Nonprofits and Overhead: The way we think about charity is dead wrong | Dan Pallotta

Translator: Joseph Geni Reviewer: Morton Bast I want to talk about social innovation and social entrepreneurship. I happen to have triplets. They're little. They're five years old. Sometimes I tell people I have triplets. They say, "Really? How many?" (Laughter) Here's a picture of the kids -- that's Sage, and Annalisa and Rider. Now, I also happen to be gay. Being gay and fathering triplets is by far the most socially innovative, socially entrepreneurial thing I have ever done. (Laughter) (Applause) The real social innovation I want to talk about involves charity. I want to talk about how the things we've been taught to think about giving and about charity and about the nonprofit sector, are actually undermining the causes we love, and our profound yearning to change the world. But before I do that, I want to ask if we even believe that the nonprofit sector has any serious role to play in changing the world. A lot of people say now that business will lift up the developing economies, and social business will take care of the rest. And I do believe that business will move the great mass of humanity forward. But it always leaves behind that 10 percent or more that is most disadvantaged or unlucky. And social business needs markets, and there are some issues for which you just can't develop the kind of money measures that you need for a market. I sit on the board of a center for the developmentally disabled, and these people want laughter and compassion and they want love. How do you monetize that? And that's where the nonprofit sector and philanthropy come in. Philanthropy is the market for love. It is the market for all those people for whom there is no other market coming. And so if we really want, like Buckminster Fuller said, a world that works for everyone, with no one and nothing left out, then the nonprofit sector has to be a serious part of the conversation. But it doesn't seem to be working. Why have our breast cancer charities not come close to finding a cure for breast cancer, or our homeless charities not come close to ending homelessness in any major city? Why has poverty remained stuck at 12 percent of the U.S. population for 40 years? And the answer is, these social problems are massive in scale, our organizations are tiny up against them, and we have a belief system that keeps them tiny. We have two rulebooks. We have one for the nonprofit sector, and one for the rest of the economic world. It's an apartheid, and it discriminates against the nonprofit sector in five different areas, the first being compensation. So in the for-profit sector, the more value you produce, the more money you can make. But we don't like nonprofits to use money to incentivize people to produce more in social service. We have a visceral reaction to the idea that anyone would make very much money helping other people. Interestingly, we don't have a visceral reaction to the notion that people would make a lot of money not helping other people. You know, you want to make 50 million dollars selling violent video games to kids, go for it. We'll put you on the cover of Wired magazine. But you want to make half a million dollars trying to cure kids of malaria, and you're considered a parasite yourself. (Applause) And we think of this as our system of ethics, but what we don't realize is that this system has a powerful side effect, which is: It gives a really stark, mutually exclusive choice between doing very well for yourself and your family or doing good for the world, to the brightest minds coming out of our best universities, and sends tens of thousands of people who could make a huge difference in the nonprofit sector, marching every year directly into the for-profit sector because they're not willing to make that kind of lifelong economic sacrifice. Businessweek did a survey, looked at the compensation packages for MBAs 10 years out of business school. And the median compensation for a Stanford MBA, with bonus, at the age of 38, was 400,000 dollars. Meanwhile, for the same year, the average salary for the CEO of a $5 million-plus medical charity in the U.S. was 232,000 dollars, and for a hunger charity, 84,000 dollars. Now, there's no way you're going to get a lot of people with $400,000 talent to make a $316,000 sacrifice every year to become the CEO of a hunger charity. Some people say, "Well, that's just because those MBA types are greedy." Not necessarily. They might be smart. It's cheaper for that person to donate 100,000 dollars every year to the hunger charity; save 50,000 dollars on their taxes -- so still be roughly 270,000 dollars a year ahead of the game -- now be called a philanthropist because they donated 100,000 dollars to charity; probably sit on the board of the hunger charity; indeed, probably supervise the poor SOB who decided to become the CEO of the hunger charity; (Laughter) and have a lifetime of this kind of power and influence and popular praise still ahead of them. The second area of discrimination is advertising and marketing. So we tell the for-profit sector, "Spend, spend, spend on advertising, until the last dollar no longer produces a penny of value." But we don't like to see our donations spent on advertising in charity. Our attitude is, "Well, look, if you can get the advertising donated, you know, to air at four o'clock in the morning, I'm okay with that. But I don't want my donation spent on advertising, I want it go to the needy." As if the money invested in advertising could not bring in dramatically greater sums of money to serve the needy. In the 1990s, my company created the long-distance AIDSRide bicycle journeys, and the 60 mile-long breast cancer three-day walks, and over the course of nine years, we had 182,000 ordinary heroes participate, and they raised a total of 581 million dollars. (Applause) They raised more money more quickly for these causes than any events in history, all based on the idea that people are weary of being asked to do the least they can possibly do. People are yearning to measure the full distance of their potential on behalf of the causes that they care about deeply. But they have to be asked. We got that many people to participate by buying full-page ads in The New York Times, in The Boston Globe, in prime time radio and TV advertising. Do you know how many people we would've gotten if we put up fliers in the laundromat? Charitable giving has remained stuck in the U.S., at two percent of GDP, ever since we started measuring it in the 1970s. That's an important fact, because it tells us that in 40 years, the nonprofit sector has not been able to wrestle any market share away from the for-profit sector. And if you think about it, how could one sector possibly take market share away from another sector if it isn't really allowed to market? And if we tell the consumer brands, "You may advertise all the benefits of your product," but we tell charities, "You cannot advertise all the good that you do," where do we think the consumer dollars are going to flow? The third area of discrimination is the taking of risk in pursuit of new ideas for generating revenue. So Disney can make a new $200 million movie that flops, and nobody calls the attorney general. But you do a little $1 million community fundraiser for the poor, and it doesn't produce a 75 percent profit to the cause in the first 12 months, and your character is called into question. So nonprofits are really reluctant to attempt any brave, daring, giant-scale new fundraising endeavors, for fear that if the thing fails, their reputations will be dragged through the mud. Well, you and I know when you prohibit failure, you kill innovation. If you kill innovation in fundraising, you can't raise more revenue; if you can't raise more revenue, you can't grow; and if you can't grow, you can't possibly solve large social problems. The fourth area is time. So Amazon went for six years without returning any profit to investors, and people had patience. They knew that there was a long-term objective down the line, of building market dominance. But if a nonprofit organization ever had a dream of building magnificent scale that required that for six years, no money was going to go to the needy, it was all going to be invested in building this scale, we would expect a crucifixion. The last area is profit itself. So the for-profit sector can pay people profits in order to attract their capital for their new ideas, but you can't pay profits in a nonprofit sector, so the for-profit sector has a lock on the multi-trillion-dollar capital markets, and the nonprofit sector is starved for growth and risk and idea capital. Well, you put those five things together -- you can't use money to lure talent away from the for-profit sector; you can't advertise on anywhere near the scale the for-profit sector does for new customers; you can't take the kinds of risks in pursuit of those customers that the for-profit sector takes; you don't have the same amount of time to find them as the for-profit sector; and you don't have a stock market with which to fund any of this, even if you could do it in the first place -- and you've just put the nonprofit sector at an extreme disadvantage to the for-profit sector, on every level. If we have any doubts about the effects of this separate rule book, this statistic is sobering: From 1970 to 2009, the number of nonprofits that really grew, that crossed the $50 million annual revenue barrier, is 144. In the same time, the number of for-profits that crossed it is 46,136. So we're dealing with social problems that are massive in scale, and our organizations can't generate any scale. All of the scale goes to Coca-Cola and Burger King. So why do we think this way? Well, like most fanatical dogma in America, these ideas come from old Puritan beliefs. The Puritans came here for religious reasons, or so they said, but they also came here because they wanted to make a lot of money. They were pious people, but they were also really aggressive capitalists, and they were accused of extreme forms of profit-making tendencies, compared to the other colonists. But at the same time, the Puritans were Calvinists, so they were taught literally to hate themselves. They were taught that self-interest was a raging sea that was a sure path to eternal damnation. This created a real problem for these people. Here they've come all the way across the Atlantic to make all this money, but making all this money will get you sent directly to Hell. What were they to do about this? Well, charity became their answer. It became this economic sanctuary, where they could do penance for their profit-making tendencies -- at five cents on the dollar. So of course, how could you make money in charity if charity was your penance for making money? Financial incentive was exiled from the realm of helping others, so that it could thrive in the area of making money for yourself, and in 400 years, nothing has intervened to say, "That's counterproductive and that's unfair." Now, this ideology gets policed by this one very dangerous question, which is, "What percentage of my donation goes to the cause versus overhead?" There are a lot of problems with this question. I'm going to just focus on two. First, it makes us think that overhead is a negative, that it is somehow not part of the cause. But it absolutely is, especially if it's being used for growth. Now, this idea that overhead is somehow an enemy of the cause creates this second, much larger problem, which is, it forces organizations to go without the overhead things they really need to grow, in the interest of keeping overhead low. So we've all been taught that charities should spend as little as possible on overhead things like fundraising under the theory that, well, the less money you spend on fundraising, the more money there is available for the cause. Well, that's true if it's a depressing world in which this pie cannot be made any bigger. But if it's a logical world in which investment in fundraising actually raises more funds and makes the pie bigger, then we have it precisely backwards, and we should be investing more money, not less, in fundraising, because fundraising is the one thing that has the potential to multiply the amount of money available for the cause that we care about so deeply. I'll give you two examples. We launched the AIDSRides with an initial investment of 50,000 dollars in risk capital. Within nine years, we had multiplied that 1,982 times, into 108 million dollars after all expenses, for AIDS services. We launched the breast cancer three-days with an initial investment of 350,000 dollars in risk capital. Within just five years, we had multiplied that 554 times, into 194 million dollars after all expenses, for breast cancer research. Now, if you were a philanthropist really interested in breast cancer, what would make more sense: go out and find the most innovative researcher in the world and give her 350,000 dollars for research, or give her fundraising department the 350,000 dollars to multiply it into 194 million dollars for breast cancer research? 2002 was our most successful year ever. We netted for breast cancer alone, that year alone, 71 million dollars after all expenses. And then we went out of business, suddenly and traumatically. Why? Well, the short story is, our sponsors split on us. They wanted to distance themselves from us because we were being crucified in the media for investing 40 percent of the gross in recruitment and customer service and the magic of the experience, and there is no accounting terminology to describe that kind of investment in growth and in the future, other than this demonic label of "overhead." So on one day, all 350 of our great employees lost their jobs ... because they were labeled "overhead." Our sponsor went and tried the events on their own. The overhead went up. Net income for breast cancer research went down by 84 percent, or 60 million dollars, in one year. This is what happens when we confuse morality with frugality. We've all been taught that the bake sale with five percent overhead is morally superior to the professional fundraising enterprise with 40 percent overhead, but we're missing the most important piece of information, which is: What is the actual size of these pies? Who cares if the bake sale only has five percent overhead if it's tiny? What if the bake sale only netted 71 dollars for charity because it made no investment in its scale and the professional fundraising enterprise netted 71 million dollars because it did? Now which pie would we prefer, and which pie do we think people who are hungry would prefer? Here's how all of this impacts the big picture. I said that charitable giving is two percent of GDP in the United States. That's about 300 billion dollars a year. But only about 20 percent of that, or 60 billion dollars, goes to health and human services causes. The rest goes to religion and higher education and hospitals, and that 60 billion dollars is not nearly enough to tackle these problems. But if we could move charitable giving from two percent of GDP, up just one step to three percent of GDP, by investing in that growth, that would be an extra 150 billion dollars a year in contributions, and if that money could go disproportionately to health and human services charities, because those were the ones we encouraged to invest in their growth, that would represent a tripling of contributions to that sector. Now we're talking scale. Now we're talking the potential for real change. But it's never going to happen by forcing these organizations to lower their horizons to the demoralizing objective of keeping their overhead low. Our generation does not want its epitaph to read, "We kept charity overhead low." (Laughter) (Applause) We want it to read that we changed the world, and that part of the way we did that was by changing the way we think about these things. So the next time you're looking at a charity, don't ask about the rate of their overhead. Ask about the scale of their dreams, their Apple-, Google-, Amazon-scale dreams, how they measure their progress toward those dreams, and what resources they need to make them come true, regardless of what the overhead is. Who cares what the overhead is if these problems are actually getting solved? If we can have that kind of generosity -- a generosity of thought -- then the non-profit sector can play a massive role in changing the world for all those citizens most desperately in need of it to change. And if that can be our generation's enduring legacy -- that we took responsibility for the thinking that had been handed down to us, that we revisited it, we revised it, and we reinvented the whole way humanity thinks about changing things, forever, for everyone -- well, I thought I would let the kids sum up what that would be. Annalisa Smith-Pallotta: That would be Sage Smith-Pallotta: a real social Rider Smith-Pallotta: innovation. Dan Pallotta: Thank you very much. Thank you. (Applause) Thank you. (Applause)