Doing well while doing good is doable

“What better place,” observed social entrepreneur and philanthropist Catherine Reynolds, “to describe a new paradigm than here at Harvard?”

On Monday (April 30), Reynolds convened a panel of leading experts to discuss the ways in which hybrid organizations known as for-profit philanthropies are breaking down the legal and tax boundaries that have separated profit-making enterprises from tax-exempt charities. The event was sponsored by the Kennedy School of Government’s Center for Public Leadership.

For Reynolds, whose 2004 gift to the University created 25 annual fellowships that enable people with a background in social entrepreneurship to pursue a graduate degree at the Harvard School of Public Health, Harvard Graduate School of Education, or Kennedy School, the notion of a for-profit entity pursuing a social mission is old hat. In the 1980s, her company, EduCap, introduced the first asset-backed securitization structure for consumer education loans. This led to the creation of a private equity loan market that has enabled millions of people ineligible for government loans to attend college.

But for most of the general public, the ideas of making a profit and ameliorating social ills have seemed mutually exclusive — at least until recently. With the advent of entities such as Google.org, the for-profit enterprise through which Google plans to conduct philanthropic activity without having to be bound by IRS regulations governing tax-exempt charities, the phrase “doing well by doing good” is beginning to seem like more than just a fond hope.

Yet structural problems remain. The post-9/11 era has witnessed a surge in the number of people “seeking to effect change through nongovernmental means,” observed panelist Stephen Goldsmith, the Daniel Paul Professor of Government and director of the Innovations in American Government Program at the Kennedy School. But currently there isn’t enough capital to fund these social entrepreneurs’ initiatives. Part of the problem is that “there’s a terrible proliferation of charities in this country,” said Victoria Bjorklund, a partner in the New York law firm Simpson Thatcher & Bartlett and head of its exempt organizations group. “There aren’t enough donors to support the infrastructure.”

Vanessa Kirsch, president and founder of the Cambridge-based venture philanthropy New Profit Inc., agreed. Nearly 115 nonprofits are established every day, she noted, but only 20 of the nonprofits created since 1971 now have annual budgets in excess of $20 million.

For social entrepreneurs looking to earn money while promoting social good, the funding problem is exacerbated by the fact that most charitable organizations are prohibited by law from investing in for-profit enterprises. An exception is the program-related investment (PRI), which a private foundation can make in support of charitable work for which there is the possibility of a return of capital within an established time frame. Updating the list of approved PRIs — which hasn’t happened since 1972, Bjorklund pointed out — would be an easy way to increase the supply of capital available to profit-minded social entrepreneurs.

Even so, the potential for funding from foundations and philanthropically minded individuals and organizations remains limited. Thus, for an increasing number of social enterprises, especially the ones that require massive investments, capital markets provide the only realistic option for growing to scale. But barriers in the legal system make it difficult to unlock access to these markets, said Fred Goldberg, former commissioner of the IRS and now an attorney with the firm Skadden, Arps.

Suppose, for example, that you wanted to create a private foundation to underwrite research that holds great promise for a vaccine that could save hundreds of thousands of lives in developing countries. “Even though the only reason for creating such a foundation is to exploit the research, the current legal structure precludes a private foundation from enjoying any profits from that exploitation,” said Goldberg. What’s more, Bjorklund added, the hypothetical foundation would also be limited in its ability to offer the level of salaries that would attract highly qualified people from the private sector.

There are some encouraging signs for the future of for-profit philanthropy, however. Two years ago, the United Kingdom created the community interest company (CIC), a legal structure for organizations seeking to use their profits and assets to achieve social missions. Although contributions to a CIC are not deductible, charities are allowed to invest in or own them. Here in the United States, Andrew Kassoy, a partner at MSD Real Estate Capital, a real estate private equity fund, is seeking to create a new legal entity known as a B corporation. For private companies willing to institutionalize stakeholder interests — not just shareholder interests — in their corporate charter and also to agree to transparent social and environmental performance standards, the B corporation could help attract socially minded investment capital.

“Government can play an incredible role in bulldozing the wall” that limits a social venture’s access to private capital, said Kassoy. At the same time, concerns about nonprofit abuses and the threat that the growing nonprofit sector poses to the tax base have led some in government to call for increased regulatory oversight of charitable and philanthropic activity. “How do you bring greater transparency and accountability into the field while warding off excessive regulation that constrains the ideas and energies of social entrepreneurs?” asked panel moderator David Gergen, director of the Center for Public Leadership.

“We’re just beginning to peel the onion,” said Reynolds. “I think we should continue this dialogue, with an outcome that maybe we take to Capitol Hill, or maybe begin to talk to some presidential candidates about, as a way of planting the seed for new ideas and new paradigms.”