Greed for Good
A big problem for the future of capitalism and the earth is that corporate balance sheets and national accounts do not generally take account of natural capital, such as the value of ecosystem services provided by the Earth, or of the many intangible forms of human capital that matter in the Ideas Economy. Only when capitalism stops flying blind can mankind hope to start flying in the right direction. In fits and starts, governments and companies are moving toward cradle-to-cradle analysis of the true costs of goods and services.
Advocates of market-based solutions to grand global problems suggest that business can shift from being part of the problem to being at the heart the solution if capitalists take a longer-term and more honest view of the impact of business on society. On this argument, as governments embrace proper metrics and measurement of wellness and sustainability indicators and adopt laws that force companies to take account of such externalities as carbon emissions, incentives will shift. Greed can be harnessed as a force for good. But the key to this transformation is the powerful role individuals can play as innovative entrepreneurs.
Leading the charge toward hybrid business models of the future is a new breed of capitalist. Social entrepreneurs are motivated by the desire to bring about social change and to tackle the world’s wicked problems, but they are hardly bleeding hearts. They see the profit motive and market discipline as important tools in designing socially responsible enterprises that are sustainable in the long term. And unlike some nongovernmental organizations of the past, they are generally willing to work with traditional corporations to advance their social agenda.
In time, goes the argument, the greater reward will go not to those who grab the quick and dirty buck but to those who earn the sustainable and sound billion. Financial experts see the beginnings of a new trillion-dollar asset class, akin to the earlier rise of emerging markets and hedge funds, in the growing band of “impact investors.” Some even claim that these are the foundation stones for a new kind of socially aware capitalism that could prove the hallmark of the twenty-first-century global economy.
This does not mean that it will always be profitable for all businesses to solve all social problems. Alas, the rules of economics, just like the rules of gravity, still apply. Even so, the rise of social entrepreneurs is a powerful trend. Both big business and government need to pay attention, for the disruptive ideas and business models bubbling up from the bottom of the citizen sector have the potential to change the world.
Back in 1981, Jack Welch gave a speech at New York’s Pierre Hotel that captured the zeitgeist of the age every bit as well as “greed is good,” Gordon Gekko’s catchphrase from the movie Wall Street. Welch shot to business superstardom when he took over an ailing GE and started firing thousands of employees. His approach to downsizing was so tough-minded that he came to be known as “Neutron Jack”—after the neutron bomb, which is thought to kill people but leave buildings intact.
In that seminal speech, entitled “Growing Fast in a Slow-Growth Economy,” made shortly after he took over the top job at GE, he spelled out his philosophy of cutting fat, selling off underperforming units, and aggressively driving up short-term profits at a pace that outdid national or global economic growth. He vowed that GE “will be the locomotive pulling the GNP, not the caboose following it.” That call to arms, followed by a twenty-year tenure in which he relentlessly and successfully pursued quarterly profits, made him the poster boy for a certain brand of capitalism known as the shareholder value approach.
That approach has it strengths, to be sure. Managers have clear accountability and cannot easily loot their companies or pad their pockets. Shareholders are able to benefit directly from their investments through quarterly returns. Unlike confused conglomerates or murky family-run companies, public corporations with managements that must regularly report to shareholders on a quarterly basis are usually held to account. The result should be proper stewardship of precious assets. Welch certainly inspired many, and he was lionized as one of the heroes of American capitalism when he retired in 2001.
Yet in the wake of the global financial crisis it seemed he was offering something of a mea culpa for his advocacy of shareholder capitalism. In an interview with the Financial Times in 2009, he declared that the emphasis placed by companies on quarterly profits and share price targets had gotten out of hand. “On the face of it, shareholder value is the dumbest idea in the world,” he declared. “Shareholder value is a result, not a strategy . . . your main constituencies are your employees, your customers, and your products.”
Those are remarkable words coming from Neutron Jack, but perhaps the shift is understandable. After all, the excesses of the age of Enron and Lehman Brothers have shaken capitalism to its core. Roger Martin of the Rotman Business School at the University of Toronto argues that just as Welch’s first speech marked the era of short-term capitalism, his second speech now ushers in a new era. Martin believes the coming form of capitalism will focus much more on community, and so will need rules and regulation to protect that community. The watchword, he thinks, will be trust—especially institutionalized trust.
How exactly are companies supposed to build such trust in an age when many bosses seem rapaciously self-serving and out of touch with the concerns of society or the need to tackle pressing global challenges? And what should the roles of government and the nonprofit sector be? These dilemmas are leading to much soul-searching, and lots of big questions are being raised today. One way forward is through a reinvention of business models to embrace transparency, honest accounting, and patient capitalism. The deceptively small example of the Acumen Fund, a for-profit but socially conscious investment outfit in New York, shows that this can be done.
The Patient Capitalist
For the most part, champions of market forces are a glum lot these days. But not Jacqueline Novogratz, a market-minded development expert. The current crisis in capitalism, she believes, strengthens her call for a sweeping change in how the world thinks about poverty, economic development, and global challenges. “The financial system is broken, yes, but so too is the aid system,” she observes. In her view, “a moment of great innovation” could be at hand.
In The Blue Sweater, her autobiography, she describes her past frustrations working in such pillars of finance and development as Chase Manhattan Bank, the African Development Bank, and the Rockefeller Foundation. She found them bureaucratic, distant, and condescending to those they sought to help. So in 2001 she set up the Acumen Fund, a “social venture capital” outfit, to promote what she calls patient capitalism.
Acumen is an odd mix of charity and traditional investment fund. It takes donations from philanthropists in the usual fashion but then invests them in a businesslike way, by lending to or taking stakes in firms. The recipients—private ventures aiming for profits—must serve the poor in a way that brings broader social benefits. Acumen goes to great lengths to measure those benefits, and thus the efficiency of its work.
Acumen’s charges are a diverse bunch. In India, Drishtee runs a network of Internet kiosks in rural areas, while LifeSpring runs low-cost maternity hospitals. A to Z Textile Mills, a manufacturer of antimalarial bed nets, has grown to become one of Tanzania’s largest employers. Some ventures, including a Pakistani mortgage provider and an Indian pharmacy chain, have flopped. But many others manage to repay their loans (granted at below-market rates) or generate dividends. Acumen reinvests its profits in other companies, thus stretching the initial donations further.
The notion of applying business methods to philanthropy is attractive, but does it really work in practice? Acumen accepts that the use of performance indicators can provide a false sense of precision. After all, how can one prove beyond doubt that a water filter prevented a child from falling sick? But it is possible to use the results achieved by charities in the same field as a benchmark. Thus Acumen insists that A to Z’s bed nets must cost less than the $10 that Malaria No More, a big traditional American charity, says it spends delivering each one it gives away.
Novogratz thinks such measures help guard against the inefficiency and corruption that often afflict traditional aid efforts. On one of her first assignments abroad, she spent countless days poring over the books of a struggling Kenyan microfinance firm. When her findings pointed to mismanagement and cronyism, her detailed handwritten report mysteriously vanished and she was sent packing. She explains that Acumen uses measures, however imperfect, that “take the pulse of the patient” so that necessary strategic changes can be made on the fly rather than waiting for “a thorough autopsy” when a venture fails.
Such pragmatism is typical of Novogratz. “We’re not fundamentalist about anything,” she says. But it also points to another critique of Acumen: its improvised approaches, sniff theorists, cannot be scaled up and are therefore not up to the task of tackling global poverty. At first blush there is something to this argument. After all, the fund has barely $40 million in investments, a trivial sum compared with the billions of dollars spent by governments or big charities such as the Gates Foundation.
Look more closely, though, and there is reason to think that Acumen is punching above its weight. For one thing, its novel approach is fostering a proper debate among development experts about the role of market forces and accountability. Acumen has its admirers at big development agencies. Novogratz was recently even invited to address UNICEF, one of the biggest. Her firm runs highly coveted fellowship and mentoring schemes, and its alumni are spreading its ideas throughout the development field.
The firm’s influence in poor countries is also bigger than it first appears. By leveraging Acumen’s funds to obtain other financing, recipients are able to magnify their impact. Even more important, perhaps, is the firm’s catalytic role in sparking entrepreneurship in developing countries. Acumen devotes much time and money to training local managers, rotating experts from the developed world through its recipient firms, and disseminating successful ideas.
Novogratz hopes all this will help overcome cultural barriers that have held back business in some societies. She recalls how she advised a group of very poor women running a small, unprofitable bakery in Rwanda some years ago. She had to grapple with local social norms, such as the reluctance of its saleswomen to speak to strangers, but she ultimately succeeded in turning the business around.
When Novogratz returned to Rwanda years later, she discovered that the bakery had been wiped out by the country’s civil strife. Some of the seemingly inhibited women who had worked there had subsequently taken up machetes in the country’s genocide. Such unvarnished experiences of poverty point to the best reason to think Novogratz may yet succeed: unlike many in the development world, she does not romanticize poverty or patronize the poor.
She puts a strong emphasis on listening to those she seeks to help. Her advocacy of market-based approaches is inspired not by ideology but by the firm conviction that markets are the best “listening device” to ascertain the real needs and wants of poor consumers. This lesson is borne out by other social entrepreneurs serving the bottom of the pyramid. Traditional for-profit businesses hoping to conquer global markets would do well to pay attention.
That is because the Acumen story points to two powerful forces with the potential to upend the global economy’s incumbents. The first trend is the dramatic transformation of the nonprofit world from sleepy, underresourced, and inefficient to market-minded, well-funded, and eager to change the world. The second trend, driven in part by the first, is the emergence of hybrid business models and coalitions that blend both for-profit and nonprofit aims. If these two trends alone materialize, they would do much to help the world tackle many of the difficult social and global problems that governments and businesses have failed to solve.
But some people go beyond this, building on these trends to make two further eye-catching claims. Some visionaries now argue that mankind has evolved to a point where the pursuit of purpose matters more to people than the pursuit of profit. On this view, mankind is progressing toward a genuinely empathetic era. Other pundits look at these two trends and conclude that capitalism itself is evolving into a higher form. Companies that want to flourish in the future must, on this argument, look beyond such familiar concerns as making profits and must instead strive to create shared value that will benefit all of society by finding solutions to difficult social problems.
Leave aside for the moment those extraordinary claims, which will be examined carefully later in this chapter. After all, just the first two trends by themselves are a big deal. The rise of a dynamic “citizen sector”—as Bill Drayton of Ashoka calls nongovernmental organizations—promises to drive much growth and innovation in the global economy in coming years, and to disrupt plenty of established business models along the way. Drayton believes it is also ushering in “a sea change in the way society’s problems are solved.” His forecasts are not to be dismissed lightly. Drayton is perhaps the most respected figure in this fledgling field, and Ashoka the oldest and most successful cultivator of social entrepreneurs worldwide. Bill Clinton, writing in his book Giving, described the soft-spoken Drayton this way: “He is not well known . . . but to those who believe in the power of private citizens to improve society, Bill Drayton is a hero.”
Sipping tea at a quiet corner table in the Harvard Club of New York, dressed in a conservative suit and tie, the bespectacled Drayton hardly seems like a troublemaker. Yet his eyes light up and his voice grows passionate as he lays out his sweeping arguments for the rise of the citizen sector. Through almost all of mankind’s time on earth, he observes, a very tiny elite controlled almost all wealth and power. Systems, be they government or church, were top-down. Ordinary people lived in grinding poverty, deprived of basic necessities, or at best did mindlessly repetitive and arduous jobs. Around 1700, though, something happened. Thanks to the industrial revolution, new institutions such as the limited liability corporation, and the strengthening rule of law, competitive and entrepreneurial businesses grew. The rise of a dynamic business sector led to extraordinary improvements in quality of life, he points out, yet the nongovernmental sector stagnated throughout that period.
Only about thirty years ago, he argues, did the charitable and social sector begin to grow more productive. There were, of course, individual social entrepreneurs such as Florence Nightingale who long ago made a difference—Drayton is himself a veteran of the American civil rights movement—but he believes they did not have a systemic impact on the productivity of the noncorporate, nongovernmental sector. As governments began to step back around the world—be that because of ideology in Thatcher’s Britain and Reagan’s United States or because of the collapse of dictatorships and military regimes in the Soviet Union and Latin America—ordinary people filled the void. In India, he believes, the coming of age of the first postcolonial generation was the driving force, as dynamic young people decided that crony capitalists and incompetent officials of the Licence Raj were not doing enough to tackle the country’s social ills. Given the dissatisfaction with bureaucracies seen around the world, as well as the fiscal woes of governments in many places, it seems unlikely that this trend will reverse anytime soon. The number of citizen sector groups, and the number of jobs created by those groups, has indeed shot up around the world at a faster pace than other sectors. The scope and scale of those social enterprises are also growing impressively.
Drayton vehemently insists that the productivity of this sector is also growing dramatically, accomplishing in a few decades what it took for-profit enterprises several centuries to accomplish. Lots of anecdotal evidence supports this thesis, but one expects a former McKinsey consultant such as he to have hard data and PowerPoint slides at the ready. Alas, it turns out there is insufficient quantitative evidence to back up this claim—in part, as discussed below, because this sector has yet to agree on the proper metrics for measuring social impact. Brushing aside that objection, he argues such leapfrogging is happening because the social sector can learn by analogy, copying what works in the corporate sector, thereby avoiding having to reinvent the wheel (for example, by simply buying computerized accounting systems off the shelf rather than starting with an abacus). He observes that many more people are educated today than back in 1700, which helps his efforts. It also helps that the sector is now attracting world-class talent—especially from the younger generations—which was not always the case for nonprofits in the past.
Another big reason to believe that the productivity of this sector is improving is the useful role that market-minded donors—dubbed “philanthrocapitalists” by Matthew Bishop (the Economist’s U.S. business editor) and Michael Green in an influential recent book—are playing. As they put it, such folk “see the world full of big problems that they, and only they, can and must put right.” In short, a generation of billionaires who made their money the old-fashioned way are now trying to save the world in a newfangled way. By pushing the social sector to harness the profit motive to achieve social goals, the new generation of wealth wants to motivate greed for good.
Pierre Omidyar and Jeff Skoll, the men behind eBay, are among the most aggressive and influential of this breed. Omidyar was a key backer of Ashoka, and Skoll has set up a well-endowed center at Oxford University’s Said Business School to study and promote social entrepreneurship. Some, such as Acumen, are making sure those that get their money have viable businesses in addition to social goals. Others, such as the Gates Foundation, are pushing recipients to be much more rigorous about analyzing impacts than nongovernmental organizations used to be in the past. Some are forging entirely new business models. When Google set up its charitable arm, Google.org, it decided not to set it up as a not-for-profit entity under American law. The firm saw that there were areas of social need where its internal innovation efforts may well be boosted if its breakthroughs (smart electricity meters and self-drive cars are two examples the firm has come up with) are allowed to get to market and make a profit.
Odd Bedfellows
Ashoka’s founder, Drayton, believes the upshot of all this is that the social side of the world economy is becoming as entrepreneurial as the business side. As it does, big business can no longer ignore the social sector, dismissing it as small and unproductive. On the contrary, a growing number of forward-looking businesspeople are now joining hands with social entrepreneurs to create hybrid business models that aim to serve the long-neglected bottom of the pyramid—say, in ways that for-profit companies typically have not in the past (though some nimble dinosaurs now are trying).
A big obstacle to reaching such customers is that they are often in remote areas or slums not easily reached by traditional sales forces. Citizen sector organizations can act as demand aggregators, marketers, and even validators for a company seeking to persuade a reluctant community to embrace its offerings. For example, P&G is working with social entrepreneurs in a hybrid venture that is rolling out E-Health Points in Punjab, India. This start-up is establishing for-profit centers in underserved rural areas to provide health services as well as clean water. Its health workers roam the local area with backpacks carrying diagnostic equipment; a mobile phone captures and interprets the data, which can then be used for paid telemedicine consultations.
If you doubt that hybrid business models will succeed in very poor areas, consider this question: will seamstresses in Guatemala or poor farmers in India pay $3 for a pair of reading glasses? It seems unlikely. Such people are among the three billion or so who earn only a dollar or two a day, so $3 is a fortune to them. And yet VisionSpring, an American optical firm, is betting that they will pay that princely sum for its spectacles.
The notion that only subsidies or handouts can provide the world’s poorest with essential services such as health care is wrong, says Jordan Kassalow, the firm’s cofounder and a public health expert. Years of treating river blindness and other developing-world diseases as part of charity campaigns convinced him that such programs often falter when the money or political will dries up. He believes the bottom of the pyramid would be better served by campaigns that involve some payment, so that costs are covered and the schemes are financially self-sustaining.
Those public health campaigns also alerted him to the damage done by a common yet largely overlooked complaint known as presbyopia (which causes blurry close-up vision). “For every person that I treated for a serious eye condition,” he says, “there were fifty that needed simple, nonprescription reading glasses.” A pair of reading glasses, readily available in rich countries at pharmacies and corner shops, can solve the problem. But the rural poor have no such option.
“This is a failure of both government and the marketplace,” says Kassalow. Government health clinics are understandably preoccupied with life-threatening maladies, and urban optical shops in poor countries typically shun simple reading glasses in favor of costly, high-margin prescription glasses. But this neglect takes a dramatic toll even on illiterates: farmers can no longer identify pests and choose the proper pesticides, craftsmen cannot manage fine handiwork, seamstresses cannot sew. As their sight fades, so does their income.
Precisely because that extra income means so much to the poorest, Kassalow thought, they might be willing to pay for a product that restores their vision and earning potential. His firm, which already makes fashionable and expensive reading glasses for the developed world (they are sold at fancy optical shops on Manhattan’s Upper East Side, for example), has set up a philanthropic arm to sell glasses to people in the developing world. Using VisionSpring’s existing design, marketing, and manufacturing facilities, it is now operating in India, Bangladesh, Mexico, and Guatemala.
The key to the business is a concept Kassalow calls microfranchising. “We deliver a ‘business-in-a-box’ to local entrepreneurs, train them, and enable them to make money helping people see better,” he says. Each pair of glasses that VisionSpring provides to these entrepreneurs costs the firm about $1 to make and deliver. The franchisee pays it $2 or so and sells for about $3. Because every step of the value chain is profitable, the business model is sustainable. Profits are reinvested to expand the program. The company is on track to sell more than a million pairs by 2012 and five million by 2016.
To do so, it has forged partnerships with outfits that have strong retail distribution in rural South Asia (where it is making its first big push). Drishtee, an Indian firm with Internet kiosks in many villages, is now selling reading glasses, as is BRAC, a community-lending organization in Bangladesh. The firm has big plans for African expansion too. Perhaps the most intriguing of VisionSpring’s partners are marketing giants with ubiquitous reach, including Unilever and ITC, an Indian tobacco conglomerate. “People clearly have enough money to buy cigarettes and chewing gum,” says Kassalow, “so why not get them to spend that instead on health?”
As the real-world examples of the Acumen Fund and VisionSpring show, greed (read: market forces and capitalism) can be a force for good. In fact, harnessing greed wisely is a necessary precondition for kick-starting the innovation revolution needed to tackle today’s grand global challenges. But does this really mean that profits matter less than purpose or that capitalism itself is about to enter a kinder, gentler era? Don’t bet your pension on it.
The Invisible Hand Meets the Velvet Glove
The rise of social entrepreneurs, philanthrocapitalists, and hybrid business models is surely to be applauded, but there are several possible snags that could yet keep this movement from becoming the transcendent force its boosters think it to be. One is the potential for muddled incentives that arises from lumping together profit and purpose breathlessly into one business model, without first developing meaningful measures and metrics for social impact. Another is the underdeveloped state of institutions, regulations, and other norms in the hybrid sector, which makes it ripe for exploitation and unintended consequences—growing pains that have already fueled a backlash in the field of microfinance. The biggest potential barrier, however, may be that of unrealistic expectations. Just consider the burden now being placed on the backs of those trying to improve the world: this movement, claim some management gurus and company bosses, adds up to a new and higher form of capitalism.
First, to purpose. There is no question that traditional business models that assumed everyone was motivated strictly by economic incentive are incomplete. As Dan Pink has argued in Drive, profit is a good motivation for some things but not for others. When people feel they do not have enough money for decent housing, food, and education, they obsess over it. However, behavioral studies suggest that unless people are working on rote mechanical tasks, simply paying more money will not yield more productivity. Since much of the world now lives in the Ideas Economy, employers clearly need to consider other ways of motivating talented workers. Pink puts the answer pithily: autonomy, mastery, and purpose. As most readers would readily agree, knowledge workers crave independence from bosses and relish being very good at their chosen jobs.
The more surprising finding for ardent believers in capitalism is that purpose can motivate people as powerfully as profit. You can see this in the willingness of many people with day jobs to spend their precious leisure time working on projects for free. Just consider the many millions of hours of work that people around the world have given away for free to build Wikipedia, Linux, and other open-source, collaborative ventures. Clearly having a social purpose can motivate people, and business models built on that insight can attract much-needed talent and capital to the citizen sector. “We are purpose maximizers, not just profit maximizers,” says Pink, “and that can make our world just a little bit better.”
Ah, but via that warm and fuzzy aspiration enters the muddle. In profit-maximizing capitalism, the goal for companies is crystal clear: maximize profits. This is not just a matter of greed. Peter Drucker argued that the greatest good a company can do for society is to excel at making the good or service it produces. It is true that even in strictly for-profit firms, incentives can get misaligned (over short-term profit versus long-term goals, say, or over conflicts between the interests of bosses versus those of employees). Still, profit is a pretty clear metric for measuring a firm’s success at its core mission. Drucker in his later years came to be a great champion of the citizen sector, but he remained clear about the importance of businesses focusing on profit: “Profit is not the explanation, cause, or rationale of business behavior and business decisions, but rather the test of their validity. If archangels instead of businessmen sat in directors’ chairs, they would still have to be concerned with profitability, despite their total lack of personal interest in making profits . . . a company can make a social contribution only if it is highly profitable.”
So one difficulty arising from hybrid business models is the question of how to tell if a social business is being well run. How can investors tell if a firm making a bit of profit and delivering some social value (say, selling antimalarial bed nets) is actually a wonderfully run and efficient hybrid business or a mismanaged and underperforming firm that will soon hit the rocks? Richard Lyons, dean of the Haas School of Business at the University of California at Berkeley, acknowledges that this is a significant problem that the social enterprise movement—which he strongly supports—faces today: “We really need metrics.”
The good news is that there are some people now trying to get the philanthrocapitalist world to agree on the importance of metrics, and to move toward common standards for measuring social impact (probably the best analog for profit in the nonprofit world). Brian Trelstad, the chief investment officer of Acumen, is one such courageous soul. He has scrutinized the various efforts that now exist to quantify the social impact of hybrid enterprises and concludes that these “tell a story” but “do not capture and generate data that can allow for an independent assessment of social innovation opportunities or their social impact.” He laments that the field has yet to develop independent measurement tools, standardized criteria, or even common definitions of terms. Even seemingly quantitative methodologies such as sustainable return on investment (SROI), “blended value,” and double/triple bottom-line accounting, he insists, “still fall short of providing reliable, rigorous, and objective quantification of social and environmental value.”
His team at Acumen is developing a set of metrics, methods, and measures that it hopes will win wider acceptance. However, he is not holding his breath. Despite the blindingly obvious need to develop some sensible, common measures of performance, he finds that social businesses are generally not interested. More shocking, he has found that donors—whom one might think would welcome metrics that help them gauge if their money is being well spent—are generally uninterested in metrics too.
Part of the explanation for this apathy is understandable: the state of impact measurement is so poor today that embracing it would probably lead to false precision. Just measuring the output per dollar spent by a charity helping homeless people in Toronto get jobs as bike messengers, for example, may measure efficiency—but the better test of effectiveness would be a broader measure of impact (say, how many people got off welfare and took on taxpaying jobs as a result of the program). Asked if it is now regular practice among philanthrocapitalists to fund randomized control trials, which are the gold standard among economists for proving that a given approach works, to see if such schemes are actually having the impact claimed, he pauses and sighs. With a heavy heart, he reports that donors often do not want to spend the money required to acquire such evidence: “They’re mostly interested in stories, not data.”
There is now a fiery debate going on in the citizen sector about the role of metrics and measurement. This should be of great interest to those who want the citizen sector and hybrid business models to succeed. The right response to imperfect metrics is surely to invest in standardizing and improving them, not to abandon them altogether. As for the argument that precious donor money should go straight to charitable work, not on running expensive trials to measure impact, that sounds like the kinder, more charitable thing to do—but it is not. One philanthrocapitalist cites a real-world example of donors funding a new social business aiming at both profit and purpose, to the tune of $150,000 a year. Running proper trials to measure real-world impact would cost $100,000 in that case. The donors refused, insisting that the money should go instead straight to helping people through programmatic work, not measurement and metrics. Again, that sounds compassionate, even reasonable. But here is why that is a dangerously unhelpful stance to take. If that new social business was actually harming the people it sought to help, or even if it was just ineptly crowding out other social entrepreneurs or government agencies that could have done better, it does not deserve years and years of funding.
In short, the investment of $100,000 today would have prevented those donors from misdirecting millions in future years to that incompetent if well-intentioned social business. Richard Lyons agrees with this logic and thinks donors must invest in proper metrics and measurement if this sector is to grow—and deserves to grow. He cautions that measurement in this messy world of hybrid business models will “almost surely never be as tidy and clear as with for-profit ventures.” Even so, he proposes what he calls the “running downhill” test. Many nonprofits live hand to mouth, begging for money and “running uphill” till they fail. And some nonprofits—Transparency International, say, which tracks levels of corruption in various countries—should never pursue profit. But many other sorts of charitable endeavors will be suited to the new hybrid model. Holding such businesses to the standard of making “nonzero financial returns” means they will be financially viable and not living off subsidies forever. With proper impact measurements in place, he reckons the test of ensuring that these ventures are running downhill will move the citizen sector a bit closer to the crisp performance metric that Peter Drucker wanted.
Microfinance, Megacontroversy
Is it immoral to profit from the poor? In Philanthrocapitalism, Bishop and Green include an anecdote that sheds light on this controversy. On this account, a heated debate broke out on this topic some years ago at the home of John Doerr, one of Silicon Valley’s most successful venture capitalists. He had been captivated by the success of Grameen Bank, a pathbreaking Bangladeshi charity that has managed to make millions of tiny loans to very poor people—a concept known as microfinance. Among the invitees were Muhammad Yunus, who went on to win the Nobel Peace Prize for pioneering this innovation, and leading businessmen and philanthropists from the region. Doerr hoped all present would contribute money, and many did.
One who refused was Pierre Omidyar. After listening to all of the arguments, he was convinced that the not-for-profit model was the wrong way to go with microfinance. The need for microloans is so great, he reasoned, that donor money alone will never meet the need: a mixture of for-profit and nonprofit models was necessary to achieve scale rapidly. Yunus later recalled that dinner in an article in the New Yorker: “He says people should make money. I say let them make money—but why do you want to make money off the poor people? . . . when they have enough flesh and blood in their bodies, go and suck them, no problem. Until then, no.”
That row anticipated another of the problems that could yet trip up the citizen-power revolution now getting under way: go beyond the stirring rhetoric, and it turns out that purpose and profit do not always mix well. In particular, people from the nonprofit and development world are often suspicious of the true motives of those who advocate using for-profit approaches to helping the poor. This issue came to a head in the microfinance world as for-profit microfinance institutions (MFIs) began to go public, earning huge payouts for their managers and investors. Compartamos, a Mexican MFI, was the first Latin American for-profit to go public back in 2007. SKS Microfinance, an Indian firm, went public in 2010 for $358 million in the largest such listing in that country’s history. Deals such as these have poured salt into the wounds, as evidence has surfaced of how extremely poor people have endured high rates of interest at the hands of these firms. In some cases in India, farmers have even committed suicide rather than face the shame of not being able to repay their loans.
All this has provoked understandable revulsion and sparked a political backlash against for-profit microlenders. Yunus himself fueled the flames of this. Under attack for entirely unrelated reasons by politicians in Bangladesh (who ultimately succeeded in removing him from the top of Grameen Bank in 2011), he tried to direct attention back to those profiteering scoundrels. In an opinion piece run by the New York Times not long before his ouster, he declared that “commercialization has been a terrible wrong turn for microfinance.” Branding his for-profit competitors as loan sharks, he insisted that the sector be reined in with heavy regulations. Lenders must take deposits, he said, as did Grameen. Regulators should also impose a rate cap of 15 percent above costs on all lenders, he insisted.
Reasonable and philanthropically minded people differ on whether microfinance—the poster child for the rise of the citizen sector—should have only nonprofit business models or a mix of for-profit and nonprofit. Yunus’s position is certainly clear and uncompromising. Many leading figures from the world of philanthropy have voiced support for his position. Given his credentials, even those who may favor market forces may be tempted to agree with him. One influential voice who does not is Vinod Khosla, the venture capitalist. He invested several million dollars in SKS early on and stoutly defends its business model today. He is convinced it has done far more good than harm, despite the chorus of denunciations: “Millions of people now have access to financial services . . . that’s more social than any nonprofit thing I could have done. And guess what? In the process, I made $100 million.”
Matthew Bishop, who served as an advisor to the United Nations on microfinance before writing Philanthrocapitalism, stoutly defends Yunus against the politicized attacks on his reputation but still strongly disagrees with his position. In line with Khosla and Omidyar, Bishop argues that for microfinance to scale and help all those who desperately need help, private capital is a must. He observes that the not-for-profit version of MFIs have had thirty years since Grameen arrived on the scene to work out the kinks and scale properly. Yet barely 15 percent of people earning less than $1 a day have access to microcredit. The number of unserved soars dramatically if one raises the bar to include those making less than $2 or $3 a day—wretchedly poor people who are also surely deserving of loans. He also points out the unfairness of calling private sector MFIs loan sharks.
It is true that Compartamos charged very high rates—above 100 percent a year, a study concluded after the fact—when it could have charged lower rates and still made a profit. But it did so explicitly, in part, to attract more investors into a then-lonely and highly risky market—and succeeded in doing precisely that. Besides, loan sharks (the only real alternative many indigent people have) can charge far more than that in real life—and break people’s legs if they do not pay. Not only did Compartamos not do any such thing, but its loans were clearly a better alternative for ordinary people—who managed a repayment rate upward of 98 percent, suggesting that this was not an impossible hardship.
What is the way forward for MFIs? The pendulum may be swinging toward the Yunus position, with several countries starting to impose arbitrary rate caps on lenders. That is probably a mistake: plenty of economic theory and history suggests that rate caps are likely to produce shortfalls in supply. In this case, the poor may have to endure a flight of private capital from microfinance because returns will be suppressed.
The real lesson here is not that profit making per se is wrong, but that unfettered markets are. The excesses seen at private MFIs should have been checked by proper regulation. Stiff antitrust laws and regulatory scrutiny by competent regulators will go far in modernizing and humanizing this sector without killing the goose that lays the golden egg. So too would demands for greater up-front transparency—especially on the true cost of loans, including any hidden fees—and the development of credit bureaus and other institutions that come with the broadening and deepening of new markets. As for Yunus’s notion that all lenders must also be deposit banks, it turns out that this is not permitted in many countries. Regulations can be modified so that microlenders must also take in deposits, but again, forcing them to do this may well limit the number of investors interested in getting into microfinance.
The profit motive has been blamed for this crisis of faith in microfinance, but a failure of government is at least as much to blame. Regulators must be alert and keep both hands on the wheel, not fall asleep on the job, as has happened thus far. That insight explains why the citizen revolution has some way to go to achieve its aims. The mutual mistrust that business and nongovernmental organizations have long had has softened but is not completely gone, so the leaders of any alliances or hybrid value chains must always be on guard to nip such crises in the bud.
With luck, today’s rows could prove merely the teething pains of a novel experiment in improving the lives of the world’s poorest—an experiment that yields many lessons on how to build markets at the bottom of the pyramid. If that happens, could the world really enter a new, more empathic, and enlightened phase of capitalism?
Beyond CSR
Few management experts are as influential as Michael Porter. The brilliant Harvard Business School professor has shaped the thinking of a generation of leading corporate managers with his books on strategy, value chains, clusters, and competitive advantage. He is as courageous as he is forward-looking. A few years ago he even ventured into hostile terrain with his book Redefining Health Care, coauthored with Elizabeth Olmsted Teisberg, which stirred a hornet’s nest by arguing that the fundamental incentive structure in the bloated U.S. health industry is distorted. What the industry needs to do is shift from its current model of fee-for-service, or piecework, he rightly argued, to “value-based competition” that rewards better patient outcomes.
The great hero of capitalist managers now has another really big idea: he believes it is time for a radical rethink of capitalism itself. In a much-discussed cover story published by the Harvard Business Review in early 2011, coauthored with Mark Kramer, he put forward a provocative thesis he calls “creating shared value,” which represents “the next evolution of capitalism.” He believes that the traditional business approach to social issues—spending money on corporate social responsibility (CSR)—is wrongheaded because it puts these vital issues into a ghetto apart from the core strategy of the business. Porter even praises the late Milton Friedman in passing, pointing approvingly to the conservative economist’s opposition to CSR. Porter observes that so many companies are using such tactics as public relations exercises that there has been a backlash: “The more business has begun to embrace social responsibility, the more it has been blamed for society’s failures.”
Instead, he argues, companies must put society’s great needs front and center when developing their strategies. Doing so will require managers to look beyond the quarterly returns and other short-term metrics, he insists, as these lead managers to ignore important customer needs. He also pooh-poohs the “presumed trade-offs between economic efficiency and social progress.” In downplaying trade-offs, a notion held sacred by economists, he claims that there is “growing consensus that major improvements in environmental performance can often be achieved with better technology at nominal incremental cost and can even yield net cost savings.” By vigorously pursuing strategies that create shared value, not just profit per se, he insists, the business world will “drive the next wave of innovation and productivity growth in the global economy.”
In the brave new world of shared-value capitalism, the grand challenges facing the world today will best be solved by self-interested and profit-minded corporations: “Businesses acting as businesses, not as charitable donors, are the most powerful force for addressing the pressing issues we face.” That may sound a bit like the famous notion put forward by Friedman that “the business of business is business,” but in fact it is exactly the opposite. Friedman believed that it was reckless and inappropriate for the managers of a company, who have a fiduciary responsibility to maximize returns on behalf of a firm’s owners (who are, of course, its shareholders), to spend company money on favored social causes or pet charities. Managers should instead return money to the owners, who are then free to give as generously to philanthropic causes as they want. Porter says capitalism can and must do better than this.
He also has little time for the conventional explanation of why market forces do not always solve problems such as environmental pollution, which involve externalities (say, the health impacts on people living downwind of a coal-fired power plant) that are not priced into the product in question (say, coal-fired electricity). Environmental economists have long argued that if governments want markets to deal with such externalities, they should introduce government policies (such as carbon taxes or cap-and-trade regulations, in the case of global warming) that internalize them by way of the price mechanism. Surprisingly, Porter is critical of externalities policies.
The idea of creating shared value is a breathtaking vision—but does it really add up? This question matters, because it points to the third big concern that could yet trip up the revolution launched by Drayton and the army of social entrepreneurs: the weight of unrealistic expectations. To be fair, Porter gets some big things right. For example, he is surely right that managers must take a long-term view of shareholder returns. If they do so, they will often find that it makes business sense to invest a bit more now on social “extras”—for example, in investing a bit now to improve energy efficiency or making sure the suppliers of its suppliers treat workers fairly—than a fly-by-night capitalist might.
Beyond the call for managers to think long-term, does this Big Idea really add up to a big idea? Opinion is divided. Many experts agree that there is a crisis of confidence in capitalism, and Porter is certainly right to look for creative ways corporations can win back the public’s trust. A number of leading chief executives have warmed up to his theme. Nestlé’s chairman, Peter Brabeck-Letmathe, and Pepsi’s boss, Indra Nooyi, are two leading corporate voices that have embraced the shared-value vision. But not everyone is persuaded by this thesis.
Vijay Govindarajan of Dartmouth’s Tuck School of Business says “shared value” is a nice phrase but asks, “What’s new here? . . . Isn’t this what business does at its best anyway?” He bristles at the notion that capitalism has to evolve to a higher plane to tackle society’s problems. He points to the example of Henry Ford, whose radical and hugely profitable business model (aside from implementing the production line, he also paid above-market wages so his workers could afford his cars) created enormous shared value for his employees, for their communities, and for the country in general. Robert Stavins of Harvard’s Kennedy School of Government, a leading environmental economist, disagrees about externalities-based policies. Several decades of successful experiments with such policies, starting with “eco-taxation” reforms in northern Europe and extending to many environmental regulations in the United States, show that they do work very well.
The Economist’s “Schumpeter” column was deeply unimpressed: “It is not clear that Mr. Porter has come up with any tangible improvement on the current way of doing business. Is it true that shared value will ‘drive the next wave of innovation and productivity growth in the global economy,’ or merely a pious hope? For all we know the next such wave may come from energy-hungry, socially divisive businesses, given the paucity of evidence Mr. Porter offers to support his thesis.”
That is probably too harsh a judgment. Even if he gets some things wrong—such as his dim view of externalities policies—he certainly gets the big picture right. The great opportunity lies in going from “greed is good” to “greed for good.” Incentives matter, purpose matters, and enlightened corporations that take a long-term view will find taking on some of the world’s difficult global problems to be profitable. This is not to say that all firms will find all societal problems to be profitable always. And it does not mean that the role for government or the individual is diminished. Porter himself says, quite rightly, that companies can’t solve all of society’s problems. And he gets the most important thing right, according to GE’s chairman Jeff Immelt: “I agree with Michael Porter that the era of free capitalism without consequences is over.”
That sentiment sums up the challenge and the opportunity facing business leaders, government officials, and aspiring innovators today. The rise of the citizen sector is very real. Aspiring innovators will need to overcome various obstacles that are difficult but not impossible to surmount—not least the burden of unrealistic expectations. But as social entrepreneurs and agile corporations experiment with new business models that take account of society’s greatest needs, creative capitalism seems likely to make a big impact in coming years. And the difference between success and failure will often be determined by how powerfully motivated entrepreneurs are to bring about change.
If at First You Don’t Fail, Try, Try Again
Jessica Jackley has already helped to make the world a better place. She cofounded Kiva, a path-breaking Internet outfit that lets people anywhere lend small amounts of money at affordable rates to aspiring entrepreneurs in the developing world. Kiva’s partners are established microfinance outfits around the world (though hearing Mohammad Yunus inspired her to drop everything and pursue microfinance, Jackley thinks he is wrong about for-profit MFIs; she insists that both business models should be allowed to compete in the sector). Those local MFIs post profiles of poor local people with a business need—say, a new goat or a sewing machine—that requires some money. Ordinary people in distant parts of the developed world, sitting comfortably at their laptop computers, have been granting microloans in such small amounts as $25 to the entrepreneurs they wish to support. The firm has already channeled $200 million or so to the poor this way and has a repayment rate above 98 percent to boot. But the key to Kiva’s success, she insists, is not impressive scale or even the stellar repayment rate but the personal connections that lead to empathy.
Not content with the success of one transformative firm, Jackley—who is still in her thirties—is busy building another. With a former classmate from Stanford Business School, she has launched ProFounder, a Web platform to help entrepreneurs in the United States “crowdfund” more efficiently. Most start-ups get most of their early money not from venture capitalists and certainly not from banks, which are too risk averse to back upstarts; instead, they get it from a circle of intimates known affectionately as “friends, family, and fools.” Jackley knew from personal experience that this is an extremely stressful process made more so by the informal and awkward nature of these early contributions. (Did Uncle Frank really promise you $5,000 for your start-up at Thanksgiving, or was that the wine talking?) There are complex regulations governing such investments that vary from state to state, making life more difficult. Her for-profit outfit has done all the donkey work, so aspiring entrepreneurs need only tap their networks for money via her platform; the firm’s automated systems deal with most of the paperwork.
Ask Jackley what it means to be an innovative entrepreneur, and she offers three answers that cut to the heart of this book’s arguments about the democratization of innovation. First, she defines innovators as those who see possibility in the world and believe improvement is possible. But she warns that ideas, while great, do not add up to much, as innovation needs entrepreneurship to catalyze change: “As an entrepreneur, you must act every day on execution.” Most important is the collective vision a founder must instill in her team. Shared purpose leads to inspiration just as surely as the fear of letting down comrades leads to the perspiration needed to overcome inevitable obstacles. Everyone has the talent to be an entrepreneur, she thinks, but not everyone will like the lifestyle.
Reflecting on the decision to leave Kiva, which appears poised for spectacular growth and innovation (it could evolve into the first credit bureau for the world’s poor, for example), to start ProFounder, she confesses that she is absolutely petrified of failure. “The first time you can get lucky, but the second time you have to be smart . . . and that’s a high bar!” So why leave the comfort and success of Kiva? “I wanted to apply Kiva’s lessons to another big, but similar, problem,” she says. “I wanted to build something again.” The drive to leave behind comfort and security to create a disruptive new organization even when confronted by powerful obstacles and a high chance of failure is the true mark of an entrepreneur. And by radically simplifying the early funding process for other entrepreneurs, she is contributing to meta-innovation—the ongoing innovation in how the world innovates.
Jackley’s final insight is the most incisive. In her public speeches, she likes to invoke Thomas Kuhn’s arguments about the nature of scientific revolutions and the importance of paradigm shifts. Asked to explain, she says today is an incredible time for innovations in how to reach out and help the poor. The key, though, lies in a change in mind-set. For ages, most of society—including her, she admits—thought what the poor needed was more charity and donor aid. But meeting countless inspiring but cash-strapped entrepreneurs in Africa and elsewhere convinced her that the old way was doing more harm than good, and that “the world’s poor are also entrepreneurs and innovators with tremendous human potential.”
The democratization of innovation promises to be an extraordinarily powerful force shaping the Ideas Economy. In the future, the difference between success and failure will often be determined not by lack of access to capital, markets, talent, or other conventional obstacles. In the age of disruptive innovation, resourcefulness will matter more than resources—and success or failure will be determined inside the mind of the innovator. Are you ready for the revolution?