Over the last 10 years, a number of groups have emerged under the heading of venture philanthropy. These firms, which apply the venture capital model to socially conscious initiatives, are now coming of age and fine-tuning their approaches to affecting social change.

“We share a basic genetic code,” says NewSchools chief executive Ted Mitchell of the various groups in the venture philanthropy space. Speaking to various venture philanthropists about their goals appears to confirm this: the same ideas continually resurface. The groups aim to use venture-based business development strategies to build scalable, socially conscious businesses capable of producing a significant and measurable impact on the sector or community in which they operate. “We like to think of the bottom line we're looking at as a social bottom line,” says Mitchell.

Venture philanthropy companies are defined by their basic structure as 501(c)(3) tax-exempt organisations. All limited partners in the venture “funds” are effectively making donations and do not receive profits. All returns made via the funds' investments are reinvested. “Funds are a construct of how we do business, not legal entities,” explains NewSchools partner and chief operating officer Joanne Weiss.

The ability of the venture capital model to build successful businesses made it a logical blueprint for philanthropists to adopt. San Francisco, California-based NewSchools, which was one of the first to develop the model, was founded in 1998 by social entrepreneur Kim Smith in partnership with two of the world's most acclaimed venture philanthropists: John Doerr and Brooke Byers of Kleiner Perkins Caufield & Byers. The three believed that this model would be able to effect social change in education where the venture model could be highly effective.

The most obvious difference between various groups is the way in which they narrow a potentially overwhelmingly broad mission. NewSchools focuses on the education sector in a handful of urban locations whereas a group like Venture Philanthropy Partners (VPP) narrows its scope geographically by focusing on the Washington DC metropolitan area. Acumen Fund focuses on basic needs such as healthcare, water and housing largely in South Asia and East Africa. Some groups, however, maintain broad goals such as New Profit, which is open to investing in any initiative that increases social mobility in the US.

Venture philanthropy delivers capital in three forms: grants to nonprofit organisations, low-interest loans to non-profit organisations, and equity or debt investments in socially conscious for-profit companies. All profits made from loans and investment in for-profit companies are then recycled for future investment. Philanthropists generally do not mix these approaches. New Profit has only made grants to date while Acumen Fund solely makes loans and invests in for-profit organisations, effectively recovering all invested capital.

The level of control exercised over portfolio companies is also a significant point of difference. New Profit offers four-year grants, averaging $1 million (€640,000), of “unrestricted funding” that can be used by the recipient either for growth tailored to specific programmes or for infrastructural growth. Portfolio companies receive capital once a year along with guidance and aid in reaching aggressive targets.

In contrast to this fairly hands-off approach, others maintain tight control. VPP determines what funding will be provided according to a detailed strategic plan and the financing is then committed at specific milestones when the capital is actually required. No capital is transferred to an organisation that is not earmarked for a specific purpose.

However venture philanthropists choose to deploy the capital, each group faces the same challenge of raising capital without the promise of returns. Family foundations and endowments have been the traditional lifeblood of social-minded investors. However, the relatively small contributions of these investors put a natural ceiling on fund sizes. For example, in its first fund, VPP raised $32 million from 29 families.

As venture philanthropy groups have begun to cast a wider net in their fundraising efforts, corporate funding has been the most natural extension of the limited partner base, although it remains a supplementary resource. “You want to get as broad and deep a funding base as you can,” says VPP president Carol Thompson Cole who counts Capital One and Willkie Farr & Gallagher among her firm's investors.

“We're trying think about how we can make this a retail contribution opportunity but we're really geared towards the high-net-worth folks right now,” says Acumen Fund chief investment officer Brian Trelstad. Nonetheless, Acumen Fund, which began as a spinout from the Rockefeller Foundation in 2001, has garnered significant levels of corporate contribution from the likes of Lehman Brothers, Cisco Systems and Google among others.

NewSchools recently launched a first-of-its-kind fundraising initiative by partnering with the National Venture Capital Association (NVCA). A $10 million fund will be raised from philanthropic donations made by the NVCA's approximately 480 members either as firms or as individuals. NVCA members will also mentor companies receiving funding.

We know that we need to begin to think about investors who are looking for a financial return because the real money is in the capital markets

Brian Trelstad

One of the more significant developments in venture philanthropy has been investors beginning to investigate the possibility of raising for-profit funds.

Approximately 25 percent of NewSchools' second fund ($15 million) was invested in real estate for charter schools by setting up organisations that recycle the money through a lease buyback plan. “We will most likely establish a separate real estate investment fund that will be a combination of philanthropic contributions and programme-related investments that foundations will make expecting to get a modest return back,” says Mitchell.

“If we want to go from a $100 million to a $1 billion fund, we know it's not going to be all on the back of philanthropy,” says Acumen Fund's Trelstad. “We're going to have to be able to tap into the capital markets, whether its hybrid capital or subsidised capital or just pure commercial capital, we know that we need to begin to think about investors who are looking for a financial return because the real money is in the capital markets.”

Other socially conscious venture initiatives are bypassing the philanthropic model and sticking to a for-profit model in order to most effectively garner funding while still affecting social change. IGNIA cofounder and former Kohlberg Kravis Roberts executive Michael Chu says that what differentiates his firm from Acumen Fund is its appeal to pure commercial investors by backing viable, entrepreneurial businesses in ‘basic needs’ sectors.

Based in Monterrey, Mexico and focused on Latin America, IGNIA's debut fund has held a first close on $20.6 million en route to a target of between $50 million to $75 million. Although anchored by eBay founder Pierre Omidyar's philanthropic investment firm Omidyar Network, the fund is geared towards developing a traditional investor base while also achieving social impact.

Increasingly, philanthropy and commercial imperatives are going hand in hand.