The assets managed by charities total around 100 billion Swiss francs. Charities use the returns to meet their charitable objectives, but what about the assets themselves?
Having non-profit status places an obligation on charities. ‘It goes without saying that charities should handle money carefully and professionally,’ says Tizian Fritz. ‘However, this is about more than just financial indicators. Particularly in light of the tax exemption that corresponds to additional income from assets, it is neither reasonable nor logical to ignore a charity’s objectives when designing its investment strategies,’ he says. He has co-authored a new study looking at the consequences of aligning a charity’s investment activities with its objectives, entitled: ‘Beyond Socially Responsible Investing: Effects of Mission-Driven Portfolio Selection’. The Swiss Foundation Code is formulated in similar terms: ‘Asset management should support the foundation purpose or at least may not contradict it’. The Code is a guide for charities that fund third-party projects, and it takes a holistic view of charities, including their investments. ‘A charitable foundation must bear in mind when managing its assets that it must not participate in any activities that would have a negative social impact. By contrast, it should examine with which investments it can create sustainable impact – with which the overall impact of the foundation is increased.’ Previous studies carried out by the Center for Philanthropy Studies (CEPS) showed that around half the organisations surveyed took the charity’s objectives into account as part of asset management.
Making meaningful investments
Michael Spalding, Head of Client Relations and member of Ethos’ executive management, also agrees that an investment strategy should be aligned with the charity’s purpose. This charity promotes sustainable investment that safeguards the interests of society as a whole in the long term. Most of the assets they manage come from pension funds, with only a small amount originating from charities. ‘It begs the question as to whether charities should merely invest their assets – or whether they should invest them meaningfully. And if that’s the case, what does “meaningfully” mean?’ he asks. Even though it’s a given that every investor needs to ask themselves this question, Michael Spalding is aware that charities have a special responsibility. The board of trustees needs to embrace the topic, discussing a range of strategic issues, such as what, alongside generating returns, they want to do with the invested funds, and what they want to avoid. For Michael Spalding, this is the question every trustee should ask themselves: ‘Do I want to have a positive impact on the economic environment in which I’m investing? Do I want to make the most of my rights and opportunities as an active, responsible investor in the form of my voting rights and my involvement?’
Having an impact
When a charity wants to use its investments to exert a particular effect, this is dubbed ‘impact investment’. In addition to positive returns, this form of investing aims to have a positive impact on the environment and society. Direct investments, generally via unlisted financial instruments, play a measurable role in realising the charity’s objectives. This means investing in companies and institutions that are not traded on the stock exchange. As a result, impact investment is nestled between traditional returns-driven investing and philanthropic giving, making this investment strategy perfect for charities. The approach of ‘mission investing’ goes even further than ‘impact investing’. ‘The concept of mission investing involves drawing on the charity’s purpose itself as the key guideline to see how risks and returns from financial investments should be assessed on a qualitative level,’ Fritz says. This enables charities to reach their goals more effectively, and can be achieved using two factors: firstly, the charity can exclude certain equities to avoid conflicts with its objectives, thereby ensuring that its investments are not funding something that prejudices its aims. Secondly, it can use positive selection criteria to boost the effect it has, by investing directly in companies or projects that are aligned with its objectives. This enables it to generate a measurable impact, but this second factor does not need to be applied across its entire portfolio. On this subject, Tizian Fritz says: ‘As long as the charity’s purpose serves as a guideline for structuring the investment process, this can be viewed as “mission investing” even if just part of its assets are invested in line with this purpose.’
A mission-driven investment strategy can have a negative effect on returns, as shown by the study carried out by Tizian Fritz and Georg von Schnurbein. They demonstrated that charities investing in the social and healthcare sectors, or in environmental conservation projects, had below-par financial returns in the past. However, Fritz notes that restricting evaluations to this aspect does not tell the whole story. ‘The performance of financial investments in the context of charitable organisations should not (and in fact, cannot) be assessed solely on the basis of their financial returns. Ignoring the organisations’ objectives when assessing the success and risks of investments makes little sense from a business perspective, and it is not justified, either.’ He suggests that excluding investments in certain companies reduces material risks, as making investments in an enterprise that is counter to the objective of the charity comes with considerable reputation risks. These risks run the gamut from a loss of trust through to a shortfall in donations or government contracts. All things considered, the positive aspect wins out. Charities that take their objectives into account in their investment strategy can prove that they are fulfilling their purpose more effectively. Tizian Fritz: ‘The selection does not merely reduce conflicting goals that are specific to that charity. Instead, the portfolio becomes more sustainable overall thanks to the three standard indicators of environmental, social and governance.’
The Velux Stiftung, managing around 220 million Swiss francs, has opted for impact investment. It invests ten percent of its assets in climate-related impact investments, while aiming to phase out all its investments in fossil fuels by 2023. Furthermore, it does not invest in controversial weapons or tobacco. ‘When we invest in assets traded on the stock exchange, we carry out an ESG screening,’ explains Lukas von Orelli. ESG stands for ‘environmental, social and governance’. ‘For private equity, or investments traded off the stock exchange, we only make the investment if an analogous ESG principle is applied.’ Lukas von Orelli is the director of the Velux Stiftung and president of SwissFoundations, the umbrella association for charitable organisations that use their money to support third-party projects. SwissFoundations has just published its 2019 Benchmark Report, which focuses on the issue of governance. ‘The participating charities are in a good position in terms of governance,’ says Lukas von Orelli, the president of SwissFoundations. He explains that there is room for improvement in terms of assessing the transparency and introduction of investment regulations.
Distribution of investments
The Benchmark Report provides facts and figures about how charities supporting external projects manage their money. As the 2019 report shows, shares make up around 40 percent of the portfolio held by a charity of this nature. There is little variation in this figure. ‘Over the past few years, it increased to 46 percent, at most,’ says Lukas von Orelli. The report covers 34 Swiss charities that fund external projects. They have different amounts of assets at their disposal, but as a whole, they encompass a total of around 12.7 billion Swiss francs. Their holdings of liquid assets and bonds make up a somewhat smaller percentage than their shareholdings, with the remaining 20 percent or so being invested in real estate and alternative investments such as commodities or hedge funds. Small charities have the highest proportion of bonds and liquid assets, and the lowest proportion of shares, while medium-sized charities hold almost half their wealth in shares. Compared to pension funds, the charities investigated here hold slightly more in the way of shares and alternative investments. This does boost their chances of better returns, but it comes with increased risk, too. The low interest rate environment, in particular, presents challenges for investors: how can they continue to generate returns? The Velux Stiftung responded to this question by adjusting its investment strategy. ‘Firstly, we actually took more risks,’ explains Lukas von Orelli. Secondly, however, the charity is also systematically expanding its holdings of non-liquid investments (private equity, real estate, private debt, infrastructure and timber).
Negative interest rates
The negative interest rate environment makes generating returns a challenge, but hardly any charities seem to be in trouble as a result of it. The Federal Supervisory Authority for Foundations (ESA) says that it has not noted an increase in charities that have got into difficulties owing to the situation on the financial markets. If a charity can only use their returns to meet their objectives, this is nevertheless a challenge. Instead of deploying a riskier investment strategy, in these situations, the ESA recommends that the board of trustees apply to change their statutes so they can work with their assets, too. ‘The ESA considers this preferable to a riskier strategy,’ says an ESA spokesperson, pointing out that ‘the board of trustees cannot put a charity’s assets at risk through negligent behaviour. If they misuse their powers, they will be liable for any losses.’ Previously, the ESA had advised charities to adhere to the guidelines issued for pension funds, but this is no longer the case: charities are free to decide how they invest their money. That said, boards of trustees are responsible for charities’ assets, and, by extension, the risks associated with the investment strategy.
Eighty-five percent of charities in Switzerland have an endowment capital of less than five million Swiss francs. If a small charity only operates using the revenue it makes from that capital, its financial scope is correspondingly modest. The small amounts at play lead to forms of collaboration being sought out, with umbrella foundations being one option. They offer active platforms to enable founders to set up sub-foundations, with an objective of their own choosing, under this umbrella. ‘Philanthropists may opt for a sub-foundation if setting up a charity is too much for them and simply making a donation is not enough,’ says François Geinoz. The president of proFonds, François Geinoz has been the managing director of the Limmat Stiftung since 1990. Even when it was founded back in 1972, its statutes contained all the key elements of an umbrella foundation, and the benefits of this structure have revealed themselves as the years have passed. François Geinoz: ‘In my view, too many charities are being founded – almost one a day. In many cases, a sub-foundation or purpose-linked fund would be the better, more efficient and cheaper option.’ Umbrella foundations also offer advantages in terms of investments. If desired, various sub-foundations can group together their assets under the auspices of an umbrella foundation. This not only helps reduce fees and costs: it also helps them tap into opportunities and boost efficiency when managing their money. In turn, this enables smaller charities to participate in investments they would otherwise be unable to access. ‘The Limmat Stiftung offers various investment portfolios, such as bonds, Swiss equities, global equities, and real estate, and the sub-foundations’ committees are free to decide how they distribute their assets among these portfolios.’
Some umbrella foundations were set up
following initiatives by banks, with François Geinoz including Credit Suisse’s
umbrella foundations among them, as well as those set up by the Reichmuth or
Lombard Odier private banks. Other umbrella foundations were set up by
non-profit advisory services or by certain philanthropists. There are around 25
of them in Switzerland at present. ‘A study of ten major umbrella foundations
lead us to estimate that each umbrella foundation has around 4.5 million Swiss
francs in funding available per annum,’ says François Geinoz.
Andreas Wieser, head of the ‘Berner Dachstiftung’
managed by the Graffenried Group, believes the advantages can be found in asset
management: ‘Working together to manage the assets of the sub-foundations or
funds can generate synergies in terms of asset management. Founders can then
enjoy the benefits of professional asset management while sharing (and thereby
reducing) the cost of this. As a result, they have more money to use for their
objectives.’ The Graffenried Group’s Centre of Excellence for Charities has
been managing the Berner Dachstiftung since it was founded. It has been around
for 50 years, and started life under its official name of ‘Fontes Stiftung’. As
part of its development, it was turned into an umbrella foundation under the
brand ‘Berner Dachstiftung.’ ‘The umbrella foundation organises professional
leadership, asset management, bookkeeping, auditing, reports for the
supervisory authorities, and so on, for all its sub-foundations and funds,’
says Andreas Wieser. ‘In addition, it is possible for sub-foundations and funds
to be tax-exempt if the umbrella foundation is tax-exempt and the purposes of
the umbrella foundation are aligned with those of the sub-foundations.’
The Ernst Göhner Stiftung shows how a trustee can exercise their responsibility. Founded in 1957 by Zurich-based entrepreneurs, the charity has now supported more than 30,000 philanthropic projects and given out almost 580 million Swiss francs. The Ernst Göhner Stiftung is a charity that uses its funds to support third-party projects in the fields of culture, environment, society, education and science. It describes its purpose as being a charity for enterprises, funding and families. ‘According to the task laid down in the charity’s deed of foundation, the endowment capital of the Ernst Göhner Stiftung is to be managed in line with business principles and entrepreneurial initiative, with the funding of associated companies included within this in particular,’ explains Suzanne Schenk, deputy managing director of the Ernst Göhner Stiftung. In line with these requirements, its investment approach is guided by questions of sustainability. Their investment activity encompasses maintaining workplaces and knowledge in Switzerland, given that their investments focus on companies with their headquarters and their primary potential for creating value located in Switzerland. ‘Alongside this, the board of trustees will soon be looking at the topic of “impact investing”,’ says Suzanne Schenk. ‘In principle, the charity draws a line between its business activities and its charity work.’ However, certain charitable projects are carried out with an eye to the charity’s business activities, such as infrastructure projects for Swiss schools abroad. Above all, this is due to the charity’s former holdings in Panalpina Welttransport (Holding) AG, now known as DSV Panalpina A/S, a globally active company whose executives, and their families, had to rely on these schools during the periods they spent working abroad. In addition, the charity supports an array of projects relating to funding dual vocational education in Switzerland.
Keeping funding stable thanks to diversification
Aiming for diversification is also key, ensuring that the charity’s endowment capital is invested in a broad range of areas. Holdings in companies, real estate and financial tools are all part of this. The charity also has two wholly owned subsidiaries since it repositioned itself a decade ago, and this structure enables assets to be managed professionally. ‘Thanks to these companies, the charity does not just have its own three boards of trustees at its disposal: it can also call on two additional external, independent boards of trustees with the corresponding knowledge and networks. One of our trustees presides over each of the two subsidiaries,’ says Suzanne Schenk. Income can fluctuate despite this broad diversification. ‘The volume of funding given out is decided by the board of trustees to ensure that these fluctuations don’t have an impact on the charity’s funding work.’
It’s up to the board of trustees
Most charities do not have the options available to the Ernst Göhner Stiftung, but the board of trustees bears responsibility nevertheless. In this regard, Michael Spalding notes that it is not unusual for trustees to see the charity’s funds as a means to achieve the charity’s objectives, not believing that the relatively small volume at hand could still have a hefty impact via investment or dialogue. ‘Trustees should be aware that their investments can have an impact and that they can, and should, exercise this responsibility,’ he says. The experience Ethos has gleaned over 20 years confirms that an investor can have a big impact. ‘Every charity that sets responsible objectives for its investments has an impact on society as a result,’ says Michael Spalding. When investors come together to form a group that holds a good chunk of a company’s equity capital, this enables them to make a positive impact. Regardless of the strategy, Tizian Fritz repeats that the trustees should bear responsibility, first and foremost, as they are most familiar with the charity’s purpose and values. ‘To start with, they should translate these values into investment criteria, either on their own or in dialogue with other, similar organisations or associations – and definitely without input from their asset manager,’ he says. Ideally, the organisation would have an investment committee with expertise in this field, but its asset manager can provide help with the actual implementation of the strategy. However, Tizian Fritz advises that these criteria should always be laid down in the charity’s investment regulations. Whether mission-based investing is undertaken does not depend on the size of the charity: studies previously carried out by CEPS show that it is not the size but rather the level of professionalisation that determines whether a charity’s objectives are taken into account in its investments.