The Arts Policy Diaries: Thoughts on Capitalization

The past few weeks have been densely packed with activities of an artistic nature for me and so my blogging has been sorely neglected. But I’m back at it just in time for federal budget day! And since there’s really nothing new to say on that topic, I thought I’d share some general thoughts on capitalization and the arts. The topics of new business models and changing capitalization strategies have been at the forefront of conversations in the arts sector internationally as of late – particularly in the US and the UK where government investment is weakening. As I follow these conversations and analyze new research, some interesting perspectives and ideas are emerging that could have useful applications in Canada. To help set the stage, I will begin with a mini-snapshot of how current models have evolved over the past half century.

For the past 50+ years, the arts have been growing up in Canada. Governments have seeded this growth with public money and over time have continued to play a key role in supporting the evolution of the country’s artistic identity. The Massey Commission (celebrating 60 years this year) gave rise to the Canada Council for the Arts. In its early years, significant investment was made via the Council in what are now our major cultural institutions – the National Ballet of Canada, the Canadian Opera Company, Toronto Symphony Orchestra, the Stratford Festival, the Royal Ontario Museum, and others. Many of these organizations pre-date the Council itself. In the decades that followed, a surge of infrastructure development occurred. Many important artists emerged and organizations were born. Arts agencies at the provincial and municipal levels were established and contributed further public investment on a regional and local basis. By the early 1990’s the Canada Council recognized that many cultural organizations – including aboriginal organizations and organizations outside of Canada’s founding British and French roots – were an important part of the country’s professionalized arts sector, and public investment was made available to these organizations where they hadn’t been previously eligible. In the mid-1990’s, this new surge of organizations and artists eligible for public investment, coupled with major spending cuts to the arts by governments at all levels caused a significant ecological disruption.

Now twenty years later, we have nearly recaptured the investment that was lost. Though, despite the slow and incremental growth of government investment over the past two decades, the sector itself has also continued to grow during this time, exceeding growth rates of most other industry sectors in Canada. With the development of the sector now easily outpacing the growth of government investment, we have found ourselves in a difficult situation, asking questions about how to protect and sustain our current assets as well as nurture the growth and development of future generations of artists. The capitalization models that succeeded in past phases of industry growth make less sense today when existing organizations are struggling to find stability and so many new high potential ideas and innovations are left unfunded by government sources. What are the new business models and resourcing strategies that will provide a platform for the next generation of development in the sector?

In the non-profit arts sector, adapting to change can be more challenging than we realize. It is often unclear whether an arts business is adequately transforming with its environment – maintaining or enhancing its value and relevance. In the for-profit business world, the market will very quickly determine whether or not a business has value and relevance. The bottom line is clear, and the profitability of a company determines its ultimate success or failure. But in the non-profit world, we operate in a different paradigm – one that combines both market and social value to determine overall value. And because consumers are not the exclusive customers of the non-profit, its possible that the public and sometimes private investments that partially pay for the operations and programs of an arts organization will actually protect an organization from its environment, sustaining it despite potentially declining value and relevance.

Where a manager operating an unprofitable business will eventually dissolve the company, a non-profit organization has no clear path to dissolution. Culturally, Canada is a young country, and so we are just now reaching a point where we are facing a more significant turnover in cultural leadership as many of our founding leaders are leaving us. While some companies will successfully transition their leadership and carry forward their missions, others will need to ask challenging questions about preserving legacies and dissolving infrastructure. This shift will undoubtedly affect the balance of the ecosystem, and produce effects we may not be able to anticipate.

In her article called ‘The Looking-Glass World of Non-Profit Money: Managing in For-Profits’ Shadow’, Clara Miller, CEO of the Non-Profit Finance Fund in the US discusses a common set of basic business rules and principles that apply to for-profit businesses but don’t have the same application in the non-profit context. She very clearly illustrates how the assumptions that we make when operating a for-profit, can’t be made in the non-profit context. Notably, she writes, “most non-profit missions dictate that they accept a ‘market defect’ of some kind – as a standard operating condition.” The arts lend itself well to this model because of the consistently high cost of production and the limited means of the marketplace to pay for it. The notion of subsidized arts has been around for a thousand years, beginning with kings and popes who patronized musicians, sculptors and painters to create works of art for their kingdoms and churches. Today, non-profit arts, as opposed to commercial arts are supported by governments, corporations and donors who contribute to providing all citizens, regardless of their ability to pay, the opportunity to participate in cultural experiences.

A socially focused mandate also implies that a business is essentially providing services to those who can’t pay for it, and then seeking subsidy for the lost revenues from other sources. In the case of the arts, the cost of access to events, performances, products, programs and services remain affordable in the markets served by the organizations through subsidies from government and the private sector. So this means that non-profits are essentially running two businesses – “the core, mission-focused business, and a second ‘subsidy’ business” that involves things like fundraising dinners, capital campaigns, endowment management, grant writing, donated goods and services and other creative income-generating solutions. These activities that are secondary to the core mission also require significant human and financial capital, though the public and private funders who contribute to arts organizations rarely want to contribute to these costs – preferring to focus their investment directly in programming, core services or special projects. Miller cautions, “funders can unintentionally contribute to the systematic under-capitalization of the sector – encouraging the growth of programs without providing for a commensurate growth in capacity.”

In January of 2010, Grantmakers in the Arts – a US-based association of public and private arts funders, launched the National Capitalization Project. The goal of this project was to begin a conversation about what funders might do to address the long-standing condition of under-capitalization in the arts. Recognizing that funding practices inform the behaviour of grantees, they understood that the leadership in addressing this issue had to come from them.

One of the major motivators for instigating this conversation now is that they were observing how increased growth in the sector, at a time of flattening or declining levels of available resources, were pushing organizations into a state of hyper-competition. They agreed that they needed to collectively promote a common set of principles and behaviours in their grantmaking in order to affect change in the wider ecology. This is what they came up with:

1 – Encouraging surpluses and operating reserves
2 – Encourage organizations to ‘right-size’
3 – Take the long view and embed capitalization principles in conversations
4 – Offer general operating support
5 – Project support should be targeted to core mission and fully funded
6 – Be clear about the structure and timeline of grants

Some of these are self-explanatory, but I want to comment a bit on the first two agreements.

Encouraging surpluses and reserves was probably one of the most significant agreements that this group of funders made. Current funding practices require applicants to provide a balanced budget when they request funding. It is assumed that if you’re projecting a surplus, then you must not need the money. While organizations are not generally limited to accumulating a surplus at year-end and even over time, they are not, however, encouraged to build these surpluses into their requests for support. Some of the suggested actions that funders outlined were to actually seed a reserve fund, topping up grant requests with additional funds or in the case of project grants, to ensure that administrative overhead is supported in addition to the core activity.

To the second point – encouraging organizations to ‘right-size’ – this corresponds to what I find to be an especially painful conversation happening in the arts right now about supply and demand. Some cultural leaders have suggested that we have an over supply of arts relative to audience demand – suggesting that downsizing the sector will compensate for lack of capital. Personally I think this is a problematic way to think about creative expression in a society. A prolific amount of creative expression and a healthy desire to pursue this work professionally is surely a sign of good health in a society. Can we really have too much art? And if we were to limit the professional pursuit of creative expression, what would we gain? Perhaps the better question is, what would we lose? While I don’t think supply and demand in the arts sector, writ large, is an appropriate conversation, I do think that supply and demand is a concept that individual organizations and content creators need to consider.

When I think about the idea of an arts organization ‘right-sizing’, this relates to an organization’s understanding of its core content, and the relationship of that content to a public or set of markets. It’s really essential, in fact, for any individual artist or arts organization to understand the market for their content and to pursue a working model with a scope and scale that is appropriate. It’s equally essential that we understand how this changes over time, as this will affect the scope and scale of the enterprise. Over time, it may need to grow, but it also (heaven-forbid), may need to shrink. This is where our current funding practices can get in the way as, generally speaking, funding rules are designed to promote growth. They inherently reward growth by providing more stable, less restricted funding for enterprises that reach a certain scope and scale. What is more essential for success and future sustainability is that potential revenues (both earned and unearned) are aligned with expenses for activities that respond to marketplace interests.

Any arts manager would agree that the challenges of capitalizing arts organizations seem to be greater today than ever before. Globally, public investment is trending downward, and in Canada, private investment has done the same. These trends may correlate exclusively to the economic recession, though experience tells us that once funds are lost, it takes a long time to recapture this lost investment – not only to recover what was cut, but to then also catch up to the growth and inflation that will have occurred in the mean time. Canada has done particularly well during the recession, economically speaking, and it is perhaps for this reason that we’ve seen little spending reductions to the arts relative to other countries. In the US, the National Endowment for the Arts was recently threatened with proposed cuts anywhere from 13% to an elimination of their budget entirely. When the 2011 budget was finally passed, they were cut by $12.5M, reducing their budget to $155M. In the UK, Arts Council England was left stunned after the newly elected government imposed a 30% cut to the agency. The Council applied the cuts by reducing the number of artists and organizations they support, as opposed to cutting all clients across the board. Some organizations saw their funding disappear, while some saw an increase.

These challenging economic realities have sparked important conversations within these communities about capitalization models, business structures, advocacy and public engagement strategies, and new private sector relationships. In the US, there are daily conversations at conferences, and through blogging sites debating the merits of new business models, new forms of audience engagement, the use of technology and arts education. In the UK, cultural leaders are strategizing on how to build a stronger culture of philanthropy to make up for big losses in public revenues. In this regard, Canada seems to be behind the curve – not having experienced these shifts quite so dramatically. But make no mistake, while there are certainly some unique qualities that characterize the Canadian system, we too are facing change in much of the same ways, and we need to start talking about how we will adapt before we are in an even more precarious situation.