Weisbrod Redux

The post here in January commenting on Burton Weisbrod’s article, “The Pitfalls of Profits,” that appeared in the December, 2004 issue of Stanford Social Innovation Review stimulated a thoughtful series of comments both supporting and disagreeing with Weisbrod’s position.  (Weisbrod discourages the pursuit of profits in the nonprofit sector.)  One of the most forceful critiques came from T.J. Zak, President of the Pittsburgh Social Enterprise Accelerator, who strongly favors the appropriate use of commercial enterprise by nonprofits.  Professor Weisbrod recently responded to Zak’s commentary with a letter of his own, and it seems useful to post them together here to give Forum readers a chance to compare the arguments.

One thing that strikes me in reading them side by side is the degree to which the arguments actually bypass each other.  Weisbrod’s article and his response to Zak emphasize the potentially negative impact of commercial activity on the value platform of nonprofit activity, while Zak focuses primarily on the pragmatic impact of profit-generating enterprises on the financial viability and “impact per dollar” of nonprofit organizations.  There are essentially two conversations going on here, albeit with a need to engage each other at some point.

Dear Editor:

I'm a little surprised that a publication that aspires to highlight innovation in the nonprofit sector would include an article asserting that nonprofits should completely get out of commercial ventures and employ tax code changes to pick up the slack [The Pitfall$ of Nonprofit$, Winter 2004].  I would have expected such a definitive point of view, with such vast implications on the sector and society as a whole, to be backed up by a far more thoughtful, specific, and action-oriented solution than the author presented.

For example, according to the Center on Philanthropy at Indiana University, personal giving in the U.S. over the past 40 years as a portion of real household income, even with a plethora of regulatory changes intended to stimulate charitable giving, is "stuck" at about 2%.  It is disturbing that an economist of Professor Weisbrod's stature would fail to provide in any detail how the tax code for these contributions should be changed and, of the many possible changes, which would yield the greatest "return".  What is the "elasticity" of individual giving for various scenarios?  Should tax code or other regulatory changes affecting corporate or private foundations be considered as well?  How long would such changes take to have the desired impact?  What actions should the sector take to survive in the meantime? 

In addition, it is important to recognize that the "market" for personal donations to nonprofits is highly imperfect.  There is no equivalent to the NYSE or NASDAQ in the nonprofit sector to effectively direct new capital inflows to areas that will have the greatest societal "yield".  In lieu of any mechanism that enhances transparency (e.g., recognized indicators of performance), liquidity (e.g., geography-neutral comparisons of similar nonprofits), and transaction cost efficiency (e.g., search time for prospective donors), how can we be sure that such regulatory intervention would allow all nonprofits to regain their "purity" as Professor Weisbrod would prefer?  And, just because there are more individual donation dollars available doesn't mean that the cost for nonprofits to raise capital still won't be 3-5 times higher than their for-profit counterparts as evidence suggests.   

Finally, Professor Weisbrod implies that most nonprofit commercial ventures are, at best, tangentially connected to mission and are launched for the sole purpose of making money.  Using a few examples, some frankly quite dated, drawn from mostly large nonprofits in some select areas where Professor Weisbrod has conveniently done most of his research (e.g., health care), he provides "evidence" that nonprofits "sacrifice" their mission by maintaining social enterprises.  Based on the examples provided should we just conclude that the whole idea is bad even though more than 90% of all U.S. nonprofits have budgets less than $5 million?  Are we to imply that the sector's approach to balancing mission and financial considerations has not appreciably changed and that nonprofits have not gotten any more sophisticated about launching and managing earned income ventures in the last 10-15 years?  If what he asserts is true, then how do you account for the ventures launched by nonprofit leaders like Share Our Strength, Greyston Bakery, or Pioneer Human Services that generate unrestricted earned income while expanding the organization's ability to deliver on its core mission?   

Based on our experience with ventures in the Accelerator's portfolio, social enterprises that are a natural extension of nonprofit mission and run with the intent to make a surplus, borrowing from the best and most relevant practices of the for-profit sector, support "funding portfolio" diversification while simultaneously building organizational capacity, the resilience, flexibility, and sustainability to "do more good".  Frameworks, models, and techniques proven to be effective in business can be easily adopted by nonprofits with minor modifications, allowing creative energy to be focused on refining methods that take into account the unique characteristics of the sector.  Lessons learned, for example, in operations, marketing, finance, and risk management, in very real markets with very real competitors can generate more positive and faster change in nonprofits than any class or retreat ever will.  And, as Rosabeth Moss Kanter points out in her 1999 Harvard Business Review article From Spare Change to Real Change, there is no reason that the social sector can't act as a "beta site" for business innovation and demonstrate the very real benefits of "multiple bottom line" performance for all commercial ventures.

The real dialogue that we should be having is this:  how much innovation, excellence, and continuous improvement should we demand from the nonprofit sector in this country and what methods are at our disposal support it?  For a segment of the U.S. economy contributing 10% of all jobs and 7% of GNP, shouldn't we want the nonprofit sector to always seek out better solutions to the same old problems, improve "impact per dollar", and reinforce an organizational ethos that "good" is not good enough?  And if that's desirable, can anyone think of a more historically effective catalyst for innovation and perpetual impact than entrepreneurship, the process of business formulation and development?

Admittedly, no one should get the idea that running a social enterprise is easy or that social entrepreneurs shouldn't try to mitigate risks just like their for-profit counterparts.  Not every nonprofit should launch a social enterprise.  However, I would contend that every single nonprofit should go through the same business planning process (not to be confused with traditional nonprofit strategic planning) that any entrepreneur would conduct to assess the assets and capacity that they could bring to bear on a market.  And, if a social enterprise emerges from that process of discovery, analysis, and introspection, so be it.  But I can guarantee that the nonprofit, as a result of the effort, will be a higher performing organization with more "tools in its toolbox".  And that's good for society. 

Of course there is a concomitant set of risks that a nonprofit must carefully weigh before launching a commercial venture.  There are many who cite evidence like "4 out of 5 businesses fail in the first five years" as a way to discourage nonprofits from considering social enterprise, claiming that the risk is just too high for society to bear.  But there are systemic and unsystemic risks.  Naysayers, for example, often conveniently forget in their arguments to include the rest of the story:  80% of the 1-in-5 start-ups that survive the five-year mark developed a comprehensive business plan. Social enterprises not connected to mission that fail to plan in advance are like "entrepreneurs" that launch a business that he/she knows nothing about.  Sure, there may occasionally be an accidental success among these start-ups but the risk is significantly higher and the likelihood of long-term sustainability is much lower.  This situation is not dissimilar to nonprofits launching into new programmatic areas loosely aligned with mission that are driven by the prospect of "steady" funding.  "Markets" (e.g., clients, funders) still ultimately decide if the idea is good or not and comprehensive planning is an important part of increasing the chance for success.       

Unfortunately for the field, authors like Professor Weisbrod have influence and their communicated positions often result in knee-jerk reactions from a variety of key stakeholders including nonprofit leaders, funders, government, and society at-large.  As he rightly points out, with any broad policy change "the devil is in the details" [emphasis added] and the impact of earned income activity does require on-going "exploration" and research.  However, asserting that, in the meantime, nonprofits should get out of commercial ventures and be discouraged from even considering them as a way to strengthen mission delivery capabilities and diversify their unrestricted funding streams is both na?�ve and dangerous.  After all, when a nonprofit that is having a clear and significant societal impact closes its doors or cannot effectively respond to increasing demand, some other entity has to pick up the slack or society as a whole gets to experience the consequences. 

In today's funding environment, with an ever-increasing number of our citizens in need as a result of, for example, poverty, hunger, and homelessness, the riskiest thing that nonprofits can do is maintain the status quo.  Social enterprise is a critical element in any effort to create a more vibrant, creative, and high-impact nonprofit sector.

Sincerely,

T. J. Zak

Timothy J. Zak
President

Dear Mr. Zak,

Thank you for your thoughtful comments on my recent article in the SSIR, regarding financing of nonprofit organization activities. Your views and mine are not nearly as different as you appear to think.

Overall, since it was the goal of the editors and myself to stimulate discussion and reconsideration, perhaps your letter is one indication (and there were others as well) of some success. I do not regard the issues as simple or uncontroversial, but as important and worthy of serious attention.

One issue is whether it would be desirable to shift financing from commercial to donative support--if it could be done. A second issue is whether the shift can be achieved--and with what consequences. On the first: I agree that the evidence about the side on the adverse effects of nonprofits' commercial activity--whether cooperative with private firms or collaborative with them, is essentially anecdotal. More evidence would be useful. However, the variety of examples with which I am familiar is wide. On the second matter, whether a substantial shift away from commercial activity and toward increased donative revenue is possible, you are clearly more pessimistic than I am. I would   note, however, the following: (a) You refer to the relative stability of donations at around 2.0 percent of disposable income. While true, this does not imply a stable dollar level of donations, but rather an increasing real dollar level of donations over time, since real disposable income is growing and will almost surely continue to grow. (b) More importantly, I note your use of the word "stuck" to characterize the 2 percent figure, but I would not use that term--nor, I believe, did the Indiana group to which you refer. In my article I referred explicitly to the need for changes in tax law to encourage donations. There is little doubt, in part based on considerable econometric work, that there would be a positive response of donations to increased tax advantages such as permitting deductibility of charitable donations even for non-itemizers. I would not be dismissive of the potential of using the tax system far more aggressively to encourage donations. Even the success of Howard Dean's Internet fundraising last year may be an indication of an untapped potential--notwithstanding the fact that those donations were not tax-deductible, even to itemizers.(c) I certainly do not propose that commercial activities of nonprofits be prohibited, or even significantly curtailed, without careful attention to alternative revenue sources. It is all too easy to find fault with commercial activity, but an alternative needs to be identified and appropriate mechanisms put in place. You were critical of my not spelling out such mechanisms, but my intent was to stimulate consideration of them, not to say that I have found a solution to the finance problem. I would add that any mechanism of change--e.g., in tax laws--would surely have different effects on nonprofits in various industries-- a result that deserves careful consideration. Precipitate change is not warranted, nor did I recommend it. (d) Finally, I agree that all activities of nonprofits cannot be nicely identified as either money-raising or mission-oriented. I also feel, however, that with the mission of so many nonprofits being inherently vague, there is a real danger that organizational "success" will come to be judged in financial terms rather than in terms of hard-to-measure outcomes, with the result that managerial rewards, for example, will distort organization behavior (a matter about which I wrote in my 1988 book, The Nonprofit Economy).

As nonprofit commercial activity grows in forms competitive with private firms, I would like to head off what could turn out to be a political struggle between the two. The likely outcome of such a struggle is unlikely, in my judgment, to benefit nonprofit organizations.

My best wishes to you, and thank you, again, for your thoughtful remarks.

Burton A. Weisbrod

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