Business Operations

Nonprofit or for-profit?

Introduction

The groundswell of interest in applying business practices to social mission activities, together with the social mission accomplishments of a few well-known for-profits and the limitations that nonprofits face, have contributed to a recent field-wide flirtation with for-profit legal structures (or at least the idea of for-profit structures) as a fit for social mission work. REDF itself has encouraged nonprofits to consider incorporating appropriate commercial business practices and, in some cases, earned income strategies. However, use of commercial practices is very different from adoption of a commercial legal structure and its obligations.

The choice of a nonprofit or for-profit form does matter. It is part of each social enterprise’s message to the world about who they are, it imposes specific requirements that differ radically depending on which structure you choose, and the choice of one form over the other affects an organization’s path into the future.

Perhaps a necessary step for achieving any goals—whether profit or social mission—is increased clarity about what we can expect from the organizational and legal structures we use. We hope this resource will bring clarity to the discussion and help practitioners and philanthropists avoid costly missteps. Let’s explore some central issues to consider when choosing a nonprofit or for-profit structure.

 

A Yardstick to Measure a Fit

Despite their differences, a continuum exists between pure social mission and purely profit mission organizations. It is a valuable way to look at activities and their social mission-profit mission mix.

Mission Profit Spectrum

Placing an organization further to the right or left on the continuum identifies it as more heavily oriented toward social mission or profit mission. It also depicts the trade-off that often occurs between social mission and profit mission decisions, because doing more of one is apt to result in less of the other. When a mix of social mission and profit mission is planned, it is critical that founders’ intentions are made clear to all stakeholders. Knowing where an organization stands on the on the continuum is as critical to its identity and strategy as its product and service descriptions. Designation as a nonprofit or a for-profit is one way of being clear about an organization’s plans.

 

Mission Decides Fit

Mixing social mission and business enterprise activities necessitates more clarity about direction and priorities. It can be tempting to let funding sources, or theories about potential funding sources, lead the way. The thinking behind this approach goes something like this: If the concept can attract philanthropic dollars, structure it as a nonprofit. If it can attract business investor dollars, structure it as a for-profit. If it can attract both, set up one of each. While this reasoning might accidentally result in an appropriate structure, it is not a thoughtful, strategic way to approach organization design or engagement. It allows entrepreneurs and funders to avoid open discussion of critical nuances about intentions and expectations and it can foster misunderstanding and wasted effort.

Mission should decide fit. Decisions about structure should flow from mission. At one extreme of the profit—social mission continuum, a purely profit mission is best served with a for-profit structure. At the other end of the spectrum, a purely social mission focus is best served with a nonprofit structure. Supplementing a profit-focused organization with social mission activities is not a reason to take on nonprofit form; supplementing a social mission-centric organization with financial mission activities is not a reason to take on a for-profit form.

But how does one sort out these nuances and place an organization on this social mission-to-profit continuum? Insight into four aspects of an organization can point the way:

  1. Is the organization’s primary mission social or profit?
  2. What are the founders’ perspectives, skills, and motivation?
  3. What is the market for primary mission activities?
  4. How closely-held is the organization?

 

1. Is the organization’s primary mission social, or profit?

Is social mission or profit the main purpose of an organization? What must the organization accomplish to satisfy founders, directors, and key stakeholders? Is profitability or social mission impact most critical to them? If the organization can only accomplish social mission impact or profitability, which would stakeholders choose? Can the organization continue to exist if it is not profitable, or if it does not perform social mission work? How little profit is acceptable? How little social mission activity/accomplishment is acceptable? If profit generation is a must, probably the for-profit structure is most appropriate. If social mission accomplishments are a must, probably a nonprofit structure is appropriate. If both profits and social mission accomplishments are required, some tradeoff in degree is likely to be necessary (minimal profits in order to allow for social mission results, or minimal social mission results in order to allow for more profit). The prioritization of these tradeoffs should be an indicator of the most appropriate legal structure.

 

2. What are the founders’ perspectives, skills, and motivation?

Organizations, whether nonprofit or for-profit, are started by individuals. Why do these individuals start the organization? Are social mission and business activities being mixed in an existing organization as an adjunct to existing profit or social mission goals? What perspectives, skills, and motives do founding individuals bring to the organization’s start up and growth? Founders’ perspectives are the ground on which all subsequent structures and activities are set. Although ownership, management, and stakeholders often change over time, it is original founders’ point(s) of view that starts an organization down one path or another. That path should be one that founders can skillfully navigate.

 

3. What is the market for the primary mission product or service?

The market for an organization’s primary product or service can be another pointer toward which structure is most appropriate. Most social mission activities organizers have a market challenge – either:

  1. The direct beneficiaries of the activities cannot pay competitive prices for them or
  2. Potential customers do not value the product or service enough to pay its competitive price

For example, employed people who are struggling to pay rent probably cannot afford to pay for job search help. So although poor people’s need for job search services might be high, providers cannot depend upon “market forces” to bring paying customers to them. Instead, funders such as government agencies or foundations become the proxy customers, paying on behalf of those who will receive the services. But this “paying on behalf of…” introduces illogical, unpredictable elements into the dynamic between seller of services and user of services. In the job search assistance example, the fees paid for assistance will not necessarily reflect how clients feel about the service or what they would pay if they could pay. It may reveal more about donors’ interests and capacity. Typical supply and demand reasoning does not address the complexity of social mission market forces.

 

4. How closely-held is the organization?

In addition to mission, an organization’s ownership and leadership complexity must be considered. The more complex its mission objectives are, the more uncomplicated its leadership structure should be. How many individuals are involved in establishing and subsequently directing the organization? How diverse are their points of view? A complex combination of social and profit missions is most likely to be successful when fewer individuals, with minimal diversity in points of view, establish and direct an organization. Complicated, diverse ownership and leadership require more strategic clarity and consistency. A for-profit firm holding social mission goals, for example, is more likely to succeed at mixing the two when it is closely-held by like-minded individuals.

 

Conclusion

The choice of a nonprofit or for-profit form does matter. It is part of each social enterprise’s message to the world about who they are, it imposes specific requirements that differ radically depending on which structure you choose, and the choice of one form over the other affects an organization’s path into the future. Hopefully this learning guide increased clarity about what we can expect from the organizational and legal structures we use.

Related Content

2017-02-21 13:20:39

Case studies on how Evergreen Lodge and Rush Creek Lodge developed corporate governance and legal structures.

Read Full article >

2016-12-14 10:04:31

Article

Reevaluating Legal Structures: A Case Study

What should you do when your legal structure is preventing growth?

Read Full article >

2016-10-10 17:33:25

Article

Growing a Social Enterprise: The Vision Stage

How to understand the likely social outcomes, financial resources required, and key levers of profitability before committing to a specific business.

Read Full article >