Nonprofit Sector Is Phasing Itself Out of the New Financing Future

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NEW YORK — At the recent TBLI CONFERENCE USA 2014, an industry gathering of over 200 sustainability professionals and impact investors in New York City, a running theme throughout the event was the ability or inability of the impact investing sector to scale.

Although the discussions revolved around the need for the industry to enter the mainstream through chartered banks and the lack of retail product in the market, there was little talk about the ability of members of the nonprofit sector to effectively manage and handle impact investing capital. Moreover, a lack of capacity and skills in the sector could prove to be a pivotal problem in the growth and emergence of the impact investing industry.

The conference kicks off.

The conference kicks off.

In January 2013, in a blog for the Harvard Business Review, Sir Ronald Cohen, a prominent pioneer in the impact investing industry, and Harvard Business School professor William A. Sahlman said that “the biggest obstacle to scale for the social sector is [the] lack of effective funding models.” Cohen and Sahlman were not necessarily lamenting a lack of capital but rather a lack of innovative financial structuring for existing capital that would better suit the sector’s needs.

In the year since the article was published, impact investing intermediaries and government and financial institutions have developed a variety of innovative financial products that may better suit those needs. However, a lack of basic business management skills, knowledge of impact investing, and inflexible and prohibitive governance structures within nonprofits could inhibit the development of both the impact investing and nonprofit sectors.

A consensus shows that business competencies ranging from marketing and communications to accounting and financial management are valuable skills that contribute to the everyday success of a nonprofit. These skills are arguably more important for nonprofits that are potential investment options for impact investing funds or managers. However, large impact investing organizations such as the Calvert Foundation and the African Development Bank are finding that internal capacity constraints—due to a lack of resources to hire necessary personnel, or a lack of understanding of the business skills necessary to implement activities and scale programs—are becoming a problem.

“It’s not that there is limited capacity or funds; it’s that there is limited capacity from the internal team of the nonprofits. They can accept the large money, [but] they don’t know what to do with it,” says Lorainne Lopez, a junior analyst at Inspiring Capital, an organization that helps nonprofits earn and optimize revenue.

Lopez, who is completing her master’s in global affairs at New York University, did her graduate thesis on strategic management and impact investing, and had the opportunity to interview a diverse range of impact investing organizations on the topic. What she found was that a lot of them were seeing a lack of basic management skills within the nonprofits they were working with.

“Someone I interviewed from a large development bank spoke about an effort to create an HR team that would help an organization scale,” says Lopez. “[The development bank] put five to six figures on this team, but what they ended up doing was just training them on things like leadership, operation, how to do accounting, how to manage your people. At the end of the day, there were no concrete results.” 

Based on her experience, Lopez questions the awareness of the impact investing sector among the nonprofits she has worked with. “I don’t know if [nonprofits] know what social finance is. I don’t know if they would be able to understand it.”

Her sentiments outline a classic catch-22: The mainstream adoption of impact investing would increase awareness of social finance in the nonprofit sector, but a lack of product developed to support nonprofits is prohibiting mainstreaming.

Another perspective on the nonprofit sector’s constraints in adopting impact investing and other innovative financing mechanisms revolves around nonprofit governance infrastructure.

Norm Tasevski, partner and co-founder of Purpose Capital, says, “The issue of capacity to undertake financing mechanisms is more about having the institutional infrastructure to do so. So often in not-for-profit organizations, you have boards of directors that are making final calls on new financing models. Well, it’s like pulling teeth for some of these organizations just to consider basic financing mechanisms, like a line of credit or bank overdraft on some accounts, let alone a new financing model.” For Tasevski, an institutional barrier is keeping the nonprofit sector from accessing new financing models.

Although a lack of business management skills, awareness and knowledge of social finance, and inflexibility are challenges in effectively adopting impact investing and social finance instruments, some organizations have done it well. The Centre for Social Innovation, an organization with co-workingspaces in Toronto and New York for social innovators,is a great example of a nonprofit that has embraced innovative financing tools.

The Centre for Social Innovation’s operation space in Manhattan.

Photo courtesy of Centre for Social Innovation

The Centre for Social Innovation’s operation space in Manhattan.

In 2010, CSI developed and launched its community bond, an innovative debt instrument that allowed members of the community to contribute in denominations of $10,000 and $50,000 (U.S.) toward the renovation and purchase of the CSI Annex, a Toronto location suited for individuals and small organizations.

Tonya Surman, CEO of CSI, attributes the success to two key factors. “We had will and we had an entrepreneurial board of directors that really made things possible. So our board of directors simply believed we had nothing to lose by trying. And, you know, they were just like, ‘Go for it’ and ‘Here, let’s help.’ The board was incredible at bringing their entrepreneurial skills in a board capacity.”

Surman, however, believes that management capacity exists at large nonprofits and cautions against confusing business attributes with entrepreneurial ones. “Well, you have to be careful here. I have an entrepreneurial board of directors. I do not have traditional corporate business people. Just because you have business skills doesn’t mean you are willing to take risks. I would argue that a lot of those skills are about not taking risks. They are about saving and protecting.”

Surman says an aversion to risk taking might be a common problem in the sector. “I do think our boards are risk-averse. When they are trying to protect something, they haven’t figured out how to create appropriate containers for entrepreneurship in the not-for-profit sector.”

If the nonprofit sector fails to adapt to risk taking and beyond, it risks being left behind in a future dominated by impact investing. Tasevski sums up the consequences: “The [sector] is undergoing a massive shift in how [it] gets funding. So you have a growing sector of not-for-profits that are competing for lesser and lesser grant-making dollars. If these new financing mechanisms become the standard and they don’t have the mechanisms or the institutional capacity to undertake them, then they will literally be cut out of the vast majority of new financing for the sector over the next 10 to 20 years.”

Disclaimer: The author is an analyst at Purpose Capital.

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