Anyone who has had a hand in starting or running a social enterprise will know that determining which corporate structure is the most appropriate can be one of the trickiest parts of launching their business. Making the right structuring decision at the right time can be the difference between success and failure, and the decision is often complicated by a lack of clearly defined legal structures specifically aimed at social enterprises.
While most jurisdictions have well-established corporate structures for profit-centric businesses (limited companies, partnerships, etc) and for humanitarian or developmental programmes (NGOs, foundations, etc), very few have entirely satisfactory options for combining the two.
On one hand, charitable structures are typically subject to very strict regulations on funding and governance, which can hamper the profitable operations of a social enterprise. On the other hand, business-focused structures are often subject to expensive auditing and taxation regimes, more appropriate for their intended use as purely profit-making entities, which can dramatically limit the funding available for the humanitarian operations of a social enterprise. Social entrepreneurs looking to establish a business are therefore generally met with a confusing choice of available legal structures, none of which seem to quite meet their requirements.
This article looks at how some South East Asian social enterprises operate and adapt within the corporate structures available to them, using case studies from the new ASEAN Social Enterprise Structuring Guide, jointly produced by the British Council, the Thomson Reuters Foundation, Tilleke & Gibbins, and United Nations ESCAP.
A limited company
Perhaps the most common structure for social enterprises is the limited company, which offers a great deal of flexibility in carrying out business. Take SURI, for example, a Malaysian social enterprise that empowers low-income single mothers who aspire to improve their household income but struggle with the financial challenges of doing so.
SURI operates a business selling a range of bags made from upcycled denim, using its profits to provide resources, assistance, training and networking opportunities to the local women who make them. By carrying out the business as a limited company, SURI has a great deal of flexibility to operate as it wishes, and to redistribute its profits to pursue its cause with relative ease. But there are downsides. Limited companies are expected to be profit-driven, and are thus subject to a great deal of red tape. The regulatory burden of annual audits, in this instance set by the Companies Commission of Malaysia, is very costly for a newly established social enterprise, and SURI had to plan carefully to account for these in their early years.
Regardless of jurisdiction, operating as a limited company can bring excessive tax burdens. On paper, Thailand has come up with a generous regime for handling this problem, with legislation in place to grant official social enterprise status to businesses that can prove redistribution of their funds for certain charitable purposes, including generous tax exemptions. In practice, however, the application system for gaining social enterprise status appears to have stalled, with many social enterprises reporting that, after submitting their applications, their approval has been indefinitely delayed.
A traditional charity
Some Thai social enterprises which meet the charitable redistribution requirements of the social enterprise status framework therefore find it more favourable to stick to more traditional charitable corporate structures. The Chao Phya Abhaibhubejhr Hospital Foundation in Prachin Buri shows how a traditional charity corporate structure (a foundation in this case) can still operate well as a social enterprise, provided that revenue is entirely used for legally defined charitable purposes. The Hospital Foundation was established in 2002 to preserve knowledge about traditional medical and Thai herbs and uses the revenue which it gains from manufacturing and selling those herbs to support its hospital expenses and fund education programmes on herbs and their health benefits.
The Hospital Foundation also encourages local farmers to conduct organic farming through a self-funded organic farming education centre, a forward purchase contract for processing and distributing produce through various channels in urban areas, and a communal fund covering nine organic farming zones, to deter urbanisation and promote local employment in rural areas. Farmers can earn revenue to pay off debts using the communal fund available.
The Hospital Foundation generates annual sales revenue of over THB 400 million (about USD 11.4 million). About 70 per cent of the foundation’s revenue is distributed to the hospital for medical expenses, while 30 per cent of the revenue is used to develop herbal products and support other social causes, all of which meet the strict definitions of charitable activities under Thai law.
While this example is a great success story, a purely charitable enterprise simply isn’t appropriate for many social enterprises, and what constitutes legally defined charitable operations is different from country to country. Thai medicinal herbs may be protected under cultural or humanitarian charitable definitions in Thailand, but might not be in, say, the Philippines. Charitable models also have limitations that might hamper some other operations, such as an inability to seek private investment or loans, and a stakeholder and governance structure that prohibits shareholding.
A hybrid structure
For larger social enterprises, a middle ground may be available through the establishment of a hybrid structure, in which several different organisations are operated as a group, with commercial activities carried out as a limited company or similar, and non-profit activities carried out by a charitable structure, funded vicariously by the profit-making entities.
Yayasan Cinta Anak Bangsa (YCAB) is an Indonesian entity that typifies the hybrid approach. Focused on youth development, YCAB carries out holistic programmes in which education and access to finance converge to enable sustainable economic independence. Initially established as a foundation, YCAB found it quite difficult to obtain sustainable revenue due to the strict funding requirements imposed on Indonesian foundations. It therefore evolved into a social enterprise hybrid structure, to generate additional funding to cover administration expenses and operational costs, on top of the corporate partnership funding and public donations used for majority of its programmes.
YCAB’s social enterprise group now consists of several limited companies that generate profit from various business activities, such as selling animal rides for children, operating game centres in malls and department stores and providing health and beauty treatments through a spa centre. The profits from these activities contribute to the operation of several programmes including a cooperative providing education-linked micro-loans to underprivileged women entrepreneurs. The YCAB Social Enterprise Group has been so successful that it now employs more than 655 staff members, and it continues to grow.
YCAB’s fantastic success offers a masterclass in navigating the limitations of corporate structuring for the benefit of a social enterprise. However, for many social enterprises, this kind of complex hybrid structure is simply not an option. Social enterprises come in all shapes and sizes, and in some cases, a simple sole proprietorship (one person owning and governing a business alone, and assuming all of the risk) may be the best option, while in others the profit distribution may be structured in such a way that purely profit-driven or purely charitable legal structures may be very favourable.
There is no one-size-fits-all answer, and navigating the various options available can be confusing and costly. However, the new ASEAN Social Enterprise Structuring Guide seeks to make structuring a little less arcane and a lot more practical.
Available free of charge, the ASEAN Social Enterprise Structuring Guide covers the pros and cons of each available structure in Cambodia, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Thailand and Vietnam, and the regulatory and compliance obligations which come with each option. Download a copy here.