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#394 Must Scale Be a Precondition for Sustainability? [Corrected]

October 13th, 2020

Richard Marker

This is a hardly a new question. [Long time readers may recall several previous articles raising similar questions: “Right Sizing…” Dec 2016; “Winning Small….” July 2018; et al.]

Most for-profit businesses rely on scale. Nonprofit business models struggle to achieve scale. Funders, deciding on the viability of their non-profit grantees, should ask the question. Is scale a precondition for long term sustainability? Should it be?

The issue is more poignant and pressing today than ever. The viability of many in the non-profit sector, the conceptual and capacity challenges to funders everywhere, the recognition that philanthropy can never be separated from public policy all converge to raise questions about whether the operative business models for non-profits of the last period of time can still be valid.

For the last couple of decades, the assumptions about non-profit viability has been heavily informed by b-school thinking. Funders of established organizations have pushed organizations to be less dependent on philanthropic giving and more on earned income as a measure of long-term viability. Start-ups are often rated by their likelihood of achieving disruptive scale.

Scale does matter: one needs look no further than the US embarrassment regarding COVID-19 testing. Literally millions of people have found it difficult to get tested – and when tested to get timely results. [Even though this is the political season, for this piece, I will exercise restraint in my opinions about why that is. I am sure any regular reader knows my feelings.] The inability to provide testing at scale has limited the ability of many in the USA to make safe and reasonable plans for their own behavior, and businesses, schools and communities have been handcuffed in knowing how or if to develop a new normal.

The same will be true when a genuine scientifically reliable vaccine or treatment becomes available. We will return to normal, whatever that will mean, only when they are available at scale.

Another example, about which the literature is overwhelming, is about food insecurity/hunger. In the USA, There is simply no functional alternative to SNAP funding to reach scale. [Perhaps a guaranteed income on which a family can really live would be an alternative but that requires major systemic re-thinking.] Food pantries, soup kitchens, and other local efforts are still indispensable, sadly, but none can systematically assure that the millions of families, children, undercompensated receive essential and basic sustenance.

We see this assumption in funders’ responses to innovation in both for-profit and not-for- profit sectors. On the for-profit side, a new idea doesn’t have to be as disruptive as an Uber or Lyft or Airbnb or any of the other disrupters to warrant initial or mezzanine funding; but to receive funding, it would have to have a credible business model which would bring it to self-sustainable scale in a reasonable time frame. There are capital markets at every stage of the process that make those risks viable, and there are even tax incentives to give those risks even a little extra push.

This is true on the social impact side of this as well. It is certainly acceptable and reasonable to achieve social good through for-profit investments. To take but one example: Once upon a time, support for solar energy fit neatly into the grantmaking side of a foundation’s portfolio, especially for a funder with a commitment to environmental sustainability. Today, such funding fits comfortably on the investment side since its financial viability and its positive impact are so clear to all but some recalcitrant deniers. [Full disclosure: we are personal investors in solar energy development projects both in the United States and Africa.]

It is far less easy on the not-for-profit side. Very, very few not-for-profits ever reach the stage where they can generate sufficient fees for service or endowment income to be fully self-sustaining without dependence on grants and charitable gifts. It is somewhat easy to get limited start up funds for an innovative project but the larger a new organization gets, the greater the dependence on more and larger gifts. There is a very limited identifiable capital market for mezzanine and second stage not-for-profit organizations. The problem is that all too often funders have drunk the venture capital or impact investing Kool-Aid. “Will you be the disrupter that addresses hunger or poverty or homelessness or illiteracy? [you know, the little things.] And if not those, will your new project be sufficiently compelling that it will reach the scale, scope, and sustainability justifying the aspirations of both funders and creators? It is a rare not-for-profit that can credibly claim that business model.

The last 6 months have challenged those assumptions of what success should mean. Organizations that had built their business model around fees-for -service or government reimbursables have suffered greatly. The higher the percentage of reliance on those income sources, the harder it has hit. Organizations that relied more heavily on traditional grants and contributions had more reliable income, even if more variable than in “typical” years.

Moreover, as funders have become more committed to responding to a radically changed reality, many of us have frontloaded our giving, reduced our reporting requirements, and eliminated our restrictions. [How permanent those changes remains an open question – but for another time.] Locally/placed based grantmaking has resurfaced as a high priority for many, especially to direct service organizations.

What is evident in these changes is that scale can no longer be the primary driver. Of course, there may well be organizations that can deliver more, better, faster, and more efficiently even on the local level, but that doesn’t guarantee that they can do so everywhere and to everyone. If there are racial inequities, food deserts, uneven economic prices to pay for the pandemic, efficiency only takes you so far. Community based organizations may know the needs of their communities, and especially of micro-communities, that larger, more efficient organizations don’t.

I would hope that this corrective represents a welcome rethinking regarding sustainability. There are circumstances when sustainability cannot ever be based on program generated or endowment income.

There are even circumstances when scale becomes a counterproductive criterion. Permit one very real example to suffice: When I was CEO of a foundation 20+ years ago, we were involved in numerous funding collaboratives. One was in support of a very wonderful innovative program for and by young adults. Its ambitions were aligned with its capacities; its commitment to quality a reflection of the thoughtfulness of the founders; and its success commensurate with both. One of the funding partners believed that this was such a wonderful model that it should be scaled up. They persuaded the rest of us to hire a consultant who specialized in this kind of non-profit scaling. Sure enough, you are not surprised to read that at the end of the consultant’s extensive analysis, they came back with a series of recommendations about how to bring this boutique organization to national scale. [I was on record as disagreeing, but was outvoted, and if one is in a collaborative funding arrangement, there are ground rules.] Shortly thereafter, a development staff was hired, a new executive was selected, and a national roll-out was initiated. A year later the organization went out of business.

What happened? When the organization was small, local, and controlled by those who were peers of the target market, it worked great. When those folks were essentially relegated to program staff but no longer making the big decisions, it didn’t. Why? Because once it attempted to reach scale, it became a competitor to much larger, much better capitalized organizations. The agility and responsiveness that made it successful on the local level became impossible to achieve on the national level. While I know that I am not giving readers too many details here, suffice it to say that it was a classic case of funder overreach and the idealization of scale as a goal. We were simply wrong, and a jewel of a program became worthless.

Let me return to where I began. Scale does matter in addressing systemic issues; in fact, it is a sine qua non. There are times when anything less is not enough. But implementation is almost always local. And how to implement often requires local knowledge that a big picture funder may not have. We don’t always solve our most pressing problems if we only look at financial sustainability, equate capacity with scale, or dismiss the value of local innovation. Our funding commitments must include the vulnerable, smaller, and local if we truly want to bring impact to all.

The Institute for Wise Philanthropy has been teaching and advising foundations, philanthropists, families, and philanthropy organizations around the United States and the world since 2002.

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