Tapping the Catalytic Capital Potential of Donor Advised Funds
Above: Brilliant Planet is a portfolio company of AiiM Partners, an ImpactAssets Donor Advised Fund investee. Brilliant Planet is a carbon capture and storage company that is unlocking the power of algae as an affordable method of permanently and quantifiably sequestering carbon at the gigaton scale.
Donor advised funds (DAFs) numbered roughly one million accounts hosted across 1,000 community foundation and nonprofit sponsors, with $160 billion in assets at the end of 2020.1 With a compound annual growth rate of 17% over the last five years, DAFs are growing much faster than private foundations as a storehouse of philanthropic assets. And, historically they grant more than 20% of assets each year. But what about the remaining philanthropic capital? Where does it sleep at night?
Impact investing has found a foothold in donor advised funds. From affluent individuals and families to community and corporate foundations, donors are looking closely at the investment side of their philanthropic capital and investing charitable assets in ways that provide immediate benefit to those who need it most.
The $160 billion in DAF assets represents a pool of patient capital and an ideal source of catalytic capital—a concept gaining steam in the impact investing world that denotes ‘deep end of the pool’ investing.
As the Catalytic Capital Consortium says, this is an investment that is: “…patient, risk-tolerant, concessionary, and flexible… to support impact-driven enterprises and organizations that lack access to capital on suitable terms through the conventional marketplace… strengthening communities, expanding opportunity and economic growth, and fueling innovation…”
Using DAFs to Fund Entrepreneurs and Innovation
Philanthropic capital can be a critical source of risk-tolerant catalytic capital to early-stage innovators. This has been the motivation behind entrepreneur and Chief Change Agent at Eat the Change, Seth Goldman’s investments through his ImpactAssets Donor Advised Fund. His goal of investing through the DAF was to support other entrepreneurs and their vision. To him, taking more of a risk with the DAF made sense, because whether it succeeds or not, he will not get any money back personally. But if it is successful, that money will keep being passed on to others doing the same thing. Big wins so far include an investment in Happy Baby, an organic baby food company. Happy Baby was sold to Danone in 2013. Also, the DAF invested in Beyond Meat, a plant-based-protein maker, and Sweetgreen, an organic-greens restaurant. Both companies went on to Initial Public Offerings. These are in addition to numerous other early-stage companies, and community development investments to support low-income communities and small business owners.
Catalytic capital seeks to attract additional investors that otherwise wouldn’t join in, and to spawn innovation in structures that need early support. Examples include funding first time, diverse managers of venture funds to reach underrepresented entrepreneurs; funding early-stage, impact-driven enterprises that need risk-tolerant capital to grow; and funding first loss capital for community development financial institutions (CDFIs) that channel loans to small business, affordable housing and microfinance in distressed communities that are often left out of the banking system.
Readers may recognize a familiar narrative here, as catalytic capital sounds somewhat like “community investing.” And it is in that vein of investing. But it is also centered on effecting system-level impact in addition to filling funding gaps.
So what does Impact Investing generally, and Catalytic Capital specifically, have to do with DAFs?
ImpactAssets (the impact investing firm I co-founded in 2010, that was spun out of Calvert Impact Capital) started with what we thought was an obvious idea—offer a donor advised fund that was built of, by and for impact investors. We believed that impact investing and catalytic capital would find a natural home within these philanthropic endowment assets. The hypothesis was this:
- DAFs are comprised of donated, tax deducted assets. The funds have moved to a charitably intentioned “pocket,” they exist for the common good, and somewhat separately from Milton Friedman’s whispers of “profit maximization.”
- Donors are passionate about causes. Their impact interests often correlate to investible segments that can be amplifiers of their philanthropy. Conversely, their philanthropy can act as a bridge to their thematic impact investing.
- DAFs leverage capacity and expertise across a much larger footprint than an individual account would have by itself. Yet they don’t have cumbersome boards or decision-making processes; they are also less expensive to open and operate compared to private foundations; and they provide access to tools and information that enable informed and effective giving decisions.
- Donor advised funds are well suited to fixed income as donors plan for liquidity time horizons and grant making, and community investment has a lot of offerings that fit that profile.
- DAF donors, we surmised, would be willing to shoulder the more indefinite time horizons and risk of illiquid venture or catalytic capital investments since they are driven by impact interests. And they would be open to impact with a range of returns, in addition to only risk adjusted returns.
- Therefore, with the above considered, DAFs offered donors a financial vehicle that is personal and passionate, and that enables them to act early, quickly and somewhat fearlessly. They need not be as constrained as conventional personal or institutional assets, or even charitable foundation assets.
All in for Impact
“Where better to go all in for impact than DAFs?” we reasoned. And what better place to weave in catalytic capital and community investing? That hypothesis has turned to thesis, as ImpactAssets in 2021 reached $2.2 billion in assets while completing its 1,000th DAF private debt and equity impact investing commitment. We have seen individuals and institutions reach for deeper impact in their donor advised fund than they will outside of it — filling funding gaps and making innovative, early and more fearless investments to complement their abundant grant making.
That deep impact investing has become more accessible and more impactful as more investors, advisors, family offices and corporate foundations have come to leverage their philanthropic capital for catalytic impact investing.
At ImpactAssets, our 12-year track record has enabled us to expand advisory and support services and open new avenues of opportunity. It has led to the development of one of the deepest impact investment platforms in financial services, with proprietary blended strategies and a wide selection of fully vetted impact investment options across public and private markets, debt and equity, liquid and illiquid. It has taught us that it’s possible to address the world’s greatest challenges, from climate solutions and racial equity to gender equality and poverty alleviation, and that you can serve every kind of investment style — from market-rate to concessionary.
It’s Not a Moment… it’s a Movement. Impact investing in DAFs is Accelerating
That combination of experience, innovation and impact is driving philanthropic capital to greater impact. But it’s not just happening at ImpactAssets. Impact investing is expanding at other independent DAFs like Tides Foundation and RSF Social Finance. Community foundations from San Francisco and Marin to Boston, Vermont, Chicago and Seattle, have vibrant initiatives bringing place-based and other impact investing into their programs. Even some of the national financial services affiliated DAFs are experimenting too, as are some within the Jewish Federations.
This is a call to push deeper. It is time for all donor advised funds—and all foundations and endowments and their ~$1 trillion in assets, for that matter — to become sources of catalytic capital for deep, meaningful change. Organizations must lean in to building easy pathways for their DAFs to move toward catalytic impact. And every DAF account holder should demand that their DAF sponsoring organization offer flexible options for impact investing that are far beyond social and environmentally screened publicly traded stock and bond funds (though they should do that also).
The catalytic power of more than one million DAFs is a formidable funding source for social enterprises, CDFIs and organizations tackling the global systemic risks that are growing daily. It’s time to leverage the intrinsic nature of donor advised funds to enable the $160 billion in assets to be unleashed as catalytic capital even before being granted to nonprofits…to build the world we want to see beyond the limited one Milton Friedman handed us.
Article by Tim Freundlich, Founder & Executive Director, Strategic Development of ImpactAssets, where he develops complex partnerships and new client relationships, as well as supports field building and innovation. While previously at Calvert Impact Capital for 12 years, he conceived of and launched ImpactAssets, as well as was instrumental in building the now $500M Community Investment Note with more than $2 billion deployed into community development loans globally.