Updated: Jun 17, 2021
Today’s current philanthropic model leaves much to be desired, but impact philanthropy, which I will expand on below, has the power to usher in a new dawn for charitable organizations.
Let’s start with examining the problems with modern day philanthropy. Over the last 25 years, some 25,000 businesses in the US reached $50 million in sales yet, only 144 non-profits managed to do so. Of the 1.5 million registered non-profits in the US, only 5 percent have revenues over $10 million per year, which means that most charitable organizations are working on an extremely small scale. Think of the impact that a $50 or $500 million charity can have on the communities it helps – why have so few non-profits managed to reach that kind of scale? The main reason is our philanthropic model, which impact thinking is starting to change. As our economies shift to impact economies, the full potential of philanthropy will be unlocked.
A Changing Philanthropic Model
To understand the change impact is bringing to philanthropy, we must first examine how and why the current philanthropic model has kept most non-profits small. The lack of a standard system for measuring impact has affected how money has traditionally been given away. Until recently, philanthropy revolved solely around gifts and grants. Over the last century, charitable foundations established by wealthy individuals and families have grown considerably and they mostly help the disadvantaged through charity, which translates into them giving out grants to smaller organizations to fund activities. The problem however is that there is no rigorous system in place to measure the outcomes created.
For example, because these large foundations rely on a very qualitative form of reporting about the outcomes achieved by their grants, many try to spread their money widely, making small grants for relatively short periods, such as giving charitable service providers grants for two or three years before moving on to help another organization. Yet because they struggle to really know what their grants are accomplishing, they lack the conviction to fund any single organization for the long term. In the absence of rigorous impact measurement, most foundations require their grantees to spend as little as possible on overheads to ensure that as much money as possible goes to those in need. The result is that the vast majority of the non-profit delivery organizations that larger organizations fund remain small and cash-strapped.
Of the more than 5,400 non-profit organizations in the US that responded to the latest State of the Non-Profit Sector Survey, conducted by the Non-Profit Finance Fund, more than three-quarters had seen increased demand for their services, but more than half were unable to meet that demand—and the two previous years showed the same result.
When businesses see increasing demand, they sell more products, make more money, invest and keep on growing. But when non-profits see growing demand, they have to turn struggling people away. On top of this, they often don't have access to the funds they need to grow because their funders have already moved on to the next grantee.
As they struggle to stay afloat, most non-profits can't take risks or experiment with new solutions to social problems. Experimentation also inevitably means occasional failure, which scares off most donors. As a result, most charities are forced to live from hand to mouth, unable to engage in long-term thinking about their growth and performance. The pressure to drive down overheads prevents them from paying competitive salaries to attract the top talent – except when self-sacrificing, talented individuals are willing to work for less.
Ultimately, the inability to measure impact is at the root of these problems. Many people who work in charitable or purpose-driven businesses believe that measurement is too cumbersome and expensive to be practical for small, cash-strapped organizations or that measuring impact would disrupt the status quo without much benefit. Many are uncomfortable with the idea of philanthropists evaluating the performance of non-profits and investing in the top performers.
However, what they don't see is that the current philanthropy model they are perpetuating leads to massive inefficiencies and often drives organizations to focus on securing grants rather than on delivering impact. Without measuring impact, philanthropy cannot ensure that delivery organizations get the large sums of money they need to tackle the significant challenges we face. However, by instituting impact measurement, philanthropy can deploy grants more effectively, attract investment from the private sector and motivate delivery organizations to innovate and scale.
Social Impact Bonds: The Catalyst for Change
Impact philanthropy, which takes many forms, offers a new alternative to conventional grant-making. The most prominent catalyst of these new approaches is the Social Impact Bond (SIB). When the first one was introduced in 2010, it turned conventional philanthropic wisdom on its head. The SIB demonstrated that it was possible to link a project's funding to its impact on society. By doing so, it was able to attract private capital to scale the efforts of charitable organizations. It also allowed governments and philanthropists to pay for results after being achieved rather than putting their money at risk upfront.
Previously, we discussed SIBs and how they bring together three key players: investors, outcome payers and service providers. In this setup, philanthropists can play two possible roles: that of investor or outcome payer. When they provide upfront funding as investors, they get their capital back and earn a financial return on their investment if the program meets its goals. In the worst-case scenario, when the social benefit is not achieved, the philanthropists lose their investment (and, in essence, they can view this investment loss as a donation). When they commit to being an outcome payer, they pay only when outcomes have been successfully achieved, shifting the delivery risk from themselves to the investors.
A SIB is an effective addition to traditional grants for two reasons:
When philanthropists play the role of the investor, it pays them back and provides more money for future grant-making.
When they play the role of an outcome payer, it ties their philanthropic funding to paying for targeted outcomes once they have been achieved—and this generates focus and dynamism among delivery organizations to attain desired results.
Governments are most frequently the party that pays back the investors in the SIB model, making sense because they benefit from the cost savings or additional revenues achieved by SIB programs. However, philanthropists have a big role to play as outcome payers themselves and in drawing governments to become outcome payers by participating alongside them.
A Moment of Reckoning
At a session at the 2019 Skoll World Forum in Oxford, the audience was asked whether it felt that philanthropy was at a moment of reckoning. Nearly everyone present agreed that it was. Impact philanthropy is crystalizing that moment of reckoning by affirming that we must focus on outcomes over activities. We can measure outcomes, use pay-for-outcomes in grant-making, and that a foundation's endowment should help achieve its philanthropic mission.
The nature of philanthropic foundations positions them as natural leaders of the Impact Revolution. Because of their charitable status and sense of mission, they can experiment with different roles–acting as grantors, investors, guarantors or outcome payers. They can fund efforts to support the growth of the impact field and influence delivery organizations, governments, and investors to collaborate in new ways in tackling social problems.
They also have an essential role to play in funding the advance of the impact movement itself. All significant movements, including recent neoliberalism, were funded by philanthropists, and the same is becoming true of the impact movement.
Given that philanthropy must deploy its resources most effectively to help the greatest number of people, it must grasp the opportunity that impact investment offers. Foundations must take risks, fund innovation and use both grants and endowments to pursue their mission. Impact investment and its new tools, SIBs, DIBs and Outcome Funds, equip philanthropy to tackle our biggest problems.
As the natural torchbearer of the impact movement, philanthropy has the power to usher in a new dawn for charitable organizations, investors, entrepreneurs, businesses and governments, to bring solutions to the greatest social and environmental problems of our time. Join me next time when we take a deep dive and examine SIBs in action.