For profit or nonprofit? What is the answer for social entrepreneurs [Opinion]

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Word on the street – or in the district, based on the buzz at BDD – is that the hot topic today in social entrepreneurship is ‘to be or not to be’. That is, to be for-profit or nonprofit. Let me take this opportunity to try to place a muzzle on the mouth of this topic!

Your legal registration status is determined by your business model. It’s not the other way around. If you can generate enough revenue to cover your costs and have a surplus, you have the option of being for-profit. If your revenue-generating model barely covers your costs, or only covers a percentage of your costs, then you’re stuck being a nonprofit. Most social enterprises I’ve worked with in Lebanon are nonprofits because they’re barely breaking even. They need to supplement their revenue with grants and fundraising. If they do ever break even and generate surplus, they have a host of social programs, services, products and activities they’d like to spend that money on. It’s their dream to never have to write a grant proposal or host a fundraising event again!

Before we proceed any further: some definitions. A social enterprise is an organization that provides a social product or service for a fee. What makes a product or service ‘social’ would be its aim to reduce disparities, not limiting itself to a privileged audience, but providing access to marginalized populations in order to change the status quo and shift the equilibrium. This usually involves designing the product or service with the participation of those communities, and co-creating solutions in ways that meet their needs. To ensure that your product or service fits these criteria, you can consult the AAAQ checklist from the human rights framework. Are you making the social product or service available, accessible, acceptable, and of quality to your target audience? Accessibility includes affordability. Acceptability must factor in the social and cultural norms and values of the community. Quality includes durability, to avoid poverty traps. So, generally, your goal is to provide the highest quality product or service at the lowest cost, to reach the most people possible. And to reach the people you’re targeting, you not only have to design the product or service with and around them, but also the distribution channels.

Now, let’s say you actually manage to generate a surplus. Firstly, let me congratulate you. Even pure traditional commercial businesses in the region are struggling to do that! Secondly, let me assure you that you have many options. Generally speaking, profit drives scale. Even if your profit margin is small (and in most cases it is, given the parameters you’re working with), it gives you access to different forms of funding, which can fuel your growth. In many Arab countries, you have few options for legal registration status. My advice is to create your own internal governance documents specifying how you will re-invest your surplus. Every social enterprise (like every commercial enterprise!) reinvests a portion of its surplus into growth. The primary distinction between a social and commercial enterprise is that for the former, growth is measured by a social outcome. Your bottom line is social change, and revenue is a means to an end, not an end in and of itself.

Determining the surplus proportion to reinvest in growth is up to you. Some social entrepreneurship leaders advocate non-dividend growth. They say that, after investors are paid back, all surplus should be reinvested in the social mission. Basically, no one should be getting rich from a social enterprise. On the other side, you have people who emphasize that profit drives growth, and that the only way to effectively reach people without access to basic services is to have a large volume and a low margin model that adds up to a substantial overall surplus.

For my book, Introduction to Social Entrepreneurship, I interviewed one advocate of either approach. On one side was Muhammad Yunus, who won the Nobel Peace Prize along with Grameen Bank for his role in the microfinance sector in Bangladesh, creating banking for the poor. He feels very strongly that when making decisions in social enterprises, there is often a tradeoff between social impact and financial growth, and that we should always choose social impact. If we’re dealing with a business model that allows for dividends, people will not be using 100 percent of their creativity and problem-solving ability to focus on impact. They will be thinking about profit. On the other side was Jigar Shah, who created a business model that allowed for the proliferation of solar energy in the U.S. and worldwide. Formerly the CEO of Richard Branson’s Carbon War Room, and the founder and CEO of Sun Edison, Jigar is the cofounder of Generate Capital and the author of ‘Creating Climate Wealth’. In his interview, he gave me the example of Mo Ibrahim, the mobile communications entrepreneur who provided access to mobile phone technology for formerly underserved populations.

I think that there is no black and white, and the answer lies in between. Even in nonprofits in Lebanon today, these tradeoffs are often made when revenue comes from donors.

I believe you should invest 100 percent of your surplus in growth, and there are many ways of doing that. For example, it’s hard to retain top talent in social enterprises. Attracting top talent is easy – everybody wants to make a difference – but retaining it is harder. Would I shoot down the idea of giving rewards or bonuses to my team? No, at least not without careful consideration. But bonuses could be tied to social outcomes, rather than financial outcomes. Competitive salaries are important, and make a difference in your ability to achieve your mission, because people matter and talent matters. We shouldn’t have to ask people to sacrifice their own financial futures and financial health to serve others.

At the end of the day, it all goes back to your business model – and my opening statement: if you’re utilizing a differential pricing model to cross-subsidize certain segments of the population by serving others, or certain activities with others, you will probably still be able to fuel growth using a nonprofit registration. If your business model is lock-step, where more sales are directly and proportionately tied to more impact, a nonprofit model may suffocate you. In this case, you’ll want to register as a for-profit and draw up those internal governance papers that determine what proportion of surplus you’ll directly re-invest. It will differ depending on the situation, context, product or service, and target audience. But when deciding how to allocate surplus, make it with your bottom line in mind. This should be the social outcome you’re working towards, and the change in society you’re seeking to create. A good way to do that is to remember the #1 rule of social entrepreneurship: it’s not about you. Imagine yourself out of the picture – how would you set it up? Ask the target audience you’ve co-created your solution with – what do they think the setup should be? Just like your solution was designed, tested, and iterated with your target audience until you made it work, so should every aspect of your organization be decided using that same co-creation approach.

Feature image via Stockvault.

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