STEVEN H. GOLDBERG has advised numerous nonprofits on strategic planning and organizational development, including New Profit Inc., one of the founders of venture philanthropy; and Cradles to Crayons, which provides “everyday essentials” such as gently used clothing, books, school supplies, and baby equipment to more than 40,000 poor and low-income children. He is a Senior Fellow at Root Cause, which accelerates enduring solutions to social and economic problems by supporting social innovators and educating social impact investors. Goldberg has nearly thirty years of experience in economics, law, government, and business management, most recently as executive vice president for Business Development and General Counsel at Imagitas, Inc. He coauthored Y2K Risk Management: Contingency Planning, Business Continuity and Avoiding Litigation (Wiley) and has written extensively about nonprofit capital market institutions.

Billions of Drops in Millions of Buckets

Why Philanthropy Doesn’t Advance Social ProgressBy Steven H. Goldberg

John Wiley & Sons

Copyright © 2009 Steven H. Goldberg
All right reserved.
ISBN: 978-0-470-45467-1

Chapter One

The Disheartening Problem of “Scale”

Philanthropy today generates a world in which experiments multiply but very little sums. –Katherine Fulton and Andrew Blau, “Cultivating Change in Philanthropy”

Anyone in search of the very model of the modern social enterprise need look no further than Teach For America (TFA). Wendy Kopp founded TFA in 1990, and the title of her book about that adventure, One Day, All Children …, encapsulates in just four small words what is so important about the social movement TFA represents:

As a college senior, I happened upon an idea that would put me in the middle of an incredible movement. The idea was to create a corps of top recent college graduates-people of all academic majors and career interests-who would commit to teach two years in urban and rural public schools and become lifelong leaders dedicated to the goal of educational opportunity for all.

Just 21 years old at the time, the estimable Ms. Kopp didn’t just want to help a lot of kids in underperforming public schools, she wanted to help all of them. She envisioned creating “an enduring American institution” that would “eliminate educational inequality,” the socioeconomic and racial disparities that “severely limit the life prospects of the 13 million children growing up in poverty today.” And so TFA dedicated itself to the proudly audacious proposition that “one day, all children in this nation will have the opportunity to attain an excellent education.”

The problem of educational inequity is no small matter, as virtually all recent studies confirm. Douglas Harris of Arizona State University’s Education Policy Studies Laboratory calibrated the differences among high-performing schools for different socioeconomic cohorts:

The achievement gap between students of various racial, social, and economic groups is large and growing. For example, between whites and African-Americans, the size of the achievement gap ranges from 29 to 37 percentile points. Between whites and Hispanics, the gap is 16 to 34 percentile points. Strong signs suggest these gaps have worsened recently after decades of improvement.

Such pervasive and enduring disparities do not originate from simple or ephemeral causes. Rather they reflect the corrosive effects of long-term institutional and systemic failures:

All parts of the political spectrum seem to agree that these educational inequities represent a significant problem. There is also strong evidence and agreement that students’ social and economic disadvantages are substantial causes of the problem. Poor nutrition and illness cause students (a) to miss school more often and (b) to be less prepared to learn when they attend. Within the disadvantaged home, parents often have relationships with their children that are, emotionally and physically, less healthy. These unhealthy relationships are reinforced in part by economic pressures that induce conflicts between parents and children. The combination of these factors and other effects is shown to be worse as students remain in poverty for longer periods of time. Of course, many parents living in poverty are able to successfully navigate and avoid these potential problems, and some parents with high incomes are not great parents, but the general patterns described here are quite strong.

Andrew Sum, director of Northeastern University’s Center for Labor Market Studies, puts it more simply: “Declining economic fortunes of young men without college degrees underlie the rise in out-of-wedlock child-bearing, and they are creating a new demographic nightmare for the nation.”

The gravity of the situation makes TFA’s accomplishments over the past 17 years all the more extraordinary. A 2004 independent research report found that “even though Teach For America teachers generally lack any formal teacher training beyond that provided by Teach For America, they produce higher test scores than the other teachers in their schools-not just other novice teachers or uncertified teachers, but also veterans and certified teachers.” Another study concluded that “nearly three out of four principals (74 percent) considered the Teach For America teachers more effective than other beginning teachers with whom they’ve worked” and “the majority of principals (63 percent) regarded Teach For America teachers as more effective than the overall teaching faculty, with respect to their impact on student achievement.” Most recently, a 2008 study found: “TFA teachers tend to have a positive effect on high school student test scores relative to non-TFA teachers, including those who are certified in-field. Such effects exceed the impact of additional years of experience and are particularly strong in math and science.”

More than 17,000 “corps members” have joined TFA since 1990, and they’ve reached more than 2.5 million kids in more than 1,000 public schools nationwide. TFA plans to more than double the number of corps members from the year 2005 to 2010, from 3,500 to 7,500, and to increase its placement sites by 50%, from 22 to 33.

Remarkably, TFA recently eked out tenth place in Business Week‘s “The Best Places to Launch a Career,” and it recruits more college seniors than Microsoft, Procter & Gamble, Accenture, or General Electric. The once famously shy Ms. Kopp is so dedicated to her cause that she not only appeared on Comedy Central’s The Colbert Report, but she mopped the floor with the pugnacious satirist.

Notwithstanding these impressive achievements, there is one measure of success that TFA has not met: its own. TFA’s success is impressive except in comparison to the universe of need embodied in the phrase, “one day, all children.” After 17 years of perseverance, the 425,000 students TFA plans to reach in 2008 represent just 3.3% of the 13 million kids who face “educational inequity.”

As far as I know, TFA has no specific plans by which it will reach 13 million disadvantaged students. Nor, for that matter, does any other social change organization of which I’m aware.

For example, the NewSchools Venture Fund, another proud flagship of the nonprofit entrepreneurial fleet, is dedicated to “promoting high academic achievement for every child by attracting, preparing, and supporting the next generation of outstanding leaders for our nation’s urban public schools.” Since 1998, NewSchools has raised and deployed tens of millions of dollars for educational innovation at dozens of charter-management and school-support organizations. It states that “over the next several years, the organizations we support will run more than 200 charter schools and serve nearly 75,000 students, making NewSchools’ national portfolio comparable in scale to a mid-sized urban district.” After 10 years of exceptional work and highly sophisticated financial management, the aggregate result (at least of the charter school portion of its portfolio) amounts to one school district that performs at the level to which the entire country aspires.

“All Children”

Social entrepreneurs “carry out innovations that blend methods from the worlds of business and philanthropy to create social value that is sustainable and has the potential for large-scale impact.” But for all that social entrepreneurs such as TFA and NewSchools have accomplished, they have yet to come to grips with the implications of their worthy goal of helping “all children” in need. While quite a few successful and innovative nonprofit organizations (NPOs) aspire to serve millions of people who need their services, I’ve yet to see even one strategic growth plan that explains how the organization will address anywhere close to even 20% of the need.

A comparison of what social entrepreneurs call “scale” and what I’ll be calling “transformative social impact” puts things into perspective. Social entrepreneurs (and their “venture philanthropy” funders) appropriately identify organizational growth as one of their fundamental strategic objectives, and after a decade or so of hard slogging, they take justifiable pride in what they’ve accomplished.

For example, New Profit, Inc. (NPI) in Cambridge, Massachusetts, was one of the original venture philanthropies that adopted a funding approach modeled after venture capitalism in order to alleviate many of the shortcomings inherent in traditional foundation financing. NPI devised a novel funding and support model (see Exhibit 1.1) that integrated the efforts of investors, social entrepreneurs, business consultants, and other experts to nurture and grow portfolio NPOs to an extent that had not been possible under the more passive foundation model.

Venture Philanthropy Partners (VPP) in Washington, DC, also provided innovative social entrepreneurs with funding tailored to their more businesslike approach to social change (see Exhibit 1.2). Like NPI, VPP made larger, longer, and more flexible grants to carefully selected nonprofits and provided in-kind management consulting to help their portfolio NPOs enhance organizational capacity and effectiveness.

The traditional model of nonprofit finance that venture philanthropy sought to reinvent is deceptively simple: foundations collect charitable contributions and bequests from individuals, corporations, and institutions, and they administer systems of grant application, review, and funding to NPOs that the foundations believe will advance their social missions. But entrenched historical, practical, and structural problems have come to plague foundation funding:

Fragmentation and Undercapitalization

Traditionally, “[f]oundations saw their role as funding a large number of small programs for a short time, hoping that a few would enjoy some initial success.” As a result, it has become a regrettable fact of nonprofit life that “[f]oundations generally spread their resources-both money and people-too thin.” “The average grant among the 100 largest foundations is roughly $50,000.” Such grant sizes are simply too small to support the development of robust and enduring nonprofits capable of achieving scale and consequential social impact, and foundation employees are responsible for too many grant applications to provide active or sustained engagement with recipients beyond simple financial support. More than 90% of U.S. nonprofits have annual budgets of less than $1 million, and fewer than two dozen social entrepreneurs have annual operating budgets exceeding $20 million. As a result, “a foundation grant covers only a small proportion of a nonprofit’s costs.”

As one trenchant example, Business Week reported that the $1.6 billion Annenberg Challenge was “widely viewed as a crushing disappointment.” The reason: “The five-year grants, sprinkled across a range of initiatives in New York, Chicago, and 16 other cities, were too diffuse to have much impact.”

Time Horizons

Compounding the grant-size problem, foundations generally assess their own grantmaking performance on a quarterly basis, and 95% of all foundation grants are for just one year (subject to reapplication for subsequent funding). The duration of grants is driven primarily by institutional guidelines, rather than collaboration with applicants or an assessment of whether the length of the grant is commensurate with the time required to accomplish the nonprofit’s objectives. The system “has led to foundations’ time horizons being out of sync with those of their grantees, which are trying to build organizations that can sustain programs.”

Distraction

The inevitable result of the size and duration constraints is the “tyranny of the grant cycle”: nonprofit executives devote an absurd amount of essentially unproductive time to continual and unrelenting fundraising. Clara Miller, CEO of the Nonprofit Finance Fund, observes that “nonprofits, almost by definition, run two businesses-the core, mission-oriented business, and a second `subsidy’ business or businesses.” The length and breadth of such activities that have nothing directly to do with achieving the NPO’s objectives would sap the strength of the most lion-hearted private-sector CEO: “[s]ubsidy businesses include fundraising, dinner dances, special events, bingo, the capital campaign, for-profit related and unrelated businesses (bookstores, gift shops, parking lots), donated services, wine and cheese parties, endowment management, and any number of creative fundraising ideas long a staple of the sector.” In fact, fundraising diverts management attention from mission-related activities to such an extent that it has become a primary source of burnout and excessive turnover among experienced nonprofit leaders.

Grant Restrictions

Traditional foundations have an anaphylactic aversion to paying administrative overhead expenses, viewing them as “costs that divert precious resources from the real work of delivering programs.” To insure that grants benefit disadvantaged populations directly, rather than the nonprofit equivalent of “bureaucrats” in what foundations perceive as uncertain start-ups, funders “prefer working with well-established organizations or restrict their giving to programmatic support.” Not only do such restrictions deprive NPOs of needed support for the enterprises through which nonprofits carry out their work, but restricted grants and contracts that fund program expansion often create additional expenses or cash requirements that the funding does not fully cover.

Transaction Costs

As a result, nonprofit financial markets are highly disorganized, with considerable duplication of effort, resource diversion, and processes that “take a fair amount of time to review grant applications and to make funding decisions.” It would be a major understatement to describe the resulting capital market as inefficient. McKinsey & Company found that, while for-profit companies spend only $2 to $4 for every $100 of capital raised, nonprofits spend between $10 and $24 to acquire the same $100. When the administrative costs of foundations, federated givers such as the United Way, and government grantors are factored in, “the cost of raising capital consumes roughly 22 to 43 percent of the funds raised.” Such a system significantly reduces potential social impact well before charitable contributions find their way to NPOs.

In June 2008, REDF (formerly the Roberts Enterprise Development Fund) published a brilliant paper by Cynthia Gair, “Strategic Co-Funding,” the first of three that will comprise a series entitled “Out of Philanthropy’s Funding Maze.” Gair’s comparison of two hypothetical investment scenarios, one for-profit and one nonprofit, perfectly captures the absurd carnival that passes for the social capital market:

Three years ago, Janet Schmidt started her solar energy company, Solar-Jay. She and her team have developed a unique product and a growing customer base. What they’re doing works and it’s time to expand. Janet contacts Fred Malcolm at Green Cap LLP, a venture capital firm known for its investments in early-stage, green-technology companies. Fred reads the Solar-Jay business plan, meets with Janet, and decides the business has great promise. He assesses the potential for a high-return acquisition of the firm and estimates that Solar-Jay may need twice the $5 million investment it seeks, to reach its profit targets. Since Green Cap can only commit to a $3 million investment, Fred calls up two friends who are partners at nearby VC firms. Three months later, after discussions, due diligence, and some business plan revisions, Green Cap and Solar-Jay agree on final terms for the investment. Fred joins the company’s board, Solar-Jay receives its initial cash infusion, and expansion plans are set in motion. A few miles away, Ed Baker runs StepUp to Solar, Inc., a nonprofit that helps runaway teens stabilize their lives by engaging them in environmental education and jobs in the growing solar panel installation field. In the eight years since Ed founded the organization, the program has developed a good track record with the teens it serves and with community funders. It has demonstrated tangible, positive outcomes. Solar panels are catching on and more youth need jobs, so Ed and his board would like to expand. They calculate that it will take a one-time, $1 million upgrade of infrastructure plus an annual $300,000 increase in operating costs. Ed and his development manager start contacting potential funders. After six months-and 36 phone calls, 13 funding proposals, six meetings with commercial banks, 18 conversations with local and national foundations and city government departments-two foundations have committed to grants totaling $55,000. Proposals are on hold with two foundations that are undergoing strategy changes. Five foundations have rejected StepUp’s proposal because the program is not new. A city department is eager to refer youth to StepUp’s expanded program, but will not be able to fund the expansion unless it takes on a technical training focus. Ed calculates that in a best-case scenario, StepUp may receive $700,000 of the $1 million needed, but the expanded reporting requirements from these funding sources will add $50,000 to StepUp’s annual operating costs, which no one appears ready to fund. Given these results, StepUp’s board is uncertain about approving any expansion at all, but Ed and his team go back to the drawing board to calculate the costs of a reduced plan. (Continues…)

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