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Charitable or Financial? The basics of NGOs investment

Posted by: Alessio on 29 Jul 2015
in Blog

In two previous blogs I've argued that NGOs need more freedom in their funding, which can improve relations between development actors, and I've showcased examples of award winners from our portfolio that have successfully combined charitable programmes with social enterprise models.  

This time, after a chat I had with the law firm Farrer & Co, I decided to write a blog on the differences between charitable and financial investments for NGOs. I hope that this blog will be helpful for organisations that are planning to invest funds for future sustainability.  

Where do you begin?

Let's start with a simple example. Your organisation has managed to set aside some money to invest or has been awarded with flexible funding by a donor. You have collected ideas and suggestions on what to do with that money from your staff, the board and other stakeholders. Finally, you have come to the agreement that your organisation could build a hostel to generate income. By cutting core costs, you can direct more money towards activities in the social sector.

Because your organisation has a charitable mission and the hostel will generate profits, you must identify which type of investment the hostel will be. This way, your activities will be transparent and accountable.

Is this direct charitable expenditure?

If the hostel is intended to generate income, it is hard to argue that this is a charitable investment.  You need to seek advice and check whether your organisation is respecting the national legislation for not-for-profit organisations. At the same time, if the organisation is getting flexible funds from one of your donors, it is likely that you might need to report on each year that you generate a profit. Is this feasible? Is this something that your donors consider acceptable?

If not, or if you are unsure, we could look at it from a different angle. 

Is this a suitable financial investment? 

If the organisation wants a pure financial return and your constitution allows it, here are some steps that you might need to consider: 

  1. Write a plan that clearly describes how all profits generated will be used for charitable activities. 
  2. Your trustees should seek advice from people with investment experience on specific issues around property and ownership of assets (such as land, lease, venture partners, etc.). 
  3. The organisation will need to verify that such investments do not breach local legislations. 
  4. The performance of the investment will have to be monitored closely against more traditional types of investments to benchmark the value of this operation. 

Is this a mixed motive investment?

Charities that want to invest funds to generate profit can look at things from a third perspective. 

If the organisation intends to invest money to produce financial and charitable outputs, it will need a plan aimed at ‘harmonising’ financial and not-for-profit outputs. By doing this you will see the benefits of this hybrid model. 

In the case of a hostel, the organisation needs to present ways in which beneficiaries will benefit from the project. A solution can be to demonstrate how the community will be involved in the project.

In addition, you will have to demonstrate that reducing your expenditures will allow more resources to be utilised towards social activities.

As evidence from Practical Action shows, employment opportunities for marginalised and disadvantaged members of the community have a sustainable positive effect on those people’s lives.  

Finally, in case your investment generates private benefits, the UK Charity Commission reminds us that your Board has to be satisfied that private benefits are:

a) necessary in the circumstances

b) reasonable in amount and

c) in the interests of the charity

Perspectives on NGO investment

The relationship between not-for-profit organisations and social enterprises is a complex one. Knowledge and legislation are developing to keep up with the pace of emerging trends in the sector. 

Critics of NGOs have argued that purely charitable missions often do not take into consideration growth. At the same time, social enterprises are often criticised for not being political enough, opting for market solutions in areas where the state – and not businesses – should provide these services.

With growing proportions of aid going to help small and micro businesses the relationship between poverty reduction and business engagement is often unclear. Hence, in practical terms, taking the right decision on the type of investment route to take becomes crucial. 

Need advice?

It is import to understand and respect investment policy and charitable laws. If your organisation is planning to invest some funds, Stars’ partner TrustLaw offers pro-bono legal assistance to social enterprises and NGOs that are seeking advice on a variety of topics, including charitable and financial issues.