Dale Miller: Why Go Nonprofit?

As the faculty director of the Center for Social Innovation, I’m delighted to welcome the new center director, Bernadette Clavier. Bernadette has been running our programs for the past two years and our communications for six years before that. In a previous role, she has experienced some of the social and environmental challenges of our global economy while sourcing seasonal products from around the world for a large retail company in Europe. This has fueled a passion for inspiring leaders to resolve those issues. She will provide continuity and new energy to champion social innovation as an important focus at Stanford GSB.

At the Center this winter quarter, we are working with 39 student groups who are preparing to launch their own social venture. The ideas milling about offer promising potential to move the needle on our world’s most pressing social and environmental problems, such as eliminating unhealthy dirt floors in low income housing, or solving the health, pollution, and waste problems associated with single use plastic bottles.

Are Nonprofits Wishy-Washy Hippy-Dippy?

Unlike 10 years ago, I’ve noticed a bias against setting up as a nonprofit among many of our budding social entrepreneurs. As Laura Weidman Powers, MBA ’10 and founder of CODE2040, a nonprofit working to increase the presence of minorities in the computer economy, said, “There’s some stigma associated with the nonprofit route, not all undeserved. It’s seen as wishy-washy, hippy-dippy, not rigorous, old school, etc. We learn in business school that money is a really good lens through which to gain rigor for a business, and there’s a sense that nonprofits may not be able to gain that and thus may be run based on emotion.”

But we all know of powerhouse nonprofit organizations that do amazing work: think of the Grameen Bank, the micro-lending platform Kiva.org, and the education opportunity gap buster Equal Opportunity Schools.

Is nonprofit passé or overlooked? I decided to bring the expertise and experience of members of our community, both faculty and alumni, to bear on that question.

For-Profit Benefits

The for-profit structure is attractive for a number of reasons. Here I’ll draw upon wisdom from Stanford professor Jennifer Aaker and a great chapter from Social Entrepreneurship by Gregory Dees and Beth Battle Anderson titled “For-Profit Social Ventures.” For-profit structures may have an advantage at:

• Gaining customer preference in the marketplace for some goods and services, where nonprofits are seen as warm while for-profits are seen as competent.
• Promoting efficiency and innovation through the drive to maximize every dollar of investment.
• Responding quickly to demand as purchasing behavior provides input about market needs, drives re-allocation of resources, etc.
• Improving access to skilled personnel, when salaries are able to compete with traditional businesses in the market for talent.
• Accessing more abundant capital from angel investors, to VC funds, to the much smaller pool of impact investments.

Why Go Nonprofit?

Sometimes the problem you want to tackle is so deep a market failure that you have no choice but to choose a nonprofit structure. Stanford social entrepreneur in residence Emily Arnold Fernandez, founder of the nonprofit organization Asylum Access, didn’t think she had much of a choice: “Changing unjust laws requires patience. It’s not easily predictable. In our case, we can’t rely on those affected to finance this change, since they’re excluded from the labor market. We can’t guarantee investors a short-term financial return on their investment, so there’s no way to monetize and still achieve our mission.”

But even for organizations with viable potential for attracting investment capital and earning income, going nonprofit can still offer a compelling set of benefits. I’ve scanned several articles and spoken with nonprofit leaders about this question, and summarize the benefits of the nonprofit structure here:

• Trust: Nonprofits often win in this category, as some are skeptical that an organization focused on financial returns can really make social good a priority. In 2006 a survey of Kiva users showed that 50 percent of them would not lend on the site if it adopted a for-profit model. Reid Saaris, founder of Equal Opportunity Schools, offers a similar perspective: “Being a nonprofit has a big credibility factor for our audience. The school superintendents we work for aren’t profiting significantly and are skeptical of those who are,” he explained.
• Sustained focus on mission: When social benefit is your primary goal, inviting investor expectations for a financial return into the picture can muddle one’s mission. In 2010 the microfinance industry in the South Indian state of Andhra Pradesh came under scrutiny for its aggressive collection practices after reports were made public that 200 borrowers had committed suicide. For-profit organizations had led the rapid expansion of microloans in the region in hope for financial returns with no consideration for the probability of loan defaults or how they would be handled. Vikram Akula, the founder of SKS Microfinance admitted “Professor Yunus was right,”referring to the Grameen Bank founder, economist, and a frequent critic of Mr. Akula and others who tried to turn microfinance into a for-profit industry. “I had not fully anticipated the potential downside of accessing the public market for social enterprise.” This is an example of what Dees and Anderson would call “competitive market pressures driving out social preferences that are not economically efficient.” The conflict between the social and financial bottom lines may not be obvious at the start-up phase, but as Arnold puts it “it’s important to think on many temporal levels — what do I do tomorrow, what will I need to do three years down the road, what happens when I leave?”
• Provide services at a lower cost to clients: If your mission entails providing products or services at a low cost, you can’t beat the benefit of donated capital to your cost structure. For example, say you offer a service to schools as Saaris does at Equal Opportunity Schools. “To return a profit, we’d have to charge schools more” he says, “and charging them more would tend to lower demand. This would mean slower growth and slower social impact.”
• Easier start in fundraising: Laura Weidman Powers recalls that CODE2040’s nonprofit status gave her more flexibility to raise funds early on. She estimates that she would have left about $500,000 on the table in the first year if she had gone for-profit, and would have had to spend more time on raising a round of funding rather than getting to work. 
• Access to pro-bono and volunteer resources: Nonprofits can attract resources for free that they’d otherwise have to pay for. People are willing to help nonprofit causes, and sound plans led by strong leaders can mobilize everything from legal help to other volunteer services. Weidman Powers estimates that CODE2040 gets $200,000+ worth of in-kind services each year, not including the value of things that you can’t buy on the open market, like the time that professionals share with the students in CODE2040’s program. Kiva leveraged hundreds of volunteers to fill its board with well-known Bay Area executives from LinkedIn, PayPal, Draper Richards Foundation, and Unitus and also brokered a deal with PayPal for free payment processing on the Kiva site — in large part because Kiva was a nonprofit. 
• Staff that are intrinsically motivated: Early on, many of Kiva’s 23 full-time employees — most of them in their 20s and 30s — worked pro bono for months. “It was easy to feel ownership of the project,” said cofounder Jessica Jackley. “When you know that a big dream relies on you, it’s inspiring.” Saaris reflects on the caliber of people he works with at Equal Opportunity Schools. “People are often fearful that they won’t be able to find incredibly high-achievers to work with in the nonprofit sector. This is not true,” he says. Saaris’ team includes MBAs and PhDs, and he meets with collaborators like school superintendents, education commissioners, and executives from Yahoo!, Facebook, HP, Draper Richards Kaplan, and Microsoft often as he carves out the path for bridging the educational opportunity gap.

Legal Structure Is a Tool, Not an End

To close, I’d like to share a last quote from Greg Dees: “profitability, business discipline, and an entrepreneurial spirit are not restricted to for-profit organizations.” In society’s quest for innovative, cost-effective, and sustainable solutions, there is a role for nonprofits, for-profits, and the hybrids in between. Entrepreneurs should let the nature of their project guide the choice of the legal structure for their organization and pay attention to the signals their choice will send to clients, beneficiaries, funders, and other important constituents about both their credibility and competency. 

Dale Miller is the Morgridge Professor of Organizational Behavior and Claude N. Rosenberg Jr. Director of the Center for Social Innovation