By Colby Dailey

I believe that philanthropists’ willingness to pay for social returns positions them to play a unique, catalyzing role in scaling the impact investing industry. In a recent paper published by the Federal Reserve Bank of San Francisco, my co-author Ben Thornley and I laid out a new framework for understanding impact investors.  Four aspects of that framework are helpful for thinking about what role we, as philanthropists, can have in scaling the industry:

1. Impact investors are best described as having a "willingness to pay for social returns" rather than, as they are more typically described, as having financial-first or impact-first motivations;

2. Investors themselves are the best drivers for improving performance measurement as they alone know their actual preferences for social returns;

3. By innovating broadly, investors can drive improvement in performance measurement; and

4. Social performance measurement is a key to drawing additional investment into the impact investment universe.

Rather than thinking about investors in the typical impact-motivated/financially-motivated categorization, we can describe them as having a "willingness to pay for social returns".  I would argue that nearly all investors have some willingness to pay for social returns, whether it be the value they place on the return, such as meeting their mission objectives, or the price they pay, such as potentially forfeiting market rate returns.  We see this at work any time an investor chooses not to invest in a company whose activities she disagrees with for social reasons; and the growth of social responsible investing demonstrates that such willingness to pay is a prevalent, mainstream investor behavior.

Thinking about impact investors in this way enables us to see the impact investment industry as a whole, having a diverse core of investors, rather than as a polarized industry locating investors with competing motivations at each end.  In this framework, philanthropic investors, by definition, are the most willing to pay for social returns as they seek little to no financial return from their investments. 

Impact performance tools and practices are the way by which investors can truly understand and express their own preferences for social return, i.e. their willingness to pay for it. By extension, the better investors understand the social return or the impact of their investment, the more able they will be to make informed – and more – investments.  Thus more effective tools, practices and reporting of returns are keys to drawing investment into the industry.  Because investors alone know their actual preferences for social return, they are the best drivers of improvements to performance measurement.  In this vein, because donors prefer all or almost all social return, they can be a very powerful group of impact investors – they can bring substantial investment capital to the industry and drive and support efforts to better measure impact and report social return.

As diverse investors innovate broadly in social performance tools and practices, social performance measurement will become more effective and potentially more standardized.  We are already seeing some convergence as investors in certain sectors – such as the environment or education, for example – use similar metrics to show impact.  As investors improve performance measurement, they will be more able to disclose their impact, thus providing valuable information to the field, giving more investors what they need to gauge their own preferences for social return and invest accordingly. As donors begin to make more impact investments and disclose their presumably large social returns in those sectors, they will inform other investors’ preferences for social return.

Admittedly the challenge of measuring impact is daunting.  However, I would posit that the philanthropic sector is uniquely poised to scale the impact investing industry and lead the field forward.  Not limited by preference for financial return, donors can deploy capital as impact investors targeting a wider range of impact investments than other groups of impact investors.  Moreover, by demanding, leading and supporting innovation in the social performance measurement tools and practices that disclose the large social returns of their investments, donors who make impact investments provide valuable information to the field, giving more investors what they need to invest in the efforts that change the world.

By John MacIntosh

I joined SeaChange Capital Partners after a career in venture capital. In my experience on the inside, the venture capital market is a dynamic system where three key “actors” (managers, directors and funders) struggle through a fog of uncertainty with

• closely aligned interests (in terms of mission and time frame);
• a clear delineation of roles, rights and responsibilities; and
• transparency in communication.

The system is supported by trust, explicit contracts, underlying legal and accounting frameworks, and an ecosystem of accountants, lawyers, and intermediaries.

Viewed from the outside, this system has attractive features like “close monitoring”, “supportive funders”, “long-term commitments”, “clear metrics and measures”, “accountability”, and “rigorous due diligence”. Not surprisingly, a number of nonprofit organizations have tried transplanting some of these into their work.

Unfortunately, the transplanting strategy fails to appreciate that these things have emerged and are sustained in the venture capital market because of the more fundamental background context. As “emergent properties,” they cannot be successfully transplanted into the nonprofit world without certain enabling conditions. Moreover, these “things” are verbs describing the actors’ response to their environment, not nouns that can be picked up and used: due diligence is a process, not a checklist; reporting is a ongoing activity, not a “dashboard”; accountability is a function of accepting roles, rights and responsibilities, not something acquiesced to up front; etc.

An alternative to transplanting venture capital strategies to the nonprofit field would be to create – even if artificially and imperfectly – the background conditions that might enable these things to emerge.

Imagine that I’d like my $100 million foundation to function like a venture capital firm.

The transplanting strategy would be to study some leading venture firms, adopt their diligence checklists, investment agreements and dashboards, and exhort my team to “be more active”, “take the long-view” and “think like investors”.

An enabling strategy on the other hand recognizes that since venture capital practices have emerged as-needed to make equity investments, they might also emerge if my foundation were required to make as-equity-like-as-possible grants.

For example, I could construct bylaws limiting my foundation to ten grants each to be funded for twenty years (i.e. effectively perpetual) by the income from $10 million of assets; each grant could be ended early only if another funder took over the remaining obligation; and program officers would have incentives tied to the long-term (5-7 year) performance of grantees.

In response, my foundation might naturally begin to act more venture-like without any explicit directive to do so:

• We would be really careful about due diligence because of the limited number and long-term nature of our grants. We would try to find organizations with missions, values, leadership, directors, and co-funders that we felt confident about over the long-term;
• We would be wary of making grants without governance rights, such as a board seat, restrictions on changes in the mission or leadership, and limits on the growth of the funding base;
• We would be explicit about how to measure the “performance” of each grantee given the requirements of the incentive scheme.

Other features of venture capital might be less likely to emerge:

• Would nonprofits agree to be funded on our terms? Probably only if the funding was meaningful and they had developed real trust in our people. (So to get things done, we would need to behave.)
• Would a secondary market develop for our grants? How would funders reluctant to pay for “overhead” or “capacity building” feel about paying us for our right to make a series of “great” grants in the future? Would we really pay other funders to relieve us of the contractual obligation to make a series of grants to a poorly performing grantee? (Imagine the headlines written by the nattering nabobs of nonprofit negativity!)
• Would the incentive program allow for risk-taking? Would people stick around for 5-7 years? Would the inability to rotate grants leave the team bored and uninspired?

I am confident that enabling venture capital practices would be more successful than transplanting them—but I probably wouldn’t do it. In fact, it seems fanciful to voluntarily restrict my potential activities when the distinctive characteristic of philanthropy is freedom.  (If you only have to give away 5%, why agree to do more?  If you could otherwise rotate grants and change strategy, why not leave the option open?  If measures are imperfect, why make them truly high stakes?)

Unfortunately game theory shows that when self-control and commitment are difficult, “bridge-burning” can be the only viable strategy. (Does anyone doubt these are problems in the nonprofit sector? I struggle with them every day.) Unfortunately, it takes courage, self-knowledge, and conviction about your goals, so I don’t expect a revolution any time soon. Most likely, for-profit practices will continue to be transplanted ad-hoc into often inhospitable terrain with mixed results. But hopefully, a few brave souls will burn some bridges and see what emerges.

To kick things off, Social Venture Partners has published their non-finalist application, which you can find here.

Why is the Repository needed? My primary interest in the publication of Fund applications has to do with my belief that the applications represent a treasure trove of information about the practice of growth capital funding. Since 70% of all applications to the Fund were rated Strong (the second highest rating) or better by at least one review panel, we know that in many cases non-finalist applicants presented compelling arguments in their favor. In fact, in a number of cases, non-finalist applications received higher ratings than some finalists during first round reviews.

Another important reason to publish non-finalist applications is that they represent a potential “secondary market” for other funders. Take the application by Social Venture Partners. I would guess that the application scored well. There may very well be an interesting opportunity for a private funder to step in to support their $1.1 million grant request. If this were to happen, in addition to supporting a well thought out initiative, the funder may in fact help Social Venture Partners return to the Social Innovation Fund application process next year with a stronger application that includes evidence pointing to the success of their approach. Who knows, maybe SVP would be able to point to more compelling evidence of effective implementation and short term results than some of the finalist applicants.

This sort of secondary market is of significant interest to the Social Innovation Fund. One of the reasons I believe that they have held back on publishing non-finalist applications only due to public comments encouraging this approach is because they have spoken of their interest in the development of a secondary market for applications.

In an interview with Marta Urquilla, a senior advisor to the Fund, she told me, “We can only fund a limited number of applicants. That doesn’t mean the non-finalists don’t have merit. We think they’d be of interest to other funders… There are important questions here about forming secondary markets.”

In my interview with Fund director Paul Carttar, I urged Paul to consider releasing non-finalist applications. While he declined to do so, citing promises they had made to applicants regarding confidentiality, Paul did say, "How we leverage this universe of applicants is a key question because they are a real asset… The goal of the Fund is not just to fund great organizations. What this is really all about is changing how capital is allocated in the philanthropic sector.”

So I want to reiterate my call, supported by the Chronicle of Philanthropy, for all non-finalist applicants to submit their application for publication. While the Fund has said they will not publish the applications themselves, Ms. Urquilla did tell me that applicants own their applications, are free to publish them and the Fund encourages them to do so.

Directory of Non-Finalist Applications (updated as they are received)

• Social Venture Partners

To submit a Social Innovation Fund application to the Repository, please e-mail it to editor@philanthropy.com. If you’d like to discuss your submission, please e-mail me at sean@tacticalphilanthropy.com.

Session Description: When to Invest & When to Give
For all the talk of producing a blend of social and financial value through giving and investing, little is known about when a social investor can maximize his or her blended returns through a donation and when an investment is a better option. This session will use Evergreen Lodge, a social purpose destination resort in Yosemite, as a case study for when to give and when to invest from both the enterprise and investor/philanthropist perspective. Join Evergreen Lodge owner Lee Zimmerman and his venture capitalist/philanthropist financial backer Stuart Davidson as they discuss the role of philanthropic and social investment capital in the growth of Evergreen Lodge.

• Melinda Tuan, Melinda Tuan Consulting
• Stuart Davidson, Woodcock Foundation
• Lee Zimmerman, Evergreen Lodge

As the interest in impact investing, microfinance and other forms of financial transactions which attempt to create social impact while achieving a financial return have blossom, one worrying trend is the assumption some people make that these forms of social support are superior to philanthropic donations.

Imagine you have an opportunity to make a donations to a nonprofit, make a loan to that same nonprofit or make an investment in a for-profit, socially focused organization. How should you decide? While financial professionals have a robust set of tools to decide what sort of investments to make, relatively few tool exist to help a donor/investor chose between various forms of financial support.

In this session, Melinda Tuan (a founder of pioneering social enterprise funder REDF) will lead a conversation with Lee Zimmerman, the founder of the hybrid social enterprise Evergreen Lodge and Evergreen Lodge supporter Stuart Davidson who has deployed both philanthropic donations and for-profit investments in an effort to assist Evergreen.

The conversation will work to flesh out both the enterprise view of investing vs. giving as well as the investor/donor perspective. What sorts of capital do nonprofit and for-profit social enterprises need to grow their organization? When might a donor choose to provide philanthropic capital instead of profit seeking capital when both options are available?

If the social capital markets in fact covers the spectrum of all capital for good, from pure philanthropic capital to pure profit-seeking capital, we must have a framework for making capital allocation choices across the spectrum. Without a full capital market approach to social capital allocation, philanthropic capital risks being ghettoized as a sort of negative 100% “investment” as other forms of social capital investments become more prevalent.

Click here to register for the conference. Nonprofit employees are eligible for a 40% discount and all readers of Tactical Philanthropy are eligible for a 30% discount (email me for the code, it expires today).

Session Description: Scaling Social Impact
In business, scaling requires companies to increase their organizational capacity and output in order to generate greater profits. Nonprofit organizations can scale social impact by not only increasing their own capacity, but also by encouraging other nonprofits to adopt their models. How should social enterprises weigh the tradeoffs between scaling their organization or scaling impact through sharing their process with others? Come hear the stories of three organizations that have successfully scaled using entirely different approaches.

• Steve Goldberg, Author of Billions of Drops in Millions of Buckets: Why Philanthropy Doesn’t Advance Social Progress
• Lance Fors, New Teacher Center
• Shawn Bohen, Year Up
• Jennifer Davis, National Center on Time & Learning

The idea for this session came out of a plenary session I attended at the Center for Effective Philanthropy conference in 2009. At the plenary, representatives of Nurse-Family Partnership and Homeboy Industries discussed their dramatically different approaches to scaling their impact.

Nurse-Family Partnership is the classic case study of a nonprofit going to scale (seriously, you can read the Bridgespan case study of NFP here). Beginning in 1996, NFP took their evidence based program and began to replicate it around the country. They now offer services in 28 states and have over 16,000 families enrolled in their program.

Homeboy Industries was the largest gang intervention program in the country offering many services around their core mission to place at-risk and formerly gang-involved youth in productive jobs. But while they were the largest program in the country, they offered services exclusively in Los Angeles. During the session, founder and executive director Father Greg Boyle explained that they had intentionally resisted the many offers to replicate their program in other cities. However they did act as a model for other programs and help other programs get started. Since “scale” is the constant buzzword of social entrepreneurship in particular and philanthropy in general, it is interesting to hear the counter argument.

One of the reasons scale is pursued in the for-profit space is that many fixed costs diminish as an organization grows. Therefore, the bigger an organization gets, the more profitable it can be. But one of the implications of the fact that philanthropic knowledge is valued differently than for-profit knowledge, is that Father Boyle is “winning” when he helps other groups copy his program. The social impact that Homeboy Industries achieves accrues to the public in the same way that the impact that other programs create does. This means that unlike in the for-profit space, where Father Boyle would have to own the other programs to benefit from their success, in the social sector we all win when anyone wins.

In an interesting wrinkle to this story, Homeboy Industries was a victim of the recession and closed a large portion of their operations earlier this year. But unlike an organization which focused exclusively on scaling their organization, Homeboy Industries’ impact will carry on in the form of the many other gang prevention organizations with whom Father Boyle went out of his way to share his knowledge.

The Scaling Social Impact session will be led by Steve Goldberg, the author of Billions of Drops in Millions of Buckets: Why Philanthropy Doesn’t Advance Social Progress. In the book, Steve examined the broken social capital markets which currently do not allocate philanthropic capital to the top performing nonprofits and the keys to successfully scaling social impact.

Joining Steve will be Shawn Bohen from Year Up, a nonprofit which is successfully pursuing a replication approach to scaling their impact. Jennifer Davis from National Center on Time & Learning, which has aggressively shared their knowledge and models with the field in an attempt to grow their impact. And Lance Fors from New Teacher Center, which, as a program at the University of California, Santa Cruz used a knowledge sharing approach and now has launched an aggressive growth capital campaign having spun out of UC Santa Cruz and set about scaling their organization.

One of the most common mistakes “business-minded” people make when they examine the social sector is to miss the fundamental ways in which it is different from the for-profit sector. When Starbucks was first trying to go to scale, their only option was to use a replication approach in which they owned the product they were selling. It would have made zero sense for them to go around the country preaching the joy of great coffee to other companies and teaching them the business. But if Starbucks had been a nonprofit, who wanted to share the joy of great coffee to enhance the public good, then such a counter-intuitive approach would have made perfect sense.

There is no doubt that the Social Capital Markets conference attracts a lot of “business-minded” people. The intent of this session is to help drive home one of the most fundamental differences between for-profit and nonprofit activities as well as present three different approaches to increasing an organization’s impact.

Click here to register for the conference. Nonprofit employees are eligible for a 40% discount and all readers of Tactical Philanthropy are eligible for a 30% discount (email me for the code, it expires on 8/19).

Nathaniel’s email to me made the following points:

• Nathaniel argued that the SIF grants were run of the mill, writing “The government just gave College Summit $3 million more dollars, about 20% of their annual budget. Big whoop.”
• He argued that the SIF did not do anything unique and different.
• He asked why I was focused on the intermediaries funded by the SIF rather than the subgrantees who would ultimately receive the grants.

In response I wrote:

When you write “the interesting thing about your argument is almost more about who were the intermediaries (and their approach to philanthropy) rather than who they’ll ultimately fund.” That IS exactly the whole point.

First, a quick pair of definitions (these are from a paper titled Building is not Buying by George Overholser):

• Builder: A donor who provides money to a nonprofit organization with the intent that the money be used to build the nonprofit organization.
• Buyer: A donor who provides money to a nonprofit organization with the intent that the money be used by the nonprofit to deliver products and services to the nonprofit’s beneficiaries.

(These roles are similar to the for-profit roles of investors and customers where Builder=Investor and Buyer=Customer, with the one difference being that Buyer’s buy goods and services that are delivered to other people rather than Customers who stuff for themselves).

The government has historically almost always played the role of Buyer. That makes sense. They are spending tax payer dollars so that products and services can be delivered to people who need them and thereby enhance the “public good.”

But the Social Innovation Fund is different. It very explicitly does not give money to nonprofits. It gives money to other funders. It has said it will select those funders based on their demonstrated “track record of success at identifying and growing high-performing nonprofit organizations.”

This means the SIF is the government trying to  be a Builder rather than a Buyer. BUT, the SIF was designed with the idea that the government probably isn’t the best entity to play the Builder role. So instead, the SIF is charged with identifying and funding other funders who have a demonstrated track record of being excellent Builders.

Why does this matter? Because today we are faced with a nonprofit sector that is populated with undercapitalized, underperforming nonprofits. Nonprofit quite literally live in a “starvation cycle” whereby they are constantly asked by Buyers to deliver products and services, but rarely are supported by Builders who will provide the resources they need to build and enhance their organization. What this means is that Buyers, including the government, don’t get nearly as much as they should for their money.

Imagine a for-profit sector that had customers, but no investors. You go to buy a cup of coffee, but the local shop uses a really old machine and sources only halfway decent beans. They also don’t spend much on training their baristas, so even though the people who work at the coffee shop are hard working, nice people, they simply haven’t been given the tools they need to succeed.

To make matters worse, in the nonprofit sector Buyers actually have the ability to restrict their gifts and tell the nonprofit that they simply are not allowed to use any part of the money the Buyer gives them to improve their organization. Local coffee shops can often succeed without a significant investor by devoting a portion of the revenue they receive from customers to buying better equipment, better beans and training their employees. But in the nonprofit sector, the customer/Buyer actually dictates what the nonprofit organization can use their money for! The typical donor actually wants the nonprofit to spend as little as possible on equipment, training, supplies, etc and instead just pump out as much of the halfway decent coffee (to jump back to the local coffee shop) as they can with existing infrastructure.

The SIF attempts to change all that. The SIF is the government saying that Builders are needed too. But the SIF faces a serious challenge because MOST funders in the philanthropic sector also refuse to play the role of Builder. MOST funders act as Buyers and restrict their grants so that the nonprofits they “support” can use little to none of their grant dollars to invest in their organizational infrastructure.

And then we have the gall to wonder why nonprofits aren’t more effective. What a joke.

But the SIF seems to have correctly diagnosed the problem. While funders who explicitly focus on playing the role of Builder are rare, the SIF has properly identified and chosen them as the funders best positioned to help the government finally play a Builder role.

While I’m not familiar with the approaches of every grantee (intermediary funder) of the SIF, I do know that the SIF says they want to fund Builder type funders (those who  have a “track record of success at identifying and growing high-performing nonprofit organizations”). And each of the four organizations I do know, New Profit, Edna McConnell Clark, Venture Philanthropy Partners and REDF (which collectively received 44% of all the SIF funds) all rank as some of the leading practitioners of the Builder approach to philanthropy! So the SIF didn’t just get the concept right, they executed correctly!

In your email you say “The government just gave College Summit $3 million more dollars, about 20% of their annual budget. Big whoop.” But that’s not at all what happened. The SIF gave a Builder funder a chunk of cash and that Builder chose College Summit to fund. Not just to pay them, as a Buyer would, to deliver more of their programs, but to invest in Building the strength of the College Summit organization.

This means College Summit can get better at what they do. Not just do more of what they already do, but improve and grow so they can do exponentially more of what they do and do it better.

While College Summit and a few other subgrantees were “preselected,” the SIF actually had the guts to really follow through on the idea that the grantees (the intermediary funders) were the best ones to select which nonprofits are best positioned to receive Builder grants. The majority of the SIFs grants were distributed based on the SIF’s analysis of the grantees (intermediary funders) ability to identify and grow great nonprofits, not on the SIF’s assessment of each potential subgrantee (which have yet to be chosen by the intermediary funders).

If we had a better capitalized nonprofit sector, a philanthropic sector that included a far greater proportion of Builder funders, then Buyer funders – and importantly the government, given the Buyer role it typically plays –  would have more robust, higher performing nonprofit organizations from which they could Buy social good.

Using the coffee shop analogy, this would mean that Buyer/Customers could finally have access to coffee shops that used top of the line equipment, fresh roasted, top quality beans and were served by well trained baristas.

As far as I’m concerned, the SIF hit the ball out of the park today. They did NOT simply shovel Buyer money at some cool nonprofits. They did NOT simply allocate the money based on a bureaucratic earmark process. They actually executed on their mission of providing Builder funds. When we talk about their $50 million being small, it is because we are measuring it against all donated dollars. But when we measure it as a proportion of total Builder dollars, $50 million is serious cash.

But investing is different. Investors often are the ones chasing the best investment opportunities. It is simply an issue of supply and demand. While there are lots of companies and nonprofits who want to sell things to consumers or raise money from donors, there are a limited set of really good investment opportunities. This fact is frankly recognized in the financial markets where investors are constantly searching for great investment opportunities and then competing with other investors to secure a piece of the deal.

It seems to me that we are on the verge of an inflection point in philanthropy where the supply of philanthropic dollars is increasing just as it becomes more widely recognized that nonprofits are not all equal in their ability to achieve results and platforms are being developed to showcase the select group of nonprofits which offer potentially outstanding philanthropic investment opportunities.

If the social investing framework flips the direction of the “chase” from money to philanthropic opportunities, the landscape of philanthropy will look quite different. I first wrote about this concept in a 2008 Financial Times column where I discussed what philanthropy might look like in the year 2033. I suggested that “investment ready” nonprofits would likely list themselves on some sort of “exchange”:

The business of giving money away is particularly different for large private foundations and smaller “impact-oriented” foundations. Instead of expecting non-profits to solicit them for grants, these foundations’ “impact committees” and “program analysts” spend their days looking for and researching potential grantees. Given the considerable information disclosure required by the exchanges, much of the information required for grantee research is available online. Third-party evaluation firms provide regular reports on listed non-profits and these reports are a valuable input for the foundations.

While the cost to non-profits of conforming to the exchanges’ information disclosure requirements is steep, once listed they find grant dollars come looking for them rather than the other way round. Exchange-listed non-profits tend to have small fund-raising groups that focus on “donor relations”.

We can see some of these themes playing out at the Social Impact Exchange conference being held in New York this week.

In a recent post title “Money Chasing Ideas” Lucy Bernholz reflected on how many social entrepreneurs find it easier to raise for-profit funding than philanthropic capital:

“…the reason it was easier for the entrepreneurs to pitch VCs instead of foundations was simple – the commercial funders were there. They were at the meetings, mixing it up with entrepreneurs, inviting pitches, taking meetings on sidewalks, etc. The foundation executives – much harder to find.

This has nothing to do with social impact, social returns, or appropriate business models to produce social and financial returns. It has to do with who is out looking for ideas to support and who is waiting for the ideas to find them.”

There will always be a need for fundraisers to seek out donors to solicit donations from just as there will always be a need for sales people to find customers. There will also always be a need for unproven nonprofits to desperately seek growth capital funding just as early stage companies try to get in front of angel investors and venture capitalists.

But I think smart funders who want to invest in the growth of outstanding nonprofit organizations are going to need to restructure their process so that the thrust of their work revolves around proactively locating great philanthropic opportunities rather than passively wading through grant applications.

By Adin Miller, Adin Miller Consulting

Just ahead of its deadline for Social Innovation Fund applications, the Corporation for National and Community Service (the Corporation) announced that Paul Carttar will serve as director of the Social Innovation Fund. Sean has a great profile and overview of his conversation with Paul yesterday. Nathaniel Whittemore has another worthwhile profile here.

It’s been a busy week already for the Corporation. In addition to Paul Carttar’s announcement, the agency also published its Open Government Plan yesterday and today will close the application window for the Social Innovation Fund with possibly several hundred proposal received.

One of the predominate reasons so many of us have focused on this $50 million initiative is the opportunity it represents to significantly affect philanthropy by making it both more transparent and reshaping how it distributes funding.  In my opinion, though, the Corporation – through its unusual position as a funder of funders – has already missed a few significant opportunities to affect the sector through transformative collaboration and increased transparency. Hopefully, Paul Carttar’s announcement portends an opportunity to recapture these opportunities.

The first key missed opportunity came with the letter of intent process for the Social Innovation Fund. The Corporation received over 200 letters of intent from a broad range of funders. The stated purpose was to help the Corporation “better estimate the volume of potential applications” (see the Corporation’s 3/8/2010 Frequently Asked Questions (PDF) and it purposely declined to release a list of those funders that had submitted letters (see the same FAQ and Suzanne Perry’s post yesterday in the Chronicle of Philanthropy.

One of the more frequent questions I got during the application window came from organizations looking to partner, leverage their funding resources, and exponentially grow their potential impact. By publishing the list of funders submitting letters of intent, the Corporation could have demonstrated true innovation in the grantmaking process. It could also have had a profound impact by encouraging funders to build collaborations and partnerships in advance of the application deadline, especially for efforts that would have focused on low-income and rural communities not significantly served by philanthropy. Instead potential funders were left in the dark by this lack of transparency.

Interestingly, such transparency early on the process would have been in line with the Corporation’s focus on increasing data transparency outlined in its Open Government Plan (PDF) published yesterday. The Open Government Plan specifically shows that the Corporation will provide “program descriptions and contact information for [its] grantees and project sponsors [that] will make it easier for programs to collaborate and individuals to get involved.” (page 6)

The second missed opportunity relates to the Corporation’s Social Innovation Fund review process. The guidelines stress the importance for applicants to discuss and shed light on their own grantmaking reviews and processes. Yet, the Corporation’s proposal review process remains too vague. For example, the guidelines mention that a team of experts will serve as the review panel. This is one of the major black hole areas in philanthropy: who are the proposal reviewers and what expertise do they bring to the table. The Corporation could have led by example by publishing its list of reviewers and their expertise and truly becoming transparent. In this example, it can still do so.

The last critical opportunity looms ahead and I hope that in this case the Corporation will proactively step ahead under Paul Carrtar’s direction. Sean’s post included a key question on whether the Corporation would make the Social Innovation Fund applications public. Those applications will include key details and information on how foundations practice the art of grantmaking and reviewing proposals, a key area that remains mostly hidden behind closed doors.

The eventual Social Innovation Fund grantees applications could be obtained through the FOIA process. The Corporation’s practice, however, has been to not publicly provide applications not funded by the agency. And yet, this is exactly the rich trove of information that will help transform the philanthropic sector through transparency.

The Corporation’s Open Government Plan calls for it to build a learning enterprise. “In order to increase the effectiveness of the Corporation, its grantees, organizations, communities, and individuals in tackling social problems, we need to strengthen our ability to gather and share knowledge, tools, and effective practices. This includes rethinking how to share information online and making it easier for the public to find and use tools that they need. The Social Innovation Fund provides an excellent opportunity to begin modeling more effective ways to share innovative practices in more effective ways.” (page 16)

I hope in this case that the Corporation will take a giant leap forward and provide access to the broader data collected by the agency through the Social Innovation Fund.

By George Overholser

• Someone recently defined nonprofit “mid-caps” as organizations with revenues in the $5 million to $25 million range.

We need to keep in mind that the definition for for-profit mid-caps is 200 times as big:  revenues in the $1 billion range.

This matters because there are metaphors flying around that we need our nonprofit mid-caps to provide more financial disclosure to the “capital market”, just like for-profit mid-caps.

This is the equivalent of asking a guy who owns a couple of pizza restaurants ($5 million in revenues) to begin publishing detailed quarterly public reports of his financial and quality assessment results.  Problem is, his office is the kitchen table, and he needs to get up at 6am every morning to roll the dough.

Wall Street is the wrong metaphor for an online “nonprofit capital market”.  Wall Street only works for companies that are literally hundreds of times bigger than typical nonprofits.  Wall Street companies get easy access to equity, precisely because they are already so advanced that they can afford to provide exceedingly high levels of financial transparency.  But the vast majority of firms (for-profit and nonprofit alike) are nowhere near the size required to afford the cost of making these types of disclosure. That’s why the vast majority of firms are capitalized privately, by intimate investors who get to know them personally.

Let’s not kid ourselves into thinking that strategic equity-like investments should be made based on the snippets of data that an exhausted executive director posts on a web site.

If information is to be shared online, the better metaphor is Amazon.  The better information to share is more akin to marketing information than to investor information.  Keep it simple:  What am I buying with my donation?  What gets done as a result?  What does it cost?  And… for those very few that have gone through the arduous and expensive process of scientifically documenting impact, yes, what is the impact?

DonorsChoose is a great example of this.  Check it out:  a highly intimate and transparent giving experience that has no need to share information about the financial health of the DonorsChoose enterprise, management team, strategic plan or theory of change.

Simply “asking harder” for information does not address the issue.  The problem is not one of candor.  Rather, the data does not exist, and cannot be afforded by such small and stressed-out organizations.  Asking harder merely adds to the trauma.

If a prospective investor comes along, who is prepared to write a big equity-like check, then have a face-to-face meeting, so that real due diligence can take place.  In the meantime, I would love to see online marketplaces focused on products and services… like Amazon and DonorsChoose!

Today I want to turn my attention to the most recent post from Michael Edwards. Edwards is a former long time employee of the Ford Foundation and author of the philanthrocapitalism critique Just Another Emperor and the new book Small Change: Why Business Won’t Save the World.

In his post titled Why "Social Capital Markets" Could Be a Really Bad Idea, Edwards presents what I believe is an extremely limited view of social capital markets. I’ve very sympathetic to the concept that the social sector is different from the business sector and so social capital markets should not simply mimic financial markets. For instance, I particularly liked Jacob Harold’s piece in Alliance Magazine arguing that a robust social capital market might be more like a farmers’ market than Wall Street. But Edwards’ post today argues against a straw man.

The social capital market Edwards describes is a shallow, mechanical market that has little resemblance to how real markets work. For instance when Edwards suggests that social capital markets will dictate which causes are most important and writes "Who is to say that saving the rainforest deserves more support than ending gun crime or racism?" The answer is "No one". There is nothing about the concept of the social capital market that implies that certain types of social good are superior to other types.

When Edwards writes that social capital markets will force "nonprofits to compete with each other for scarce resources," what does he think that nonprofits are already doing? We certainly don’t have unlimited resources and last I checked, nonprofits were competing fiercely to convince donors to support them.

When Edwards writes "variations in… metrics may not reflect meaningful variations in performance, since two organizations may be dealing with similar issues but in totally different contexts," I would respond "Of course!" Sophisticated investors in traditional financial markets do not base investment decisions on simple mechanical rankings. In fact, financial professionals that purport to have a simple formula for producing investment returns are seen as charlatans.

Smart investors use metrics as inputs into the messy process of trying to select their investments. Markets are not driven by metrics and simplistic rankings. They attempt to absorb vast quantities of quantitative and qualitative information in order to allocate scarce resources. I’ll admit that some supporters of the social capital markets concept hope for a day where we can easily allocate resources based on standardized rankings, but that ideal has more in common with how centralized planning works (or doesn’t) than to financial markets.

It is critical that as we build robust social capital markets, that we create vibrant, human markets, not some sort of mechanical sorting machine. Readers who are interested in a more holistic view of financial markets, than the quantitative, machine-like caricature presented by Edwards might be interested in the book Investing: The Last Liberal Art by Robert Hagstrom. The book lays out the ways in which investing in financial markets requires the building of a "latticework" of information that is gathered and processed with mental tools borrowed from the fields of psychology, philosophy, biology, sociology and literature. I think the book offers a holistic, human based vision of capital markets that might shift your thinking about the potential for the social capital markets.

I’ve previously mentioned Hagstrom’s book (which is largely based on the investment philosophy of Warren Buffett’s right-hand man, Charlie Munger) when I rejected an overreliance on tools borrowed from the hard sciences in philanthropy evaluation and when I responded to Albert Ruesga’s worry that evaluation was the “math-anxiety” of philanthropy. Hagstrom is also the author of The Warren Buffett Way, which I drew on extensively last summer when I offered a “robust definition of high performance” for the nonprofit sector.

By Alex Rossides

Thanks to Sean for envisioning the future of social stock exchanges and for his recent write-up regarding the Social Impact Exchange as an early form of such exchanges, developed in partnership with Duke University and Robert Wood Johnson Foundation.

Sean helped clarify a key difference between for-profit stock exchanges and social exchanges – in the social sector there is no price per share and stock is not exchanging hands. But, the broader analogy holds of an exchange that matches buyers and sellers i.e. investor and nonprofit organizations with an explicit promise of standards and transparency.

Exchanges in the for profit sector are the focal points for capital marketplaces. One primary function of stock exchanges is to enable the efficient flow of capital to growing companies so they can finance their economic activity. The social sector does not currently have exchanges to enable a more efficient transfer of capital to scaling nonprofits to finance their social initiatives.

As Sean pointed out, the member-driven Social Impact Exchange is designed in part to help play this role in the area of growth capital. It has a number of collaborative funding venues to connect high-impact, growing nonprofits to funders, based on transparent investor information, such as its online investment platform, National Investment Fair and Business Plan Competition to be held at its June 2010 Conference.

The Exchange is designed however to facilitate the exchange of more than just dollars. Its two other equally important goals are to (1) serve as a learning community and forum to develop and share knowledge on scaling, and (2) serve as a common ground where members can help build the field of scaling together. The focus on more than capital is an example of how the unique qualities of the social sector may help create social stock exchanges in the future that differ from their brethren in the for-profit sector in ways that could be better suited to the goals of social progress.

In the social sector, exchanges can be built with a focus on collaboration and networks that compound our learning, magnify our financing and accelerate the development of marketplaces that drive social progress. Exchanges can become true community resources, that provide opportunities to jointly build necessary field infrastructure and enable organizations across the sector to work together to solve our toughest social problems. They can combine the action oriented transactional nature of exchanges, with joint knowledge and infrastructure building to create social sector marketplaces.

The Social Impact Exchange is an early attempt to do just that. Its structure consists of working groups where members can work together on important field initiatives such as developing investment standards for scaling organizations, supporting the work of growth intermediaries, identifying models that work in different issues, sharing knowledge, and creating new products and distribution channels for scaling which the field can leverage. It is designed to be a cross-sector initiative so that we all have a hand in creating a more effective marketplace for financing positive social change. 

Social stock exchanges, whether they are local, national, international or issue based, hold the great promise of combining collaborative, mission driven activities with marketplace structures to enable philanthropic capital to flow towards its greatest good. By 2033 let us hope that philanthropic capital distribution will be more results driven, based upon quality due diligence and business planning, better financial reporting, greater transparency, shared standards and enhanced accountability.

But, by 2033 social stock exchanges could also be nexus points for marketplaces where large numbers of funders aggregate to find high-quality organizations that they collaboratively fund in amounts large enough for nonprofits to execute multi-year strategies. They could be environments where business models of capital and information intermediaries thrive because they can more effectively broker capital rounds and information services, and where nonprofits that qualify can finally attract capital efficiently in one place based on the impact of their work.

To get there will be hard work and slower than we’d all like, but by working together we have an opportunity to realize a vision that enables us to make progress on our most difficult social problems and hopefully improve the lives of millions of individuals.

The Clearinghouse is interesting because of the way it offers some of the attributes of a stock exchange. There has been a lot of talk in philanthropy about social stock exchanges, but I’ve often found the implementation of this concept of little interest. This is because when most people think of a stock exchange, they think of the prices of stocks moving up and down as the primary characteristic. A social stock exchange which attempts to mimic the pricing elements of a stock exchange is interesting, but I’ve yet to see an implementation that is particularly exciting. Instead, stock exchanges are valuable not only because they publicly reveal prices, but because they have certain requirements for organizations to be listed and ongoing requirements to stay listed.

Once an organization is listed on a stock exchange, it must adhere to higher levels of public disclosure than a non-listed company. Being listed on a stock exchange is called “going public” and a listed company is a “public company” as opposed to a non-listed or “privately held” company.

This all matters to philanthropy because the organizations listed on the new Social Impact Exchange are offering public access to documents such as due diligence reports, business plans and the results of independent evaluations (it appears that currently there are not standard documents that all listed organizations must have, but see the documents listed for the nonprofit Ways to Work as examples).

My friend George Overholser, has often pushed back on my urging for nonprofits to share more information about themselves publicly. George’s point is that most nonprofits are the equivalent of privately held companies, who may be damaged if they share too much of their internal issues with the public. While I’ve generally thought that nonprofits should have a higher required level of transparency than privately held companies, George’s point has always resonated with me. With the advent of the Social Impact Exchange, we have the beginning of a mechanism whereby a nonprofit that is ready to “go public” can list their organization and in exchange gain access to a wider range of philanthropic investors.

In addition, the Exchange plans to only list organizations who have demonstrated extremely high levels of impact and scale readiness or have demonstrated a significant level of effectiveness, and are increasing their capacity for scale readiness (groups qualifying under each standard are identified separately). This means that if the Exchange can establish credibility for their vetting process, 1) organizations who get listed will gain a marketing advantage due to their “making the grade” and 2) donors can have an increased level of confidence in Exchange listed organizations.

The Social Impact Exchange is more than just a list of nonprofits. It also hopes to be a hub for related research, publishing, education and training as well as an annual conference, business plan competition and regional meetings.

While this effort is still in its infancy, I think the organizers have gotten some key elements right. With the high profile funding from Robert Wood Johnson Foundation and the involvement of Duke University, the Social Impact Exchange is one to watch.

To the cynical person, trusting someone is equivalent to being naive. Trusting someone can be criticized as demonstrating a lack of rigor. But it turns out that trust is at the core of what makes systems function.

From a recent Forbes article titled The Economics of Trust:

Imagine going to the corner store to buy a carton of milk, only to find that the refrigerator is locked. When you’ve persuaded the shopkeeper to retrieve the milk, you then end up arguing over whether you’re going to hand the money over first, or whether he is going to hand over the milk. Finally you manage to arrange an elaborate simultaneous exchange. A little taste of life in a world without trust–now imagine trying to arrange a mortgage.

Being able to trust people might seem like a pleasant luxury, but economists are starting to believe that it’s rather more important than that. Trust is about more than whether you can leave your house unlocked; it is responsible for the difference between the richest countries and the poorest.

"If you take a broad enough definition of trust, then it would explain basically all the difference between the per capita income of the United States and Somalia," ventures Steve Knack, a senior economist at the World Bank who has been studying the economics of trust for over a decade…

How could that be? Trust operates in all sorts of ways, from saving money that would have to be spent on security to improving the functioning of the political system. But above all, trust enables people to do business with each other. Doing business is what creates wealth.

One thing we know is that philanthropy is a dysfunctional system. Resources do not flow to those who can best utilize them. While I’m all for the efforts to quantify the effectiveness with which various organizations deploy resources so that we might better direct our giving, it is just as important that we inject more humanness into the workings of our field.

Trust isn’t a human weakness that analytical donors must overcome, it is a fundamental attribute of functioning systems. According to Forbes, the financial system would collapse without trust. Maybe more trust is just what we need to build a functioning social capital market.

A different sort of model is playing out in Los Angeles on Wednesday. The Social Innovation Fast Pitch event being held at the University of Southern California, features nonprofits that have been vetted by USC, Social Venture Partners-Los Angeles and the Social Enterprise Institute.

The Social Innovation Fast Pitch is not just an event where 10 nonprofit leaders give their 3-minute elevator pitch to compete for $20,000 grants in front of an audience of 350 people. It’s really a professional development program for social entrepreneurs that builds skills they’ll use every day. It teaches them how to talk to people about their organization in a much clearer, more compelling way. What we’ve observed is that too often, the message gets stale, and people tend to use too much jargon. They may not be clear about their “ask”, or may put themselves in a box by focusing their “ask” only on money or on assumptions they make about their audience. In addition, they just don’t get the feedback from listeners about what they like and connect with – or don’t like. These organizations are doing amazing, innovating and impactful things, but from some of the applications, you’d never know it!

The program addresses these ineffective communication habits head on. This year, 22 nonprofits were selected from a pool of 65 nominations to go through the 2-month training program. We recruit dozens of volunteers from the business community to provide group coaching in multiple practice sessions, and also pair each nonprofit leader with 1 or 2 of the coaches to mentor them between sessions. Of course, what often happens is that the feedback prompts them to look at bigger, strategic questions about the organization. The difference over a short period of time is truly amazing! Program participants tell us that – based on what they’ve learned – they change the way they talk about their organization in almost every setting: to people they just meet, to the media, to their boards, and to funders.

This year’s event runs from 4:00 – 7:30 pm on Wednesday, November 11, 2009 at USC. In addition to the 10 presenters, the program features Andy Rappaport, a venture capitalist and social entrepreneur, who will share his views on social change and risk-seeking philanthropy. The program is co-hosted by Los Angeles Social Venture Partners, the Social Enterprise Institute, and the University of Southern California.

For more information or to register for the event click here.

I’m particularly intrigued by the concept, because it mirrors the way I speculated that nonprofit funding might occur in the future in a column I wrote for the Financial Times in early 2008.

In the article, David (a consultant to grantmakers and nonprofit agencies and the former Director of Evaluation and Knowledge Development at the Edna McConnell Clark Foundation, a key practitioner of social investing) puts forth an excellent argument for what social investing is and what the implications of the approach are for the social sector. I encourage you to read the full article.

David starts with three “Unpleasant Truths”:

Unpleasant truth number 1: While nonprofits work incredibly hard, with passion and dedication, and often in incredibly difficult circumstances to solve society’s most intractable problems, there is virtually no credible evidence that most nonprofit organizations actually produce any social value.

Unpleasant truth number 2: Because so few nonprofits are willing to face this fact and ask themselves whether they are doing any good at all, or even as much good as they may be doing harm, we cannot rely on direct service nonprofits to fix themselves without a serious push.

Unpleasant truth number 3: In general, nonprofits do what their funders tell them to do. When funders make demands, more often than not the vision, mission, goals and objectives of nonprofit organizations give way. As the saying goes, We are what we eat. . . . and most nonprofits are what their funders make them.

He then goes on to give examples of a number of organizations who he says are actually destroying social value (either by spending money that results in no positive change or actually encourages the opposite of the intended outcomes – such as a violence prevention program that has been show to actually increase violent behavior).

David believes (as I do) that a social investing approach can greatly increase the social value production of the nonprofit sector and he lays out an inclusive definition of social investing:

• the use of rigorous selection criteria to choose nonprofit organizations to support,
• structuring investments to strengthen organizations in which investments are made in order to enhance their ability to provide effective services reliably and sustainably at high levels of quality,
• tracking performance and providing non-financial supports as indicated, thus helping these agencies become more effective and efficient in helping the people they serve to measurably improve their lives and life prospects,
• diminishing transaction costs to help these organizations stay focused on achieving their respective missions, and
• helping nonprofits to build reliable revenue streams that will support them sustainably at the appropriate level of scale — before terminating the investment.

As part of the selection criteria for investing in a nonprofit, David believes that social investors must ask the following questions:

• Who, exactly, is the organization serving and what are their needs?
• How many and what percentage of the people they serve finish the programs or receive a large enough and long enough exposure to services so that they can benefit?
• What empirical basis is there for believing that an organization’s program(s) and service(s) are effective — that is, producing outcomes for the people they serve?
• What are those outcomes, what are the indicators used to assess them, and what is the rate of success for program participants in reaching them?

This is where the rubber hits the road. According to David:

“In my experience, the majority of nonprofits cannot answer these questions… in this new age of accountability, nonprofits that cannot answer these questions will find it harder and harder to attract funding from social investors. And social investors will increasingly represent the larger sources of revenues flowing into the nonprofit sector… Social investing, if widely adopted, will help channel funding streams that are directed by measurable performance rather than feel-good stories, habits of giving and rank sentimentality. And social investing has the potential (yet to be realized) to advance a selection process that either forces poor performers to evolve and improve, or weeds them out.”

I agree with David on the way he has described social investing and the implications of it being widely adopted as an alternative to traditional charitable giving. I greatly applaud the clarity with which he describes the process. However, I must also reject the nihilistic claim that most nonprofits and the social sector as a whole is not currently producing social value.

To put this claim in context, realize that 8% of US workers are employed by nonprofits and the sector receives and spends roughly $1.5 trillion in revenue each year. Now I believe that the amount of social value creation in the nonprofit sector can be significantly increased. I believe that currently, as a country we are getting far less social value per dollar spent than we would if social investing became a dominate approach in philanthropy. But just because we have limited evidence of impact does not mean that the sector is not producing positive social value.

I point out this disagreement because I think that David’s starting point is shared by many analytical thinkers who hope to create a more robust social capital market. But I believe that painting this picture of the current social sector actual impedes the development of social investing because it 1) Flies in the face of the experience that most donors and nonprofit employees have and allows them to then dismiss the need for social investing and 2) It greatly lowers the bar to lay claim to being a successful social investor. If in fact the social sector is currently creating no social value, then any investment that creates social value, even a minimal amount, could be seen as having been successful.

David is a super smart guy. He’s also not afraid to say what’s on his mind, such as when he suggested earlier this year that I did not have a “smidgeon of knowledge” about evaluation and that I needed to get a “solid grounding” in social investing issues before I wrote any more about it(!). He’s also a member with me of the Alliance for Effective Social Investing.

What do you think? Is social investing needed? Will it lead to a more effective nonprofit sector? If you work for a nonprofit, are David’s criteria for social investments questions that you feel are relevant and important items for you to be able to answer (I certainly do)? If you are a funder, would you describe yourself as practicing social investing? If not, why have you chosen to use another approach and what flaws are their with the social investing approach?