Investing in Society

David Brown sensed something was amiss. For the past seven years, Brown had given annual gifts of between $100 and $500 to a cultural institution, a nonprofit foundation whose mission he believed in.¹ He had begun to hear that the organization was having financial difficulties. But the organization’s Web site made no mention of any problem, and communications painted a rosy picture, touting a record number of donors and the millions of dollars raised through annual contributions.

“All the signals were, the ship is sinking,” said Brown, noting that ticket sales had been dropping for years, a falloff hastened by the terrorist attacks of Sept. 11, 2001.

Eventually, the president wrote donors a letter outlining the extent of the problems, confirming Brown’s fears: In 2002, the foundation ran a deficit of $35.5 million.

“There’s a lot of good news, and then it’s, ‘Oh by the way, we have this minor problem which amounts to $35 million this year,” said Brown. “If I ran operating deficits like that, I’d have been fired.”

Brown was upset. He was upset that the organization had been running “absolutely colossal operating deficits” for two years, without informing donors. He was upset about the charity’s lack of candor. He had concerns about basic decision making: When the charity finally did come clean, it chose “the most expensive, inefficient way to get the information into people’s hands” – sending letters, instead of posting it on the Web. And he felt increasingly as though, with such large deficits, his annual contribution hardly mattered.

“You have to ask yourself,” he said, “from an accountability perspective, are they using their dollars wisely?”

And so he did the only thing he could: He stopped giving. Though the charity has since posted financial information on the Web, Brown noted that the organization is not exactly forthcoming. There’s nothing about the issue on the home page. Clicking on “Annual Reports” yields the headline “Donors Provide Generous Support”; to learn about the deficit, one has to click through again to “Operating Results.”

“I ask a series of questions when I give,” Brown said. “How are my dollars going to make a difference? How is the recipient analyzing impact? Do they stay in touch with me? Do they share the bad news as well as the good? Are they asking the tough questions? Depending on how they respond over time, I’ll make my investment decision.”

Most individual donors are not like David Brown. A recent survey on personal charitable giving by the Atlanta Community Foundation found that when giving to nonprofits, people are more motivated by the heart than by the head. The top four reasons for giving, the foundation reported, were “to help the community,” “out of a sense of duty,” “because charities are more efficient than business or government,” and “because [the] organization helped me or someone I know.”²

“We’ve come to realize that the unfortunate fact is the public doesn’t in general do research,” explained Bennett Weiner, chief operating officer of the Better Business Bureau’s Wise Giving Alliance (www.give.org). “People base their decision on the appeals they receive, and they respond accordingly.”

But David Brown is part of a growing movement, a new breed of givers, both individual and institutional. They view themselves as “investors,” rather than simply donors, who seek information about the nonprofits they fund, and expect measurable social returns on their investment, much as investors in the stock market aim for financial returns. It is with these investors that the future of the social sector lies.

The Social Capital Market

All those who give to charity, along with the nonprofits they fund, make up a vast web that we call the “social capital market.” We use the market analogy because it’s a useful intellectual and communications construct and metaphor. Comparing the social capital market to markets for goods and services, including the financial markets for corporate and individual capital, we can see that where the latter runs mostly efficiently, the former is woefully inefficient.³ And we can begin to assess the kind of changes that need to occur for the social capital market to run efficiently.⁴

The social capital market, as defined here,⁵ is the system that fills the gaps most nonprofits experience between the revenues they can earn by providing services or selling products for a fee, and total outlays. In 1999, for example, nonprofits spent a total of $712.6 billion, but earned only $523.9 billion in revenue; the “gap” of roughly $188.7 billion had to be filled by individual, foundation, governmental, and corporate “investors.”⁶

The market consists of approximately 1.4 million charities, including religious congregations,⁷ in the United States today, supported by at least 37 million individual donors, more than 400,000 corporate sponsors, and more than 60,000 independent, corporate, and community foundations.⁸ All told (including endowments), charities received $241 billion in 2002.

The bulk of the giving came from individual donors, who contributed nearly $184 billion to charity. Foundations gave nearly $27 billion, corporations contributed $12 billion, and the rest came from bequests. Religious organizations hauled in 35 percent of the donations, with educational institutions receiving 13 percent; the rest was spread out across organizations supporting a wide array of causes, from the environment to human services to international affairs.⁹

Players in this market are adopting the parlance of their for-profit cousins: Donors active in the management of nonprofits are “venture philanthropists,” and some charities are exploring “nonprofit mutual funds.”¹⁰ Nonprofits such as Greenpeace, Habitat for Humanity, and the United Way are now required to make financial filings publicly available – just like Ford, Texaco, and McDonald’s. Today’s philanthropists, wrote Business Week in a recent article about American giving trends, “demand … measurable results, efficiency, and transparency – for bringing a businesslike rigor to philanthropy.”¹¹

The Efficiency Question

But is the social capital market efficient?

This is a crucial question for nonprofit executive directors, because in an efficient market, informed donors reward nonprofits that are performing well. Nonprofits will find more donors more easily, keep those donors engaged over the long haul, and generate more money for their causes, allowing them to spend additional time and money on the social problems they were set up to address.

It’s just as crucial to foundation program officers and individual philanthropists, large and small, because in an efficient market, it is easier for philanthropists to find the right nonprofit to achieve their desired outcomes, rather than settling for an approximate fit. Furthermore, foundations would be armed with information about nonprofits, enabling them to give to those that perform well, rather than wasting donations on nonprofits that can’t, or likely won’t, use the money wisely. At the end of the day, in an efficient social capital market, more of society’s problems can be addressed, at lower cost.

According to the economic literature, an efficient market usually demonstrates the following four drivers: 1) cost-efficient processes, in which transaction costs and other process-related costs are low; 2) robust information flow, such that the information regarding the intrinsic value and risks of the good or service is up-to-date and consistently available to all buyers and sellers; 3) value-driven allocation, such that investors seek to reward higher-value goods and services; and 4) flexibility and responsiveness, characterized by liquid transactions such that assets can be bought or sold in the amount and at the time desired, enabling rapid response to market information.

The stock market is still among the most efficient examples of a for-profit market because transaction costs are low (with broker fees barely registering as a total of dollars traded, despite the tremendous volume of transactions); analysts provide easy access to information about companies (giving investors quick access to everything from basic financials to detailed valuations); companies that do well are rewarded while those that do poorly are penalized; and transactions are flexible and responsive (transactions can be made nearly instantaneously; assets are bought and sold with the click of a mouse).

By these same measures, it’s clear the social capital market is woefully inefficient.

For starters, it does not have cost-efficient transaction processes, when compared to for-profit benchmarks. In the for-profit capital market, companies spend between $2 and $4 raising capital (e.g., legal, marketing, and administrative expenses) – for every $100 they raise. In the social capital market, however, nonprofits spend between $10 and $24 for every $100 they earn through fundraising (e.g., obtaining donor lists, sending direct mail, or making phone calls). Nonprofit chief executives, meanwhile, spent between 30 and 60 percent of their time pursuing donations with such “soft costs” unevenly accounted for in fundraising costs.¹² Foundations and government grantors, meanwhile, spend about $12 to $19 on administration (including general overhead and reviewing grant applications) for every $100 they allocate. Federated givers, those intermediary organizations such as the United Way and Jewish Community Federation that collect individual donations and then allocate dollars to charities, spend approximately $13 for every 100 to cover their expenses. That means that in the social capital market, the cost of raising capital consumes roughly 22 to 43 percent of the funds raised, a dreadfully inefficient process.¹³

“The resource allocation/fundraising process in America is a frightfully expensive proposition,” wrote Buzz Schmidt, CEO and founder of GuideStar, a national database of nonprofits, in its “Guide for the Responsible Donor.” “This is because gifts typically are made only after a nonprofit organization goes out of its way, often at great expense, to raise them. Unlike resource allocation in the business world, where investors and companies seek one another out in an information-rich environment, philanthropy is largely a one-way street.”

Moreover, the social capital market lacks a robust information flow. Organizations recognized by the U.S. Internal Revenue Service as tax-exempt public charities have different reporting requirements. Most religious organizations, and organizations with gross receipts of less than $25,000 annually, are not required to file annual returns. Organizations with annual receipts of more than $100,000 or assets above $250,000 must file the IRS Form 990, which gives a financial snapshot, including line items for direct contributions from individuals and foundations, and fundraising expenses. (Organizations with gross receipts between $25,000 and $100,000 must file a similar form, the 990-EZ.) All told, only about one-third of recognized charities must file the Form 990, and 38 percent actually file.

As recently as 1996, it was very difficult to get a charity’s Form 990. Donors could write to the IRS, or show up at a charity’s front door and ask to see it. The organization was not required to make a copy. Today, GuideStar has 990s from 285,000 public charities and 69,600 private foundations in its database, easily accessible and downloadable on its Web site.

But as GuideStar officials note, the forms can be suspect; 15 percent of forms have at least one mathematical error, and expenses can be shifted or hidden. According to a recent GuideStar study of nearly 84,000 organizations, while 82 percent of nonprofits reported receiving contributions, only 25 percent reported any fundraising expenses.

The forms “are virtually useless in comparing one organization to another, unless the organizations are of similar size, age, geography, and field of activity,” GuideStar advises on its Web site. “Further, they tell us nothing about the ultimate or relative effectiveness of an organization with respect to meeting its objectives. This is the true bottom line of charity.” (To combat this, GuideStar encourages nonprofits to provide additional information about their activities – as we shall see below.)

Unlike many other market models, nonprofits don’t embrace a uniform standard of accounting and reporting. Moreover, there is no clear regulatory agency like the U.S. Securities and Exchange Commission to oversee nonprofits. Some 800 IRS employees monitor more than 900,000 charities and about 690,000 other tax-exempt groups.¹⁴ But monitoring often falls to the state governments, which have varying regulations. Some require nonprofits to file annual financial statements, others do not. And 10 states do not require that nonprofits register with the state government at all.

“Most states look at charity oversight as an extension of their role as consumer watchdogs and focus on solicitation,” the New York Times wrote recently. “Issues of financial mismanagement and governance often fall through the cracks.”¹⁵

Indeed, that often means that when it comes to information, donors must fend for themselves. According to a 2001 survey by the Wise Giving Alliance, only 49 percent of U.S. donors say it’s easy to find the information they seek about charities, and only 50 percent credit charities with making the appropriate information available. A full 70 percent said it was hard to tell whether a charity soliciting their contribution was legitimate; 80 percent said a charity’s willingness to disclose information about operations was “very important.”¹⁶

In addition to not having a robust information flow, the social capital market is inefficient because the allocation process is not value driven. In the social capital market, by definition, nonprofits aren’t distributing profits and therefore donors are not the direct beneficiaries of the return their investments create. Social returns are difficult to quantify and measure; there are no standard measures of performance success (the art and science of outcomes and performance measurement is just beginning to emerge). Investment decisions are often based on things like institutional loyalty or belief in a cause, rather than financial and organizational performance and potential social impact. The result is that investors give, whether or not the nonprofits produce social value.

Finally, unlike efficient markets, the social capital market is neither flexible nor responsive. In the for-profit market, investors are able to withdraw funds from low-return investments (often at a loss) and redistribute them to higher-return investments. In the social capital market, this is not the case. Contribution decisions – donations to nonprofits, for instance – are largely final and irreversible.

“When you go into buy a good or service in the [for-profit] marketplace, you make an assessment as to whether it is performing as promised, or whether there is some other problem,” said Weiner. “And you can act on that by not buying it again.

“In the contribution transaction, it’s one direction. You are making a donation, and the transaction is over when the check is cashed. As to whether the charity is following through, donors will only be able to learn if they take time to read about the charity or go to other sources. It takes some effort for the contributor to find out more.”

‘A Blizzard of Applications’

As noted, a primary reason that the social capital market is inefficient is because transaction costs are so high. One way to make the market more efficient, then, is to reduce the amount nonprofits must spend on fundraising.

Currently, every foundation has its own grant application process, forcing nonprofits to spend a great deal of resources to write a separate grant proposal for each potential funder. “The way that foundations get money to nonprofits is through this bewildering blizzard of applications and forms, which serves as a thicket, a barrier,” said Dmitri Mehlhorn, vice president of the Gerson Lehrman Group, an investment research firm based in New York. “Instead of figuring out how to comfort the sick or educate children, they’re figuring out how to get this money.”

On the flip side, foundation program officers expend time and resources putting out requests for proposals, the vast majority of which result in grant requests that are not a good match. “It’s incredibly time consuming and deeply inefficient,” Mehlhorn said. “Hundreds of millions of wasted dollars could be eliminated if you had a more efficient matching system.”

There’s a better way. Three years ago, while working at McKinsey & Company, Mehlhorn was part of the team of three consultants who developed a proposal called “Grantweb” – a thirdparty “matchmaker.”

The idea was essentially this: Grantweb would feature a Webbased search engine, allowing nonprofits to find potential funders, and funders to find nonprofits, with the click of a mouse. Philanthropists would be able to conduct taxonomic searches, starting out generally, for instance, by typing in “child welfare,” with the ability to get to more specific causes such as “eliminating child prostitution in Bangladesh.” Basic financial information about the nonprofit, including what percentage of funds go to overhead, would be available through the site, along with testimonials from customers. The concept is similar to the “common application” adopted by many undergraduate colleges and universities, allowing prospective students to apply to several institutions with only one application.

But Grantweb would be more than a sophisticated matchmaker. It would also provide one common grant application that could be submitted to multiple foundations, eliminating wasteful duplication. Nonprofits would be able to store in-process applications, and Grantweb would route correspondence between donor and grantmaker.

“The biggest upshot would be that program officers would spend less time figuring out who gets the money, and more time working with financial recipients to make sure impact is achieved,” Mehlhorn said. “And, rather than the cozy relationships you have now, where big nonprofits get money from big foundations, who then re-up the following year, you’d have more competition among nonprofits, who would bring new ideas for how to tackle problems.”

The idea for Grantweb gained quite a bit of currency within McKinsey, making it as far as the world finals of an internal business plan competition in Venice, Italy. But when Mehlhorn pitched it to a dozen foundations in 2000, none backed the idea. He thinks this is partly because it would mean major changes, and could significantly reduce the need for program officers, or change they way they work.

But it’s an idea that should be resurrected. Over the long haul, a more efficient social capital market would mean a more efficient nonprofit sector, with supply and demand working just as it does on for-profit firms.

“Some nonprofits that do not exist now would spring into being, because latent good ideas are sitting in the hearts of people in the private sector, and they can’t figure out how to get enough money to start,” Mehlhorn said. “Ineffective nonprofits would come under attack, and some of them would shrink … and some of them would cease to exist. Stale old models would change, or they would die.”

‘Expect a Social Return’

Finding a more efficient way to match donors and nonprofits is one way to lower transaction costs. The Acumen Fund, a New York City-based nonprofit, has found another.

The Acumen Fund, more than most nonprofits, is borrowing vernacular and approach from the business world. “We were founded in April 2001 with a different model from the outset,” explained Gavin White, chief marketing officer. “Ours is a business model based on the goals of the nonprofit sector, but with the mindset of a for-profit. Ultimately, we’re trying to demonstrate the power of using market-based approaches to solving the problems of poverty.”

The fund raises money from individuals, corporations, and foundations and “invests” it in one of three “portfolios” – Health Technology, Economic and Civic Enterprise, and Water Innovations – each with its own “portfolio manager,” aimed at addressing the root cause of a social problem. For instance, the fund has invested $2 million in its health portfolio, which supports a low-cost hearing aid project, a telemedicine network connecting four private eye hospitals in India, an anti-Malaria bed net project in East Africa, and development of a portable, lowcost point-of-care device that is capable of detecting dengue fever (and could be developed to detect other diseases in the future, such as HIV, malaria, and measles).

Often, the fund invests in startup enterprises, social innovators, or new technologies. “Acumen Fund operates very much like a venture capital fund,” wrote CEO Jacqueline Novogratz in the organization’s newsletter. “It accepts charitable contributions from individuals, corporations, and foundations across the world, then ‘invests’ the funds in both nonprofit and for-profit enterprises. … It makes grants, loans, and equity investments. Acumen Fund supports those innovations that are delivering basic products and services to people who make less than $4 a day.

“This,” she adds, “accounts for two-thirds of the world’s population, making it imperative to link these people to the opportunities of globalization. At the end of the day, Acumen Fund’s partners do not expect financial gain; they expect a social return.”

There are several strategic benefits to the portfolio approach. First, pooling investments of between $5,000 and $5,000,000 from 68 investors, who have contributed $17.8 million over the past two-and-a-half years, has allowed Acumen to take calculated risks and do the intensive work of bringing innovations to scale. “By consolidating the funds of 68 partners,” Novogratz wrote, “Acumen can significantly increase efficiencies and make a few bigger bets.”

The portfolio approach also allows Acumen to seek out a blend of projects – including both startup enterprises and more established organizations – effectively diversifying risk. “Investors are not just saying, ‘I want to make an investment in bed nets,’ and putting all of their eggs in one basket,” White said. “They are spreading their commitment over multiple investments.”

Nonprofit investment vehicles such as Acumen Fund, which allow givers to share costs and spread risk, help reduce inefficiencies in the social capital market.

Hang Out the Dirty Laundry

The quickest way to spur more robust information flow in the social capital market is for the nonprofits themselves to make more information available about finances and project results.

There are indications that this is already happening. According to Schmidt, 75,000 nonprofits voluntarily supply additional information for his organization’s Web profiles, so that investors can gain valuable impressions beyond the Form 990.

One nonprofit that is doing its part in this regard is NPower, a Seattle-based organization with 12 regional affiliates across the country that provides technology assistance to other nonprofits – helping them understand technology needs, building and launching databases and Web sites, and maintaining computer networks.

On its Web site, NPower links to GuideStar, and encourages browsers to follow the link “For detailed information about NPower’s financials.” Interested would-be donors can follow the link and see that NPower reported $510,626 in consulting revenue, and $117,426 in training revenue in 2001. The organization lists more than just the requisite financials, taking advantage of a half-page provided to explain how income is related to mission: “When we charge for services, our prices are about half those of comparable offerings in the private sector. The ability to provide some services for free, and others at very low cost, depends on a strong base of foundation and corporate underwriting.”

But as CEO Joan Fanning explained, “The 990s are so limiting in describing who we are and what we do.”

That’s why NPower also takes advantage of GuideStar Plus, providing additional information about its operations, including an explanation of a decision in 2002 to split NPower Seattle into two separate nonprofits, one regional, one a national umbrella organization. Perhaps more telling, NPower provides a description of accomplishments: In 2002, it “served a total of 1,285 nonprofits, delivered 20,272 hours of handson technology help, taught technology skills to 2,678 nonprofit staff and volunteers, and matched 548 volunteers with nonprofits in need of short-term technology help.” It also provides specific objectives for growth. “When I look at GuideStar, I see it as an opportunity,” said Megan McNally, national development coordinator. “It’s an opportunity for us to give stakeholders a picture of what we do, why we think it’s important, and how it benefits the nonprofits.”

McNally pointed out another benefit of providing information – it provides a picture of the true costs of doing business, which may make donors more prone to give.

“It behooves organizations to be as transparent as they can be,” she said. “The more information we give about the work that we do, the more people can see why they should give the dollar that they give. And we all want donors who … are going to stay engaged over the long term. If they don’t understand what we do, then a year from now, they may be disinterested.”

And nonprofits should provide information – whether the news is good or bad. David Brown, who in addition to being a donor is the former executive director of FIRST, a New Hampshire- based nonprofit that seeks to motivate young people to pursue science, applied the principles he espouses as a donor to his tenure at FIRST.

“My approach is to put information out there, including the not-so-positive information,” he said. “If in fact you are having financial difficulties … you might as well hang the dirty laundry out there.”

Brown notes, for example, that FIRST posts its annual report on the Web site – showing a $165,870 operating loss for 2002. While it’s possible such information could make the organization seem wasteful and turn a would-be investor off, Brown explained, it more likely “demonstrates a need.”

“If we ran another operating deficit the following year, people might say, ‘What’s wrong with your business model?’” Brown explained. “People look at patterns.”

Investigate Before You Donate

Just as nonprofits need to provide more information, donors – individual and institutional – need to go out and seek it, and make their investment decisions based on it.

Increasingly, in addition to GuideStar, there are social capital market watchdogs cropping up that review nonprofit performance, making it much easier for investors to access financial and other information.

The Wise Giving Alliance, whose slogan is “Investigate before you donate,” is one, compiling extensive reports on some 500 charities that solicit nationally. The reports are based on a wealth of information provided by the nonprofit, starting with a detailed questionnaire, and including the annual report, audited financial statements, a 990, copies of direct mail appeals, sample grant proposals, fundraising contracts, bylaws, board roster, budget plans, scripts of telephone appeals, information on cause-related marketing, and the articles of incorporation.

The information is evaluated according to a set of 20 standards in four areas: governance and oversight, measuring effectiveness, finances, and fundraising. To meet the alliance’s standards, for instance, organizations must have a board of directors with at least five voting members, and the board must formally assess performance every two years. Furthermore, the nonprofit must spend 65 percent of total expenses on program activities, and no more than 35 percent of contributions on fundraising.

Charities that meet the standards are eligible to apply for a Better Business Bureau national charity seal – a recognition much like a moving company or insurance firm might covet – which can be displayed on a nonprofit’s Web site and in solicitation materials.¹⁷ Reports on the charities, meanwhile, are available through www.give.org, and indicate where organizations fail to meet the standards.

“I wouldn’t give to an organization if I felt that the pertinent information was missing, misleading, or hard to come by,” Schmidt explained. “I have not given to a grassroots poverty services group because I felt that the objectives were fuzzy and the strategy inconsistent with what was required. … And I have not given to a local historical preservation group, despite my admiration for its mission, because I felt its promotions were misleading and its strategies inconsistent with both the funding potential and redundant competitive environment.

“But more often I think about this stuff in the affirmative: I do give to organizations that do work I value and conduct business in a way that I think makes their objectives realizable.”

And the transaction doesn’t have to stop once the check is cut. Investors need to find a way to track the performance of the nonprofits they fund, accessing information about outcomes, to ensure they are getting social value from their donation. Increasingly, foundations have been doing exactly this.

Consider the approach taken by Becky Morgan, president of the Morgan Family Foundation, a Los Altos, Calif.-based philanthropy that focuses its giving on youth, education, the environment, and building communities.

“One of the things that foundations have not done enough of in the past is to really set the expectations for the grantee,” Morgan said, “to let them know that in exchange for the money, we expect them to set some objectives and measure how well they do.”

To that end, the foundation has a policy that any organization receiving more than $25,000 annually must provide a detailed “performance matrix,” listing objectives, baselines, strategies, and, perhaps most important, outcomes.

“Sometimes a nonprofit will say, ‘The river looks good,’” Morgan explained. “Well, how many more salmon are there? How many fewer toxins?”

For example, the foundation funds a nonprofit that aims to help teenage mothers avoid second pregnancies. The organization’s matrix lists seven clearly defined objectives, including that after one year in the program, 80 percent of teens will increase their knowledge about birth control and the risks of pregnancy. Scanning over to the outcomes, foundation officials could see that in fiscal year 2003, based on the results of a survey, 74 percent of teens had increased their knowledge base in this area – good, but short of its goals.

If the information in the matrix is vague or incomplete, the foundation follows up with additional questions. A local high school recently turned in a matrix with a clear objective: Ensure 70 percent of ninth-graders can read and compute at grade level by the end of the school year. But under outcomes, the matrix wrote only that “most students were reading at grade level.” Foundation officers followed up to find out what “most” meant, and in this case, they were rewarded: The high school had hit the target, with 71 percent reading at grade level.

“We’re investing,” Morgan said. “We are investing in improving the environment, or improving the lives of children. … It’s an investment in the well-being of people and places. … And the measurement is all about learning whether or not our money is being well spent.”

What Impact, Efficiency?

Most individual donors aren’t like David Brown. Most foundations are not like the Morgan Family Foundation. Many nonprofits still are not like NPower and FIRST. We don’t have an efficient way to link donors with nonprofits. We don’t have many cost-effective mechanisms for investing in innovative new projects in the social sector.

But what if that started to change? What if donors paused before plunking down a check, long enough to ascertain whether the nonprofit had a strong track record in terms of keeping administrative costs low? What if they took the time to ask hard questions, and to follow up if the answers were not forthcoming? What if these investors began to hold nonprofits accountable for results, demanding evidence that their money has been well spent?

Buzz Schmidt has thought a lot about this scenario. He has a clear vision of what the brave world would look like. “An ideal situation would have informed donors initiating their philanthropy,” he said. “Charities would be doing their best to explain their work, so there was no confusion in the minds of the donor public.

“And if charities did a good job of explaining that work and performing and meeting objectives, then they would continue to operate, and they would grow. If there were too many environmental groups on the Hudson River, they would merge, or some would go out of business. If there were not enough child development resources devoted to San Jose, then new nonprofits would develop, because the actors would be responding to needs, information, and proactive donor intent.

“You’d have the dynamics that were creating true market outcomes,” he added. “It would be a market.”

1 In return for speaking about his experience, Brown requested that the institution remain anonymous.

2 “Report on Personal Charitable Giving in Greater Atlanta,” January 2001.

3 An efficient market, according to economists Paul A. Samuelson and William D. Nordhaus, is “organized to provide its customers the largest possible bundle of goods and services given the resources and technology of the economy. That is, allocative efficiency occurs when no possible organization of production can make anyone better off without making someone else worse off.” (Italics added.) See Samuelson, P. and Nordhaus, W. Economics (Boston: McGraw-Hill/Irwin, 1998).

4 This theme has been explored in depth by Jed Emerson as well as by Allen Grossman, Christine Letts, and William Ryan. See for example Emerson, J. “The Nature of Returns: A Social Capital Markets Inquiry into Elements of Investment and the Blended Value Proposition,” Social Enterprise Series No. 17, Roberts Enterprise Development Fund, 2000; and Letts, C., Ryan, W., and Grossman, A. “Virtuous Capital: What Foundations Can Learn from Venture Capitalists,” Harvard Business Review (March/April 1997).

5 James Coleman, Robert Putnam, and others have defined social capital more broadly. Putnam writes, “‘Social capital’ refers to features of social organization such as networks, norms, and social trust that facilitate coordination and cooperation for mutual benefit.” (Putnam, R. “Bowling Alone: America’s Declining Social Capital,” Journal of Democracy 6 [January 1995]: 65-78.)

6 IRS publication, “Charities and Other Tax-Exempt Organizations,” 1999.

7 Of the approximate 1.4 million charities, 889,548 are 501©(3) charities; November 2003 IRS Business Master File, as reported by the National Center for Charitable Statistics.

8 IRS Statistics of Income, Foundation Center 2001.

9 AAFRC Trust for Philanthropy (2003). Giving USA 2003.

10 This concept of venture philanthropy was popularized in “Virtuous Capital: What Foundations Can Learn From Venture Capitalists.”

11 Business Week, “The Top Givers,” Dec. 1, 2003.

12 “Virtuous Capital: What Foundations Can Learn From Venture Capitalists.”

13 Investments Dealers’ Digest (Dec. 11, 2000) for for-profit numbers; AAFRC, Giving USA Update (no. 2, 2003) estimates that nonprofit fundraising costs could be as high as 24 percent across subsectors and organizational size; Council on Foundations (1999) found that the mean ratio of charitable administrative expenses to grants was 12.05 percent for independent foundations. In 2001, National Center for Charitable Statistics Dataweb estimated the ratio of total operating and other nongrant expenses to total contributions/gifts/grants was 18.8 percent for grantmaking foundations.

14 Strom, S. “New Equation for Charities: More Money, Less Oversight,” The New York Times, Nov. 17, 2003.

15 “New Equation for Charities: More Money, Less Oversight.”

16 BBB Wise Giving Alliance, Donor Expectations Survey (Princeton, NJ: Princeton Survey Research Associates International, September 2001).

17 The charity seal program began this summer; 17 organizations currently hold the seal.

WILLIAM F. MEEHAN III is a director at McKinsey & Company, Inc., a global management consulting firm, and a lecturer in strategic management at the Stanford University Graduate School of Business. Meehan writes, lectures, and consults on issues of nonprofit and foundation strategy, governance, and policy. He sits on the board of GuideStar and has consulted with both Acumen and NPower, all cited in this article. Meehan is also a member of the Stanford Social Innovation Review advisory board. He can be reached at [email protected].
DEREK KILMER serves as business retention manager for the Tacoma- Pierce County Economic Development Board, a nonprofit focused on expanding family-wage jobs in Washington state. Kilmer is a former consultant for McKinsey, serves on the board of trustees for Tacoma Community College, and is vice chair of Communities in Schools of Peninsula, an education-based nonprofit. He can be reached at [email protected].
MAISIE O’FLANAGAN is an associate principal in McKinsey’s San Francisco office and a leader of the firm’s Nonprofit Practice. O’Flanagan is a former nonprofit manager and has served as a consultant to a wide range of companies, foundations, and nonprofit organizations, including NPower, which is cited in this article. She can be reached at [email protected].

Read more stories by William F. Meehan, Derek Kilmer & Maisie O’Flanagan.