Should Foundations Focus on Preserving Assets or Their Grant Recipients?

Foundations are still reeling from the precipitous stock-market decline of the last two years. For many, assets have dropped by more than one-third, and the mood is one of pessimism and concern. Some grant makers are increasingly recognizing that this may be a long-term change in circumstances much too great to be handled by modest cutbacks. Instead, foundations must confront a choice about whether to preserve their usual practices or fundamentally rethink their approaches.

A similar dilemma hit the business world during the economic decline at the end of the 1980s. The result was a revolution in “re-engineering” corporate America: The idea was to eliminate layers of middle management, creating flatter organizations that would bring management closer to the customer. The result was a painful contraction followed by a rapid increase in productivity that paved the way for the economic expansion of the 1990s.

Perhaps it is time to re-engineer foundations so that, when the market eventually turns, foundations are poised to play an even more effective role than they did before.

The instinctive response of any organization facing tough times is self-preservation, and foundations — free of competitive pressures — can find many ways to protect themselves from internal changes. Most foundations have begun to cut back their grant dollars in proportion to the decline in their asset values. Some are going even further by reducing the percentage they distribute as well. A brave few that gave more than the federally imposed 5-percent annual minimum have decided to drop back. Other foundations not subject to this payout requirement, such as community and supporting foundations, are considering cutting back to 4.5 percent or even 4 percent to further protect their assets.

For a few foundations, however, an even subtler shift is occurring. The 5-percent minimum distribution includes the foundation’s operating expenses as well as grants. So, a foundation can preserve its internal operations in the face of a reduced payout merely by decreasing the proportion of its spending on grants and increasing the proportion going to its own overhead. That means, of course, that the charities are hit harder by the drop in assets than is the foundation itself.

To be certain, many foundations are reducing expenses. A survey of 225 CEO’s of large foundations recently released by the Center for Effective Philanthropy shows that 50 percent of foundations are planning to cut costs. But merely cutting costs across the board is not necessarily the right answer either. Re-engineering, after all, required a complete rethinking of operating processes and organizational structure. The analogous question for foundations is whether current practices most efficiently create social value.

The center’s study suggests that large foundations spend $13 on administrative costs for every $100 they distribute in grants. Dividing the number of grantees by the total number of foundation staff shows that, on average, large foundations devote about a month of staff time per grant. But this ratio varies widely among foundations: One large foundation spends a year of staff time per grant and another spends only three days. Where within this huge range is a reasonable balance? Is every step in the grant application, selection, and monitoring process essential?

Many foundations are shifting to a one- or two-page letter of inquiry to replace a full grant request as the first required submission. What other practices can foundations devise or learn from one another to make the grant-application process more time efficient for both grant applicants and the foundation’s staff?

Streamlining the grant-approval process may help, but much greater improvement is likely to come from rethinking the grants themselves.

First would come the question of focus. Foundations tend to support a wide variety of unrelated fields with a large number of small grants. As asset sizes increase, both the number of fields supported and the number of grants made increase proportionately. Even among the 100 largest U.S. foundations, 40 percent of grants are less than $50,000. But each new field and each new grant results in a substantial increase in the amount of work — both for the foundation and for a whole new pool of grantees who apply for support.

The prevailing view, of course, suggests that the more grants a foundation makes, the more grantees it supports, and the more fields it is in, the more “helpful” it is. But the costs of this approach are very substantial, and the facts may not support the conclusion. If foundations were to take a hard look at the fields they are in, and narrow themselves to the ones in which they are most effective, they would greatly reduce their costs and increase their effectiveness. Similarly, if they were to double the average size of their grants, they would halve their workload.

Second, much of a program officer’s workload is spent writing up grant requests for the board to review and approve. Many foundations, however, have begun to acknowledge that staff members have more expertise in grant selection than do boards, and that the trustees rarely disapprove any recommended grant. Giving staff members discretion to make grants below a sizable threshold frees both board and staff time for more productive pursuits.

Third, consider whether repeat grantees should be required to go through the same application process as new ones, even though the foundation has already investigated the organization and determined that it is worthy of support. Must each foundation investigate a grant request independently, or through collaboration could some merely follow the lead of other, more expert foundations within a given field? Could standardized grant-request forms or online applications be more efficient? Colleges have moved to a “common application,” so perhaps foundations could as well. Each of these suggestions is only the beginning of a thorough review of how foundations might rethink the policies they take for granted in order to conduct business more effectively in these challenging economic times.

Finally, now might be an appropriate time to revisit the debate over how much foundations distribute annually — not as the luxurious byproduct of an overheated stock market, but as a commitment to mission and dire need.

A study of individual, corporate, and foundation contributions during the last three recessions shows that foundations reduce their giving in down times substantially more than other kinds of donors. If, instead, foundations were to increase their grant making over the 5-percent required level now, they could carry the excess forward and distribute less than 5 percent in future years. Such a strategy, while counterintuitive, would capitalize on the long-term view that foundations so often describe, enabling them to free up precious dollars in times when other donors cannot, and refill their coffers in more generous times when others are more expansive.

Program-related investments, so rarely used, offer another source of leverage. Compared with the stock market of late, low-interest loans to nonprofit groups seem increasingly attractive, even as a matter of investment returns. Offering grantees a three-to-five-year loan right now could well make the difference between their survival or failure. Might foundations commit 10 percent of their portfolios to such loans, effectively tripling the dollars that go to grantees this year?

No business welcomes a recession, and the re-engineering process was a painful one for the corporate world. But times of economic difficulty are what force improvements in strategy and operational efficiency. Foundations are insulated from the consequences of market forces and can easily circumvent the changes that tough times would otherwise require. By reallocating grant money to overhead, foundations have the option of preserving themselves at the expense of their grantees. The grantees, of course, rarely have an investment portfolio to fall back on, and therefore do not have the luxury of a similar choice.

Now is the time for foundations to think seriously about how they do what they do and, more fundamentally, whether preserving their endowment is more important than preserving their grantees.

Mark R. Kramer is a founder of the Center for Effective Philanthropy, a nonprofit research organization, and managing director of the Foundation Strategy Group, a consulting firm in Boston. He is a regular contributor to these pages. His e-mail address is kramercap@aol.com.