Tag Archives: Community Interest Company

Mind the cap

Potentially interesting developments loom for Community Interest Companies (CICs) after the CIC Regulator launched a review of the CIC dividend cap last week. CICs were introduced as new legal form by the then Labour government in 2005. There are now over 7000 of them with umbrella group, the CIC Association, reporting over 100 new registrations each month.

As Civil Society explains: “Currently, community interest companies (CIC) dividend pay-outs are capped at 20 per cent of the initial investment. There is also an aggregate cap of 35 per cent on all distributable profit of a CIC. The consultation launched this week asks if the cap on dividend pay-outs should be increased to 49 per cent.

So, what’s the problem? As is so often the case with questions of social enterprise, profits and organisational structures it’s a heady mix of strong principles, deep confusion and hot air.

Like all government initiatives to promote social enterprise, the creation of CIC represented a trade-off between practical and political utility. The new Labour government needed a political structure that enshrined in law the idea that it was possible to do good while also making a profit, they also needed a suitable vehicle for ‘spinning-out’ public service delivery into vehicles that would notionally be owned by the wider community.

Added to that lots of people doing good stuff in civil society needed a company structure (or some company strucures) that would enable them to do what they wanted to do without having to set up a charity with a split governance (between paid staff and volunteer trustees).

The various types of CIC – there’s several versions of ‘not-for-profit’ CIC limited-by-guarantee and ‘for-profit’ CIC limited-by-shares – have succeeded in meeting all of those needs reasonably well. Examples of CIC range from NAViGO, which spun-out of the NHS and provides mental health and other services in North East Lincolshire with a turnover of over £22million, to us at Social Spider CIC turning over closer to £150,000 and other similarly small, innovative social enterprises.

The CIC limited-by-shares models have also worked well for charities looking for an appropriate structure for trading arms. Under CIC legislation, CICs owned entirely by asset-locked bodies (such as charities) can pay as much of their profit to those as want to. Where CICs haven’t done so well is in attracting equity investment.

So, what’s currently being debated is what happens when CICs limited-by-shares and owned by entrepreneurs and investors who aren’t charities (or other asset-locked) bodies want to take profits out of the business to repay their investment. There’s (at least) two separate problems with the current situation:

  1. The current rules place strict limits on how much money can be taken out.
  2. As well as being strict, these way these limits are imposed is unnecessarily complicated and gives a particularly bad deal to entrepreneurs who start CICs.

As explained above, the current caps relate both to the initial investment – either the amount an investor puts into the business or, in the case of entrepreneurs putting in sweat equity (unpaid work), the value of their shares at the time they received them – and the distributable profit that the company makes in any given year.

If you’re really interested and you want to fully understand what’s going on, it might be worth making a cup of tea, printing out the guidance here (or downloading it to a suitable device) and sitting down for good read. To explain it very briefly, for companies formed since 2010, shareholders can receive an annual dividend of either 20% of the value of their shares at time of purchase or 35% of distributable profit, whichever figure is lower. That means that even if everything goes really well, it takes investors ages to get their money back and they can’t make a very big profit.

Suffice to say while the CIC structures have proved to be useful, uncomplicated vehicles for various forms doing social good, they’ve (understandably) been far less successful in attracting cash from (non-charity) investors hoping to their money back through dividends.

Explaining his views in anticipation of the current consultation, Richard Patey at Profit is Good explained that: “For us the solution is to simplify the whole process by removing the cap on the paid up value of share and increasing the aggregate cap to 49%” adding that:  “This is still in keeping with the standard definition of social enterprise of ‘principally reinvests its surpluses into the organisation’ and would be a simple and attractive value proposition to would be social entrepreneurs who would otherwise be hampered by their ability to be rewarded for sweat equity and scaling their enterprise’s social impact.

I personally sympathise with the arguments for simplification but – unless the company has significant assets which are locked – I’m not sure that a 49% distribution cap delivers a business that’s significantly more focused on community/social benefit than your average company. How many companies regularly pay out more than 49% of their profits in dividends?

For me, the right approach is a single cap of 20% cap of distributable profit. That way, in the event that a CIC makes massive profits, entrepreneurs and early investors who’ve taken a big risk to get the CIC up-and-running can make significant amounts of money but the community still gets significantly more – either in cash or more services.

Of course, what happens to CIC and other social enterprise profit remains a relatively minor issue overall. I’d be interested to hear what others think about this. Is it realistic for large numbers of CICs to take on equity investment? Does anyone have an experience of taking an equity investment as a CIC?

 

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This year’s model

Tony Benn is famous for saying that, in his view, there are too many socialist parties in the UK and not enough socialists. Coming at a time when Benn’s enthusiasm for worker ownership is now finally being embraced by leading figures in the Conservative Party – hot on the heels of the Labour government’s nationalisation of the banks – it might also be a good moment for the social enterprise movement to take on board a variation of his thoughts on organisational proliferation.

A danger for the social enterprise movement in the UK seems to be that we end up with too many social enterprise structures and not enough viable social enterprises. The latest suggestion for a new type of company is outlined on the Social Enterprise website by Luke Fletcher of solicitors Bates,Wells and Braithwaite.

If we want social enterprise to go mainstream, we need to get the message out that businesses are able to trade for a social purpose – and that an asset lock and express limits on dividends are not absolute requirements. To do this, company law should be developed to create a new legal identity for mainstream businesses which trade for a social purpose.

There’s lots of possible objections to this view.

One is the position that, for the reasons explained in the article, the asset lock and limits on dividends are a barrier to investment – of both cash and sweat equity – in CIC’s Limited-by-Shares but that, rather than create a new form, it would make more sense to adapt the exist CIC structure. While there’s a clear logic to a lock on physical assets that might be given – or sold at a preferential rate – to a CIC based on the fact that it’s trading in the interests of a community, it’s less logical to prevent entrepreneurs or investors from profiting from the increased value of their shares based on the increased value of the company. It’s actively discriminates against entrepreneurs and early-stage investors.

A second objection, from the other end of the social enterprise spectrum is that we don’t ‘want social enterprise to go mainstream’ unless it’s on our own terms. Companies that exist (at least in part) to make a profit for shareholders are not part of the social enterprise family and don’t need to be encouraged by government or the social enterprise movement. This line of thinking can just about tolerate CIC’s Limited-by-Shares with a strong asset lock in place but regards further ‘concessions’ to the practices of mainstream business as a dilution of the social enterprise brand.

A third objection, which is broadly my own position, is that a new ‘social business’ form is a solution in search of a problem. Luke Fletcher explains that: “A curious quirk in the Companies Act 2006 provides a glimpse of how a Social Business form could be created in law… there is an exception to the general rule that a company exists for the benefit of its members or shareholders where the purposes of a company ‘consist of or include purposes other than the benefit of its members’. In the case of a company which has a social purpose in its Articles, the directors are therefore obliged under the 2006 Act to promote the success of the company by advancing its social purpose.

He adds that: “Unhelpfully, the 2006 Act does not give any clue about how the social purpose of a company limited by shares is to be reconciled to its ability to return profits to shareholders.

Fletcher believes that this reconciliation can and should be achieved by the creation of a new legal structure. A more pragmatic option is that shareholders in social businesses can, should and currently do reconcile competing shareholder and commercial interests themselves based on their own judgment. I’m happy to be corrected on this but as far as I know there hasn’t been an instance where the directors of Cafédirect, or a similar ‘for profit’ social businesses have been sued by shareholders for neglecting their interests in favour of pursuing the company’s social purpose.

Fletcher claims: “The new legal status would give mainstream businesses which operate for a social purpose a perfect opportunity to self-identify as a Social Business. It would also enable commissioners, customers and social investors to identify those businesses which are expressly run for social benefit and from which financial and social returns are available.

I’m slightly baffled as to how this could or should be the function of an organisation’s legal status. A company’s legal status is a good vehicle for setting out what it wants to do but, unless the annual registration fee is going to be very expensive, it’s a very bad vehicle for finding out whether it’s any good at achieving those aims. Companies engaging with (and needed to enthuse and reassure) commissioners need proper kitemarks, awarded by people qualified to judge the impact of their work and/or their competence. Customers and investors need to be convinced of the social value of a business by the people running it – though specific certificiations such as the Fairtrade Mark clearly also have a role in explaining the social impact of products to customers.

There’s lots of evidence that it’s difficult – but certainly not impossible – to generate profit for shareholders while delivering demonstrable social impact. There’s no clear evidence that running businesses for both shareholder profit and demonstrable positive social impact is difficult because we lack the legal structures to do it, or that those who have done it successfully need a new legal form to enable them to communicate what they’ve done and why. If the government is keen – as I am – to see more successful social businesses it should steer clear of new structures (while possibly adapting existing ones) and focus on providing practical support.

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Scottish clubs CIC in the right direction

There’s been some interesting coverage of social enterprise beyond the traditional outlets over the last week. This article from The Economist about the current challenges facing The Big Issue is well worth a look but perhaps more surprising is an article* in football magazine, When Saturday Comes, on the growing use of the Community Interest Company (CIC) structure by Scottish League football clubs.

According to the article, while lower division clubs, Stenhousemuir and Clyde, are already operating as CICs – Stenhousemuir’s website provides the kind of clear explanation for using the CIC structure than many social enterprises might do well to replicate – Premier League St Mirren are currently looking to become the first full-time professional club in Scotland to go down the CIC route. Unlike Stenhousemuir and Clyde, where the clubs themselves are CICs, in St Mirren’s case supporters have set-up a CIC co-operative with intention of raising money to buy a controlling stake in the club.

In the When Saturday Comes article, journalist Peter Geoghegan explains that: “When it comes to football, one of the most attractive features of a CIC is that it ‘locks-in’ all the club’s assets, ensuring that assets built up over time cannot be squandered for profit by the current generation. Instead assets must be used for the stated community purpose. Even if a CIC is wound up, its assets must be transferred to another, similarly asset-locked body. All this makes it mightily unattractive for any would-be robber baron chairman.

One reason why this story is worth highlighting is that it’s an example of situation where organisational structure really does matter. Most football clubs in the UK are set up as conventional trading business but both the aims of the business and its major stakeholders are very different to a conventional trading business. Some people do buy football clubs with intention of selling them on for a profit but the aim of a football club – even for most owners – is to win trophies while achieving financial sustainability rather than to make a profit while getting relegated.

In terms of stakeholders, the people who care most about a football club are the club’s supporters but they are, technically at least, in the simple position of paying customers whose rights don’t extent beyond the ability to either turn up to matches or not. Unlike the customers of restaurant or supermarket, however, most football supporters are stuck with their  team for life, and can’t just choose to go and support a different club if whoever happens to be owning the club at the time doesn’t provide the service they want.

The combination of a need for financial sustainability and wider accountability to both supporters and a local geographical community, makes CIC an ideal structure for football clubs. While the top five or six English Premier Clubs – which are major international brands – have the potential to make serious money for owners, beyond that top tier, there is no honourable way to make large amounts of money from owning a football club. While some do try to do so dishonourably, the general set-up in English football is for relatively rich people to lose lots of money owning football clubs in exchange for some combination of pleasure and prestige. This goes wrong when a particular rich person feels they’ve lost as much as they can afford to and tries to cut their losses and sell up but no one wants to take on business that’s laden with debt and has little or no chance of ever making a profit. A CIC wouldn’t be able to put itself in that situation – a rich person could still pour in unstainable levels of cash but they’d have to accept at the start that they wouldn’t get most of it back.

Unfortunately, the key barrier to CIC’s in English football is that, for most clubs, unless all the other clubs also chose to do so, living within their means would mean accepting that they’d be unlikely to ever reach the Premier League or – in the case of the smaller Premier League clubs – to qualify for the Champions League. As a Coventry City supporter, I know that our current ownership by a little-known venture capital firm is a disaster for all parties – they can’t be accused of asset-stripping because previous owners had already sold most of the assets before they took over – but I’m not sure that’s quite enough for me to give up on the dream that the club might one day be bought by a UAE-based billionaire who will chuck his oil wealth into the club enabling us to sign Lionel Messi.

Assuming, though, that clubs are in a position where it’s possible for them to become a CIC in the first place – either because supporters in the community can raise the funds to buy them from their owners or owners are prepared to give them to the supporters – CIC is potentially a structure that could enable football clubs to operate in the real world financially, while being responsive and accountable to their supporters and their wider local community.

As the When Saturday Comes articles notes: “Retiring football chairmen are wont to declare their desire to safeguard the long-term future of the club – Wigan’s Dave Whelan springs to mind. A CIC is not foolproof – a board could still overextend and get into serious debt – but it does introduce safeguards to protect the club for those who value it most.

*This article is not available online. It appears on page 11 of the February 2012 issue of When Saturday Comes.

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Missing from the manifestos?

I reckon CICs limited-by-shares are a good idea that potentially offer exciting opportunities for social enterprises to generate finance by selling equity. As far as I know, so far, not many of them are being set-up (as opposed to quite a lot of CICs limited-by-guarantee) and not many of those are managing to sell many shares.

My suggestion is the lobby should be asking the government to come up with some way of encouraging ordinary people – as opposed to very rich people or people running investment funds – to put cash into social enterprises.

My thought is that, given that the government guarantees your £50K worth of deposits in a bank, it might be also able to guarantee your first £10k or £20K worth of investment in a social enterprise (providing that enterprise met a series of conditions that prevent the state subsidising rank incompetence or scammery).

I don’t claim to be an expert in this sort of thing so I completely accept that a government guarantee might not necessarily be a practical idea but I’m sure there are possibilities for coming up with something that fulfils a similar function – allowing people to choose to invest some of their savings in a social enterprise, while somehow reducing the risk taken in doing so.

I wonder if anyone who does know what they’re talking about has thoughts on this?

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CICed into touch

If you’re reading this tomorrow, you will have sadly missed your chance to feed into the CIC regulator’s consultation on Dividend Caps and Performance Related Interest.

Community Interest Companies (CICs) are some new structures set-up by the government in 2005. The idea was to provide a company formation (or some company formations) that would be definitively social enterprise – as opposed to charity or ‘straight’ business. My company is one. We have our own regulator.

The current topic of conjecture is whether CIC’s that are limited-by-shares – so can raise cash by selling equity stakes to people hoping to get a share of the profits, should the company make a profit – should keep their current tight-limits on the % of profits they can distribute to their investors.

It would be interesting to know how many currently registered CICs have reached a level of profitability where this has been a problem. Or, in fact, how many existing CICs have sucessfully sold any equity.

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