Wednesday, December 2, 2009

Non-profit Profiteering

You have to be a little nuts to try to start a new business, considering that most attempts fail after consuming the savings of the entrepreneur’s family. But to start a new non-profit you must be downright insane, in the way of young idealists hopelessly in love, if not with a lover then with a people, or with a mission. What else but the insanity of love can sustain one through grueling, often dangerous work in difficult and remote locations, interrupted by the constant need to desperately beg for cash? A start-up non-profit without strong political connections must achieve more than a large NGO on a tiny fraction of the budget, and continue performing this miracle for years, in order to eventually break through the door to respectable grants. Most never make it, but a small fraction survive, and eventually get that first sizable grant from a foundation or government agency. By this stage the founders might be well into their 30s. Kids come along, and spouses grow weary of idealism as they develop a budding interest in material wellbeing. The big grant becomes far easier to renew than it was to get in the first place, and the 2nd and 3rd grants soon follow. The milestones against which progress is measured are carefully tweaked by the insiders themselves each year, and eventually the money begins to really roll in. Then it’s not long before the salaries creep up and away, and a thoroughly political, inefficient, and resistant-to-change middle management layer becomes entrenched. While measured effectiveness keeps climbing to justify the climbing revenues, actual effectives drops off, as only the most inexperienced, na├»ve, and still idealistic and severely underpaid kids in their early 20’s do any serious work. The older mentors on the board begin to retire, as loyal friends of the founders gradually take their place. The organization keeps growing until it becomes a venerable institution, with its own immobile bureaucracy, treacherous politics, and a vast chasm separating the young volunteers doing the actual work from the cynical and inapproachable ruling classes, whose board influence and annual milestone manipulation gives them an essentially unassailable lifetime tenure at the funding teat.

Perhaps this characterization is atypical? Try entering the name of your favorite charity into the form at You might pick one for instance that does work in Africa, attempting to alleviate poverty, cure diseases, or foster democracy. Click to see their most recent IRS filings, and you might see something like this: Revenues from grants and donations: $20M. Fundraising expenses: $3M, operating expenses: $15M, annual excess: $2M, net assets: any number of millions, which grows bigger over the years. Then take a good look at the section called “5 highest paid non-director employees”. It would not be unusual to find that someone with a title like “country deputy director”, who would be an expat American or European living in an African city, making perhaps $250,000 per year, plus all kinds of expenses. Now $250,000 per year is a lot of money in the US, and it can afford one a pretty insulated lifestyle, with private schools, business class travel, nice cars, college funds, and adequate financial security for retirement. But $250,000 per year in Africa is a whole other story. Even $40,000 per year in a poor country is enough to get one a houseboy, a guard, and a cook. There has always been a name for white people in Africa living the kind of lifestyle beyond razor wire topped walls that $250,000 per year will buy in a crippled economy, a lifestyle that totally isolates people from their surroundings, a lifestyle filled with numerous servants, security, and decadence. The name that comes to mind is Colonial Masters.

A for-profit corporation is primarily tasked with generating profits for its shareholders. Though large corporate boards are also riddled with loyalists and insiders, and management pay frequently becomes absurdly high, the shareholders at least in theory have the power to replace the board if all the money is diverted to management and little makes it through to dividends. A non-profit on the other hand has no shareholders. It is organized for the purpose of fulfilling a mission, and while the ultimate recipients of the benefits may be thought of as stakeholders, only the board itself has the power to alter the future composition of the board. But after decades of ineffectiveness not only on the part of large NGOs in the developing world, but also of many of the major disease themed charities, an encouraging trend is emerging: some grant givers are beginning to put their own people onto the boards of their grant recipients, and these boards with real bite are going as far as replacing the management in the cases of the most extreme ineptitude.

This trend of director activism in the non-profit world is a positive development, but there’s another fundamental aspect of the way that non-profits operate that must also be addressed. For any large organization to maintain wealth and power, competitive barriers must be erected to prevent young start-ups from moving in too quickly and eroding the margins. Some barriers applied by the large to the small, such as price fixing or dumping goods below cost have been ruled illegal, but others have been encouraged by governments due to their social benefits. These “good” barriers include trade secrets, copyrights, patents, and proprietary software and business processes. It is arguably important to allow businesses to use these good barriers to generate disproportionate shareholder rewards, in order to encourage the innovation and risk taking that generated the intellectual property in the first place. Furthermore, a moral argument can be made that for-profit companies should be able to keep the fruits of their work as their own, and that it would amount to downright theft if society were to try to compel them to open up their proprietary software and processes to their emerging competitors.

No such moral argument can apply to non-profits. A non-profit is supposed to be driven solely by its mission. Preventing a new competitor from being more effective in the field, or from winning away a share of the available grant money can never help serve the mission, but can only help unfairly enrich the entrenched establishment. If in order to maintain their non-profit status, every bit of software developed by non-profits had to be open sourced, if every document describing the details of their internal operations, every contract, the minutes of every meeting, and the pay of every employee were to become transparently available online, the amount of competition and therefore effectiveness in the non-profit world would explode, and the young idealists with their non-profit start-ups would finally get a fighting chance at competing for grant money against the entrenched Goliaths.