Patagonia Road Tests New Sustainability Legal Status

Among companies with altruistic streaks, Patagonia has long stood out for the environmental philanthropy championed by founder Yvon Chouinard. The maker of outdoor clothing and gear has redirected a portion of profits to green causes since 1986 and discloses the chemicals it uses in its products. Patagonia appeared to take this spirit to its logical extreme on the retail industry’s “Black Friday” in late November, when it bought a full-page advertisement in the New York Times showing a picture of its R2 Jacket beneath the words “Don’t Buy This Jacket,” an ironic, or at least equivocal, plea to consume less.

Today the law has finally caught up with Patagonia’s do-good efforts -- California law, to be precise. The company, based in Ventura, announced it will become one of the state’s first “Benefit Corporations,” a new legal structure that gives directors legal cover to consider social and environmental missions over financial returns. The law creating the Benefit Corporation is one of two state measures that went into effect January 1. They’re each designed to embed goals beyond profitability into companies’ missions. The other law establishes “Flexible Purpose Corporations,” a model with greater leeway than the first. Governor Jerry Brown signed them both into law on Oct. 10 after political jockeying among supporters of each approach.

Under current law, shareholders can sue corporate boards for not maximizing profits, a risk that hamstrings companies interested in pursuing costly environmental or social initiatives. (Patagonia gets away with its program because it’s a private, family-owned company.) The rival camps behind California’s two new laws offer competing visions for what the future of sustainable business might look like. While both groups broadly share the goal of integrating social missions into business, they privately clash, sometimes bitterly, over the best approach.

The Flexible Purpose Corporation model was born in California, carefully tailored by a consortium of lawyers to fit within the state’s existing corporate code. It won the endorsement of the state bar association.

Here’s how it works. Flexible Purpose Corporations can write one or more special missions into their articles of incorporation. They can be as ambitious as fighting climate change or as modest as maintaining a park near the company’s office. The law instructs directors to consider the special aims in their decision-making, even when it could mean lower returns for investors. To make the appeal as broad as possible, the law’s authors avoided setting a minimum standard for what a “special purpose” could be.

By contrast, Benefit Corporations such as Patagonia must commit to creating an overarching “general public benefit.” Companies that incorporate as Benefit Corps must consider an array of stakeholders beyond shareholders, including workers, suppliers, the environment and the local community. They must measure their progress toward that goal against a third-party standard.

The Benefit Corporation model has passed in six other states over the past two years, most recently New York in December. It was developed by a nonprofit called B Lab, based in Berwyn, Pennsylvania. (B Lab publishes one of the third-party standards and, for a fee, certifies companies as sustainable businesses.)

Benefit Corporation “directors are now required to commit to the general public benefit and consider the interest of stakeholders,” says Andrew Kassoy, one of B Lab’s founders. The Flexible Purpose Corporation “doesn’t go as far in defining sustainable business.”

That’s by design. The Benefit Corporation’s requirements to weigh environmental impacts, for example, might not fit for a company whose mission is to create jobs in impoverished neighborhoods, says Susan Mac Cormac, a partner at law firm Morrison Foerster in San Francisco who helped invent the Flexible Purpose Corporation. She says the question was, “How flexible do you want your model to be?”

“What we came up with is something that’s pretty radical,” says R. Todd Johnson, a partner at Jones Day in Palo Alto who also helped craft the Flexible Purpose Corporation law. “I think we came up with something that’s also usable.”

Some proponents of the new laws are quick to point out where they see flaws in rival proposals. Kassoy says a law that doesn't include a commitment to "general public benefit" and a third-party standard "has the risk of greenwashing." Backers of the Flexible Purpose Corporation, including Mac Cormac, contend the Benefit Corp forces directors to weigh so many competing interests that it's unrealistic for publicly traded companies who face risk of shareholder lawsuits.

The big question for the new laws is who will use them. Patagonia is the highest-profile business to adopt one of the new structures, and it’s a public-relations coup for B Lab. Co-founder Kassoy says the organization doesn’t know how many companies have incorporated using the Benefit Corporation form.

Some of the Flexible Purpose drafters expect fewer than a dozen new corporations in the first year. Mac Cormac says she’s in discussions with several large consumer brands (she declines to name them) that are considering setting up flexible-purpose subsidiaries. Autodesk, a publicly traded maker of design software, supports the law, spokeswoman Carolyn Rohrer said in a statement after the bill passed, though she stopped short of saying whether the company might use it.

In the year ahead, the rivalry between the two forms is likely to play out as other states, including Washington and Colorado, consider statutes for creating not-entirely-for-profit businesses. In Washington, the state bar association is considering a proposal to create a more permissive statute similar to California’s Flexible Purpose law. B Lab is pushing for a version of its legislation in Washington state.

Drew Markham, an attorney at Wilson Sonsini Goodrich & Rosati in Seattle, began looking into ways to encourage socially responsible business in Washington state two years ago. First she examined the B Lab proposal, but concluded it’s “very unlikely to be used by a company seeking any venture backing or by a public company.” Now she’s among the lawyers pushing for a more permissive statute for companies that want to do good.

“My feeling is that more and more entrepreneurs ... understand they need to do more for their community, they need to do more for the environment, they need to do more for their employees,” she says. “We need to allow them to do some of those things, without penalizing them for not doing all of those things.”