Some individuals believe that social enterprise is the future of business. There may be some basis for that argument given the resilience these types of organisation have shown during the economic challenges of recent years. As campaigners continue to petition the government for more favourable regulations for the sector, the KG Accountants blog continues its in-depth look at community interest companies (CICs). First launched in 2005, there are now more than 28,000 CICs in the United Kingdom and this company model is a useful vehicle for philanthropic entrepreneurs setting up a social enterprise.
A community interest company is a hybrid of a limited company and a charity. Essentially, it is a limited company with a social mission.
CIC owners can run their business with the relative freedom of the familiar company framework without worrying about the extra layer of governance required of a charity.
According to the 2017 State of Social Enterprise Survey produced by Social Enterprise UK, 22 percent of social enterprises in the UK are community interest companies. Of these, 11 per cent were CICs limited by guarantee, five per cent CICs limited by shares while six per cent were unsure.
Philanthropic entrepreneurs setting up CICs may be undecided about whether to set up a CIC limited by guarantee or limited by shares. This is a very important consideration, because once it is formed, you cannot switch between the two. In this article, we shed some light on the distinctions between these two types of CICs.
Deciding between a CIC limited by guarantee and limited by shares
A CIC is a type of limited company which must be registered at Companies House as well as with the CIC Regulator. These have a number of unique characteristics that make them attractive to entrepreneurs. Among them are:
It is a distinct legal entity – this means that it exists as a separate person rather than on behalf of its shareholders.
The owners are only legally responsible for its debts up to the amount they have invested or pledged.
Limited by Guarantee vs Limited by Shares
A CIC limited by guarantee (LBG) is a company which has no share capital and cannot pay dividends. The owners agree to meet the company’s debts up to a specific limit if it was to fail. Beyond that, they have no further liability for the company’s debts.
In a CIC limited by shares (LBS), the company will have a stated amount of capital which is divided into a number of shares. Once a shareholder has paid the full nominal value of his or her shares to the company, he or she has no other liability.
There is also an option to form a private or a public company. Unlike the latter, private companies are forbidden to offer shares to the public. However, public companies are more heavily regulated. The good news is that companies are free to convert from one to the other as their needs evolve. CICs limited by guarantee can only be private companies.
One fundraising challenge faced by CICs limited by guarantee is that if private investors wish to invest in the company, they cannot issue them with shares. This is one reason why a number of not-for-profit companies may choose to be formed as a CIC limited by shares.
CICs and the Dividend Cap
One advantage of CICs limited by shares is that dividends can be paid to shareholders. This can make a CIC an attractive investment proposition. However, given the social mission of a CIC, the amount of profits paid out to shareholders is capped at 35 per cent by law. The remaining 65 percent of distributable profits must be reinvested back into the company or used for the community it serves.
However, dividends are not capped if a CIC’s shareholders are all asset-locked bodies (that is, organisations with a charitable or community purpose).
Which structure is better? LBG or LBS?
The most significant and obvious difference is how funds can be raised. For example, in an LBG all the money raised needs to come from grants and donations, whereas, under an LBS, third-parties can own shares, be paid dividends (limited), and create income.
The LBG structure is ideal for an organisation that intends to remain small and local. That type of company, whether it’s for-profit or non-profit, is unlikely to be enticing to investors.
An LBS structure can attract investors to raise money. The investors are able to make a bit of income, while at the same time, seeing the majority of their funds used to improve the community.
An LBG structure will see much of its initial startup money come from the directors. An LBS can raise money by selling shares. The LBS structure is perfect for large corporations that want to start a charitable wing. This structure allows the CIC to show it as a profitable item while still meeting social responsibility requirements.
One of the reasons is that the LBS structure was created precisely to make “charities’ ‘ more attractive to investors. In the for-profit world, investors are the best way to grow a company. Since a charity can’t offer any value to the investors, that avenue of fundraising was never available. Using the LBS structure, CICs are able to grow using investment funds, but still allocate a significant portion of all profits to community service, as opposed to a purely capitalistic profit motive.
So which one is better? It will depend on what the vision is for the organisation. It’s important to choose wisely and look closely at your options before choosing. You can’t change from one to the other later. Once chosen, you must remain in the structure you chose.
Conclusion
Just to reiterate, CICs limited by guarantee cannot be converted to one limited by shares and vice versa. Make sure you get professional advice before making a final decision.
Find out more by visiting the website of the Office of the Regulator of Community Interest Companies.
The importance of legal advice
The decision to form a community interest company should be taken very seriously, because once it is set up, the only way out is to dissolve the company and cease to exist or convert the CIC into a charity. All assets will need to be passed on to a nominated charitable organisation. It is therefore strongly recommended that an individual gets legal advice before forming a CIC.
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Categories: cic formation, cic register, Community Interest Companies
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