Foundations Invest in For-Profits

The Editors

For-Profit Grants Gain Traction

We covered this impending trend in an interview with Ralph Smith of the Annie E. Casey Foundation in NPQ’s Winter 2008 issue. In the interview, Smith suggested that foundations should become more “sector agnostic” and open to more socially beneficial financial and program interactions with businesses. The area of foundation PRIs—usually loans and loan guarantees that count toward foundation minimum-payout requirements—is one obvious venue for increased foundation support of profit-making ventures. Recently we noted new examples of PRIs granted to business firms from notable foundations.

Reportedly a new approach for the organization, the Bill & Melinda Gates Foundation has begun making loans and loan guarantees through PRIs. Interestingly, Gates is willing to use PRIs for for-profit ventures and risk ensuring that their use remains fundamentally charitable, as in this description of some of the announced PRIs: “Its investments so far include $20 million to a German company to expand banking services for entrepreneurs and low-income groups in Africa, $20 million to an international consortium to boost commercial microcredit lending in Africa and Asia, and an $8 million equity fund to invest in health-related ventures, such as distribution of bed nets to protect against malaria in Africa.” In the United States, its planned PRI portfolio includes support for charter school expansion. The foundation has committed a total of $400 million in planned PRIs.

In an article about investments in the expanding biotech industry of Maryland, it went little noticed that the largest investor for BioMarker Strategies, a diagnostics company, was the Abell Foundation in Baltimore, which gave $1.7 million.The willingness of Abell to support one such firm highlights the notion that foundations can use PRIs or MRIs to help local economies such as Maryland’s recover from the economic downturn and support new economic development ventures.

Problems with PRIs, L3Cs

But these socially conscious but profit-motivated entities create definitional problems as well as real questions about how they can coexist with the nonprofit sector. Low-profit limited-liability corporations (L3Cs), for example, are for-profit entities whose social mission ranks higher than their profit objective. Foundations are attracted to L3Cs because in theory these foundations can make loans to them (or PRIs) much as they do to 501(c)(3) public charities.

Rob Collier, the CEO of the Council of Michigan Foundations, advocates L3Cs but notes a lack of definition as to what constitutes a “socially beneficial purpose” to characterize these organizations. Even among the lists of approved L3Cs in various states, there are several whose socially beneficial purpose is difficult to discern. Crain’s, a business media company, cites a problem that NPQ noted early on: some L3Cs might create business ventures that compete with nonprofits, as is the case with the new Michigan IT L3C, Ardent Cause, and the long-standing Michigan nonprofit NPower.

Although L3C advocates cite L3Cs’ ability to attract different kinds of investment from various categories of investors, one L3C promoter made clear what L3Cs are really interested in:“If we’re going to be 100 percent honest, this advantage of foundations being able to invest in these efforts was the impetus for looking at L3Cs.” While this was unsurprising to us, what did surprise was information that the Council on Foundations was pursuing national legislation that would basically establish L3Cs as eligible for PRIs. NPQ was told that the council had dropped its request for national legislation and was instead waiting to see how the IRS would deal with proposed PRIs for L3Cs. The implication is that federal legislation would deal with some of the questionable L3C social-benefit purposes and undefined accountability and transparency issues.

Even if a foundation does not intend to invest in a for-profit, the current environment may more likely lead charitable donations down that path. The Knight Foundation, for example, gave $1.1 million to EveryBlock, an entity that aggregates and provides news feeds for local news. The terms of the EveryBlock grant required that the service be open source and that it release the code that powers the site so that others could use it free for their communities.

But after the conclusion of the grant, the founder of EveryBlock sold the entity to MSNBC. As a result of the sale, MSNBC required open source technologies to be used only prior to the disposition in June 2009, and after that date, future improvements to EveryBlock will not necessarily use open source technologies. According to the Neiman Journalism Lab, the Knight spokesperson described the EveryBlock sale as a “multimillion-dollar deal,” with the implication that EveryBlock’s founder came away with a generous portion of the sale proceeds. Knight wants its grant-based innovations picked up and supported in the market, but in the future, the use of grant money may require a different kind of accountability. “When a Knight-funded project is acquired in the future,” says a Knight foundation spokesperson, “the founders may be required to relinquish some of that money: It might be a certain percentage, it might be a certain dollar figure, it might be the amount of the grant. . . . What we’re thinking about is creating another nonprofit that would receive that money, and that money would be either for the future development of open source software . . . or it might be for community news.”

This is clearly an area where ethical questions would abound and potential problems and quagmires could crop up. Expect to hear more from us in the future on foundations’ investments of PRIs in for-profit alternatives to 501(c)(3) nonprofits.