The Chocolate Trust : Regulators Fail and Kids Pay the Price as Hershey for-Profit Trust Controls School Charity

Would you be concerned if you knew there was a charity that served only a couple of thousand children each year even though its assets are equivalent to the Ford Foundation? Would you wonder what that charity, three times the size of the largest American community foundation, did with the money it accumulates and doesn't spend each year? Would you wonder who benefits from it?

Bob Fernandez, a reporter for The Philadelphia Inquirer, wondered all that and more about the $12 billion Milton Hershey School and did extensive research on it. He just published The Chocolate Trust about what he found. (Camino Books, 256 pages; $24.95/paper, $9.99/ebook).

The book is important not simply for what it reveals about Hershey, about those who have profited from its sometimes dubious practices over many decades, and about those who have suffered in its operation. The Chocolate Trust also ought to be required reading for anyone who thinks that the nonprofit sector can rely on self-regulation or even the ethically compromised and politically constrained practices of local and state government authorities.

And it is a cautionary tale for those nonprofits that try to cover up the sometimes distant harm they do under the veneer of an immediate higher purpose.

Mr. Fernandez reveals what can happen when a for-profit enterprise controls a subservient charity, when business leaders -- and the public officials and politicians they so strongly influence -- decide what to do with a nonprofit's assets.

First, a little history. In 1909, Milton Hershey, who had started a chocolate company and the building of a town to house it and his workers, established the nonprofit Hershey Industrial School, a residential facility to serve young, fatherless, white boys. He endowed this "orphanage" with land and other assets to be managed by the Hershey Trust, part of a for-profit bank.

In 1918, a few years after his wife, Kitty, died -- they were childless and had no heirs -- Hershey transferred all of his assets to the orphanage, making it an incredibly wealthy entity. However, he maintained tight control by naming the trust's board members.

Astoundingly, the for-profit trust board selected from among its own members to appoint the board of the nonprofit school. In plain words, the bank controlled the charity's assets and operations, and Hershey owned the bank.

This obviously is the reverse of normal practice in the nonprofit world where assets are controlled by the charity.

Through self-perpetuating and interlocking membership, the for-profit board domination continues to this day and includes some also serving on the Hershey Foods and the Hershey Entertainment & Resorts companies' boards, both of which are owned by the school through the trust.

Mr. Fernandez elaborates the early and continuing history of these enterprises through a series of journalistically styled and somewhat independent chapters. It is through his reporting of more recent board and executive actions, as well as other events, that readers can best understand the failings of this incredibly wealthy charity.

The avarice of some of the board members is shameful: One drew over $500,000 a year for his service on several Hershey boards, especially since the overwhelming majority of charity trustees and directors across the U.S. receive absolutely no payment. Yet this kind of greed pales when compared to the high-stakes use of the school's assets.

Although Hershey directed that surplus funds were to be "exclusively devoted" to the school, the president of the chocolate company turned to its lawyer to break that instruction. In 1963, through complicated arrangements -- explicitly kept secret from the public and even their own professional associates -- trust board members maneuvered to divert a significant portion of Hershey assets to a local development scheme and enlisted hush-hush promises of endorsement from the politically ambitious (judges, even the state attorney general) before the deal was announced.

In a ruling subsequently criticized by another judge, the sitting authority -- the same judge who had agreed to gut the trust's conflict-of-interest restriction -- sanctioned the transfer of over half of the trust's surplus and some of its farmlands to construct a medical center as part of Pennsylvania State University.

The development and continuing operation of this center was a boon to local residents, especially business owners, such as some of the trust's and school's board members and their colleagues, as well as to their political cronies. As a matter of fact, the university had named the initiator of this Hershey scheme, one of its "distinguished alumni," to its own board.

As Mr. Fernandez reports (as has Huffington Post and Chronicle of Philanthropy columnist Pablo Eisenberg, whom he credits), that $50 million transfer was just the beginning of a series of other questionable actions, including a court-rejected 1999 effort to again divert significant funds away from the school. That didn't stop the trust, however, from paying $12 million -- two or three times the appraised value -- for a troubled golf course owned by a board member and other local investors and then building a $5 million clubhouse there.

The school has had the 1909 restrictions removed so that it now serves boys and girls of all races. But in spite of its great wealth, it still remains tied to its immediate Dauphin County. It arguably should spend more of its money to serve children there better than it now does, having been sanctioned for discriminating against those with disabilities and castigated for failing to attend adequately to the mental-health needs of its students (one of whom committed suicide after she was denied graduation because of severe depressive episodes). It could also spend money to reduce its troubling student attrition rate, both of dropouts and of other students who feel themselves unwelcome or under-supported by the school.

The Hershey School's vice president for communications, Lisa Scullin, spoke compellingly and with understandable passion about the good that the organization does for so many children but declined to counter Mr. Fernandez's reporting of specific events, saying that she didn't want to rehash contested incidents or violate students' confidentiality. She said that the book was rife with inaccuracies but was willing to cite only the fact that she provided the author with data on improved student retention beyond 1999, the last year of figures he includes in the book's chart.

Mr. Fernandez did refer to his exchange with Ms. Scullin in his narrative and said that student retention long has been a struggle for the school, with the best retention rate never as high as it had been in 1968-69, when it was around 94 percent. For 2011-12, it was down to around 86 percent (presumably from the data Ms. Scullin provided), high attrition for an all-expenses-paid boarding school.

Ms. Scullin said that the peculiar control arrangement (for-profit over the charity) has served the organization well and that the school would not challenge it. She indicated that the school receives all of the funds it needs from the trust and that once it has reached the desired enrollment, it will decide what to recommend the trust do with the growing surplus but that it's speculative and premature to consider any specific options at this point.

Yet with its growing billions of dollars, it still should do much more now. For instance, the trust could get the Hershey Company to stop dragging its feet in creating a program that would assure and certify that its suppliers are free of the child slavery and exploitation that characterizes too much of the African cocoa trade. And it could seek authority to go beyond the parochial interests of its board members who wish to maintain the local geographic restrictions on use of the trust's assets; it conceivably could serve poor children around the nation.

The self-interested behavior of the board has not remained unchallenged. Protect the Hershey's Children, an advocacy group founded by school graduate Ric Fouad and other alumni, brought court action but has been found, after an initial victory, not to have the legal right to sue. And neither, apparently, do many others who share their carefully documented concerns.

The regulators who indeed do have authority seem to have exercised it with great sensitivity to political pressure: Twice a state attorney general proposed significant conditions to modify the structure and behavior of the various boards and twice the top state regulator backed away at the last minute, leaving only minor modifications in place such as a still very generous ceiling on board compensation.

The IRS has not intervened, and the local court with jurisdiction seems inclined to give Hershey directors free rein, possibly in deference to shared interests.

Regulatory authorities with charity oversight seem too hard-pressed or disinclined to pursue even the most egregious abuse by nonprofits. It is telling that it wasn't the under-resourced IRS that just took action against phony cancer charities but the Federal Trade Commission, bringing along all of the states and D.C.

As Mr. Eisenberg has argued in these pages, we need tougher and more robust regulation to correct abusive practices by nonprofit and philanthropic organizations. That will require the allocation of the funds necessary to protect the public interest, especially when abuses are reported by those who ostensibly are served, by those in the larger community, and by the news media.

Perhaps the only immediate solution to Hershey's inverted benefit pyramid is, as Mr. Fernandez suggests at the close of The Chocolate Trust, to break the interlocking boards, dissolve the trust, and place assets under control of true charitable directors at the helm of the school. To do so would take the authority of those with the public benefit at heart, but to Mr. Fernandez's and what probably will be most readers' dismay, they seem a bit scarce in central Pennsylvania.

The book would have been strengthened if it used timelines or other schematic illustrations to help the reader disentangle the complex history and operation of the various Hershey entities and actors. Still, Mr. Fernandez does help us understand a simple truth: Milton Hershey got it backwards, and it's kids who continue to pay the price.

Versions of this review also appear in The Chronicle of Philanthropy and PhilanTopic.