It’s evident that as real incomes rise so do the amount of contributions given to charities, as well as the rise of private foundations. However, we need to ask a few questions about charitable giving. Are charities efficient? What’s the difference between private foundations and charities? Why are private foundations better and more efficient than charities all together? In this article, I will answer all these questions with the data I’ve gathered from the NCCS.
I argue that private foundations are more effective at their end goals and missions than today’s charities, and that to further advance their causes, private foundations should run like corporations (which evidence also proves that this is the current trend/progress of such institutions). By having private foundations act like corporations, their ability to contribute towards shareholders (the recipients of charitable spending, according to the private foundation’s mission) and relative stakeholders (the buying public and others) are amplified.
Why Private Foundations Outcompete Public Charities
Before we get into the statistical analysis on why private foundations outcompete public charities, we must first understand established reasons on why this is the case. Private foundations outcompete public charities due to the fact that private foundations require some sort of element to run as a corporation, or in the similar manner of profit seeking firms. Thus, the effective allocation of resources by private foundations (PF) is more effective than public charities (PC).
Let’s take hypothetical examples of a PF and a PC, and let’s assume I want to open my own car brand, called MoreMotors. My mission is, rather than keeping the profit towards my own use, I’ll instead, donate my profit, or expand/subsidize the process of building infrastructure for automobiles in poorly developed countries. However, as an automobile company, I still need to compete against the likes of Audi, BMW, and others (depending on the quality of cars that I develop). Therefore, I must act in the interest of controlling my cost, the same as my competitors. I couldn’t rely on volunteering engineers and others to come in at arbitrary times and at different work expectations. I must run staff normally like any other corporation. Thus, the key here is that incentives play a huge role towards achieving optimal output in the short term, and of achieving economies of scales in the long term; I can maximize my profit which can be given back towards the shareholders after all operating expenditures (excluding donations).
Now let’s take an example of a PC. Assuming I change my mind, I’d rather have car parts donated to me, recruit volunteer engineers and staff to build cars and attempt to sell or give them to poorly developed countries. The chance or ability to reach optimal output is highly unlikely. Staff are unlikely to have the time or incentives to contribute towards completing the car with arbitrary car parts that may not be compatible, nor would it be possible if the PC ran through donations, which then car parts are purchased, as those parts would be extremely expensive (due to the inability to constantly have bulk orders placed for such parts, thus it’s highly likely I’ll need to purchase at retail price).
Running as a charity is highly inefficient as the success of the charity depends on the mood of donors, and therefore PCs don’t have the ability to become value creators. This puts them into a position which forces them to become value takers.
A PF strives to become value creators, by creating a good/service which can be given back towards a consumer. It’s highly more likely that the firm would run more efficiently as consumers and the buying public would purchase from my new not-for-profit car company, while a PC would find it difficult to run with volunteering staff, and with purely on a donation-seeking basis rather than selling inventory like the PF. To further prove this point, we look towards statistical data on why PFs are more efficient and effective than PCs.
First we look at the type of revenues per capita and how much they have increased and decreased for PFs and PCs (changes between 1997 to 2013, all in PP adjust 2013 USD).
|Item||Private Foundation||Public Charities|
|Net sales/inventory sales||79.97%||-39.18%|
PFs saw a real increase in contributions by donations, gifts, and grants. PCs saw a larger increase by 89.23%. PFs had a much higher growth in per capita net sales by 79.97%, while PCs saw a decrease in per capita net sales by 39.18%. This alone shows that today, PFs are currently lining up to change their operational basis towards the selling of goods and services. Although of course, this transformation is still far from a reality, but slowly growing as described by theory and why.
After exploring how PFs saw a larger increase of net sales compared to donations (and vice versa for PCs), we must now estimate how much of the expenditures for both type of groups actually make it towards their intended community in question. Unfortunately for PCs, I was unable to find any figures from the NCCS on how much of an increase of spending on donation expenditures, while for PFs, this was simply an estimate by looking at the difference between total expenditures from operating expenditures. As a result, for PCs, I have made estimates on expenditure increases towards the intended community in need as per the missions of PCs. Below is the Real Per capita increase results:
|Item||Private Foundations||Public Charities|
|Expenditures on intended community target||96.84%||46.78%|
PFs from 1997 to 2013 have increased their expenditures towards their intended missions compared to PCs at a higher rate. The reason for this is due to efficiency. It should be noted that PCs have also increased their revenues per capita by 42.17% while PFs saw a mere total increase in revenues by just 15.03%. This means one thing is for certain: PCs should see a smaller decrease in surplus compared to PFs. Below is the decrease of surplus (before other costs) between PCs and PFs.
|Per capita||1997 PC||2013 PC||1997 PFs||2013 PFs|
|Surplus difference before others||39.98||46.51|
* NOTE: Tracking the movement of the top charities on Charity Navigator, I was able to calculate that for charitable expenditures, an estimate of 8.4% increase was made, thus I’ve reduced surplus by 8.4%.
PFs reduced their surpluses after charitable expenditures (and before others) by 23.05% while PCs have only reduced surpluses by 11.20%. This shows that PFs have successfully allocated more funding towards their mission, or have decreased operational expenditures.
We can see that PFs are more efficient than their counterparts as PFs raised less revenues (15.07%) and have increased the amount of expenditures towards their charitable cause (96.84%). This is because, as stated, the nature of running PFs as companies creates an incentive to achieve optimal outputs compared to PCs, which don’t have the ability to create value. All together, I believe that for charitable causes, PCs should change to PFs, and that PFs should run like corporations as well.
Why Private Foundations Should Run Like Corporations
I believe a PF could further progress in its ability to contribute to their cause/mission if they operated in more of a corporate style. While we do see this with an increase in the amount of revenues per capita from the sales of inventory increase and the decrease of surpluses after charitable expenditures (showing that a higher amount of surplus after operational expenditure is achieved), PFs still operate highly on donations like their counterparts. As of 2013, 50% of PFs fundings come from donations, while only 5.87% comes from sales of inventories (despite the massive increase in sales of inventories). Therefore, PFs are essentially charities.
PFs should become profit seeking firms to maximize their returns towards the intended shareholders/stakeholders (the community).
By becoming profit seeking, the PFs would need to expand their capacities to become business ventures. As shown by the example of MoreMotors, the key is to reach long term optimal efficiency. This means PFs must look at how they can satisfy and attract business ventures so that long term investments can be utilized for their charitable spending. This can be made by issuing non-preference shares, or by other means of finance without giving shareholding control towards such investors. With new investments, new purchases and utilization of capital equipment installed in order to expand the abilities of the firm, a PF can be transformed from a quasi-charity organization into a quasi-for-profit venture.
By further removing any remainder PC like foundations from PFs (such as relying on donations, which are an uncertain type of income), PFs can find new and more stable sources of revenues by selling inventories like a normal business firm. In order to maximize shareholder returns, PFs should also maintain their operational costs so that PFs can maximize the amount of profit available towards the charitable parts of the business. This means that PFs should look into having corporate-styled foundations as a priority rather than its current quasi-charity styled foundations.
Who benefits from the new proposed forms of profit seeking PFs? Investors who purchase non-controlling shares get a return on their investment (as by the contract of the issuance, example, 5% per year on investment amount), and employees benefit by being paid, yet at the same-time knowing that they’re working for a good cause. However, most importantly, from an economics standpoint, we must ask the question if such ventures create wealth for the economy?
The answer is yes, PFs in the form of creating goods and services towards the buying public creates wealth, while also allowing for investments and for charitable causes to be more efficient towards their intended community also creates wealth. In the end, PFs becoming more profit seeking rather than quasi-charity has the ability to expand for its shareholders, and allows for entrepreneurial actions to expand as well. By transforming today’s PFs into profit seeking entities with their own unique shareholders in question, wealth creation is ultimately endless in terms of monetary and non-monetary measurements.
What would this mean for new industries, and current players in industries? Would they also change their ways?
To further expand the benefit argument, this could also benefit the economy as a whole as markets would be quicker at seeking opportunity and thus successfully obtaining profits (or in this case, surpluses for the PFs). This will potentially amplify creative destruction processes as a higher degree of competitors entering the market will likely spur competition for newer innovation. Transforming PFs into profit-seeking firms, we expand real wealth all together in many multiple ways (this would require further writing on the subject rather than one article).
PFs have the ability to be more efficient and effective than their counterparts. This is due to the inherent quasi-charity/quasi-profit-seeking firm characteristics found within these foundations. PFs should become more like profit-seeking firms so that the wealth creation in the short and long terms (short being having surpluses given to the community in question, long term being the creation of goods and services with returns to non controlling investors, the development of wages, and others) would amplify many positive direct and indirect effects. The data above shows that PFs have outperformed in terms of controlling their operational expenditures when compared to charitable expenditures, thus showing that higher surpluses after operations are used towards the intended community.
For calculations, all data was obtained from Charity Navigator, and NCCS. For the calculations, I’ve adjusted all monetary figures from 1997 US dollar towards 2013 US dollars (The year in question), furthermore, I’ve also calculated in terms of per capita. This was done by using US population in the years of 1997 and 2013. The reason on why per capita calculations were used is that it would give a fair overview on how nonprofits are performing by adjusting on how much the buying public are donating (or in certain cases in the article, purchasing) from such non-profit organizations. For the estimate reduction of surpluses for public charities, I’ve looked at the top movers of charities on Charity Navigator as of 2015, explored the history of those top charities by looking at their expenditures on their main aim/goal (program expenditure, or as I’ve described, Charitable Expenditure), looked at the average age of the records and derived an estimated increase in charitable expenditures from 1997 to 2013, thus applying the sample as the assumed results for the majority of charities.
This post was written by Baland Rabayah.
The views expressed here belong to the author and do not necessarily reflect our views and opinions.
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