Self-Regulation of Social Enterprise

Abstract

Social enterprise is a form of corporate organization in which firms are empowered to distribute profits, but are also free to trade off profit for other socially beneficial ends. Benefit corporation statutes, the most popular form of social enterprise legislation, provide that social enterprise firms must self-assess their public benefits according to third-party standards. Delaware and other states also allow firms to further commit to obtain periodic certification from a third-party auditor that the social enterprise firm is fulfilling its commitment to the public interest.

In effect, social enterprise replaces charity’s web of government regulation with a set of private contracts. This presents a puzzle for scholars of the nonprofit sector, for whom the received wisdom, tracing to Henry Hansmann, is precisely that organizations adopt the nonprofit form exactly because the costs of contracting for the production of most charitable goods is prohibitive. Social enterprise proponents suggest that third-party standard setting might be sufficient to give social enterprise the transparency needed to make contracting possible.

This Chapter will consider the viability of the social enterprise experiment in light of self-regulation theory, and related fields such as the law and economics of auditors and other “gatekeepers.” In general, the lessons are that voluntary regulation is, while capable of reining in some of the worst collective action dilemmas, usually subject to very serious constraints. To the extent that self-regulatory systems would be “effective” at assuring some small and unsophisticated donors, they raise consumer protection concerns.

Some of the most significant constraints self-regulation faces derive from a “regulated” firm’s ability to choose its own monitor. I therefore propose changes to state social enterprise laws that would condition social enterprise status on a firm’s random assignment to a state-approved list of audit firms. I consider and reject critiques of a similar earlier proposal for public-company auditors.

Keywords: social enterprise, self regulation, voluntary regulation, certification, gatekeepers, charity

JEL Classification: K22, L31