Conflicts of Interest: A Pervasive Threat to Healthy Endowments

Among the barriers to endowment health, the most pervasive at organizations without professional development staff is the use of an insider as an investment adviser.  These arrangements usually arise as a reasonable response to the perception that either the group lacks the skills to comfortably hire and supervise an outside advisor or the amount to be invested isn’t enough to support a more professional arrangement. Down the road, the organization can find itself stuck in an awkward position because nobody wants to risk offending the advisor by asking tough questions, much less by replacing him or her.

The best way to avoid getting stuck like this is to never get into such an arrangement to begin with.  Instead, the insider should be asked to be on the endowment committee where, unencumbered by the conflict of self-dealing, he will be able to provide unbiased advice. No professional advisor should be surprised to be asked to avoid a conflict as he already has to comply with similar professional standards on a daily basis just to maintain his licenses.  What is professionally awkward, however, is serving on an endowment committee where an insider is the advisor or worse, sits alongside you on the committee!

No surprise, conflicts of interest are also generally viewed as imprudent and violative of the fiduciary standards to which non-profit decision makers are held. That means conflicts could be illegal under UPMIFA, the Uniform Prudent Management of Institutional Funds Act(s) which have been adopted in 49 US states (see for details). It states that in selecting and working with an investment advisor, an institution shall act “with the care that an ordinarily prudent person in like position would exercise under similar circumstances.”  Some states, such as New York, go further and specifically require institutions to consider an agent’s “independence including any conflicts of interest.”  So check the provisions in your own state.  Of course, if you have to check which state you live in to see if you’re breaking the law, isn’t that itself a sign that you’re falling short of the fiduciary standard of ordinary prudence?

An even better reason to avoid such arrangements is that endowments managed by insiders typically don’t grow.  Endowments need to engender ownership by all stakeholders in order to attract buy-in and grow.  Nothing undermines ownership more than having an endowment associated with a single insider who is being paid.  If your endowment is known as “the thing that Joe runs,” you’ve lost the battle. Resolve now to eliminate conflicts of interest.  No large, professionally managed university or foundation would settle for less so why should you?

NOTICE:  The preceding is not legal advice but rather food for thought.  As suggested, you should seek professional legal advice if you have any questions about conflicts of interest.

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