As you may know, I’m a bit of a skeptic about the efficacy of traditional endowments. In an earlier blog post, “THIS is the Rainy Day,” I urged nonprofits with endowments to increase their spending rate in tough times and down markets, rather than following the common wisdom and lowering their annual draw (and fiscally starving themselves in the process). My point was: There are needs now. Let’s fix them. Let’s spend a bit more from the endowments today to prevent chronic problems from continuing tomorrow. And then we can then go out and raise new funds to build up our capital.

Some of you thought I was radical and misguided to suggest that. Others cheered. But let me tell you: my suggestions are very modest compared to those put forth by Michael Wilkerson, a professor at American University, in a recent post in the Stanford Social Innovations Review called “Ephemeral Perpetuity? Transforming Permanent Endowments into Annuities.”

Take a look. It’s brief but powerful. Wilkerson raises what, in retrospect, is a stunningly obvious question: Why were the best-endowed institutions the ones whose operations suffered the most in the wake of the market crash of 2008? Or put another way: Are endowments really good for you?

Wilkerson further wonders whether the notion of institutional perpetuity (which undergirds the whole concept of endowment-building) is appropriate for any but museums and major universities. Are we right to presume that relatively small nonprofits will still be – or even should still be – here in forty or eighty years? Businesses regularly fold up shop when times change. Why do we think that nonprofits are immortal? And can’t the smaller nonprofits really benefit much more by funds that spend down principal and interest over a set period of years, rather than from endowments that provide five percent or less each year forever? (This notion is in alignment with one of my friend Anne’s suggestions in my recent post, “All Bequests are Generous; Some Can Also be Smart.” )

Let’s apply Wilkerson’s thinking to a typical small nonprofit – say, one with a budget of $1 million, an endowment of $1 million, and – of course! – challenges to their current income stream. Their staff is under stress and underpaid, and turnover is high. The board takes a traditional route and decides that they should double the endowment, and the organization undertakes an ambitious effort to raise the million dollars. When all is said and done, this will produce $40,000 to $50,000 a year in new funding. Not bad, but hardly transformational, and probably not worth the effort, particularly as they no doubt will have taken a hit in their annual fundraising during the campaign.

I propose that instead the organization raise $1 million in “Aspirational Impact Funds.” The funds, both principal and interest, would be spent down over the course of 10 years. The money would be invested conservatively, given the time horizon. (We would want to ensure no erosion of principal.)

The result would mean $100,000 (and more, with earnings) each year, or a 10+% increase in organizational income. A share of that — I would suggest 60% — should go toward core operations. Salaries could rise, staff retention increased, services and reputation improved, and more clients served in a better way. The balance could be directed toward testing new ideas, R+D, risk-taking ventures. Donors could see the results of their gifts – and they would consequently increase their annual support, further strengthening the organization. Board members (and staff, of course) would be engaged and energized by the R+D work. Within a few years, the organization could launch another campaign – more ambitious this time, and built upon their momentum and findings – for new Aspirational Impact Funds to drive the organization for another decade or more.

This is heresy, of course, because we’ve all been trained to think that charitable gifts take one of two forms: either directed toward annual/operating expenses or toward traditional perpetual endowments. But that’s a model created by and for large prestigious institutions. And, as those of you who are loyal readers of this blog know, I feel strongly that there’s little connection between the needs of an Ivy League university and those of a local youth organization or community theater. Let’s junk the old model and figure out strategies that would actually make a difference. What do you think of this one?

Copyright Alan Cantor 2012. All rights reserved.

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