Corporations are Not Magic: Debunking the Mythology of Legal Entities

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In corporate legal practice, like any other profession, there are a handful of persistent myths.  Theses colloquial half-truths have become part of society’s collectively held knowledge, and as a result, are nearly impossible to rebut despite their lack of truth.

The most pervasive of these myths was twice revisited recently and required some educational remediation which I am pleased to share more broadly, i.e.  here.  Specifically, that corporations are not magic, meaning they are not superior to other legal forms of business.

I know what you’re thinking:  No one thinks that!  But they do (and you may too).  This “fact” has been related to me in so many different ways and in so many different contexts that I have no hope of reciting them all, here.  It usually comes as a measure of protest against the recommendation of a limited liability company (“LLC”), but it’s also been in opposition to almost any other type of corporate structure (e.g. limited partnership, limited liability partnership, etc.).

There is an incorrect, and nearly talismanic, reverence for the corporation as the highest and best corporate form.  Unhelpfully, my practice is commonly referred to as “Corporate Law” despite the fact that in excess of ninety percent of my dealings are with limited liability companies.

So, what’s really superior (if anything) about corporations? And are there things that you can (or should) only use a corporation for?  It turns out there are, but they are far fewer than you probably imagine.  In fact, you’ve probably only heard of two (2) of them:

  1. IPO. The initial public offering (or “IPO”) is as iconic a milestone as any in modern business and it can only be accomplished with a corporation.  This process of underwriting a private enterprise for sale to the general public is a detailed and complex process that requires the strict structures that a corporation provides.  What corporations lack in flexibility, they make up for in administrative certainty, which is precisely what is required for a successful IPO; and

 

  1. Private Equity. The global capital markets are long-established, mature systems that rely on institutionalized strictures to offset the risk and uncertainty represented by information asymmetry and jurisdictional differences in governing law and regulation.  In order to facilitate direct, equity investment in private (i.e.  non-public) enterprises, these capital markets typically require that those enterprises be formed as corporations to accommodate these strictures, specifically that of comparability based on legal form.

 

These circumstances are important to know, but should be understood with the companion knowledge that converting an LLC to a corporation is a relatively simple maneuver – one that is best undertaken when the company’s development is robust enough to trade some operational flexibility for administrative consistency.  As for stand-alone companies (i.e. not public company subsidiaries) we will review some of the most common misconceptions about “required” corporations:

Fortune 50, 500, 5000.  Perhaps the most common myth with respect to corporations is that serious companies use corporations – particularly those companies listed in Fortune Magazine’s annual list/ranking of the world’s largest businesses (i.e.  the Fortune 50, 500, 5000, etc.).  Of course, any public company in these lists will necessarily be a corporation, owing the requirements, above.  However, of the 10 largest private companies, the highest-ranking LLC comes in at number nine, Reyes Holdings, an enterprise with thirty billion dollars in annual revenue and thirty-three thousand employees.  I suspect that the management team at Reyes believes they are, in fact, a serious company, despite their use of an LLC as their primary corporate entity.  There are, of course, additional examples farther down these lists, but if #9 isn’t a serious company, then none of them are.

Just as LLCs can easily convert to corporations, the reverse is also true.  Since combining with Alphabet Inc., Google has taken the form of a limited liability company.  Google obviously finds no defect in being an LLC.  In fact, this structural relationship is not an aberration.  Once public, many corporations have major operating subsidiaries that are LLCs.  In addition to Google, examples include Amazon.com LLC (operator of the Amazon website, subsidiary of Amazon Inc.) and Amazon Web Services LLC (IT infrastructure and hosting services, also a subsidiary of Amazon Inc.).

Regulatory.  There is also a pervasive myth that certain industries require the exclusive use of corporations, including healthcare/medicine, gaming, finance, and more.  While certain jurisdictions do require that professional enterprises make exclusive use of professional entities, these include professional corporations (“PC”) as well as professional limited liability companies (“PLLC”) without issue.  NOTE: PLLCs are not permitted in all fifty states.

More often than not, if someone tells you that you must use a corporation, they are not an attorney and there is a reason they don’t want you to use a different corporate form that has nothing to do with the law.  Further, the most useful legal advice that we provide is simple – the moment anyone tells you that you don’t need an attorney is the moment that you can be absolutely certain that you do.

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