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The Business Lawyer

Summer 2023 | Volume 78, Issue 3

Social Enterprise Governance Post-SOX

Alina S Ball

Social Enterprise Governance Post-SOX

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Social enterprises—nonprofit and for-profit businesses that use market-based strategies to achieve social change for marginalized populations—demonstrate a new paradigm for doing business in the United States. The Sarbanes-Oxley Act of 2002 (“SOX”), which transformed financial reporting and heightened internal controls for public companies, has, perhaps unintentionally, also had an outsized influence on the development of social enterprise governance. The primary impact of SOX is found in the state-level auditing and reporting reforms imposed on large nonprofits. Moreover, “benefit reports,” the lynchpin of social enterprise state legislation, also mirror the SOX emphasis on transparency through third-party assessment. This article outlines those reformist and legislative SOX-inspired efforts targeting the mission-driven sector, within which nonprofit and for-profit social enterprises reside. This article also explores how social enterprise governance could further develop by learning from twenty years of SOX successes, criticism, and legislative modifications.


The twentieth anniversary of the Sarbanes-Oxley Act of 2002 (“SOX”) is an opportunity to examine the ripple effects of SOX beyond the context of public companies. This article provides a descriptive summary of the impact of SOX on the social enterprise sector. Depending on which vantage point one takes, SOX can be said to have made a significant impact on the emergence and development of social enterprise governance. Indeed, SOX and its heightened emphasis on improved financial reporting has altered auditing practices for many nonprofit social enterprises and inspired key features of social enterprise legislation. However, twenty years later, it remains unclear if these SOX-inspired reforms have improved social enterprise governance or whether SOX is the right benchmark for the future of social enterprise governance reform.

Social enterprises are businesses organized as for-profit or nonprofit firms that utilize market-based strategies to advance social and environmental goals. Social enterprises promote social change and equity by addressing structural barriers that marginalize and exclude various populations, such as refugees and asylum seekers, individuals with criminal records, and individuals experiencing homelessness. While for-profit, mission-driven companies are often touted as the archetypal social enterprise, it is well accepted that numerically more social enterprises are nonprofit corporations, though the empirical data here is not well developed. As I have written previously, imagine a Venn diagram of for-profit companies and nonprofits, where the overlap is companies that could arguably organize as either a tax-exempt nonprofit because of their clearly articulated charitable purpose or a for-profit entity because of their potential to generate financial returns for owners. This overlap in the diagram is an accurate description of how this article uses the term “social enterprise.”

The passage of SOX came in the wake of a series of corporate scandals. The fallout from the WorldCom inflated earnings scandal, the Enron accounting scandal involving Arthur Andersen, other related scandals, and accounting scandals in the early 2000s was not just limited to those investing in public companies or high-tech industries. These major corporate scandals involving mismanagement, investment banking fraud, and accounting malpractice not only stunned their industries, but also disrupted the larger economy, causing high levels of market volatility. SOX emphasized the need for internal controls of financial reporting and the imperative that boards are both aware of and accountable for the acts of the corporation. SOX was and continues to be a unique legislative process in the degree of wide bipartisan support for the bill. Major accomplishments of SOX were to create the Public Company Accounting Oversight Board and to establish requirements for independent audit committees, executive attestations of financial report accuracy, and, through Section 404, corporate governance requirements including internal controls for oversight of financial statements.

SOX governs social enterprises in a variety of ways. First, social enterprises are subject to SOX both because of their activities and because of the breadth of the legislation’s reach. Some social enterprises are subject to SOX based on their activities as publicly traded companies. Laureate Education, Inc., for example, the first publicly traded public benefit corporation, raised nearly $500 million during its initial public offering. Still other social enterprises have demonstrated that an impact-driven company can attract the major investors necessary to achieve an exit through IPO or acquisition. Moreover, several publicly traded companies have social enterprise subsidiaries.

There are also SOX provisions that apply broadly to social enterprises because they apply to all businesses and are not limited to public companies, notably the document retention and whistleblower protection provisions. The document retention provisions make it a crime to knowingly alter, conceal, or falsify any document or object with intent to impede or influence a federal investigation of any federal matter. Consequently, many social enterprises have adopted document retention policies post-SOX that are either included in the bylaws or in a separate board policy. Similarly, whistleblower protection provisions make it a felony to retaliate against any employee who suspects fraudulent financial activities who then provides law enforcement authorities with truthful information relating to the alleged offenses. Although SOX does not require a written policy, some social enterprises now have a written whistleblower protection policy as a matter of best practice.

While acknowledging the aforementioned implications of SOX on social enterprises, this article focuses on those reformist and legislative SOX-inspired efforts targeted at the mission-driven sector, impacting the development of social enterprise governance. Most social enterprises are small companies that are not accessing capital markets. Thus, much of Section 404 is not formally applicable to most of the social enterprise sector. SOX was an effort to curb mismanagement that presents systemic risks to capital markets. The purpose of SOX is to deter fraud in publicly traded corporations by improving the accuracy and reliability of financial reporting, not to advance social mission or other non-shareholder concerns. Thus, it may seem unnecessary to examine what, if any, impact or influence SOX had on social enterprises. But ignoring the inquiry would be fool hearted.

The social enterprise sector provides businesses and services that are desperately needed in the market and society. If SOX governance measures have proven effective, then it is useful to understand if importing similar provisions could improve performance and reduce mismanagement for social enterprises as well. Corporate law helps minimize agency costs by allowing shareholders to monitor the effectiveness of boards and officers and to sue if director and officer decisions are not made in the best interest of the corporation. However, for-profit social enterprises differ even from other small businesses because traditional metrics of shareholder oversight, which rely heavily on profit maximization, are not the default metrics of social enterprise success. For-profit social enterprises also attempt to define their business success as social change impacts, which can be difficult, if not impossible, to measure. As a result, below market indicators are less likely to raise the same level of shareholder scrutiny into the governance or finance practices of for-profit social enterprises. Relatedly, nonprofit social enterprises do not have shareholders. Nonprofit social enterprises often raise funds directly from the public through donations but lack, among other governance controls, the possibility of shareholder litigation to help maintain officer and director accountability. Thus, most social enterprises lack the regulatory and private ordering mechanisms that help deter mismanagement and opportunism. As social enterprises utilize direct public offerings and increasingly engage with investors and donors, the financial stability of the sector is more important even if donors and investors do not anticipate traditional returns on their investments in social enterprises. As a result, the social enterprise sector has a specific need for robust standards and information production to encourage good governance practices.

In Part I, this article examines public responses to corporate scandals that sparked national conversations on corporate governance and financial reporting within the nascent social enterprise sector. For example, across the country state legislatures considered, and influential states enacted, SOX-inspired changes to nonprofit governance requirements. Additionally, the rise of the for-profit social enterprise sector has been traced to the fallout from the corporate scandals of the early 2000s, as a growing number of investors, entrepreneurs, and customers were interested in businesses committed to doing good. Social enterprise legislation incorporates reporting and internal control requirements that mirror SOX provisions. Thus, post-SOX, governance standards and reformist legislation attempted to curb opportunism within, and encourage the transparent mission-aligned growth of, both nonprofit and for-profit social enterprises. As a result, the language and norms of social enterprise governance have the distinct influence of SOX. While not merely rhetorical, as Part II summarizes, there is little evidence that these SOX-inspired standards have led to meaningful improvements in corporate governance and financial transparency within the social enterprise sector. Given this, Part III outlines initiatives that could further strengthen social enterprise governance with the benefit of the lessons learned, criticism, and legislative modifications in the twenty years post-SOX implementation. The article argues the Internal Revenue Service (“IRS”) and private investors could better incentivize good governance by increasing access to capital for social enterprises that voluntarily adhere to enhanced internal controls and reporting standards.

I. SOX Changed Everything

Although SOX provisions expressly govern publicly traded corporations, SOX governance reforms have influenced the national conversations on and led to state-enacted reforms and the adoption of new industry best practices for nonprofit and for-profit social enterprise governance.

A. Nonprofit Governance Reforms

Following several nonprofit scandals in the early-2000s that undermined confidence in the nonprofit sector, politicians discussed and state legislatures enacted SOX-inspired reforms patterned after securities regulation as a means of deterring fraud and opportunism in the nonprofit sector. In 2016, U.S. nonprofits generated more than $2.5 trillion in revenue and held nearly $6 trillion in assets. While significantly less than the $12 trillion in revenue generated by Fortune 500 companies alone in 2016, nonprofit assets are a noteworthy and growing portion of the U.S. economy. Historically, approximately 80 percent of U.S. households—some demographics giving at staggering rates—donate to nonprofits. This is substantially more than the percentage of U.S. households directly invested in the stock market. Thus, mismanagement in the nonprofit sector understandably can hold the public’s attention as well as initiate pressure from elected representatives.

In the wake of bubble busting, there were also several nonprofit scandals that demanded the attention of Congress. In 2001, the outpouring of donations to the American Red Cross and other nonprofits following the September 11 attacks, where donations were funneled into general operations or were otherwise unaccounted for, sparked public outcry. Given how many people donated to charities to support September 11 victims, it is not surprising that Americans were reportedly following the Red Cross scandal closer than the Enron bankruptcy. Not long before, the United Way of America scandal, where the CEO used over $1.2 million of the charity’s corporate funds for personal reasons, highlighted the lack of board oversight. In the aftermath of the scandal, donations to the United Way went down “from $45 million to $18 million.” In California, from 1995 to 2002, a nearly $1.3 billion loss was reported due to nonprofit scandals. Diminished public confidence was seen as a real crisis impacting the entire nonprofit sector.

Like the public outrage regarding the untrustworthiness of well-established publicly traded companies, constituents expressed concern about nonprofit financial integrity. As IRS Commissioner Mark Everson noted:

We need go no further than our daily newspapers to learn that some charities and private foundations have their own governance problems. Specifically, we have seen business contracts with related parties, unreasonably high executive compensation, and loans to executives. We at the IRS also have seen an apparent increase in the use of tax-exempt organizations as parties to abusive transactions. All these reflect potential issues of ethics, internal oversight, and conflicts of interest.

Thus, politicians and think tanks publicly contemplated nonprofit reforms that borrowed heavily from SOX to improve nonprofit governance and management of nonprofit finances. Although no federal legislation was enacted for nonprofits, the Senate Committee on Finance created a draft paper on possible legislation. The Senate proposal would have required nonprofit CEOs to certify the accuracy of their nonprofit’s processes and procedures for financial reporting, and that CEOs certify the material completeness of all tax returns. The Panel on the Nonprofit Sector, a nonprofit sector coalition formed with the encouragement of the U.S. Senate Finance Committee, also supported the recommendation. The panel’s proposal recommended that Congress require nonprofits with annual revenues of at least $250,000 to hire an independent accountant to review their financial statements and nonprofits above $1 million revenue threshold to submit audited financial statements. With a stated goal of enhancing transparency and promoting good governance, the IRS incorporated several of the recommendations generated in revised versions of the Form 1023, the initial tax filing for charitable tax-exemption, and the Form 990, annual return for tax-exempt nonprofits.

Similar legislative discussions also took place at the state level. Several states considered or adopted their own SOX-inspired reforms for nonprofits. In New York, legislation was proposed to require the CEO or CFO of large nonprofits to attest to the accuracy of the nonprofit’s financial statements. Ultimately, New York passed legislation clarifying that it would breach fiduciary duties if nonprofits filed reports that are not “complete and accurate.” Of the state legislative proposals that were enacted, California’s is the most substantial reform to nonprofit governance. Aimed at improving governance by incorporating modified versions of SOX provisions, the California Nonprofit Integrity Act of 2004 (the “Integrity Act”) requires that any charity receiving annual gross revenues of $2 million or more maintain an independent audit committee. Although the Integrity Act does not include a requirement for a financial expert on the audit committee, in practice that is often the goal. If the nonprofit has a finance committee, the Integrity Act mandates that members of the finance committee may not comprise 50 percent or more of the audit committee. Like SOX, the objective behind requiring independence between the audit and finance committee is a heightened oversight of nonprofit financials. California nonprofits with revenues of $2 million or more must also conduct independent audits of annual financial statements. The Integrity Act also requires directors to review and approve executive compensation to ensure they are “just and reasonable.”

Regardless of the state of incorporation, high-revenue nonprofits have invested in their governance practices post-SOX to be competitive for private foundation dollars. Outside of state mandates, many large nonprofits have voluntarily adopted SOX-inspired practices into their governance: “Overall, the nonprofit sector has collectively devoted considerable resources to implementing SOX-related policies and reforms since the passage of [SOX] in 2002.” However, nonprofit “adherence to [SOX] varies considerably for different provisions.” Research shows that many nonprofit organizations have an annual (or biannual) external audit, audit committee of the board, dual leadership (defined as the positions of board chair and CEO held by different persons), independent directors, CEO certification of the accuracy of financial statements, and open public access to audit reports among other SOX measures. Large nonprofits are choosing to opt into these SOX provisions to improve their reputations through transparent and accountable financial reporting that is widely acknowledged as governance best practices. There is also empirical evidence that adoption of SOX governance controls reduces risks of accounting fraud and enhances the effectiveness of nonprofit boards.

Even though national discussions on nonprofit governance did not result in federal legislation or universal state reforms, the passage of SOX initiated conversations that changed reporting requirements and best practices for nonprofit governance. Nonprofit governance became an earnest topic of inquiry and influenced a culture shift impacting nonprofit social enterprises.

B. Quasi-Regulatory Social Enterprise Legislation

In the aftermath of the scandals, there was substantial public and political support for more for-profit businesses doing good while doing business. While there was an initial increase in corporate altruism following the corporate scandals, research has found that corporate rhetoric did not necessarily result in sustained corporate commitment to social responsibility. Although for-profit companies have broad discretion to engage in socially beneficial activities, they consistently resist placing societal or environmental benefits above short-term profit maximization. Thus, public skepticism about how corporations use rhetoric to market themselves as socially and environmentally responsible remained high in the late 2000s because corporate actions routinely did not match the stated corporate commitment. “[C]orporations feel some pressure to project an image of other regarding or socially responsible behavior, even when there is no corresponding desire to engage in such practices.” Public frustration with corporate rhetoric on social justice issues proving inconsistent with corporate actions is an enduring widely held sentiment.

Moreover, politicians, the media, and the public blamed the “tunnel-vision focus on profit and wealth maximization for the corporate scandals,” which necessitated congressional intervention. SOX does not require a fundamental change in the values of directors and officers making the decisions about corporate expenditures or actions. The corporate scandals of the early 2000s primed the stage for for-profit social enterprises, which provide a different kind of business model altogether that values social impact and change through its pursuit of profits. For-profit social enterprises demonstrate their commitment, not as rhetoric but through actions deeply baked into their business practices. Thus, the emergence of for-profit social enterprises in mass during the early 2010s had a ready audience of consumers, employees, and impact investors.

The public’s enthusiasm about for-profit social enterprises facilitated an explosion of social enterprise law. Within less than a decade, legislation across the country provided for the benefit corporation, social purpose corporation (“SPC”), or public benefit corporation (“PBC”) in Delaware, the public benefit limited liability company (“PBLLC”), and the low-profit limited liability company (“L3C”)—all for-profit entities that require the firm to adhere to either a general public benefit or its stated specific social purpose. They are collectively referred to as “hybrid entities” because each is a for-profit entity mandated to consider social purpose or mission, much like a tax-exempt nonprofit must have a charitable or educational purpose. Hybrid entities were enacted to provide off-the-shelf for-profit entity options for social enterprises and to signal to social entrepreneurs the state legislature’s interest in making the state economy social enterprise friendly.

Hybrid entity statutes have quasi-regulatory reporting provisions requiring the social enterprise to transparently assess its advancement of its social mission and report on its financial expenditures. These annual or regular reports are referred to herein as “benefit reports.” The quasi-regulatory characteristics of the benefit reports make hybrid entities unique among the corpus of company law, applying to all hybrid entities regardless of revenue thresholds or number of owners. The benefit report has been referred to as the lynchpin of social enterprise law because it is seen as indispensable to ensuring the social enterprise’s adherence to its social purpose.

For example, in California, all SPCs must prepare and provide shareholders with annual reports including a management discussion and analysis (a “special purpose MD&A”) summarizing the corporation’s material actions taken with respect to its stated purposes. The SPC benefit reports require a discussion of financial, operational, and managerial performance. Directors, officers, and agents of the SPC are jointly and severally liable for materially false information they knowingly include the benefit report.

The hybrid entity reporting and governance requirements mimic key SOX provisions to increase accountability and mission alignment of social enterprises. It is difficult to imagine that social enterprise legislation would have included these SOX-inspired features but for the passage of SOX, given that no other entity up to that point had.

II. SOX Changed Nothing

However, in practice, it is not clear how effective these post-SOX social enterprise governance reforms have been in reducing financial fraud and increasing transparent reporting within the social enterprise sector. As Professor Bainbridge points out, summarizing the extent to which SOX and SOX-inspired reforms “generated significant improvements in accounting quality is complicated, however, because there are confounding factors.” The development of business practices and governance norms over the last two decades has been a “dynamic environment in which there are many unknowns and unknowables.” Moreover, the contours of social enterprise governance are still evolving.

A. Ongoing Nonprofit Scandals

High-profile nonprofit failures and scandals did not stop in the early 2000s after the national conversations on nonprofit governance and the reforms enacted to decrease nonprofit financial fraud. In 2013, for example, an investigative report from The Washington Post found that, between 2008 and 2012, more than 1,000 major U.S. nonprofits disclosed “significant diversion” of assets from internal wrongdoing in their Form 990 federal filings. Some of these were relatively small amounts, less than $250,000, but others were between $40–60 million in unsubstantiated spending. Total reported diversions from the charitable mission totaled $170 million in 2009 alone. “You go out of your way to trust a nonprofit. People give their money and expect integrity. And when the integrity goes out the window, it just hurts everybody. It hurts the community, it hurts the organization, everything. It’s just tragic.” In 2015, the Federation Employment and Guidance Service, Inc. (the largest social services agency in New York operating over 200 programs) announced bankruptcy due to financial mismanagement. In 2015, the Red Cross was again embordered in scandal after the outpouring of public donations to support victims of the 2010 devastating earthquake in Haiti could not be accounted for as victim relief efforts. In 2016, the Wounded Warrior Project fired its CEO and COO after reports of wasteful spending. In 2019, the exposure of the Key Worldwide Foundation’s participation in the “Varsity Blues” scandal, where parents paid off officials and administrators to ensure admission of their children into elite universities and colleges, demonstrated pervasive integrity issues across multiple nonprofits.

Despite new best practices for nonprofit governance post-SOX, nonprofits remain almost entirely self-governed because there is no agency that focuses on enforcing nonprofit governance. Most attorneys general and secretaries of state lack the bandwidth to adequately enforce nonprofit reporting requirements. Although attorneys general have exerted formal oversight of nonprofits, they do not have the bandwidth or the budget to monitor nonprofit governance. This allows ample opportunity for continued nonprofit mismanagement. While more empirical data would be helpful to compare the numbers of nonprofit scandals before and after SOX-inspired reforms, what is clear is that nonprofit integrity issues and mismanagement endure.

In some instances, the post-SOX nonprofit governance reforms may have even exaggerated the underlying issues. For example, although an objective of the Integrity Act is to ensure executive compensation is “just and reasonable,” researchers have found that California nonprofit CEO compensation was “increased by about 6.3 percent (post-regulation) when compared with a control group of comparable unaffected nonprofits. Scholars caution that increased disclosure requirements may contribute to an upward spiral inflating instead of curtailing executive compensation.”

Thus, it is not clear the SOX-inspired reforms tangibly improved nonprofit governance. Scholars maintain there are still significant problems in nonprofit governance, in some cases describing nonprofit governance as “abysmal.” “A remarkable number of commentators agree that boards of [nonprofits] are generally less effective than [for-profit] corporate boards.” In the absence of shareholders, Professor Dent argues that nonprofit CEOs end up governing nonprofits with boards rubber-stamping the CEO decisions. He argues there is limited to no accountability of nonprofit directors in part because of a lack of understanding or uncertainty about roles and responsibilities of directors. However, SOX-inspired reforms did not resolve an underlying cause of poor nonprofit governance, which is a lack of financial and social capital resources. The nonprofit sector remains sorely underfunded to achieve its stated goals of public service and advancing social change.

Both legal and public perspective restrictions placed on nonprofits ensure they will rarely have the financing to adequately address societal issues. A key difference in nonprofit and for-profit entities is the reality that for-profit companies have more access to capital, which allows them to pay their directors and attract director talent with corporate governance and financial reporting experience. Conversely, the nonprofit norm is to appoint volunteer directors, who are not compensated for their service. Insufficient access to capital also prevents nonprofits from hiring experienced legal counsel, accountants, and auditors, who are key gatekeepers on for-profit officer actions and board decisions. At the same time, SOX has contributed to both decreasing the pool of available auditors and increasing the cost of audited financials for nonprofits. Without independent legal counsel and auditing, nonprofits often rely on personal relationships to obtain guidance, making it less likely those resources will enforce governance best practices (intra-board, CEO to board, or board over CEO).

While SOX requires intensive and costly reporting and internal processes, SOX governs publicly traded companies that have determined that their participation in the capital markets outweighs the costs of these requirements. Nonprofits, on the other hand, do not have increased access to capital under the SOX-inspired reforms applicable to nonprofits. Thus, nonprofits understandably continue to struggle to implement post-SOX best practices and improve fundamental impediments to good nonprofit governance.

B. Elusive Benefit Reporting

While for-profit entity options for social enterprises have drastically increased in the last decade, social enterprises have been hesitant to organize under these new hybrid entity statutes. A barrier to adoption of hybrid entities by social enterprises is the hardship in the benefit reporting requirements. Although not as expensive as SOX reporting requirements, benefit reports still require substantial time and financial resources to prepare. Moreover, there is little evidence that social enterprises are using benefit reports as governance tools. Few social enterprises are releasing benefit reports, with some compliance rates below ten percent. Unlike the SOX regime where the Securities and Exchange Commission enforces SOX governance requirements and reviews submitted reports, secretaries of state are not enforcing benefit reporting requirements because they lack the necessary resources. With no agency enforcement of this statutory reform, single-digit benefit reporting compliance is understandable. For those benefit reports that exist, there is minimal quality control. These realities add to concerns that hybrid entities are marketing strategies that do not meaningfully advance social change or strengthen the firm’s adherence to its social mission.

For-profit social enterprises have evaded major accounting and fraud scandals. The issues benefit reporting seeks to address are less about reeling in fraud and more about ensuring accountability to the social enterprise’s social mission. Because the issues benefit reporting is primarily concerned with are fundamentally different than the early-2000s accounting scandals that gave rise to SOX, it is not clear benefit reports would substantially improve corporate governance. More data on benefit reporting is necessary. The criticism of benefit reports includes that they increase administrative costs and take funds away from their intended purpose to serve the public good. For these reasons, social enterprise governance has not been revolutionized by hybrid entities, notwithstanding the proliferation of these new business forms.

III. Future Social Enterprise Governance Reforms

There are several arguments against imposing additional SOX-inspired reforms on social enterprises. Primarily, the agency costs of poor social enterprise governance are different than the costs of mismanaged public companies. The major concerns for public company executives inflating numbers to induce investors and earn enhanced compensation are the systemic risks these actions cause. Public company mismanagement can lead to systemic market failures. However, capital markets do not have nearly as much interdependence on the social enterprise sector because of the number, size, or often hyper-local geographic focus of most social enterprises. Stealing from a nonprofit or defrauding a limited number of private investors—the most likely results of poor social enterprise governance—while undesirable, do not pose the same potential of financial institution failures or disturbances. Fraud as a substitute for legitimate purchase hopefully occurs less frequently in the social enterprise sector. Because the systemic risks for social enterprise failures versus public company failures are not comparable, SOX-inspired reforms should not be transposed onto social enterprise governance. Moreover, there have been consistent attempts to narrow the applicability of SOX requirements, which strengthens the argument SOX should not be imposed on social enterprises. Thus, future interventions on social enterprise governance should abandon SOX as a touchstone for best practices because federalized compliance is inappropriate or at least unnecessary in the context of social enterprises, which are overwhelmingly small private companies.

Notwithstanding, SOX has in many respects achieved its stated goals of tempering corporate scandals and failures through an emphasis on governance, oversight, and reporting. Most scholars and practitioners agree that a trustworthy reporting system is necessary for sustained business performance. For this reason, the U.S. securities regime depends on a balanced approach of reporting to ensure compliance and good governance. Section 404 has also benefited from regulatory tweaks over the last two decades that could be instructive for other governance regulation. Though SOX-inspired reforms have not presently revolutionized social enterprise performance, they have introduced governance inroads that are not likely to be abandoned by mission-driven businesses and, thus, should not be ignored. For these reasons, learning from SOX’s governance regime can be insightful for the future of social enterprise governance.

Modest regulatory intervention in social enterprise governance could increase economic efficiency and would be justified under the public interest theory of regulation. Markets are not perfect and often require government intervention beyond what industry gatekeepers and self-discipline provide. Moreover, history has demonstrated that without reliable information, assumptions about market discipline are often more optimistic than reality. As demand for social enterprises continues to grow, a larger social enterprise sector is likely. A functioning social enterprise sector necessitates organizations running efficiently and adhering to their social missions, which good governance facilitates. Given this, this Part provides pragmatic suggestions for how to encourage social enterprise governance that builds on the SOX regime and lessons learned over the last twenty years since its passage.

A. Opt-in Reporting for Increased Tax Deductions

SOX requires public companies to provide additional reporting and internal processes in exchange for access to capital markets. To date, SOX-inspired reforms have been applied to all nonprofits over a specific revenue threshold and all hybrid entities. However, none of these reforms address what social enterprises need most, which is increased access to capital. With limited regulatory enforcement, there is ample opportunity for noncompliance and no financial incentive for social enterprises to comply with the SOX-inspired reforms targeting mission-driven companies.

Mindful of the uncertainties of new regulation, and that market actors often are informed more than politicians on how best to correct issues, a humble innovation would allow social enterprises to opt into heightened reporting and governance practices in exchange for greater access to capital. A voluntary system would allow individual social enterprises to determine if the costs of reporting and internal controls are worth the benefits of additional capital. The IRS could, for example, allow charitable nonprofits to opt into additional reporting and an internal controls regime in exchange for increased tax deductibility for their donors. The Tax Cuts and Jobs Act not only increased standard deductions, it also decreased the number of individual donors who benefit from itemizing their deductions to charitable nonprofits. Increased tax deductibility for opt-in nonprofits would improve their likelihood of receiving more individual donations. An opt-in regime would also be preferable to the current mandatory revenue thresholds at the state level because the diversity within the nonprofit sector means that revenue is not always the most relevant factor in determining if heightened governance practices would be beneficial.

The IRS, much like the SEC, is not traditionally thought of as having a mandate to promote corporate governance. However, since the passage of SOX, the IRS has consistently emphasized its role in advancing nonprofit governance. Moreover, given the IRS’s established regulatory framework for nonprofits, it is unlikely another federal agency would encroach. While a system where charitable nonprofits voluntarily adhere to more robust governance practices for increased deductibility would largely be self-regulating, the IRS could enforce compliance to minimize abuse.

Moreover, this does not have to be fast regulation in the same way SOX was. Unlike with SOX, this regulation could include sunset clauses. This would allow the IRS to gather empirical and anecdotal data, as well as a process for comments from a wide variety of nonprofit leaders and attorneys who could provide input on the exact provisions. With a substantial number of nonprofits opting in to new nonprofit governance practices, even a statutory reform with a sunset provision could be sufficient incentive to shift culture and performance.

B. Benefit Reports as Governance Tools

In recent years, there has been a dramatic increase in the number of for-profit companies disclosing environmental, social, and corporate governance (“ESG”) topics. Benefit reports provide social enterprises with a competitive advantage to streamline and perfect what is a steadily increasing trend of ESG reporting. Social enterprise lawyers should also counsel their social enterprise clients on the positive impact regular reporting can have on governance practices. In the same way corporate lawyers have led the paradigm shift in public company governance under SOX, the benefit report provides social enterprise lawyers a mechanism to help pioneer social enterprise governance. Social enterprise lawyers could verify the accuracy and completeness of benefit reports, identify potential legal risks raised by the information in the benefit report, and establish and implement appropriate governance practices to mitigate any risks. By annually examining the mission, finances, management, and governance of the social enterprise, the company could not only ensure mission alignment, but also improve its overall performance. For this reason, impact investors should prioritize investing in social enterprises that not only produce benefit reports, but also recognize and use them as governance tools.


In essence, this article contemplates the counterfactual question how social enterprise governance might have developed without the enactment of SOX. We will never know if social enterprise governance would have organically evolved to emphasize reporting, audit requirements, and compulsory director expertise absent the intervention of SOX. But it is hard to imagine it would have as reporting, audit requirements, and director expertise are uniquely central to SOX. Perhaps that is sufficient justification for scholars to look beyond SOX for frameworks and touchstones for the future of social enterprise governance that are grounded in mission-driven performance instead of preventing systemic risks. However, SOX has had an undeniable impact on the growth of social enterprise law and governance. Given the insights regulators, attorneys, accountants, and business professionals have gained twenty years post-SOX, it is worth continuing to learn from SOX to foster good social enterprise governance. Social enterprises have an indispensable role to play in promoting a more just society. SOX provides effective mechanisms to promote good governance that can be useful for the social enterprise sector in achieving social change goals. Social enterprises could improve their governance practices if there was increased access to capital for adhering to enhanced reporting requirements and heightened internal controls.

Special thanks to James Park for his helpful feedback and invitation to participate in this symposium commemorating the twentieth anniversary of the Sarbanes-Oxley Act. Thanks to Manoj Viswanathan for comments on early drafts. I am also grateful to Mikayla Scanlan-Cubbege and Rachel Shefer for their research assistance.