#174 Summer 2013 — Impact Investing

What Is Philanthropic Equity? A Roundtable Discussion

As we prepared this issue, the term "philanthropic equity" kept surfacing. What is this new concept in philanthropy, and how is it different from both traditional grantmaking and program-related investments? In December we gathered a group of people from foundations and nonprofit intermediaries to explore the concept, its promises and pitfalls.

Antony Bugg-Levine, Nonprofit Finance Fund
Debra Schwartz, MacArthur Foundation
Rodney Christopher, F.B. Heron Foundation
Frances Ferguson, NeighborWorks
Lisa Davis, Ford Foundation
Abby Jo Sigal, Enterprise Community Partners
Harold Simon and Miriam Axel-Lute, Shelterforce

Harold Simon: So, first, what’s impact investing?

Antony Bugg-Levine: Impact investing is a movement associated with the idea that a for-profit investment can be a morally legitimate and economically effective way to solve social problems. Impact investments are investments made with an intention to solve or address these social or environmental challenges, in which the investor is measuring social and environmental value as part of their investment.

Debra Schwartz: There are some folks out in the world that don’t believe intention necessarily matters, and that’s one of the big debates.

For a foundation or a philanthropy, the intention is really key, and, at least for our foundation, it is not only an investment made with the intention to achieve impact through the use of a financial tool, but we actually use our impact investments in situations where we think ordinary capital, absent our engagement or the engagement of others, might not actually get the job done.

Harold Simon: So, you’re kind of filling a gap.

Debra Schwartz: Filling a gap, providing a proof of concept, scaling to get it to where it is investable: in some way facilitating the flow of capital on terms that are more workable and suitable, and that we don’t think would happen otherwise.

Rodney Christopher: At Heron, we are working with a phrase, “All investing is impact investing,” which is to say that you can choose to be conscious about the social impact your investment makes, or not.

Antony Bugg-Levine: There are many impact investors who do not believe they need to trade off on either taking more risk or [ignoring] financial return in order to have an intentional solution or environmental impact. Impact investing is not synonymous with below market-rate return.

Debra Schwartz: I’m not necessarily implying that it’s below market, it’s just to say we want the capital to be playing a catalytic role, a value-added role, maybe even a but-for role. We don’t want to just be putting our capital in if the market is already going to cover the capital need. That’s a philanthropic perspective, not the perspective of an institutional investor or others.

Philanthropic Equity

Harold Simon: What’s philanthropic equity and how does it differ from grants?

Rodney Christopher: The idea is that this is money that is charitable. It’s also intended to help organizations scale their impact over time, so it’s often multiyear money. It’s often somewhat flexible.

The term equity is being used the way equity is used in the for-profit sector. It is multiyear in nature and the ultimate goal is to improve the impact of the organization. Depending on who’s using the term, for example Nonprofit Finance Fund and the Heron Foundation very explicitly [mean] the use of this money should involve the ability to generate revenue in the future and not only to increase impact today.

Antony Bugg-Levine: It is grant money whose purpose is to build the capacity of an organization to deliver social good in the future and to generate revenues from that activity that will allow it to sustain itself and grow its scale. It is a form of grantmaking in which the purpose is to enable an organization to become stronger and more sustainable, as opposed to a lot of other grants whose purpose is to enable an organization to deliver social value in the short-term.

We at Nonprofit Finance Fund talk about building versus buying. Some people are buying output, the delivery of services; other people are providing money to build the organization. Philanthropic equity is very much focused on building an organization’s capacity to sustain itself in the future.

Rodney Christopher: When we say generating revenue in the future, we do not exclusively mean earned revenue. We also mean contributed revenue. The standard nonprofit business model requires both, and so philanthropic equity is used to improve the capacity to generate both as is appropriate for the given organization.

Frances Ferguson: Do you both exclude PRIs (Program-Related Investments) from philanthropic equity?

Rodney Christopher: To me, it is not the same because [in philanthropic equity] there isn’t a financial return sought by the investor. The purpose can be similar, but typically the reason why it’s a grant is the activities that it’s investing in are typically going to be too speculative to expect a reasonable return of the principal.

Antony Bugg-Levine: I don’t want to parse terms too much, [so] that we end up creating false controversies, but, in general, I think philanthropic would imply grantmaking, and it’s quite distinct from an investment that we expect financial payoff [from]. But you can certainly structure an investment to have the same features as philanthropic equity in that its purpose is to enable an organization to make fundamental changes that enable them in the long-term to generate sustainable revenues from other sources.

In that respect, some PRIs can absolutely serve the purpose of philanthropic equity. At the same time, there are certain PRIs that serve a completely different purpose, which is to enable an organization to deliver outputs or services in the short-term.


Harold Simon: What does scale mean in the context of philanthropic equity, and what does going to scale mean?

Debra Schwartz: One of the challenges of the philanthropic equity conversation is that it intersects with a discussion about enterprise-level finance and enterprise-level funding.

We have used program-related investments as enterprise-level sources of financing specifically to help organizations double or triple their scale. It is not equity in the sense that they had to pay the debt back to us, but it serves that function of giving an organization money that it can place at risk. It can invest in its own growth in hiring additional staff, launching a new business line . . .

And the key isn’t so much whether it’s equity or debt, but that, as a funder, you’re providing financing for the organization itself rather than for a project that the organization might carry out. When we think about scale, we often think about the scale of the outputs of organization, but I think it’s also valuable to think about the scale of the organization in terms of its overall staying power and capacity and ability to influence the larger ecosystem in which it operates.

I think no nonprofit by itself, no for-profit by itself, will solve all of any given problem that we might think about, whether it’s improving education or providing access to safe, affordable housing, or clean water. Scale is ultimately measured relative to those problems, but certainly, when you think about this philanthropic equity concept or enterprise-level finance, what you’re thinking about is the scale of the organization to be big enough to be resilient, to be innovative, and to be influential.

Frances Ferguson: At NeighborWorks we work with groups that are highly scaled and groups that aren’t so highly scaled. A fairly narrow impact would frequently not be considered scaled but could be very significant, very long-term, and a question of sustainability for a fairly small geography. A group that’s largely scaled is impacting a whole metro area or a whole regional area. A national solution that’s scaled and scalable could then be applied in many markets.

All three of those levels merit consideration by different types of philanthropies for philanthropic equity. While a national foundation might not ever worry too much about a local-level small-geography nonprofit, that nonprofit, if built properly, could be a sustainable and powerful force in a particular market area, and a local foundation could view it as a really viable place to do a philanthropic equity play.

Miriam Axel-Lute: Why should foundations choose the philanthropic equity way of approaching grant-making?

Rodney Christopher: Here at Heron, one of the things we talked about is, “Real impact takes real money.” If you want to achieve genuine impact over time, organizations periodically need an investment of … growth capital or change capital. There are many terms for this, but [it is] ultimately money that allows them to invest in themselves so they’re able to achieve their impact over time. General operating support is sometimes not enough. On the other hand, philanthropic equity would be nothing without general operating support that keeps your organization going after the capital goes away. It’s always important to think of both rather than either-or.

Debra Schwartz: MacArthur has a program that started in the ’90s called large institutional grants. It was rebranded and is now known as MacArthur Award for Creative and Effective Institutions. We never called it philanthropic equity, but that’s very much what those awards are about. Organizations reach inflection points, and their growth gets stymied because the general operating support is critical, and a lot of organizations struggle even to raise that kind of money; their money gets tied up only in project-specific funding.

It’s really helpful to think about this as a suite of different kinds of capital for different needs. Philanthropic equity or growth or risk capital, whatever you want to call it, that’s the money that the organization can invest in itself, in its own systems, in its people, in innovation, and in the ability to continue to innovate over the long-term.

As a funder, if you don’t intend to provide perpetual general operating support, this is another way that you could help an organization over a very long horizon beyond any one project.

Frances Ferguson: It’s the hardest money to find out there, and yet can make this huge difference.

Miriam Axel-Lute: As you alluded to, though, project support is still the most common way to approach grant-making. What needs to change at a foundation in order to make a shift toward this philosophy and toward making this kind of grant?

Abby Jo Sigal: One of the things that we did is really taking a look at our capacity building to understand what was for what. As we moved from focus on projects to organizations, we did a lot more overall organizational analysis and understanding of how those organizations fit within the larger affordable housing delivery system, which we were seeking to strengthen.

Frances Ferguson: And to build on that, it’s more of a business analysis model.

Miriam Axel-Lute: How does it affect your outcomes measurement? You’re looking at building up an organization instead of producing widgets or buying a unit of social program results. How do you approach the measurement concept with philanthropic equity?

Debra Schwartz: Over the history that we’ve been doing these MacArthur Awards, which are one-time grants, typically an organization would be at some moment in time where they were either launching some new activity or looking to expand what they were already doing. We would judge the impact principally against what were the goals that they set out for themselves, what was the case that they made. If you can give us $1 million to do “X,” this is what we’re going to look like.

You asked earlier how do you move off of project [spending]. You have to, in a sense, think of impact in a more holistic way, looking at the organization as a totality and as a whole: the accounting system is part of what allows the organization to function. Investing in the accounting system may be something that really enhances its impact. It’s just hard to trace those dollars out onto the street.

I think maybe the answer to your question about [about moving away from] project funding is about recognizing that impact is more than just output.

Harold Simon: Is this something that smaller foundations shouldn’t do?

Rodney Christopher: One way to think about it is, if a smaller funder wants to make a small number of large grants, they could be involved in philanthropic equity. Even [with] one large grant they could be involved in philanthropic equity. There’s no reason that they can’t or shouldn’t. It is also true that, for most, they prefer to give money to more organizations. You have to be willing to shift from “the program is the thing” to “the organization is the thing.” If you’re willing to do that, you can go into general operating support regardless of the size of the foundation, and then, as you get larger and you’re willing to take the risk with larger bets, then philanthropic equity becomes a viable option for you.

Antony Bugg-Levine: It really depends. The minimum ticket price to have a philanthropic equity grant make sense or an investment be viable is going to be related to the nature of the organization you are working with and what their needs and opportunities are.

If you’re trying to provide the money that will enable a $100 million revenue a year nonprofit multi-service provider fundamentally change its business model, it is unlikely that a relatively small grant from a small foundation can make a difference. At the same time, if in your local community there is a small organization providing essential services that needs to explore a facet of a new business model, then one can certainly envision that you could match a small grant to an organization at a point in its life where that grant could be one that enables them to fundamentally adapt. In that case, philanthropic equity would be appropriate.

Frances Ferguson: That ability to think about the nonprofit as the business instead of as the program takes a skill set that is particular. It’s a kind of a business underwriting, even if it’s a small organization.

Debra Schwartz: There’s a growing [conversation] about how community foundations can be active in the PRI space. One of the commonalities here is, to be successful in using program-related investment or other kinds of impact investments, you really do have to think of the enterprise in a holistic way. Because even if you’re financing just one of its businesses, or business lines, you care about what the whole organization’s going to do when you think about whether that financing is going to be successful.

What we’re really talking about is a buy and hold philanthropy here — finding the organizations that you believe are going to matter in the long-term, whether it’s in your region, your sector, in a certain policy arena, and really being willing to put the kind of capital in that works and to see that as a long-haul investment.

We invite our program officers to recommend the organizations that get our large institutional or philanthropic equity grant because we feel like they’re in the position to know which organizations in their portfolio, which may still receive operating or project money, are also ripe for that opportunity.

Housing Partnership Network just received one of those awards from us this year. We continue to finance them with PRIs and with other kinds of support, but that grant is allowing them to raise their own internal R&D fund so that, in the future, they won’t need to come to us, or others, when they need $50,000 to get a new idea into exploration.

Miriam Axel-Lute: Does a foundation that moves a number of smaller grants into one larger grant face backlash from shrinking the number of organizations it’s supporting?

Rodney Christopher: Ultimately that’s always going to be a natural tension that each funder faces. And the challenge is to be able to articulate [why] one makes a shift from making lots of smaller grants to a few larger grants. The Edna McConnell Clark Foundation is an interesting model. They recently came out with their 10-year analysis of their work when they’ve made the shift from giving multiple smaller grants to fewer, much larger ones. Perhaps not everyone agrees with their choice, but they articulate it pretty well, and they have some interesting stories to tell about the results that they’ve been able to achieve with their grantees.

Harold Simon: One thing that struck me from everything you all said was size in this case doesn’t really matter. What matters is the outcomes of the organization, whether it’s its influence, whether it’s its actual actions, etc.

Someone used the phrase “the inflection point.” When should an organization start thinking about trying to get philanthropic equity?

Frances Ferguson: They have to be ready to stop thinking about projects and think about a business model for themselves. That business model will almost inevitably include either subsidy or contributed operating funds, but they have to be able to present and to understand what the longer-term business model is and the shifts that it’s going to take in order to execute that sustainable business model. Unless they can do that, they’re not ready to talk about philanthropic equity.

Abby Jo Sigal: There’s the whole history of EQ2s [equity equivalent investments]. Granted, they weren’t philanthropic equity. They were long-term patient debt equity. They’ve fallen out of favor, although they’re coming back into favor a bit, one would hope. But, one of the challenges of those early on is that they weren’t associated with a real rigorous business, so it didn’t have the results that I think everybody had hoped they would have had.

Really having specificity around what the plan is, what is that inflection point, what’s that vision for the future that’s different from the past that requires the investment, is very important.

Rodney Christopher: If you do not have the capacity to develop a genuine business plan, philanthropic equity is probably not the right tool for you at this moment. Business plans do not have to be $250,000 engagements, but what they do need to do is articulate why you, why now, how much money do you need to get yourself from the inflection point that you’ve identified to where you think you need to be, what is the revenue model that’s going to get you here, and what’s the market opportunity.

The truth is, many organizations are not in a position to do that, which is not simply a reflection on them as an organization so much as reflection on the field and the challenges that we face as a whole.

Antony Bugg-Levine: We do a lot of work with organizations that are contemplating business model shifts. One thing we find is that even organizations that are very good at understanding where they are and how they’ve gotten here are not necessarily good at understanding how their path forward might be different.

So, when we talk about a business plan, it’s not simply about a nonprofit really understanding its own economics and how its different programs do or don’t make money, and where its funders are coming from, but it also requires being able to project forward into what is often a fundamentally different area of working. It’s not just about having the management skills or capacity and a good CFO. It’s also about having an understanding about the way the world is changing around you and what that means for your business model.

And often, we work with clients who have gotten to one point with a mix of funding that comes from some earned revenue, some small grants, some big grants, but that is fundamentally different than the revenue sources they will have to put together either to grow or to adapt.

Frances Ferguson: You could maybe operate sustainably within one kind of revenue stack, and it includes “X” amount of public and “X” amount of contributed. If people think they can grow that stack but they haven’t analyzed whether those subsidy sources and contributed sources actually can grow, when they think about doubling, suddenly they realize actually they’ve already maxed out the public subsidy piece of it. To double means they have to come up with a very different revenue stack.

Harold Simon: For many nonprofits, there is an upper limit. There is a point where they can’t realistically expect increases in revenue if they scale up.

Antony Bugg-Levine: If you cannot generate revenue in order to pay the increased costs you’re going to incur, then you cannot scale up.

Debra Schwartz: But, I think it really matters enormously what kind of organization and what kind of sector we’re talking about. I don’t think there’s any characterization here that can be applied across the board. There’s no one answer to what is scale. Francie made the point that geography matters a lot in thinking about that, but so does the type of organization. If we’re just talking about housing organizations, that’s one thing, but if you’re thinking about all nonprofits, human services, arts, advocacy, health, the question of whether you hit the wall on scale has a real lot to do with what your purpose is and what your mission is.

If you’re losing money on every marginal dollar you’re putting out there, yes, scale’s not a real good idea because you lose more money.

Frances Ferguson: I don’t think any of us were trying to say that nonprofits can’t scale, I just think we’re trying to say that it’s a different answer for each organization.

Debra Schwartz: But yes, if the organization’s business model is essentially entirely dependent on contributed grants, and it’s in a sector in which there are only three major foundations that want to give grants for that purpose, then yes, that nonprofit is going to be really challenged unless it begins looking for a different form of capital or looks at working in a different area.

And then, you get into a whole other set of problems, because you don’t want to put organizations in a position where they’re chasing the money. You want their business, the thing that they’re good at and the thing that they’re devoted to, to be the thing that drives and guides every aspect of the organization. It is very unfortunate, because you do see a lot of times nonprofits get into that place of adding new programs or losing their focus because they’re chasing dollars.

It’s easy to be critical of that, but, as funders we’re not in that situation. I have worked on the other side of the table, and I know how hard it is not to want to go after the money that’s there even when it doesn’t make sense.

Harold Simon: There’s nothing like having to make payroll.

Debra Schwartz: It is possible that being small can be beautiful, too, and being small and strong is better than being small and fragile. This is why the philanthropic equity concept doesn’t just apply to being giant. It can also be about recognizing that the organization is about the right size but maybe doesn’t have the financial strength that it will need to be resilient in the face of future funding cutbacks or big upheavals in the policy environment.

Harold Simon: Do nonprofits have to change the way they think about their cash stream, how they get and use money? Is there a cultural shift that needs to happen, and is there any danger in changing the culture from how it’s worked? What needs to change, and is there a down side to it?

Antony Bugg-Levine: Absolutely. We see with clients all the time that to be able to take on this kind of funding requires a clarity internally within the management team and between the management team and the board about the ways in which money flows through the organization and connects to program outcomes and project delivery. Most organizations do not have that kind of clarity, and many have reached an equilibrium point in which different factions within an organization are accommodated to a general sense of how that works, which is often not borne out by the facts. What often happens is bringing the facts to bear can expose misperceptions or make some people defensive and create implicitly winners and losers when the facts are different than what is often the perception. This requires a different kind of culture in which decisions and impressions are made with the data and facts, which isn’t a bad thing but is often different than what people are used to.

Rodney Christopher: What you’ve described is true not only for management and the board, but also for staff who deliver services and provide administrative support. I can think of organizations I’ve worked with over the years that really struggled so that the management and board might get farther down the clarity path, but they haven’t figured out [how] to make sure that the other folks involved in the organization, and sometimes even clients, understand, because there are, in fact, cultural shifts that are involved.

Some people feel strongly that they’ve gotten involved in the nonprofit sector because they don’t want to have to think about profits, and yet the success of using philanthropic equity actually requires organizations to be strong and healthy, surpluses are in fact necessary, and that means that you can’t always spend the dollar that’s in front of you for the thing that you think is the most important in that moment, that there’s a bigger context in which you are operating.

Debra Schwartz: Nonprofit is really a tax status about whether or not something is charitable, and therefore enables deductibility for those who give money. It doesn’t mean that you don’t make a profit. Obviously if things just continually run in the red, they will run into the ground.

And it is unfortunate and difficult, and I think all of these conversations about enterprise finance, philanthropic equity, the value of general operating support, thinking about your nonprofit as an enterprise, all of that is challenged by the misconception that nonprofit literally means “don’t make a surplus,” when that is absolutely not what it means.

Lisa Davis: That’s the cultural shift. One of the real opportunities is that, as the philanthropic community steps forward with more philanthropic equity, it helps drive the whole sector towards a more conscious discussion of the fact that the sector has to be profitable.

It’s over in the public sector, too, all this confusion about nonprofits and whether they should make any money. Although, of course, the most scaled nonprofits, like hospitals and universities, are all very clear about it.

Harold Simon: Over the past 20 years, including very recently, I’ve seen funders propose: “If you don’t spend all this money, you’ve got to give it back. You just can’t be efficient.” They don’t say that, but that’s really what they’re saying. And you can’t use it for anything like the stuff you all have just been saying. There’s a circular nature to this. Before we change cultures in the nonprofit sector, how is that being attacked in the foundations?

Debra Schwartz: You’re asking a chicken-and-egg question, and I think the answer is, you’ve got to do both. It is the case that for Heron, for example, to be out really vocally talking about this concept of philanthropic equity does begin to shift the frame. But it’s still the case that we’ve got to deal with staff inside of foundations as well to make sure they’re educated to understand that a surplus doesn’t mean the organization’s doing a bad thing.

But, all of this is still very dependent on what institution and what nonprofit in what part of the country. It’s been a big agenda item in the housing and community development space, and the discrimination against nonprofits by government programs is a very specific policy issue that many of our grantees are working on.

Abby Jo Sigal: A conversation that’s similar to this, is the question about whether or not you fund overhead and what overhead rates should be, because in some cases the philanthropic equity is in fact funding the functions that should be considered overhead that are critical to an organization. We’re seeing it mostly in terms of government contracts as problematic.

Harold Simon: There’s a finite amount of dollars in the philanthropic world. If more and more foundations move toward larger scale, is there a danger that it’s going to push out the smaller grants [for] those organizations that are doing good work but haven’t reached that inflection point. Are they going to run out of cash?

Rodney Christopher: The philanthropic sector will always be wildly imperfect. I can’t imagine that more than 20 percent in the next five years will seriously consider and pursue philanthropic equity.

Harold Simon: Are there any closing things you’d like to tell either the foundation community or the nonprofit community about what this animal is, or what we hope to get out of it?

Rodney Christopher: When organizations are thinking this way more, not only can they attract capital, but they’re likely to attract revenue in a more intelligent way that allows them to be effective over time.

Harold Simon: Thank you all.


  • Impact Investing Resources

    March 27, 2014

    If you want to explore impact investing further, here are some places to start.

  • One-pager shows a repeating image of a manufactured home down the center, with myths on the left about why they are bad, and facts on the right. Image links to pdf version.

    Q: Are Manufactured Homes a Bad Form of Affordable Housing?

    March 26, 2014

    A: Not any more! There are many myths out there about manufactured (or "mobile") homes, but in fact they can be a very important source of quality affordable housing...

  • Too High to Pay

    March 26, 2014

    The Price of Inequality: How Today's Divided Society Endangers Our Future, by Joseph Stiglitz. Norton & Company, Inc., June 2012, 448 pp. $27.95 (cloth).