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Gift Economics

April 23, 2012

A few months ago I volunteered at Karma Kitchen, a gift-economy restaurant in Berkeley operated by CharityFocus. Led by founder Nipun Mehta, volunteers turn the space owned by a for-profit Nepalese restaurant (Taste of the Himalayas) into Karma Kitchen for four hours on a Sunday with the hope that all patrons can enjoy a meal and the sense of community. Each Karma Kitchen has a theme (“Kindness”, “Generosity”, etc.) and guests are encouraged to participate in any way they wish: actively (writing notes) or passively (self-reflection).

It operates on a pay-it-forward model where one’s meal has been theoretically paid for by the person who ate before him, so he has the opportunity to pay for the next person’s meal. The menu itself does not have any prices and the bill guests receive shows “$0.00.”

While there is no explicit requirement to pay anything, patrons implicitly agree to the unspoken social contract that those with the means should not only pay a fair price for their meals but also help subsidize meals for those who genuinely cannot afford it. Roughly a quarter to one-third of guests fall into this “Needy” category, meaning people who are likely food insecure and struggling to make ends meet, or worse.

All labor is volunteered. Roles include Maître d’, Server, Cook, Plater (puts food on the plate once it’s ready), Busser, Dishwasher and Interface (acts as Command Center to make sure everything is running smoothly). I was one of two Dishwashers, and in total there were 15 volunteers of which 10 were young professionals like myself.

Overall, I had a positive experience. I didn’t get to interact with many guests because of my role in the back. In the couple of instances when I came to the front, I got glimpses of the “magic” (i.e. how guests respond and react to the concept). Of all the roles, Dishwasher has the least direct exposure to this magic, but I think we got a lot of folks to buy in to the concept, which is rewarding.

For example, one guest who arrived faced a long line and was in a rush, so he decided to pay a meal forward even though he didn’t get to eat a meal himself. Also, I was told one of PayPal’s co-founders dined with us (I didn’t see him firsthand).

Dollars and Sense

Before I continue I want to emphasize that I know my views do not align with those of Karma Kitchen’s proprietors. In this post I am analyzing it with a pragmatic, business-style perspective where the objective is delivering returns to stakeholders. You should be aware that Karma Kitchen does not operate with this mindset. Instead, they prefer to focus on a longer-term, utopian view of society in which people do not merely transact: they interact. I am not claiming the moral or intellectual validity of one approach over the other, rather I am offering a different perspective.

It costs $750 per session to run Karma Kitchen. This consists of  a $650 fee paid to the restaurant owner (Taste of the Himalayas) to use his space for effectively 7 hours on Sunday (9am to 4pm), and $100 spent at the grocery store for dessert making supplies. These are the only costs and they are fixed (remember labor is free), so absolute dollar profit is directly tied to traffic and average ticket.

By way of casual observation, it appeared that patrons generally fall into four segments (see thumbnail below):

Based on this breakdown, the estimated weighted average check would be $7.25 per person. Nipun told us that Karma Kitchen needed 100-110 people per day to break even. At $7.25 per person, Karma Kitchen would break even with 104 people, so $7.25 per person should be about right. On the day I volunteered, there were nearly 150 people served and this was acknowledged as a high traffic day.

Return on Investment

I think Karma Kitchen’s purpose is to deliver social impact. I interpret its mission to be encouraging people to think about human interconnectedness and what we can each do to make a positive impact in another’s life. While I believe this probably does happen at some level, it’s also nearly impossible to measure/quantify. What can be more easily quantified is the number of Needy people were able to eat a meal which they may not have been able to obtain otherwise.

Let’s say the market value of a hot, healthy meal served under a roof is $10 (just using round numbers). On a breakeven day where approximately 25% of people are “Needy,” 31 (104 x 30%) Needy meals are served, generating social value of $310 (31 x $10). Divide this by the cost required to host Karma Kitchen that day ($310 / $750) and Social ROI is 41% despite posting almost zero profit (see illustrative single day financials in thumbnail below).

Karma Kitchen Single Day

For Karma Kitchen, financial and social ROI can be added together to equal total return on investment. This is because the same cost base (denominator) generates both financial return and the social return described above. In the scenario with no profit similar to the one above, 1% financial return + 41% social return = 42% total return.

But there is a problem. Karma Kitchen doesn’t have an unconditionally benevolent investor to offer subsidies if it operates below a breakeven financial return. It was also said that if the financial return is below zero for more than a couple of consecutive sessions, Karma Kitchen would likely have to shut down. Again, assuming customers continue to spend an average of $7.25, Karma Kitchen needs no fewer than 104 people per day.

Every business needs to earn a financial return to survive. For Karma Kitchen, survival is necessary to ensure that a social ROI will exist. We’ve established that society wants Karma Kitchen to survive in order to spread good “karma” and also to feed the Needy. To perform that function for society, Karma Kitchen should try to ensure it can consistently operate with a positive financial return. Keep in mind that labor (usually one of the largest costs for most restaurants) is free for Karma Kitchen, so there’s no excuse for operating without steady profit.

Given Karma Kitchen has only fixed costs, the two ways to drive profit are to increase either unit volume (traffic) or unit price (average contribution). Volume is probably out of the question given the fixed space (unless something can be done about table throughput), so the only viable option is to increase the average check.

It’s unacceptable that the vast majority of guests pay far less than a typical menu price.

For simplicity, let’s assume Yelp scores are a fair way to gauge public interest and affinity toward businesses. Comparing Yelp reviews for Taste of the Himalayas and Karma Kitchen reveals that although both have 4 stars (as of this writing), it seems KK has a slightly higher score (look at the Distribution and Trend graphs) as a result of having a greater number of 5/5 stars. This means, after adjusting for any inequalities in food quality, service, or any other aspect of the experience, Karma Kitchen still comes out slightly ahead. Higher score means greater value derived, which, to me, means it’s worth more. Therefore willingness to pay should be higher, right?

Yet the $7.25 per person contribution is not even close to what one would have paid at the for-profit restaurant: $12-13 vegetarian entree + $2-4 of sides + 9% tax + 20% tip (comes out to ~$20). Perhaps Karma Kitchen’s food quality and service are not quite as high, but the Yelp score comparison reveals that the intangibles associated with the gift economy concept should overcome any such shortcomings.

I think Karma Kitchen could find a way to increase its average check, either due to a shift in customer mix (see table at left for a couple of hypothetical customer segmentation alternatives) or by getting existing customers to “buy in” even more.

The more money that non-Needy people spend, the greater potential social ROI, because it means that a greater number of free meals can be supported.

I hope this place survives for a long time because I think the concept is very interesting. And I hope they really are improving the quality of human interaction as they claim. It would be a shame if an establishment like this had to close because it spent too much time focused on having guests write uplifting messages to each other, and not enough time ensuring its financial success.

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Response to Change.org’s State of For-Profit Social Entrepreneurship

March 6, 2010
The State of the For-Profit Social Entrepreneurship Field
Source: Change.org

Change.org writer Nathaniel Whittemore recently posted a well-articulated and concise ‘State of the Union’ for the for-profit social enterprise movement in the United States. The two best points made in this piece were the 1st point under ‘The Good’ (“Less Debate About Definitions”) and the 2nd point under ‘The Bad’ (“Overall Immaturity of Market Expectations”).

I wish to first draw attention to the issue of definitions as raised by the author of the post. I recently had lunch with a young social entrepreneur who is starting a fund to invest in other social entrepreneurs around the world.

As we were talking, it became clear, however, that he and I were using the term ‘social enterprise’ to refer to different things. My working definition is an organization whose products, services, or means of delivery directly alleviate a social problem, and whose financial survival is not dependent on charity.

He took no issue with my definition, except he firmly believed that a social enterprise has to be for-profit. If it isn’t for-profit, it can’t be funded through investment, and thus doesn’t qualify.

While I understand his logic, I find it disappointing that his definition specifically avoids all non-profits. The tax code delineation between the for-profit and non-profit world has strongly contributed to the social perceptions of one being full of heartless, calculating crooks and the other full of naive, bleeding-heart paupers.

But really, this is silly. A business can do good for society by organizing resources in an efficient way to create outsized value. A non-profit can be run with meticulous attention to detail, have high standards for service quality, and pay a competitive wage (some of the ones I’ve worked with in the last four years are even better run than some businesses). It’s only our imaginations and preconceptions that prevent this from being true.

I agree with Mr. Whittemore that setting unnecessary parameters hurts more than it helps. Rather than restrict it to for-profits, I argue that a social enterprise should not depend on charity, meaning that it can still collect donations as needed, but its primary method of funding is internally generated cash flow from selling products and services.

As far as the post itself, I agree the existing list of Good and Bad points, but there are a couple of points that I think should be added:

The Good

Attracting Top Talent

Achieving financial success and saving the world used to be mutually exclusive. That’s why the parents of Boomers pressured their kids to become doctors, lawyers, engineers and programmers. Teenagers in the 1990s and 2000s wanted to become Wall Street tycoons. The people who did social work were generally the less ambitious or the ones who came from wealth and could thus afford to do so.

But the forward-thinking youth of today, faced with the daunting task of cleaning up the mistakes of our elders, are looking for ways to do well and do good. This is a paradigm shift: more people assign value to finding employment that is both socially and financially rewarding. And even if that first job out of college isn’t directly saving the world, a good number of my peers are genuine in their desire to accumulate work experience, build credibility and a personal brand, and transition to work that gives back meaningfully.

The Bad

Lack of Research and Body of Knowledge

There is a lack of well-documented thought progression on what works, what doesn’t, and the usage of data to support claims. To elaborate further, the lack of dedicated experts (thought and opinion leaders) publishing such research means provocative discussion is minimal, and worse, left to the relatively uninformed masses.

Lack of Measurabilty

Social enterprise cannot exist in the long run without an interested pool of investor capital. Investors have a lot of ideas from which to choose, and crave quantification of results to sort through them. Of course, this has the potentially ugly downside of promoting conformity and incremental change at the expense of game-changing creativity.

But at the end of the day, all other things being equal, the social entrepreneur who can communicate both an EVA (Economic Value Added) and “Social Value Added” in terms of understandable metrics is the one whose idea will get funded.

Lack of Risk-Reward Payoff for Investors

With regards to market expectations, early-stage investors invest in ideas and companies that have a likely and viable exit opportunity (liquidity event such as IPO or acquisition). Currently that doesn’t exist with social enterprise except in the rare case of strategic M&A by a large corporation (i.e. Starbucks buys Ethos Water). This means less investors want to get involved, and those that do basically acknowledge that they probably won’t get any money back, even for their best projects.

Exit opportunities are critical to promote early-stage investing, and as a result, entrepreneurship. Due to Sarbanes-Oxley, the cost of going public has risen (auditing fees, modifying procedures and hiring directors that are Section 404 compliant, etc.), thus making it less attractive to small firms, contributing to a weaker IPO market in the United States and thus reducing the incentive for VCs to make the necessary risk-based investments in these fledgling startups.

So what? Social entrepreneurs don’t currently “go public” anyway. True. But that’s because of a lack of historical precedent, not because it isn’t a possibility in the future. The larger point is that without viable exit opportunities, it is more difficult for any idea to get funded.

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Gainful Employment for the Disabled and the Higher Calling of Social Enterprise

December 27, 2009

Social enterprise brings together two worlds (business and non-profit) that should never have been separated in the first place. Now that people are finding innovative ways to achieve social and financial missions at the same time, it’s hard to argue that social enterprise isn’t the wave of the future.

Take AbilityFirst, a Pasadena-based non-profit serving services adults and children with disabilities. In addition to day camps, after-school enrichment and affordable housing, it also runs a profitable business that gainfully employs 200 of its adult clients.

The challenges it faces are typical of those seen at any business or non-profit. But since AbilityFirst is both, the interweaving of objectives demands careful attention, nuanced understanding, and multi-purpose solutions.

AbilityFirst’s social enterprise was the purpose of the consulting engagement that brought in a team of five consultants from USC‘s Los Angeles Community Impact, of which I was one.

The client asked our team to look into ways to strengthen the two revenue-generating services that AbilityFirst Employment Services provides:

  1. Secure Document Shredding: competitively priced, NAID certified document destruction, offered through through a mobile shredding truck, door-to-door pick-up service, or drop-off service.
  2. Subcontract Fulfillment: packaging, light assembly, labeling, and mailing.

Secure Document Shredding and Subcontract Fulfillment are highly standardized businesses where the providers are highly fragmented. Said differently, the providers are mostly locally-focused enterprises that are very close substitutes for one another. Competition is intense and differentiation is very difficult. Customers expect high quality and will generally choose the provider who offers the lowest price.

The disabled workforce members are paid on a piece-rate basis, meaning that they are paid according to volume of shredding, units packaged, envelopes labeled/mailed, and so on. There are three Work Centers that perform this work: Downtown LA, Pasadena and Woodland Hills. NDAs prevent me from sharing more granularity, but Private Program Revenue accounts for 11% of total revenue, or over $1.1 million (see Audited Financial Statement) for the year ended June 30, 2009. This number is far less than AbilityFirst’s total operating expenses, but thanks to charitable contributions, government subsidy and interest income, the organization’s net loss is lessened. As you can imagine, downturns in the endowment portfolio accounted for a large part of its net loss.

Our Project

In the process of preparing to offer advice, we had to conduct substantial research and, in the process, learned a lot about effective brand positioning for and organization culture of a social enterprise.

Positioning

If AbilityFirst wants to compete, it has to convince potential customers that it provides an equally high product at an equally competitive price. After all, these customers are business owners or managers themselves, and they are accountable to maximizing the bottom line.

That AbilityFirst provides a social benefit matters little if price and quality are not competitive. In fact, many people raise doubts about quality control if the workers are disabled, not because they are mean-spirited, but because it’s admittedly rational that mentally disabled people might make more mistakes than the average worker. To compensate for this perception and to make sure there are no mistakes, AbilityFirst invests substantially more time than would otherwise be necessary to ensure that quality is just as high, if not higher, than the competition.

Therefore, when AbilityFirst advertises itself, it should logically stress price and quality first, then seal the deal with the social mission. In other words, win the contract based on the logical business appeal, then win their hearts (loyalty) by showing them how they are helping disadvantaged people earn a living wage.

In a similar vein, hurried business customers should be able to quickly find the information they need on AbilityFirst’s website. This includes information about exact services offered, contact information, and certification. They don’t need to spend their valuable time reading about AbilityFirst’s wonderful impact on the lives of the disabled; frankly, they’ll stop reading if they don’t get what they need quickly.

Furthermore, they don’t need to be struggling through the home page content to find the specific subpage of the website that discusses the Employment Services. Impressions have to be made quickly.

An excellent case study in this regard is Chrysalis, an LA homeless agency that runs a street-cleaning service that doubles as a job-training experience for LA’s homeless and ex-felons. As part of its rebranding effort, it created a separate website for business services. This separated webpage borrows upon the look and feel of the parent website while using more business-oriented language (profit, cost, certified, reliable, efficient, solution, etc.) as opposed to social-service oriented language (people, happiness, meaningful lives, doing good, etc.).  The domain names were different too: ChangeLives.org (non-profit parent) and ChrysalisEnterprises.com (social enterprise).

Finally, the two-pronged value proposition (business + social) best appeals to senior people at a company, and thus the message should be targeted there. Mid-level managers might have more direct authority over the decision to hire AbilityFirst, but they are unlikely to take a risk on AbilityFirst when they know their bosses will hold them accountable if anything goes wrong.

In contrast, senior people set the tone for other employees, so if the CEO says yes to a socially-conscious vendor, then everyone knows that such actions are sanctioned. Further, senior people are more concerned than junior people about the organization’s reputation in the community, and would view hiring AbilityFirst as good way to reach out into the community, get some favorable PR, generate goodwill, and drive sales.

Culture

Sales Manager

In most for-profit businesses, paying salespeople according to a minimal base salary plus commission makes a lot of sense. That person is strongly incentivized to aggressively generate and pursue leads, build and cultivate relationships, and, after the ink has dried, is handsomely compensated by earning a substantial commission on each sale. As a result, salespeople tend to be aggressive, highly competitive risk-takers with thick skin.

Such people rarely find themselves heading for the non-profit world. For one, the pay generally isn’t good enough. People who work at non-profits or social enterprises generally feel some sense of “reward” from knowing that they are helping people who could not otherwise help themselves; this intrinsic reward offsets the organization’s inability to compensate them with salaries typical of the private sector.

Second, even if AbilityFirst or organizations like it were to find a high quality sales manager who did a great job, auditors, senior Board members, and the community would scrutinize a generous compensation package. This issue is disheartening, because it goes to the very core of one of the limiting double standards of the non-profit world, which is the overall impression that returns must be achieved with a minimal level of expense. What for-profit business could compete without advertising? Without compensation high enough to attract top talent? Without “overhead?”

None. But all of the above are frowned upon for non-profits. Websites like CharityNavigator do more harm than good because they stress meaningless metrics like the percentage of dollars spent on program vs. “overhead.”

The “immorality” of the current model of charity is addressed in a great book by Dan Pallotta called Uncharitable. Dan came to USC to speak to Net Impact members about the issue.

Let’s say two charities have been around for 10 years and both seek to improve breast cancer awareness. Charity A spends 90% on programming, and 10% on overhead. Charity B spends 80% on programming and 20% on overhead. CharityNavigator would give A the better rating. Is this wrong? No, not necessarily, but amount spent on programming vs. overhead does not necessarily correlate with effectiveness of achieving the social mission. If B spends 20% of its resources (vs. 10%) on improved advertising and paying employees better, it might actually do a better job than A at reaching the mass population. But you wouldn’t know that from the rating, and thus you probably wouldn’t donate to B because it wouldn’t appear on the list of top breast cancer charities.

For what it’s worth, AbilityFirst has tried to have a dedicated sales manager in the past, but had not enjoyed success in finding the right person for the role and thus the position was eliminated.

Specialization of Labor

As I mentioned earlier, AbilityFirst takes on packaging, light assembly, labeling, and mailing contracts. These jobs are highly task-repetitive and therefore provide minimal intrinsic stimulation. Furthermore, it takes AbilityFirst Work Center managers longer to train their workforce on how to perform a particular task than it would take them to train a non-disabled worker.

Would it be more resource-efficient to have groups of workers specialize on particular types of contracts?

Before answering, we must also remember that AbilityFirst manages a bottom line and a social objective. The social objective is to provide employment to a segment of the population that would not otherwise have a job. The type of work they do is already commensurate with their intellectual capacity, so providing diversity of experiences within a range of otherwise repetitive tasks is very important. Economically, the workers are already paid piece-rate, so if specialization causes more downtime for some workers, that not only earns less income for the organization, but it also means the workers are earning less individually.

Economically and socially, specialization of the workforce is not optimal. That said, AbilityFirst could certainly attempt to focus on obtaining contracts that tend to be more profitable.

For our deliverable, we presented our recommendations with regard to the above issues as part of a strategic action plan. We also presented our project to an audience of LACI consultants, clients, friends, family and USC professors at the semi-annual LACI Showcase, held at the end of each academic semester when projects conclude.

The Higher Calling

I was drawn to AbilityFirst for personal reasons in addition to the intellectual challenge. My aunt and uncle are both mentally disabled adults in their late 40s. They live in India with my grandfather, who understandably cannot commit his children to an institution given that highly regarded programs such as AbilityFirst do not exist in India.

To make matters worse, the public attitude toward the disabled is ignorance, and this often manifests itself in exploitative mistreatment. At the same time, my grandfather is in his 70s, and the physical drain of taking care of dependents at his age is immense, just as it was for my grandmother before she passed away. If there was a program like AbilityFirst that could provide my aunt and uncle with gainful employment and a sense of community, I imagine all three of them would breathe a little easier.

Social enterprises are the wave of the future when it comes to welfare. Combining direct, active action with a willingness to create a new equilibrium rather than incrementally improving the extant condition will take substantial time to perfect, especially since the capital market for identifying and allocating resources to growing these ventures barely exists, and business models that incorporate social good are still relatively immature.

Nevertheless, business is fundamentally about the reorganization of resources (labor, materials, capital, and intellect) to not only create value, but also make conscious decisions about how and to whom that value should be distributed. Proprietors have downplayed society and the environment as stakeholders for too long.

With compelling business models such as the one used by AbilityFirst and other social entrepreneurs, the dream is to make the world a better place while also earning a healthy financial return.

Disclosure: I have been involved with LACI since September 2006. From May 2008 to May 2009, I was honored to serve as its President. Today, I serve as a Senior Consultant, working with clients and as an advisor to the Board.
Los Angeles Community Impact: LACI is a student organization at the University of Southern California’s Marshall School of Business. Founded in 2005, LACI strengthens non-profits and small businesses in the Los Angeles area by addressing business-related challenges through pro bono consulting performed by full-time undergraduates on a strictly volunteer basis. Grounded in a powerful service-learning concept, LACI improves the Los Angeles community through consulting and fosters the personal and professional growth of the next generation of business leaders. From inception until the writing of this post, LACI has worked with over 90 different organizations on over 100 different semester-long projects, with its volunteer consultants and Board contributing nearly 20,000 hours of community service. Visit the website to learn more.