these criteria. Under each of these criteria, I will evaluate the legal forms for social enterprise in the US, that is, the benefit corporation (including the PBC), the SPC, and the UK, namely, the CIC, and I will show how my framework can address the deficiencies in those forms. The five criteria in my framework, consisting of ex ante rules and ex post standards, can provide a menu of options that can be tailored to jurisdictions where there is a variation in the quality of the independence and competence of the legislature, regulators, and judicial system.