Philanthropy: The New Risk Capital?

As traditional research-and-development funding and early-stage investing have shifted, so has philanthropy’s role in solving some of society’s biggest problems. Philanthropy and private equity used to be separate worlds; now impact investing, or the notion of favoring social good over pure economic gain, is quickly becoming a buzzword, partly due to declining federal research dollars and traditional investors shifting away from “seed” investments.

This global paradigm shift is also a result of donors’ growing demand for more impact from their charitable dollars. Companies are leading this growing trend of market-based approaches to philanthropy: Goldman Sachs created its $250 million social impact fund; Morgan Stanley plans to raise $10 billion over the next five years for what it calls its “investing with impact platform”; and JPMorgan Chase has teamed with the Bill and Melinda Gates Foundation for a $94 million investment fund to finance late-stage drugs, vaccines, and tools to fight diseases like malaria, tuberculosis, and HIV/AIDS.

Meanwhile, foundations are using their considerable resources to make private-equity investments in companies that demonstrate high risk and social good, filling critical gaps in the funding ecosystem.

One area where this type of risk capital could have a tremendous benefit is in academic research, in all stages and fields—including science, technology, the environment, education, and the arts and humanities. The lack of funding for research has resulted in what many call the “innovation deficit,” and the lack of risk capital for technologies spun out of those labs has created a “valley of death,” where promising startups fail to launch due to a lack of capital. Both of these are having devastating long-term effects on the US economy and its ability to remain the world’s innovation leader, not to mention missed opportunities to cure diseases and solve other major world problems.

 

Today, only about 3 percent of philanthropy in the United States goes to academic research—an area that has accounted for roughly half of all wealth creation in the United States since WWII. This is a sharp contrast from the 1930s, when research was primarily patron-funded. This under-representation of research funding in the country’s overall philanthropic picture may be, in part, because research lacks a marketplace for direct funding or the notion that research is something that government funds. For example, we need an Uber, eBay, or Amazon for research—a virtual portal that provides a marketplace for research funding where donors and researchers can directly connect. This is a huge, untapped philanthropic channel.

Late Los Angeles Times reporter Laurie Becklund wrote about the inadequacy of research funding in her final op-ed piece, “As I Lay Dying,” last February: “The most powerful organization in the breast cancer universe, Susan G. Komen, has raised $2.5 billion over the last 20 years, much more than many corporations will ever earn. Yet Komen channels only a fraction of those funds into research or systems to help those who are already seriously sick. Most of that money continues to go to a breast cancer ‘awareness’ campaign that is now painfully out of date.”

Meanwhile, according to a US Trust study, 98 percent of high-net-worth individuals donate to charity every year, but only 40 percent are satisfied with their giving. In general, donors feel either that their money doesn’t have an impact, or that recipients haven’t kept them in the loop regarding milestones and research updates.

So what’s the solution? Philanthropy’s shift to seeking both social good and financial return could be our best bet when it comes to filling the social-innovation funding gap—one that spans all stages of research, from early-stage to commercialized new ventures. By combining the forces of philanthropy and capitalism, funders can provide a source of risk capital that fosters a new funding environment, an environment that better enables relationship-building over time, boosts accountability, reduces the politics and “red tape” at research institutions, and introduces a sizeable and stable influx of capital for innovation.

So far, impact investing, at least when it comes to private equity, has been limited to the ultra-wealthy, but we’ve seen what happens when larger populations gain access to markets: They take off. Syndicating opportunities in this context—connecting donors directly with innovators across all research—the way wealth management firms would handle say, an initial public offering, could be groundbreaking, and yet it has never been done before. Providing donors with open access to research funding, increased giving efficiency, and facilitating greater engagement through a modern marketplace will boost innovation funding and increase overall giving, if for no other reason than by creating an experience that simultaneously appeals to both the heartstrings and fiscal sensibilities.

Several philanthropic entities are leading the way and are already producing real financial (and social) returns. Last year, The Cystic Fibrosis Foundation, for example, sold the $3.4 billion worth of royalties it earned from Vertex Pharmaceuticals Inc., and reinvested the profit into more research. Many grants the foundation funded didn’t lead to success, but by reinvesting this windfall return in the cause, it creates a beacon for others to follow. Foundations are empowered, if not required, to take higher risks than traditional investors, which can, in fact, produce greater returns. In situations where traditional investors aren’t an option, this might be the only hope for some entrepreneurs.

Another example is San Francisco-based Breakout Labs, part of the Thiel Foundation, which funds early-stage companies in areas such as food, science, biomedicine, and clean energy. “We started Breakout Labs because we believe philanthropy has a critical role to play in transitioning scientific breakthroughs out of the laboratory and into the economy,” said Hemai Parthasarathy, scientific director of the Thiel Foundation. “Moreover, if foundations are supporting science in the name of tangible public benefits, it may even be incumbent upon them to help bridge the early, very high-risk steps toward commercialization that currently constitutes a ‘valley of death’ for promising technologies.”

This kind of new impact investing allows savvy entrepreneurs-turned-philanthropists to incorporate the strategies, wise investments, and risk-taking that anchored their own successes in business, and at the same time solve major problems in the innovation life cycle. This socially responsible investing has an opportunity to introduce a new and scalable source of risk capital, filling the void left by federal and corporate cutbacks and venture capital. We, at Benefunder, are working to push this new innovative charitable funding model to the financial community and to donors who want to make more of an impact with their giving, through our Charitable Innovation Fund. A first in the wealth-management industry, the fund connects donors with top innovators in the United States who are working on issues such as more-effective breast cancer, Alzheimer's, and Parkinson's treatments; solutions for protecting the environment and curbing climate change; and closing the poverty gap. Donors can make distributions to select researchers over time via the Benefunder platform, which helps match their giving goals and objectives, connect with researchers, receive updates on breakthroughs, and read progress reports.

To continue to push novel innovations forward, we need more philanthropists to fund innovation. What if we could syndicate goals like inhabiting other planets or mapping the brain by efficiently connecting new donor channels like wealth management firms with existing stalwarts in philanthropy like community, corporate, and private foundations?

Unlocking this new potential requires that we build on a more efficient model than the traditional public charity, where large amounts of overhead go to programs and capacity-building, rather than innovation research and/or companies that need it most. Philanthropist Andrew Carnegie wrote in 1889, “Of every thousand dollars spent in so-called charity today, it is probable that nine hundred and fifty dollars is unwisely spent.” Today, donors—through novel, targeted investment strategies—have a powerful chance to spend wisely ... by fueling the innovation economy.

Read more stories by Christian Braemer.