“For-profits generally return revenues to the stockholders in the form of dividends or increase the value of their company to stockholders by reinvesting in it. Since the overriding objective is profit, revenue is reinvested into the front end and back end of the business (two ends of the same horse) wherever it makes most sense to grow the business. Nonprofits and their grant-giving benefactors see programmatic and administrative investment very differently than their for-profit counterparts. They view the enterprise as two ends of different horses. The donor grantee relationship that has developed over the years dictates that nonprofits are supposed to reinvest back into program mission, the deck is clearly stacked against reinvesting in administrative capacity to support the mission.” (Pnnonline, November 2002)
Organizational capacity, or lack thereof, is an important issue in the nonprofit sector. This is not a revelation to any donor or nonprofit struggling with the problem in pursuit of mission goals. Nonprofits are long on good intentions, tenacity and passion for achieving mission. Many are also woefully under resourced in developing their own organizational capacity in areas including technical acumen, organizational development, strategic planning, advocacy and promotion.
What may be more of a revelation is the extent to which issues of capacity limit the evolution of the donor grantee relationship, new sources of funding, sustainability and most importantly, effective service delivery to the end user community in need of that support. The problem is both acknowledged and assiduously avoided in the typical grantor grantee relationship.
I don’t want to imply that nobody is dealing with these issues. Individual donor initiatives like Social Venture Partners of Seattle support the capacity development of their grantees. Projects like Mike Murray’s Unitus, also based in Seattle, seek to change the face of micro-lending through targeted capacity building. Foundations like Omidyar have targeted capacity building as an important objective. The Grant makers Evaluation Network (GEO) constitute a group of grant makers looking at these issues. The problem is these initiatives are still more institutional than systemic. Capacity building should be at the core of the grantor grantee relationship, but the implications of changing funding relationships in such a fundamental way has important ramifications.
Organizational Capacity As Stepchild
Two recent circumstances underscored for me the extent to which the capacity issue significantly undermines the further development of new paradigms of philanthropy and nonprofit service delivery.
In one situation, a developer of a software product designed to help organizations get online and advocate more effectively set up a nonprofit to further develop and distribute the product. The reasoning behind setting up a nonprofit social venture versus a commercial company had to do with developing trusted source relationships with the grass root organizations the developer was working with. While sustainability was a goal, huge profit margins were not, and nonprofits are typically skeptical of commercial vendors bearing gifts.
In his quest for financial support, the developer approached some notable venture capitalists. While impressed with the product, one venture capitalist indicated he could only help put together a coalition investors if the developer created a for-profit company that provided the software to nonprofits – even if the commercial company was not set up to make money. This struck me as rather strange logic. Why would a successful VC and philanthropist be more comfortable supporting a [by definition dysfunctional] for-profit that would not make money when he could support a successful nonprofit that was filling its mission objectives by providing a useful product to nonprofits? The logic was clarified for me after a discussion with a fellow donor in the business community, Tae Yoo, the Director of the Cisco Foundation. In the VC’s mind, a commercial company would operate on for-profit principles, most notably the reinvestment of any revenue back into the business to develop capacity. This was not a foregone conclusion if the developer continued to operate in a nonprofit context. Here the VC had a valid point, looking at the nonprofit sector in a historic context, there was significant evidence that this did not occur.
In the second example, a notable and rather innovative community grant maker was coming to terms with the next phase of its organizational development. Over five years the organization had successfully developed a significant base of new philanthropists. They not only invested financial resources into needy nonprofits but many also took an active role in contributing their expertise on a volunteer basis to help build capacity of the nonprofits they supported. While the organization promoted capacity development in the nonprofits it was supporting, it had only three staff to support three hundred volunteer donors working on thirty-five projects and distributing millions of dollars in addition to helping in the development of additional new groups in twenty four locations in North America and beyond. An assessment of its own operations indicated that the organization had a capacity problem. It’s challenge was to convince its donor base to invest in the organizational vehicle they developed to do all this good work, and by doing so diverting some of the funds slated for program activities into administrative operations instead. The nature of this organization is innovative enough that it may well rise to the new challenge. However, it once again underscores the depth and breadth of the capacity issue and how it undermines not only a nonprofit’s ability to service its constituents but also new and innovative ways to fund such activities.
Hypothetically, capacity investment in for-profit and nonprofit activities should mirror each other. The only legal difference in the Western context between a nonprofit and a for-profit is where each allocates its profits, or in nonprofit parlance, surpluses (grants or profit from mission-focused activities). For-profits generally return revenues to the stockholders in the form of dividends or increase the value of their company to stockholders by reinvesting in it. Since the overriding objective is profit, revenue is reinvested into the front end and back end of the business (two ends of the same horse) wherever it makes most sense to grow the business. If technological improvement, creates revenue or cuts costs, a for-profit does not think twice about further reinvesting in this area.
Nonprofits by contrast reinvest their surpluses back into their programs and do not distribute any surpluses to their constituents. More correctly they distribute their surpluses to their constituents through the program reinvestment they do. Their stakeholders, (versus stockholders) do not benefit financially but hopefully benefit through better service delivery of mission objectives. Nonprofits and their grant-giving benefactors see programmatic and administrative investment very differently than their for-profit counterparts. They view the enterprise as two ends of different horses. The donor grantee relationship that has developed over the years dictates that nonprofits are supposed to reinvest back into program mission, the deck is clearly stacked against reinvesting in administrative capacity to support the mission.
Most donors have clear limitations on the amount of funding they allow for “administrative overhead” in any grant they make. Grants are designed to meet sexy mission objectives as defined by the boards of large donors organizations, the passions and interests of individual philanthropists or often the current event or geographic crisis of the moment. Administrative overhead is not considered sexy. Contributing to the human resource capacity or technological development of organization X does not make for good annual report copy if one’s objective is combating the scourge of AIDS or the rebuilding of educational institutions in Afghanistan. Making a grant to meet mission objectives without supporting underlying organizational capacity building is akin to window dressing. While some high profile successes may be achieved in the short run, sustainable success remains elusive.
Nonprofits are equally guilty of limiting the extent of capacity development in their own organizations. Administrative need often takes a back seat to the more compelling mission need not only because funds are tight but because expertise and interest do not lie in these areas. Nonprofit program staff may undervalue the administrative mechanisms that support successful for-profit or nonprofit initiatives. Aside from the cost issue, it can be difficult to integrate these functions into a nonprofit environment if they are thought of as simply extra expense rather than a better way to meet mission objectives. More difficult is the issue of paying administrative people not directly involved in mission more then their program focused counterparts. The reality is that the market value of their skills is in high demand and is thus costlier.
Unfortunately, the grantee/grantor relationship has not evolved into a partnership to meet similar objectives matching resources with expertise. It remains for the most part an unequal relationship of benefactor and recipient even though both contribute significant, albeit different, resources to meet constituent needs. Grantees are often too complacent in arguing for necessary support to build capacity fearing the loss of program funding as well. On the other hand, the grantor staff at large funders may often sympathize, but are also constrained by what their boards will allow funding for. The result is a bizarre situation of nonprofits hiding/padding some capacity support in the budget lines of their projects and grant makers turning a blind eye. I liken it to the family secret of the alcoholic uncle whom everyone knows hides the booze around the house. Rather than addressing the problem openly however, everyone avoids the bottles.
Organizational Capacity As The Holy Grail
Many organizations and individuals are striving to apply more effective philanthropic and service paradigms to the social sector to close a growing economic and social divide. I would suggest we start with solving the known problem of capacity development in a more systematic and honest manner. Over the years, donors around the world have made a conscious decision to rely on nonprofits with specific expertise to deliver service to an end user constituency they are both trying to support, rather than becoming program operators or providing support directly to individuals. This methodology provides donors the flexibility to change course and support different issues and organizations as new needs arise. It should also provide issue-based nonprofits a variety of ever changing sources to approach for funding and to develop alternative revenue streams. However, such a flexible paradigm entails responsibility on both sides to develop sustainable nonprofit organizations that can meet the continuing challenges of an issue area even when donors move on to deal with different issues.
The current system institutionalizes a cycle of nonprofit poverty by not addressing the skill sets and resources needed for sustainability. It clearly allows both parties to avoid building the appropriate organizational capacity to fulfill mission objectives as effectively as possible. The end result undermines the donor grantee partnership and more importantly, the objective of supporting the constituency each wishes to help. Most discussions around “more effective philanthropy” and “more effective service delivery” continue to skirt the issue rather than attacking it head on.
To deal with the issue involves tough choices. In the current context, many nonprofit organizations with similar agendas compete for limited donor financial support rather than collaborating and sharing resources to strengthen their respective organizations. Mergers are all too uncommon in the nonprofit environment. As many pundits, writers and futurists continue to tell us, the future belongs to networked organizations and constituencies. Collaboration and communication is a keystone of the networked organizational model. It takes a tough-minded and visionary person to create, direct and maintain a nonprofit. Sadly, all too often ego’s get in the way of cross-organizational cooperation, particularly in the same sector. This must change.
Large donor organizations, do not, by nature, collaborate either and often fund different entities doing similar things without combining their resources. There are many reasons for this. Often political agendas of government funders and the needs of private foundation’s to carve out a unique niche for themselves is to blame. Ego’s are a factor in this sector as well and are all too often pandered to by needy grantees who rely on the good auspices of their funder for survival. This also must change if combining resources leads to better results. Certainly the need to support capacity also requires more significant funding of smaller group of organizations over more years. This factor alone may justify the need for a consortium of collaborative funders to share the financial burden.
The current funding paradigms discourages both nonprofit and donor cooperation and instead encourage individual nonprofits to cultivate “sugar-daddy” relationships with individual funders. Not that “sugar-daddy” relationships are all bad – if they are created between consenting consortiums of funders and nonprofits with the end goal of creating a few sustainable entities to tackle the issues in question long after funders turn to meet other pressing needs.
Implicit in this suggestion is a need for donors to select and work with the nonprofits with the best chance of meeting constituent needs, and building their capacity to a level where they can successfully scale and tackle issues surrounding their own sustainability. I am working with a collaborative of technology funders who are at the beginning stages of making these kind of funding decisions. It requires tough but necessary choices because to make this work you have to choose and bet on a limited number of winners who have the best chance of succeeding.
Related to capacity development, grantors and grantees have some alternative paradigms they can follow. Medium to large grantee organizations with the best chance of succeeding need to make a pact with funders to support their capacity needs for a set period of time. I would suggest three to five years, during which these nonprofits develop alternative revenue streams designed to cover their operating costs. For some less intractable social problems support for capacity might even be limited to a time period in which a mission objective is completely accomplished and the organization(s) can close down afterwards.
Small to medium size nonprofits and grassroots community organizations have somewhat different issues and are by far the most prevalent organizations in the nonprofit sector. Continually cash starved and under-resourced, collaboration is also a key survival strategy for them. It is much more difficult for 2-3 person organizations to hire the appropriate administrative expertise they need. Fortunately, there are a new breed of nonprofit intermediaries providing a variety of highly professional services to the nonprofit sector at price points they can afford. These services range from organizational management and strategic planning to technical services, advocacy and promotion.
Donors need to step up the plate and support the best of breed intermediary service providers with bridge funding long enough to ensure their sustainability as service providers to the field. It is far easier and more cost effective for a donor to underwrite one of these intermediaries to support a portfolio of their grantee organizations with specialized services then it is to directly field hundreds of grantee requests for various degrees of the same service these intermediaries provide. Intermediary organizations can also be used to assess and evaluate the efficacy of the nonprofits they service. While this may be a controversial notion in a new world of transparent and efficient partnerships between nonprofits and donors, it would be just another way of making the most efficient use of limited capital to fulfill social needs by choosing the organizations in the best position to do so.
Finally, it seems, god help us, that we need yet another new nomenclature to define nonprofits so that the VC’s and other new types of funders of the world do not automatically equate “nonprofit” with “nonperforming”. Assuming that capacity building was “outed” as a necessary function that grantors had to take into consideration in their funding decisions, some of the real operational stigma some funders have about supporting these initiatives would be removed. They could rest easy in the notion that capital was actually being reinvested into developing appropriate organizational infrastructure. Renaming them social value ventures rather than nonprofit initiatives when approaching these funders wouldn’t hurt either.