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Good Capital

A Revolution in Nonprofit Finance: An Interview with Clara Miller

Last month we kicked off a new, monthly Social Velocity blog interview series where I interview leading thinkers and doers in the social innovation space. Our inaugural interview was with Kevin Jones co-founder of both Good Capital, one of the first venture capital funds that invests in social enterprises, and the Social Capital Markets Conference (SoCap) which marks its third year with the upcoming October event.

This month’s Social Velocity interview is with Clara Miller, President, CEO and founder of the Nonprofit Finance Fund, a national leader in nonprofit, philanthropic and social enterprise finance. Directly and with others, NFF has leveraged $1 billion of capital investment into nonprofits, and  provided over $200 million in direct loans. Clara Miller was named among The NonProfit Times “Power and Influence Top 50” four years in a row and is a board member of GuideStar and Grantmakers for Effective Organizations.



Nell: You and the Nonprofit Finance Fund have initiated this idea of equity capital for nonprofits, or money to “build” organizations rather than the tradition funding to “buy” services. Do you think the idea of equity capital for nonprofits is catching on?

Clara: First of all, I should say that many people have contributed to the idea of a nonprofit version of equity over the years.  My NFF colleague George Overholser has been a field leader.  He focuses almost exclusively on the version we call “growth” capital, which is used to rapidly build organizations, changing what they do through major investment undertaken around a single set of metrics, business plan, and ideally, with all funders acting in concert.

And yes, I do think the broader notion of “equity”—and for that matter, the importance of the balance sheet in its entirety—is catching on, especially among major foundations, capital campaign veterans and those familiar with these concepts in the for-profit world.  The broader concepts of “building” organizations and “buying” services, and how financial roles differ, are resonating strongly with both organizations and funders.  We have a foundation partner that has simply put the question, “is this a “buy” grant or a “build” grant?” on the program officers’ intake checklist.

Nell: How do traditional nonprofit capital campaigns, which are predominantly focused on raising money for new buildings, fit into all of this?

Clara: We think these “growth capital” and “equity” principles comprise an ideal way to think about (and operate) a successful capital campaign.  Our early work in the 1980s (when we were Nonprofit Facilities Fund, and exclusively financed  “community facilities” with loans) revealed that a rash of problems would almost invariably follow capital campaigns for facilities: cash crises, burnout, funder fatigue, “night of the living dead” program operations, the need to lease excess space at below-cost rent…you get the idea.  It was a real eye opener. We learned a lot about the need for truly unrestricted “growth capital,” in addition to funds focused (and often restricted) to build and fit out the facility.  Among the NFF-documented  lessons: that facilities projects typically need 3 to 4 times the bricks and mortar cost for working capital to cover program and administrative growth needs; that the building frequently changed the business model radically, but planning never covered the whole enterprise; and that putting large amounts of cash into an illiquid asset while expanding operations was problematic on a number of levels.  Also, many of these building projects came with opportunity costs: organizations weren’t investing in new technology, upgrading skill sets, or replenishing cash reserves.

Beyond facilities projects, capital campaigns frequently focus on other (typically illiquid) parts of the balance sheet: building an endowment, or on the acquisition of, for example, a program asset (such as a painting or piece of medical equipment). Thinking holistically about improving or acquiring illiquid assets, via a campaign for growth capital, can better the situation.

Nell: The for-profit sector currently enjoys a broader and deeper array of financial vehicles than does the nonprofit sector (seed funding, angel investors, growth capital, stacked deals, etc.) do you anticipate that the capital market for nonprofit organizations will become more robust and what will it take for that to happen?

Clara: I’ll push back a little and say that the vast majority of both nonprofits and for-profits (that are small, with less than $200K in revenue) have approximately the same level of access to similar financing vehicles: sweat equity, seed/angel funders/investors (friends and family, the first foundation grants, etc.), credit card debt, bank loans, retained earnings, etc.   Then there is “growth capital” or “capital grants,” which a very small proportion can access in either sector.  And while large for-profits are much, much larger than large nonprofits, large nonprofits have reliable access to some highly sophisticated funding and financing vehicles that for-profits don’t (and vice versa).  Some very large nonprofits have access to for-profit subsidiary ventures and investments—and some are highly sophisticated (universities investing in development of intellectual property and associated products, CDFIs with venture funds, public media with development and sales of program assets, and others).  And on the debt side, much of nonprofits’ “capital market” is for-profit-run (bank debt, investments, tax-exempt bonds, etc.)

The most important barrier to enterprise scale (for either sector) is not so much lack of access to capital as it is a scalable, focused business model with reliable net revenue.  Once you have those—or evidence that they are possible—capital will flow.

But that said, we’re talking about a couple of “market wide” dysfunctions.  The first is that despite highly resourceful managers, sophisticated board members and billions of dollars of revenue and capital funds, there is no tradition of “enterprise finance” in the sector.  “Pretty bad ‘best practices’” designed to make nonprofits more efficient and fiscally prudent cost the sector dearly.  Confusion about the direct funding of programs (it’s not possible, most of the time you need to fund an enterprise to deliver programs) means capital is mixed up with revenue, growth with regular operations, and “build” grants with “buy” grants (and a variety of hybrids!).  This wreaks financial havoc in growing organizations. Missions—along with the public—suffer.

The second problem is that there’s no really reliable signaling mechanism for organizations to fold their tents, pass their programs to another organization, and go out of business.  In the for-profit world, that would be financial failure; in our world, that’s not so straightforward: so we hang in there, meaning resources that might go to a stronger program remain tied up.  It also means that the biggest and richest players have (and, largely, keep) the vast lion’s share of resources (even more pronounced than in the for-profit world).

Finally, there is a problem with access to charitable revenue.  Promising, mid-sized organizations—especially those serving low-income people (and therefore lacking access to the traditional source of capital in the sector, individual donors) have a difficult time building the operation they need to grow.  Foundations are the logical path here, and having foundations embrace “enterprise friendly” practices—including growth capital and build-buy understanding—can go a long way toward changing that dynamic.  Establishing a field-wide understanding of basic enterprise finance principles will help insure that growth capital campaigns become true innovation with long-term staying power, rather than a short-term novelty.

Nell: Growth capital for nonprofits is mostly only available to larger nonprofits that have the capacity to prove the results of their model. Do you think growth capital will increasingly become available to the bottom 80% of nonprofits (those with a budget less than $1 million), and how and when do you see that happening?

Clara: Our goal is not that all organizations of every size and business model have access to growth capital and pursue aggressive growth goals ASAP.  That’s neither possible nor desirable in either the for-profit or the nonprofit worlds.   In both sectors, some business models may not be scalable, and that’s ok—in fact, it’s good.  Nobody wants their favorite neighborhood clam shack or Italian restaurant to go public or become a Pizza Hut.  Diversity is good; and most people like things about both large and small enterprises. This is true in any sector, where economies of scale and preservation of quality are frequently subject to the laws of diminishing returns.  Growth capital is not for everyone, and it is only one tool in the enterprise tool box.

The more important revolution is to make broadly accessible the tools and principles of enterprise finance—with a clear understanding of the realities of the commercial proposition of the sector (i.e., there’s a reason we have a nonprofit sector). There are well-managed and poorly managed (and capitalized) enterprises of all sizes and tax statuses, and there are scalable and non-scalable ones as well.  Most critical on the scaling front is that our sector embraces and deploys the broad set of principles that make enterprises of any size or shape effective in reliably achieving great results.  Trouble arises when a specific social benefit or innovation is so compelling that we all want the maximum number of people to benefit from it: Our failure to use the principles of growth capital and proper scaling techniques to assure results while growth proceeds is (and has been) tragic for the social sector, and a change in practice can help.

Nell: How do you think the Social Innovation Fund will change the capital landscape for nonprofits?

Clara: I think the SIF already has raised the profile of the ideas around growth capital and scaling discussed here.  And it certainly has the attention of a group of large foundations, a significant number of whom are applying as intermediaries.  I think it took courage for them to apply, and courage for the SIF to get developed. At the beginning there will be some fits and starts, and government procurement can be dicey (especially when it’s trying to be capital rather than revenue), and foundations are trying to make it work in this way for the first time.  That said, it’s very exciting for us to see “growth capital,” which is the core concept, being given a whirl by both the White House and the Foundation world.

Nell: Venture philanthropy funds (that provide growth capital to nonprofits) and social venture capital funds (that provide capital to double bottom-line businesses) currently don’t interact very much in the marketplace. Do you see an opportunity for greater integration of nonprofit and for profit social investing? And if so, what will it take to get there?

Clara: I think there is increasingly frequent interaction between for-profit and non-profit business models (and entrepreneurs) on the conceptual level, and that’s being translated into some compelling platform-agnostic enterprise structures to accomplish social ends in many sectors—health care, research, arts and culture, media, housing—are all examples.  And interactions may not be best between two enterprises that are both at the “venture” or “start up” stage.  A start-up nonprofit may want to partner with a fully-scaled for-profits (and this is common), while a fully-scaled nonprofit may want to create (or house) a venture for-profit to help reach certain social goals.

On the “deal” level, I think there’s a reason to maintain a bright line between the nonprofit and for-profit tax status.  I favor crisply defined hybrids (of which there are a variety) over mushiness (we’re a for-profit but we are good people doing socially beneficial work) because they are more likely to stand the test of time and skepticism, and since ownership and tax structures have bright-line legal and moral duties attached to them.

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The Future of Financing Impact: An Interview with Kevin Jones

I am launching a new regular interview series on the Social Velocity blog that will feature discussions with the leading thinkers and doers in the social innovation space. I will talk with philanthropists, social investors, social entrepreneurs (from the nonprofit and for-profit side) and others leading the way in this new space. What they all have in common is that they are doing really exciting,  interesting, provocative, challenging things that are pushing the social innovation movement forward.  We will discuss what they are contributing to the space, what excites them, what concerns them, what we should be thinking about, and what’s next.

Our inaugural interview is with Kevin Jones. Kevin is a visionary in the social investing and social entrepreneurship arenas having launched two important entities in the field. He co-founded both Good Capital, one of the first venture capital funds that invests in social enterprises, and the Social Capital Markets Conference (SoCap) which marks its third year with the upcoming October event. He is also part of the team launching the first US node of The Hub, a network of more than a dozen work spaces for social entrepreneurs in cities across the world from Cairo to London.

Nell: This is the third year of the Social Capital Markets conference. You have said that the first year defined the social enterprise landscape and the second year validated the space, so what are you hoping that this year accomplishes?

Kevin: We want to find out what the next thing is that this community, this movement, this asset class should do, the next big obstacles to overcome, the place where we could put our efforts to make the biggest difference. Now that people are taking us seriously there is a need to understand how we fit into the landscape and how impact investing can leverage its, uh, impact by partnering with nonprofits, foundations and public sources of funding.

Nell: There are an increasing number of conferences in the social innovation/social entrepreneurship space. How is SoCap different? What is the value add of this conference?

Kevin: SoCap brings together more people from a broader perspective and approach to the intersection of money and meaning than any other conference. It’s the place your most likely to run into people you don’t know but should know. Cross pollination and expanding the dialogue while keeping the conversation focused on making a difference in an increasingly intelligent, and increasingly collaborative way is what SoCap10 is about.

Nell: It’s true that SoCap brings together an amazing group of thought leaders, social entrepreneurs and social investors for 3 days in San Francisco, but what happens after the conference ends? What changes to the social enterprise/social investing space have you seen as a result of the past two SoCaps?

Kevin: I’ve seen startups get funding. I’ve seen people from the corporate world get jobs in social enterprise, I’ve seen funds raise multiple millions to achieve scalable social impact. I’ve seen deep and lasting partnerships form between people making a difference. I’ve seen the market fragment and pieces of SoCap pop up in either regional approaches or specific vertical markets, from community activists to nonprofit funders, to technology conferences about money. The market at the intersection of money and meaning is a meme, an idea that I see growing and finding a home within a lot of other groups’ frame of reference.

Nell: This year you have made a deliberate effort to include nonprofits and philanthropy in the conference with the new Tactical Philanthropy track, as opposed to a greater focus in past years on the for-profit side of social entrepreneurship and social investing. Why the shift and what are you hoping comes out of this widening of the net?

Kevin: Well, nonprofits and philanthropy are a big part of the market of money and meaning, now that’s been established as a real place, this intersection of money and meaning. You could even say the new for-profit impact investors have crashed a party long established by philanthropy. It was past time to acknowledge that, and by bringing in Sean Stannard-Stockton [CEO of Tactical Philanthropy], we’ve got an expert and convener with far deeper knowledge than I have in the area to lead the way. SoCap10 is a lot about translation as people learn to work together across boundaries and frames of reference to build a bigger social capital market than either philanthropy or for-profit impact investing could do on their own. And of course, we also have a much bigger public sector funding participation than we have before. Some of the practical thought leaders are joining us to think and talk about what the next thing to do is.

Nell: How has the social enterprise space changed in the last three years and where do you see it going?

Kevin: It’s bigger. People are taking it seriously. We are starting to see some of its limitations, and some of the areas where it needs to grow. It used to be the cutting edge, out there doing this new thing. Now it’s the leading edge, connected to other groups and partners. I think I see the old hero myth dying out and people recognizing that we need enterprises that go beyond the heroic visionary founders, that deal with necessary founder transition issues to grow organizations with scalable impact. Or maybe that last part is wishful thinking.

Nell: What do you hope the social enterprise landscape looks like when SoCap 2015 rolls around?

Kevin: I do hope we have grown beyond the heroic visionary entrepreneur as our model. I hope the cutting edge, change making, risk taking aspects of the movement meets asset class are still intact while it becomes more tightly coupled to public sector and philanthropic efforts to make a difference. I hope it has found a room for the crowdsourced capital, like more lending platforms, in new areas like fair trade, and beyond microfinance. I hope there is a deeper linking between efforts to eradicate poverty in the U.S. and internationally, market growth while preserving the upstart innovation nature of what makes social enterprise a great positive force for disruptive innovation.

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Social Impact Finance

It’s a new year and a new decade, and both hold tremendous promise for creating real social change.  And key to significant social change is a fundamental restructuring of how we finance that change.  I think (hope) that in the next decade we will see the emergence of a new Social Impact Finance.  And I imagine it will look something like this:

  • Social Impact Funds Become Commonplace. Experiments like the Federal Social Innovation Fund (which combines government and private money to fund the growth of proven nonprofit models), Village Capital Fund (seed funding for social entrepreneurs, determined by social entrepreneurs), social investment funds like Good Capital, and venture philanthropy funds like New Profit and SeaChange Capital Partners are expanded and become commonplace.  Seed and growth funding for nonprofit, for-profit, and hybrid social impact organizations becomes more readily available and accepted.

  • Foundations Get Risky. Foundations deny their risk-aversion heritage and provide risk capital for social innovation, whether through their customary 5% cap for nonprofit donations, or social investments from their corpus, or by foregoing dreams of perpetuity and giving all their money away on a big bet or two.  See Nathaniel Whittemore’s great post on this.

  • Individual Donors Become a Powerhouse. Technology finds a way to harness the power of individual donors toward significant social change. Currently, individual donations make up the vast majority of funding entering the nonprofit sector, yet their gifts are fragmented. With the potential of a new nonprofit rating system on the horizon, and social media’s growing ability to gather and marshal individual participants, there could be a pivotal shift in how individual donations flow to the nonprofit sector, and how significant those individual donations become to nonprofits creating demonstrable social impact.

  • Nonprofits Understand the Power of Finance. Nonprofit organizations understand and become successful at financing their overall operations, instead of fundraising for them.  And they begin to think bigger about their work, the overall outcomes they are trying to achieve and how finance fits into that (The GiveWell blog did a great series on the “Room for More Funding Question.”)

The end result of these and other changes will be, I hope, that “Social Impact” and “Finance” are no longer separate terms that have no bearing on each other, but instead inextricably linked concepts that create a better world.


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Austin A Potential Hub of Social Enterprise

The terms Social Enterprise and Social Entrepreneurship are often used interchangeably, but they are really two very different concepts. While social entrepreneurship is defined as pattern changing ideas for solving persistent social problems (you can read my post laying out this definition here) Social Enterprise is any business that has a double bottom line, i.e. they exist to make a financial AND social profit.  Although I think both have potential in Austin, I would argue that Social Enterprise could really thrive in Austin’s entrepreneurial, venture capital, tech-savvy, green economy.

There is a continuum of social enterprise that ranges from a nonprofit that has an earned income venture on the side (an art museum gift shop) all the way to a publicly traded for-profit company that includes a social good in its business model (a solar panel company).

More and more people are becoming interested in the idea of social enterprise as a necessary and very viable part of a strong American and global economy. The blending of financial and social return could be a necessary salve to an economy that has been torn apart by lack of regulation and greed.

In fact, some social enterprises seem to be thriving despite the recession.  Better World Books is a great example of this.  They collect and sell used books online and then give a good part of the profit to nonprofit literacy programs throughout the world.  They are also saving thousands of tons of waste by keeping discarded books from ending up in landfills.  They are achieving a triple bottom line: financial, social, and environmental profit.  And they are doing very well, despite the recession:

  • Since launching in 2002 the company has converted 16.4 million donated books into $5 million in funding for literacy and education.
  • This holiday season they saw a 500%+ increase in gift certificate sales over the previous holiday season.
  • Revenue grew 194% in December 2008 compared to the year before.
  • December revenues grew to $2.1 million and revenue for January is expected to top $4.5 million.
  • They are on target for $31 million in revenues this fiscal year.

Better World Books got a significant investment of $4.5 million in April 2008 from Good Capital, a venture capital firm whose investments have BOTH a social and financial return.

So, what you start to see is an interesting model that could really take off in Austin.  We already have tremendous venture capital wealth.  We have a very entrepreneurial business climate.  We have a real interest in social causes, particularly green ones.  What if some of the investment capital floating around the city went to social enterprises?  In fact, I think there is an opportunity for Austin to create a new model for cultivating social enterprise and become a real leader in this space.  Nathaniel Whittemore, Director of the Center for Global Engagement at Northwestern University, described in a recent blog an ideal environment to stimulate successful social enterprise:

So here is what I’d like to see. Someone combines The Hub model of collaborative working space for social entrepreneurs with the Y-Combinator model of funding low-cost tech startups [provide promising startups small amounts of seed capital and intense mentorship and networking in anticipation of further investment ]. In this model, which is geared toward social enterprise, the Y-Combinator style investment would be focused on tech startups that are building services useful for other businesses and social startups (things like Yammer, which is great for keeping a team of volunteers or employees connected to one another). In addition to the cash investment, the tech startups get to work (and maybe even live?) in the Hub space. In return, they give up equity – but also a small chunk of their developer time (25%? 10 hpw?) to pro-bono or reduced cost projects for the nonprofit social entrepreneurs who are part of the same Hub community. This combines the density, talent and energy of the tech startup world with the mission focus of the social enterprise world. All it would take are the right partners. Sounds like a pretty good combination to me…

Doesn’t this sound like Austin?  We have all kinds of tech incubators and venture and angel capital.  If there were a social enterprise incubator/venture fund here, we could be on the cutting edge of this movement.  And we have all the pieces already in place to make it happen.  It’s a pretty interesting proposition.

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Friday, January 9th, 2009 Innovators, Social Enterprise No Comments

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