Should a Social Enterprise Issue Shares and Dividends?

I've found that social enterprises are often quick to dismiss the idea of having shareholders and using dividends. It's not that surprising when some funders and the Voluntary Code of Practice in Scotland do not permit the issuing shares to individuals. (There's a good reason for this which I'll discuss later.)

In some cases, it may be just because shareholding and dividends sound a bit too corporate, and seem at odds with running a socially minded business. This is a shame as shares and dividends can open up some useful options.

The decision of whether to uses these tools or not has implications on the legal structure of the company, which can have many implications later on.

My view is that when making decisions with long-term implications, it's certainly worth assessing all the options, even if this is only a 10-minute conversation with a trusted advisor.  At least if you dismiss the idea you have a sound understanding of why.

First, let's start with a couple of definitions:

What is a Share?

When a company is set up the risk to the owners is either limited by Shares or Guarantee.

Limited by Guarantee means that the company is owned by a group of members, who guarantee to pay a nominal amount to cover any liabilities if the company should fail - normally £1.

Limited by Share means that the company is owned by a group of Shareholders, who pay a certain amount to buy shares in the company. The shareholders' risk is limited to the cost of these shares.

The second option is higher risk, however, as the company (hopefully) increases in value, so do the shares.  Also, shareholders may receive a proportion of the profits made via a dividend.

There is also a link between how many shares a person or organisation owns and how much control they can exercise on the company. After all, it is their money that is at risk.

What is a DividenD?

If a company is Limited by Shares, when it makes a profit, it can share this out to those that own the company - the shareholders.

These payments are called Dividends and can only be made from the company's profit after its paid all its corporation tax.

The decision to pay a Dividend and how much of the profit should be paid has to be approved by those in control of the company.

So, what are the main reasons for a Company to have Shares?

  1. The ability to raise funds through Selling Shares
  2. The ability to make payments to shareholders (Dividends)

There can be several advantages to using Dividends as a tool to extract funds from a business.

The Uses of Dividends

Only payable out of profits

Dividends can only be paid from profits after corporation tax is paid. What better incentive to run a profitable business?

This could be a useful way to remunerate those who may help a company, while not having to commit to paying a salary.

Tax Efficient

The use of dividends can be more tax efficient, which is an area that has received quite a bit of attention recently.

This allows a business owner to be less of a financial burden on their company for the same pay. These savings can be passed on to customers or used to grow the business.

Dividends can be Restricted

This is a requirement for Community Interest Companies (CIC's), which limits how much of the profits can be used for dividends.

These kinds of restrictions could easily be put into any company's constitution. Even if not in the constitution, not all the profit has to be used for dividends.

The Right to Waive Dividends

It is permissible for a shareholder to waive their rights to receive a dividend payment, but only if there is a good commercial reason to do so.

This allows the shareholder to effectively put their money where their mouth is, requesting that the money for a potential dividend is used for something else.

From the above, it would seem that having shares and using dividends opens up a lot of options for a business. So, why don't all social enterprises go this route?

The Problem with Shares and Dividends

In order to pay dividends, people need to own shares in a company. Effectively they own part of the company. This means that if the company was wound up, they would be due a share of the remaining assets.

If these assets were originally paid for by funders for a social good, it would not be quite so good if they ended up benefiting these shareholders!

Certain controls could be put in place. However, there is always the danger that they could be legally (if unethically) circumnavigated.

Should my Social Enterprise issue Shares?

Whether to run your Social Enterprise as a company with shares or not depends on:

  • What you are doing
  • Who might be funding your projects
  • How you wish to demonstrate your Socially Minded focus

The last is a tricky one to qualify and why/how important it is to your organisation needs to be considered. I'm a strong believer that any business can act in a socially minded way, regardless of its legal structure.

However, you may feel you want a more tangible way to demonstrate your values:

  • You could sign up to the Voluntary Code of Practice in Scotland: this would rule out share ownership by individuals
  • You could set up a Community Interest Company (CIC): this limits how much of the profit can be used as dividends as well as imposing an Asset Lock
  • You could become a B-Corporation: obtaining certification that demonstrates that you operate within a socially minded code of conduct regardless of your structure

As with all things Social Enterprise - it's a balance. But, whatever you decide, make sure you've considered the options, even if it ultimately comes down to a personal choice that "issuing shares just doesn't feel right!"