I spent the first half of this week at the Fortune Tech Conference. Usually when I go to events like this they’re totally arts-centric, so it was (mostly) refreshing to be surrounded by folks with a completely different perspective. (Note to Andrew Taylor: thanks to everyone’s obsession with VC-funding and industry gossip, this conference was optimized around informal networking.  It’s not as hard as it sounds, and largely comes down to less programming in a smaller space.)

Yesterday morning I attended a breakfast session called “Is Philanthropy Dead?”  The panelists were Charles Best of DonorsChoose.org, Premal Shah of Kiva.org, and Dan Shine of AMD’s 50×15 Initiative. Despite the deliberately provocative title, the session spent relatively little time bashing the traditional philanthropic model. Instead, most of the conversation focused on the issue of transparency in fundraising.

Best and Shah both credit the transparency of their processes as a primary factor behind their success. The most compelling story came from Best, whose organization gives individual donors the opportunity to fund classroom projects in public schools.  DonorsChoose.org guarantees that donors will receive a packet of photographs and thank you letters from the grateful recipients (and facilitates that process behind the scenes).  Apparently this works as planned 98% of the time.  In the other 2% of cases, however, the teacher reneges on his responsibility to coordinate the thank you packet.  When this happens, DonorsChoose.org preemptively contacts the donor to inform her of the error and offers to “refund” the donation by crediting it towards another project.  Well, it turns out that these “we screwed up” phone calls are the most effective fundraising appeals they ever make, with a large number of donors declining the refund and offering to fund another project.

This experience is consistent with research into consumer behavior which suggests that the most loyal customers are those for whom something went wrong but the company quickly and effectively resolved the problem.  Unfortunately, most of us in the non-profit sector are terrified about admitting failure.  It’s as if the fact that people give us money to carry out our work creates such a solemn responsibility that 100% success is the only option.  This absurd mindset has several negative consequences.  First, fear of failure makes us risk-averse to a sometimes crippling degree.  Second, when failures occur despite our cautious hedging, we’re totally unwilling to speak candidly about the experience.  This prevents us from learning from our peers and advancing understanding in the overall sector.

Transparency is about more than owning up to failures, of course.  It means disclosing information about your organization’s processes, financial performance, and business model.  And, of course, it also means sharing information about your successes in a way that lets donors feel like respected collaborators.

This last category is where Kiva.org really excels.  Kiva.org gives individuals the ability to provide 0% interest microfinance loans to small business entrepreneurs in the developing world.  Lenders receive regular progress reports and - most of the time - get their money back upon the project’s completion.  Shah described the effect of this transparency as being almost addictive.  Many lenders check their loan portfolios daily, obsessively tracking the impact of their support.

It seems to me that arts organizations are particularly lousy at these kinds of transparency.  Part of it stems from a misguided desire to maintain the mystique of the creative process.  For the most part, though, I suspect we just don’t give it any thought.

So here’s my challenge to the field: what would this kind of tranparency look like for an arts organization and how can we build it into our routine operations?

Ray D. Madoff, writing in this morning’s NY Times, laments the news that Leona Helmsley bequeathed most of her $8 billion fortune to a foundation dedicated to the care and welfare of dogs:

The charitable deduction constitutes a subsidy from the federal government. The government, in effect, makes itself a partner in every charitable bequest. In Mrs. Helmsley’s case, given that her fortune warranted an estate tax rate of 45 percent, her $8 billion donation for dogs is really a gift of $4.4 billion from her and $3.6 billion from you and me.

To put it in perspective, our contribution to Mrs. Helmsley’s cause equals approximately half of what we spend on Head Start, a program that benefits 900,000 children.

What will we get for our $3.6 billion? An eternal monument to Leona Helmsley’s generosity toward dogs.

First off, why all the canine hate?  Okay, so it’s true that few of us share Leona’s priorities, or at least her apparent enthusiasm.  But I don’t share all of the federal Government’s priorities either.  At the risk of getting political - would you rather than $3.6 billion be spent for the care and welfare of dogs or to buy bombs that will be blown up somewhere in the middle east?

This is the beauty of the charitable deduction.  It decentralizes decisions about which public services are most deserving of support.  Sometimes people make bad decisions.  Sometimes they accomplish brilliant, ambitious things that would never come out of government (witness the Bill and Melinda Gates Foundation).  If you believe in the power of markets and the wisdom of crowds, then you believe that, in the aggregate, this is an efficient way of ensuring that society’s concerns are addressed.

Of course, there are limitations.  These are defined by Section 501(c)(3) of the Internal Revenue Code.  As explained on the IRS website:

The exempt purposes set forth in section 501(c)(3) are charitable, religious, educational, scientific, literary, testing for public safety, fostering national or international amateur sports competition, and preventing cruelty to children or animals.  The term charitable is used in its generally accepted legal sense and includes relief of the poor, the distressed, or the underprivileged; advancement of religion; advancement of education or science; erecting or maintaining public buildings, monuments, or works; lessening the burdens of government; lessening neighborhood tensions; eliminating prejudice and discrimination; defending human and civil rights secured by law; and combating community deterioration and juvenile delinquency.

(Notice that preventing cruelty to animals is expressly mentioned, so Leona’s gift seems unambiguously within established guidelines for charitability.  Also notice that there’s nary a mention of the arts…  That’s right, we fall under “education”, a seemingly precarious position that makes me nervous whenever I contemplate it!)

So Madoff’s pretty misguided on this point. However he raises another issue that deserves to be taken very seriously:

Most such foundations perform no charitable work but only give money to organizations that do. The law requires foundations to spend a minimum of just 5 percent of their assets a year, thus helping ensure their perpetual existence, and their donors’ immortality. In meeting this requirement, foundations are allowed to count fees paid to their trustees and other administrative expenses.

In 2003, legislation was introduced in Congress that would have required private foundations to devote the full 5 percent to charitable expenditures. But the foundations complained that this would threaten their perpetual existence, and the bill did not pass.

Some people who establish perpetual charitable trusts may assume that their philanthropic dollars will go further if the trust distributes only its investment income and preserves its principal. Anyone familiar with the story of the goose that laid the golden eggs knows the importance of not spending principal. However, because a dollar spent today is worth more than a dollar spent several years from now, in many cases, the sum of payments made over time — even in perpetuity — never equals the value of the original principal.

Anyone with the most rudimentary understanding of finance knows that he’s right.  The financial math leads inescapably to the conclusion that private foundations would be maximally effective if they gave away all of their assets within their first year of giving.  Of course, this reasoning fails to consider that wiser giving decisions will presumably be made if there’s a little more time to make them.

So where is the middle ground?  Reintroducing (and passing) that 2003 legislation would be a good start.  By requiring that operating expenses be above and beyond the 5% minimum annual payouts, you ensure that the more efficient (or less profligate) a foundation is, the better shot it has at immortality.  Another approach would be to benchmark the minimum payout threshold to investment returns, thereby ensuring that the foundation’s endowment doesn’t outpace its giving.

Philanthropy.com reports on a proposal for a new kind of for-profit / non-profit hybrid entity: the L3C:

[T]he low-profit, limited liability company, or L3C is designed to increase the number of program-related investments, or PRI’s, that foundations make in social-purpose businesses by making those enterprises easier to find. Proponents hope that foundation investment in those ventures would, in turn, would spur an influx of private capital.

For those of you who aren’t tax lawyers, the key issue here is that private foundations are required by law to distribute at least 5% of their assets annually. The vast majority of the time this is done exclusively through grants to public charities. However a little-used option exists whereby foundations can make program-related investments - investments that they expect to make a return on - which count towards the 5% threshold. The L3C is designed to promote and facilitate this process.

Americans for Community Development, the organization which is most actively promoting the L3C concept, has a great F.A.Q. that explains the concept in greater depth and provides some down-to-earth examples.

The line between for-profit and non-profit enterprise has been getting blurrier and blurrier. Increasingly we’re seeing charities graded by independent agencies on their financial performance and efficiency as if they were stocks to invest in. At the same time, for-profit corporations are under mounting pressure to exercise “corporate social responsibility” and soften the ruthless pursuit of profits with concern for the greater social good. It seems to me that the L3C is a logical and welcome next step.

Ian Moss at Createquity makes a compelling case for arts philanthropy that focuses on infrastructure and avoids self-perpetuating cults of personality:

I don’t think it’s incumbent upon foundations to judge artistic merit. There are plenty of other people in this world who are perfectly capable of doing that, and arguably more qualified: curators, journalists, other artists, audience members themselves. Where foundations can add value instead is in setting up and supporting systems by which artistic activity is generated in their communities.

This makes a lot of sense to me, and not just from a self-interested standpoint. Let’s pull back for a second and get some context. Institutional funders, especially the old guard stalwarts, are notoriously risk averse. A common strategy (whether conscious or unconscious) for reducing the likelihood of misguided grants is to establish funding legacies. Funders identify successful individuals or institutions and fund them year after year, often for the same or similar activities.

This is an understandable impulse. Identifying and nurturing new visions is difficult work. Today’s avant garde is next year’s status quo, so you’re perpetually on a treadmill. Some people thrive on that kind of challenge, and I applaud them for their service. But the best discoverers of artistic talent, nine times out of ten, are working directly in the field as producers, promoters, curators, etc. I should confess that I spent several years trying to do that myself, and while I won’t admit to complete failure, suffice it to say that if I had been good enough at that kind of work I’d probably still be a producer today.

The most important decision I ever made at Fractured Atlas was our late 2001 shift from a curatorial strategy to a wide open one. By accepting that I lacked the vision or wisdom to reliably identify the next Jackson Pollack or even Richard Foreman, I democratized our whole approach to supporting the arts community. The new goals were about leveling the playing field by providing resources and tools that reduced the likelihood that real talent would be squashed by bad luck or poor access to vital services. Ultimately Fractured Atlas helps our industry’s “market forces” function more effectively by limiting the often significant impact of non-artistic factors (e.g. healthcare, funding, technology).

At the risk of tooting my own horn, I can report with confidence that this approach has worked surprisingly well. I’ve seen talented but undiscovered members in our fiscal sponsorship program go from raising $500/year to $50,000/year. When the work is good enough, money finds it. We just grease the wheels by handling the non-artistic stuff like IRS compliance and charities bureau filings.

Popular clichés notwithstanding, genius doesn’t get “discovered”. It makes itself known through perseverance and artistic quality that is compelling enough that it gets people talking. But for the system to work we need a healthy ecosystem. Infrastructure matters. Resources matter.

Which brings me back to Ian’s post… He’s essentially advocating a similar philosophy from a philanthropic perspective. By trusting “market forces” and investing in our industry’s infrastructure, institutional funders can maximize their impact while reducing their exposure to curatorial risk. It’s less sexy than playing Lorenzo de’ Medici, but then again it’s also less likely to get you stabbed in a Cathedral.

Happy New Year!

Yesterday’s NY Times featured a long front-page article about differing philosophies on the value and purpose of philanthropy. In a familiar refrain, the author pits the merits of private versus public giving:

The rich are giving more to charity than ever, but [they] are not the only ones footing the bill for such generosity. For every three dollars they give away, the federal government typically gives up a dollar or more in tax revenue, because of the charitable tax deduction and by not collecting estate taxes.

Investment guru Bill Gross puts it rather bluntly:

When millions of people are dying of AIDS and malaria in Africa, it is hard to justify the umpteenth society gala held for the benefit of a performing arts center or an art museum. A $30 million gift to a concert hall is not philanthropy, it is a Napoleonic coronation.

For those of us tasked with raising funds for the arts, this is an argument we’ve heard before. A friend of mine who is the Executive Director of a respected non-profit legal aid organization once described artists (not without sympathy) as the “voluntary poor”. Although no artist likes to hear it, we have to admit that he’s essentially correct.

But this argument misses the point. It assumes that the sole purpose of philanthropy is to relieve the immediate suffering of those in our society who have been screwed by fate. Certainly that’s a valuable goal, and I happily contribute to groups like Habitat for Humanity and Doctors Without Borders who pursue just such ends.

Philanthropy, however, can also be a tool for investing in our society’s potential. Giving to support the arts or education or esoteric research projects or public policy think tanks doesn’t put food on anyone’s table or a roof over anyone’s head today. But by making an investment in our collective future, it enhances our ability to thrive as a society in the long-term.

Yes, the government forgoes tax revenues when it gives a donor a tax break on his contribution. And yes, many of those contributions undoubtedly offer dubious benefits to society. But I’m confident that, in the aggregate, the distributed decision making of millions of charitable givers will achieve more positive ends, and more diverse benefits, than could possibly be accomplished by a handful of decision makers in Washington.