A Robust Definition of High Performance

In the debate over high performance vs. high impact nonprofits, the critics of focusing on high performance worry that “high performance” is too simplistic. That performance might just refer to “operational metrics” or an organization that is a “well oiled machine.”

In my first post on this topic I offered the following definitions:

• A high performance nonprofit is a very well run organization. It has outstanding leadership, clear goals, an ethic of monitoring performance and making adjustments as needed, and it is financially healthy.
• A high impact nonprofit is one whose efforts have been proven to cause sustainable, positive change.

I’d like to offer a more robust definition of high performance. A benchmark that if hurdled by a nonprofit organization will almost always lead to high impact. This definition is meant to apply across all nonprofit organizations, which means that evaluating high performance becomes dramatically simpler than evaluating impact (where the marker for success varies across social sector, time horizon, etc.)

To build this definition I’m drawing from two books, The Warren Buffett Way, by Robert Hagstrom and Forces for Good, by Leslie Crutchfield and Heather McLeod Grant.

First let’s look at The Warren Buffett Way. Warren Buffett is considered the best for-profit investor of all time. His strategy is to identify and invest in outstanding organizations that sell at a discounted value. The discounted value portion of his strategy is not relevant to the nonprofit sector (well, it is, but that’s a long theoretical conversation for another day). But at the core of The Warren Buffett Way is a belief that outstanding (read: high performance) organizations are the best vehicles for creating profit (ie. the for-profit equivalent of nonprofit impact).

According to the book, considered one of the best on Warren Buffett’s investment style, the points below capture Buffett’s approach to defining great companies. Note that these attributes are far more robust than “operational metrics.”

Is the organization simple and understandable?

Buffett stands apart from much of Wall Street in that he humbly believes that simplicity is a virtue. The emphasis though is on understandable. Buffett believes that all investors should understand their own “circle of competence,” the area of expertise that they hold. While a flashy, complex, multi-line organization might be attractive, Buffett would rather find an organization that has a simple structure and executes well.

Does the organization have a consistent operating history?

While many people are attracted to the next new thing, Buffett prefers to find organizations that have performed well over time. This helps insure that their success if not simply a function of being in the right place at the right time, but argues for the idea that the organization is able to adapt and that their products/services have intrinsic value.

Does the organization have favorable long-term prospects?

Buffett likes organization that offer unique products/services and which have the ability to survive mishaps. He is known to say “The definition of a great company is one that will be great in 25-30 years”

Is management rational?

Buffett wants to know that management behaves in the interest of shareholders (which would be stakeholders in the nonprofit context). He believes that many times, management responds to other incentives (such as getting paid more to run a bigger organization) than pure shareholder value. Buffett says “When you have able managers of high character running businesses about which they are passionate, you can have a dozen or more reporting to you and still have time for an afternoon nap.”

Is management candid with shareholders?

Mirroring the major push for nonprofit transparency, Buffett wants a management team who reports on their performance fully and genuinely, who admit mistakes as well as shares successes, and who are in all ways candid with shareholders. Buffett is known to admire those people who discuss failure openly and believes these types of people are more likely to be able to correct their mistakes. He believes that too many managers report with excessive optimism instead of honest explanation and says that doing so serves their own interest in the short run, but no one’s interest in the long run.

Does management resist the Institutional Imperative?

Buffett uses the term Institutional Imperative to explain “the lemming-like tendency of corporate managers to imitate the behavior of other managers, no matter how silly or irrational that behavior might be. This type of behavior was on obvious display among tech companies in the late 90’s and again among financial companies in the middle of this decade. Buffett believes that human nature pushes people to “stay with the herd”. This fosters a belief that it is better to be wrong when everyone else is wrong than to be wrong on your own. Buffett believes that it is critical that management be independent thinkers who are willing to break from the herd.

Focus on return on equity, not earnings.

This might be rephrased for the nonprofit sector as focus on social return on philanthropic equity, not impact. Buffett is saying that just knowing that an organization is producing a lot of profit [impact] is not enough. The profit [impact] must be judged in relation to the amount of equity [cash invested in building the business]. This of course is impossible in the nonprofit sector because nonprofit accounting does not recognize the existence of equity. This is a major problem that I’ve written about before.

Look for companies with high profit margins.

Buffett abhors organizations that waste resources. The equivalent to profit margins for nonprofits would be the amount of impact generated per dollar spent or more simply the amount of resources spent on programs vs “overhead”. Now I’m well known for attacking the relevancy of overhead expense ratios in evaluating nonprofits. But that is because they’ve been elevated to the level where they are seen as an accurate measure when used on their own. Warren Buffett thinks margins are important, but would never buy a company based solely on strong margins. He evaluates margins in context and at the end of the day hates waste, not responsible investment of organizational resources back into the organization itself.

While I believe that there are deep, fundamental differences between the for-profit and nonprofit investment fields, I would argue that the first order of business of each field is to begin with identifying outstanding, high performance organizations. Warren Buffett himself does not try to figure out great business ideas. He identifies great organizations. I believe that philanthropy needs to cast off the obsession with researching and developing our own programs and recognize that great nonprofit organizations are the real generators of high impact and our role is to provide capital to these organizations.

Tomorrow I’ll offer a similar analysis of Forces for Good. Combined I think the two books make a case for a robust definition of high-performance organizations that offers a a path for circumventing the concerns offered by Mario Marino and David Hunter as described in my earlier post today.