I must admit that I have never owned, operated, or worked for a gym, but I’m fairly certain the business model is as follows: get as many people as possible to sign up for a monthly membership, get them paying via an automatic monthly withdrawal from their bank account, and assume / hope that only a small percentage will end up regularly using the facility. The ideal scenario for the gym—let’s call it Bob’s Profitable Gym—is that, say, 1,000 people sign up for a membership at $20 / month, 15% of the new members regularly attend the gym, and 90% of all new members keep paying the monthly fee, if only because it’s automatic and a hassle to end. Under this scenario, Bob’s Profitable Gym earns $18,000 per month in membership fees from 900 people (remember, 10% do stop paying) but only has to maintain facilities to serve 150 regular gymgoers. Put more simply, the greater the difference between paying members and members that use the gym, the greater the profit margin. Their nightmare is that 100% of members regularly attend, resulting in overcrowding, wear-and-tear on the machines, and noise.
Now let’s imagine you wanted to open Andy’s Social Impact Gym. Whereas in the previous example the goal is to maximize profits for the owners, in this one the aim is to change lives through exercise and wellbeing. Suddenly your ideal scenario looks completely different: you want to charge the lowest price, serve the greatest number of people, and have the lowest “dropout rate” possible—all while truly changing the lives of your members. In fact, the Platonic ideal for the gym would be: you sign up 1,000 people for no monthly fee (the costs are covered by generous donors), 1,000 people continue using the gym every month, and 1,000 lives are completely changed for the better.
The problem with Andy’s gym is that it is exceptionally hard to find grants to make it possible to offer free gym memberships to 1,000 people. Just think about all the costs of running a gym: rent and utilities; purchase, repair and maintenance of equipment; legal, accounting and insurance; payroll; and marketing, to name a few. Now we have to add expenses specific to our social mission. Maybe we provide childcare so that parents can come to aerobics classes without finding a nanny, as well as nutritious food for the families. We might hire job training counselors, mental health counselors, nutritionists and other specialists to ensure that the various needs of our low-income members are being met. And so on. Changing lives takes a lot of money, yet there is not enough philanthropy to cover all these costs.
The difference between Bob’s Profitable Gym and Andy’s Social Impact Gym illustrates the fundamental difference between the incentive to make money and the incentive to change lives, and their apparent incompatibility. But wait, is it really that simple? Of course not. These two examples are at the extreme ends of the business spectrum, with pure, philanthropy-driven nonprofits on the left and pure, profit-driven companies on the right. There are all sorts of models between the two, often referred to as social enterprises—non and for-profits that use market forces to better the world. For instance, Andy’s Gym could start charging a nominal fee to offset some of its operating costs, or Bob’s gym could provide discounted memberships based on a sliding scale of income. Interestingly, this is precisely what the YMCA does: their starting monthly membership fee is fairly high (at least in Providence the last time I checked it was $30 unsubsidized), but the lower the income, the lower your fee.
But there’s a problem in both cases. For Andy, some membership fees are good, but the continued reliance on philanthropy makes it well-nigh impossible to truly run an effective gym—funders are unlikely to provide grants for “non-program expenses” such as a receptionist and utilities, even though these are essential costs, especially for a gym. Moreover, the clients may be unable to afford a fee that can truly cover all operating costs, and even if they could, some stakeholders—funders and other nonprofits that may refer clients—might balk at the price. (Believe me, this happens. Many funders and potential nonprofit partners are turned off by the fact that Capital Good Fund charges interest, no matter how equitable the rates may be. As a result, we have to choose between charging sustainable interest rates and risk alienating some grant funding and partners, or lower our rates and risk losing tons of earned revenue.) And for Bob, while it’s nice for him to offer discounted rates, he has no incentive, other than goodwill, to devote extra time to ensuring that his low-income members take advantage of all his services, nor is he at all likely to offer additional, non-profitable programming such as free nutrition classes. As I like to say, if we rely on people balancing the profit motive with the altruistic motive, we are guaranteeing that the moment the one comes into conflict with the other—and it invariably will—profit will win out every time. Just imagine if a recession hits and Bob loses 75% of his members. One of the first things he’s going to do is raise the rates on his subsidized clients, or cancel the program—he can’t afford the extra expense. Yet Andy’s also going to struggle in a recession, as his philanthropic funding is likely to dry up, forcing him to cut back on the services he offers. Changing lives is hard!
Health-oriented nonprofits such as the YMCA and Jewish Community Centers are obviously successful, boasting a national footprint, amazing brand recognition, and serving hundreds of thousands of people every year; the YMCA alone generates over $4 billion per year in revenue, of which “63 percent comes from membership dues and fees paid” to participate in their programs. In fact, the YMCA is so successful that many for profit gyms complain that the Y offers exactly the same services to the same clientele, yet they benefit from their nonprofit status—they don’t have to pay taxes and they can accept grants and donations. IHRSA, an industry lobbying group, argues that there is a “national trend of a growing number of Ys abandoning their original mission and starting to operate health club businesses.” They go on to note that “If you take away [the Ys] tax-exempt status, [their $4.1 billion in revenue] would put them in the top 30 of the Fortune 500 companies.” Does the IHRSA have a point? Well, one study found that “63 percent of people working out at YMCA facilities have household incomes over $50,000, and 87 percent have household incomes over $25,000, almost mirroring that of membership in private facilities.”
Nonprofits are neither supposed nor intended to offer products and services that for profits already offer, unless there is a significant difference between the two, such as a nonprofit offering interest rates at a fraction of those charged by predatory lenders (hello Capital Good Fund!). I couldn’t, for instance, start a restaurant indistinguishable from any other restaurant, but call it a nonprofit—I’d have to prove to the IRS that my organization has a charitable purpose. Yet at the same time, the less nonprofits rely on philanthropy by charging for their services, the more flexibility they have in achieving their missions; in other words, the more they look and feel like a for profit, the better for their finances! But is it better for their mission? Well, the example of the Y seems to show that, even for a nonprofit, it is possible to focus so much on revenue that one loses sight of the mission. (Whether or not you agree with the industry lobbying group’s assessment, there’s no doubt that a significant portion of the Y’s revenue comes from serving a non-poor clientele that could just as easily go to a for profit gym). At Capital Good Fund, we experience similar pressures to generate revenue, especially since we fund much of our growth through debt that we can only pay back with earned income. These tensions—between philanthropy and capitalism, between free and non-free services, between the profit motive and the altruism motive—define the fundamental challenge of achieving a world in which there is less poverty, war, injustice and ecological destruction.
With respect to business models for social change, one answer lies in what Dr. Muhammad Yunus, the so-called father of microfinance and 2006 Nobel Peace Prize winner, calls social business. A social business is an entity whose goal is to cover 100% of its expenses—and no more. Further, an investor in a social business, in Dr. Yunus’ admittedly Pollyannaish doctrine, should not even earn interest on any investment (loan) to the entity, but rather should simply earn back her principal. Moreover, the social businesses’ primary focus must be on serving the poorest of the poor, so if they decided on a model where wealthier clients subsidize poorer clients, they will only be judged on the extent to which the serve, and impact, the most vulnerable among us. But equally important to Dr. Yunus is that the entity stand on its own two legs, that is, without reliance on philanthropy. Why? Because there is not enough grant money out there to solve the problems we face.
Granted, there’s are two major problems with his concept. First, while you are not reliant on funding donors, you are still going to have to fund people willing to make interest-free, “patient” (long-term), and likely unsecured loans to the social business. That ain’t easy! And even if you can find such an investor, not every social or environmental problem lends itself to a solution that can generate revenue. While it is reasonable that the YMCA charge people to use their gyms, it would be illogical, if not outright immoral, for a homeless shelter to charge the homeless for a bed. Capital Good Fund can earn income by charging interest, but a mental health clinic serving those without insurance may not be able to charge them for counseling. Social businesses or social enterprises are not a silver bullet. In fact, the private sector—non or for-profit—can never solve all our problems absent the robust and equitable involvement of governments and multilateral institutions such as the World Health Organization. After all, no U.S.-based education nonprofit can ever spend as much on education as the U.S. Department of Education and local school districts; an effective education nonprofit understands this and seeks to integrate into, and work with, the public sector.
Let me repeat: the private sector cannot and will not save us. If we don’t provide citizens health insurance, good roads and other infrastructure, a social safety net, consumer protection, and a million other things that only governments can do, then no amount of charitable work, no amount of private sector innovation, can end poverty, solve climate change, or eliminate mass incarceration of people of color.
Again, social change is hard, and funding it is even harder!
So which gym would I prefer to run, Bob’s or Andy’s? Well, it’s possible to go Bob’s route if Bob shares Dr. Yunus’ philosophy and is laser-focused on carrying it out, but only Andy’s approach can, for the most part, guarantee that the enterprise is centered around serving marginalized communities; a nonprofit that fails to serve a charitable purpose runs the risk of being stripped of its tax-exempt status and even having the revenue generated in a non-charitable manner taxed retroactively. If Andy can come up with a means of consistently raising the funds needed to fulfill his mission—and that’s a big if—then he has the best chance of achieving success in the betterment of the lives of his members and their families, but perhaps at the risk of achieving scale.
Oh, and all this leaves out a discussion of how Bob’s Gym is financed to begin with. If he raised his seed capital from equity investors, he is going to be expected and required to achieve rates of return that will preclude Bob from doing anything that minimizes his profits. Not only that, but his investors will likely have seats on his board of directors, meaning that they can literally block him from lowering profits in the interest of social impact…
In short. Social change is hard.