There has been a flood of writing on capital markets and social enterprise in the past several months.  I round up all the writing I have seen on the topic here.

A New Approach to Funding Social Enterprises
by Antony Bugg-Levine, Bruce Kogut, and Nalin Kulatilaka
Harvard Business Review
Jan-Feb 2012
http://www.ssireview.org/articles/entry/social_impact_markets

Social Impact Markets
Andrew Wolk
Stanford Social Innovation Review
Winter 2012
http://www.ssireview.org/articles/entry/social_impact_markets

Impact Investing (several articles)
MIT Innovations
Summer 2011
http://www.mitpressjournals.org/toc/itgg/6/3

Insight into the Impact Investment Market
JP Morgan Social Finance Research
14 December 2011
http://www.thegiin.org/cgi-bin/iowa/resources/research/334.html

The Promise of Impact Investing
V Kasturi Rangan, Sarah Appleby, Laura Moon
Nov. 4, 2011
HBS Note

The Harvard Business Review has an interesting piece in its upcoming magazine on the value of financial engineering for social enterprises.  I have a couple of responses to some of the points made in the article.

1. The social-finance gap is another way of describing positive externalities.

But many, if not most, social enterprises cannot fund themselves entirely through sales or investment. They are not profitable enough to access traditional financial markets, resulting in a financial-social return gap. The social value of providing poor people with affordable health care, basic foodstuffs, or safe cleaning products is enormous, but the cost of private funding often outweighs the monetary return

What the authors are describing here economists call externalities.  Social enterprises engage in activities that have positive externalities – that is, the social value of those activities to society is greater than the private value of those activities to the individuals that pay for them.  Consider for example the provision of food.  The provision of food by Kroger or Whole Foods to a person with average income in the US can be described as a transaction that has no externalities.  This is a generalization, of course, that assumes that all the costs and benefits of producing and consuming this good are captured in the price of the good.)  Therefore the private value of providing this good, or its price, equals the value to society of having this good provided.

Now consider the provision of food to an impoverished person who lives in government or other types of shelter.  The provision of food to that person carries both a private and a social return, with the latter being that society has an interest in feeding people that would otherwise go hungry.  That social benefit is not reflected in the price of the food that the poor person would purchase in at a place like Kroger or Whole Foods because those prices reflect just the intersection of the private marginal cost of producing the food and the private marginal benefit to the consumer of the food.

Positive externalities like the one that results from feeding the hungry lead to an underproduction of the relevant service or good.  Society has an interest in seeing more of these transactions than currently occur.  In the case of food, the price point may be above that which many poor people can afford and therefore many transactions that society may prefer to happen do not take place.  (Conversely, negative externalities result in overproduction of relevant goods and services.)  This is one of the basic justifications for government intervention in the marketplace:  if the government can subsidize this type transaction, then more will take place.

The financial-social gap that the authors mention, therefore, is a gap between the value that the customer is willing to pay for the good or service that the social enterprise is offering and the value that society gets from having that good or service be provided.

Government subsidy is one way to “internalize the externality” – that is, to make the private value (the price) reflect the social value.  In this case, government subsidy would reduce the price of the good and thereby increase the quantity demanded of the good.  More of the good will be sold, reflecting, in perfect scenarios, the social benefit of the good.

2. There is financially-better way to accomplish the financing that the authors describe.

To see how the process works, imagine that a social enterprise operating in Africa requires an investment of $100,000 to build new health clinics and expects the clinics to earn $5,000 a year—a return of 5% on the investment.
Unfortunately, 5% is too low to attract private sources of capital. Traditionally the enterprise would obtain the $100,000 from a charitable foundation instead. But suppose the enterprise asked the donor for only $50,000. It could then offer a financial investor a 10% return on the remaining $50,000. The donor would receive no repayment—but it would have $50,000 to give to another socially worthy enterprise.

The private investor in this example gets a 5% return on $100,000 (or $5000) in the first scenario and a 10% return on $50,000 (or $5000) in the second scenario.  The investor prefers the latter scenario because, although the amount of the money he gets is the same, he now has to invest less to obtain that amount and therefore has a higher ROI.  The investor is able to access the higher, 10%, ROI in the second scenario because a philanthropic funder fronts $50,000, or half of the total needed investment, to the social enterprise.  Because one of the goals in the article is to explain how social enterprises can access for-profit funding, this scenario accomplishes that by showing how two investors with different return expectations accomplish that.

However, the social enterprise can access the same capital if the philanthropic funder were to simply GIVE the private investor $5000.  Consider this scenario:  A private investor wants a 10% ROI, but sees an investment of $100,000 that yields only 5%, or $5000.  If a funder were to offer the investor an additional $5000 contingent on the investment taking place, the investor now sees an ROI of ( [$5000 + $5000] / $100,000 = ) 10%.  In the scenario the authors describe, the philanthropic funder spends $50,000 to obtain a for-profit investment.  In my scenario, the funder spends on one-tenth of that, $5000.  The social enterprise sees the same investment amount of $100,000.  And the for-profit investor is now arguably on the hook for the entire clinic.

My scenario has several problems.  First, the philanthropic funders have legal, political and personal considerations when making their investments.  The country’s legal regime may not allow them to give money directly to for-profit investors.  (For example, I do not think that Citi Foundation can simply give money to Citigroup to increase their return in microfinance investments.)  The political regime may also look down on this transfer of money.  Finally, philanthropies may have trouble raising money from donors if their money goes into the pockets of “other donors” – that is, rich investors.

Despite all that, the funder accomplishes more with less in my example, and has money left over to fund additional clinics.

3. Social impact bonds resemble infrastructure projects.

 Social impact bonds. Another innovation, the social impact bond, deserves special notice for its ability to help governments fund infrastructure and services, especially as public budgets are cut and municipal bond markets are stressed. Launched in the UK in 2010, this type of bond is sold to private investors who are paid a return only if the public project succeeds—if, say, a rehabilitation program lowers the rate of recidivism among newly released prisoners

I love that the authors mention infrastructure here.  Social impact bonds act very similar to governments’ current infrastructure projects, where the government temporarily leases assets to private companies in return for a performance-based return on the infrastructure that those companies create.  I will write more on this similarly – and on what infrastructure contracts can teach us about social impact bonds – in a later post.

Source:

Harvard Business Review

A New Approach to Funding Social Enterprises

by Antony Bugg-Levine, Bruce Kogut, and Nalin Kulatilaka

http://hbr.org/2012/01/a-new-approach-to-funding-social-enterprises/ar/pr

Governments worldwide are examining the social impact bond structure as a potential mechanism to deliver social services to their constituencies.  I gather here the latest information I have found about various

exploratory efforts around SIBs.

UNITED KINGDOM

- Peterborough ongoing recidivism SIB 

- Exploration of SIB addressing preventive care with troubled families

UNITED STATES

- Massachusetts

- Minessota:  investinoutcomes.org

- New York: "'We're actively moving it forward,' said Richard Buery, president and chief executive of the Children's Aid Society, which is working with the Cuomo administration and social justice organizations on the project." (source)
- Rhode Island: "SVPRI [Social Venture Partners Rhode Island] is collaborating with Boston-based Social Finance, Inc. to explore the feasibility of implementing Social Impact Bonds in Rhode Island. [...] We are currently reviewing the process of implementing a bond that would focus on reducing recidivism and could make Rhode Island among the first states to adopt this groundbreaking approach on investing with impact." (source)

SCOTLAND
- "The Scottish Government is currently investigating the potential of SIBs to contribute to improved outcomes and these may have potential to contribute to regeneration as well as other Governmental priorities" (source)

CANADA

- "Feasibility studies are already underway in Canada to explore the use of SIBs, including one with the Heart and Stroke Foundation of Ontario that looks at lowering health-care costs through an innovative health management intervention to reduce hypertension. This initial feasibility work will provide tools and a path to development that will document the support necessary to develop SIBs in Canada." (source)

IRELAND

- Ireland's social investment fund has issued a call for ideas for SIB funding, with the deadline of Sept. 2011.  Clann Credo - The Social Investment Fund, The Atlantic Philanthropies and the Centre for Effective Services have begun research Social Impact Bonds (SIBs) and their potential applicability in an Irish context. (source)

- Programme for Government (2011 to 2016) commits to establish Social Impact Bonds. Topics mentioned include social housing, anti-social behavior, children with ADHD, and diabetes.

AUSTRALIA

- "The New South Wales Government in Australia has announced that it intends to implement a Social Impact Bond (SIB) from February 2011." (source)

SRI LANKA
- "Jeevan Thiagarajah, Executive Director of the Consortium of Humanitarian Agencies, in a proposal to the Ministry of Finance has suggested the creation of social impact bonds. He says under this the initial objective is to attract contributions of Rs.5, 000 from one million citizens who would receive annually 2 % interest on their investment which will be the initial capital of the fund." (source)

Update:

ISRAEL
- "The Portland Trust is in the process of establishing a Social Investment Task Force (SITF) in Israel. This will be led by Sir Ronald Cohen. The SITF will define and determine the course of action to reduce social gaps in Israel. A number of areas are being examined including: case studies of community investment funds from different countries; effective financial tools for social investment (including social impact bonds)" (source)

An interesting statistic about the decline of religious observance in Europe.

For years the number of faithful has been declining. The trend has swept across all of Western Europe, with churches forced to close in France and Belgium too. But in the Netherlands, Christianity's retreat from society has been particularly drastic. The Protestant Church alone loses some 60,000 members each year. At this rate, it will cease to exist there by 2050, church officials say.

Source:

http://www.spiegel.de/international/zeitgeist/0,1518,805075,00.html

I love this recent speech by Gara LaMarche at Atlantic Philanthropies.  Just tells us, simply and directly, that what people like me who are interested in "evaluation" and "performance" are amoral technocrats.  He's right.  How often we forget that what drives people - not only money and resources, but, more important, hearts and minds - are issues and content, not processes.

Here is an interesting twist on microfinance by West African and Dominican immigrants in Philadelphia.

In this version, the nonprofit fronts the money so that each participant can get a small loan right away — in the case of the Woodland Avenue group, either $500 or $1,000 — rather than waiting their turn for a larger lump sum. But like a traditional ROSCA, everyone shares the risk, via an agreement to assume responsibility for their peers' debts. That peer pressure drives near-perfect repayment rates.

There seems to be a geographic risk here:  If a large grocer opens nearby, many bodegas will see demand plummet and risk-sharing among them won't absorb the shock to their ability to repay the loans.

Source

http://www.citypaper.net/news/2011-12-15-philadelphia-immigrants-rotating-savings-rosca.html

I love how clearly Larry Summers articulates our economic crisis:

LS: The principal problem for the United States economy over the near to medium term continues to be lack of demand. Demand, unfortunately, is heavily in the control of fiscal policy, which requires congressional action for important actions, and monetary policy, which depends on the Fed. So there are limits to what the Obama administration unilaterally can accomplish.

- Interview with Foreign Policy

The New York Times has a wonderful article on Mitt Romney's life in Cambridge and at Harvard's law and business schools.  The articles remind me of a series that the Boston Globe several years ago, which I post below as well.

I think Jodi Canton does a wonderful job of describing how hard working and dedicated to his career and studies Mitt Romney was during his three-year-long joint degree studies at Harvard.  But during the process, she makes the HBS appear much more rigorous and daunting that I have found it.  Perhaps in Romney's day, being grilled was a huge and scary deal.  But today it is stressful and uncomfortable only -- and by no means the frightening endeavor that Canton makes it seem.  The cold call, discussion-based classroom experience incentivizes student to prepare - lest they appear stupid.  But with 10% of the class receiving a "3," the lowest mark, and 20% receiving a "1," the highest mark, while the majority receive a "2," that incentive is weak and forces you to study only so much.  Driven people drive themselves to succeed regardless of environment, and I think Mitt Romney's driven nature (note that I do not endorse his candidacy or politics, but only admire his drive) speaks more of him than of HBS.

"The Making of Mitt Romney"
http://www.boston.com/news/politics/2008/specials/romney/

"At Harvard, a master's in problem solving"
http://www.nytimes.com/2011/12/25/us/politics/how-harvard-shaped-mitt-romney.html

More information on the metrics for the second social impact bond project announced by Civil Society Minister Nick Hurd involving problem families in Birmingham, Hammersmith and Fulham, Leicestershire and Westminster.

The new bond for projects with problem families is likely to be more complex. The consultants A4e Insight have been hired by the Office for Civil Society to develop the metrics and will produce an initial report by Christmas. Edward Hickman, director of the firm, says that before any project can go ahead, it must be able to quantify a way of improving families' lives and the improvement must generate sufficient savings for the local authority. Those savings must also be "cashable", he said - capable of being turned into hard cash that will be used to pay back investors.
Andy Robinson, assistant chief executive of Leicestershire County Council, one of the local authorities involved, says there are likely to be a number of metrics. "There are a range of outcomes that might benefit the council," he says. "They might include a reduction in police visits, a decrease in eviction rates, or a rise in school attendance."

Source:
Third Sector
Analysis: Can social impact bonds help to create a better society?
1 November 2011
http://www.thirdsector.co.uk/news/1101352/analysis-social-impact-bonds-help-create-better-society/

I came across a paper on social impact bonds by the Young Foundation in the UK that describes a "Public Sector SIB" where local authorities borrow in capital markets to finance a social program and are repaid by the national government is the social program meets predetermined outcomes.

This is an interesting variant on the social impact bond structure that was implemented in Peterborough, UK.  There, funding was raised from foundations and other philanthropic sources, rather than the capital markets; the intermediary was Social Finance UK, a nonprofit, rather than the local government; and the payer was the local, rather than the federal, government.

The obvious advantage of borrowing from capital markets by floating municipal debt is that capital markets offer access to much more money than philanthropies have at their disposal.  And capital markets can not only fund larger and many more interventions, but also offer rating by pricing the risk of the social impact bonds.  In this sense, the pay-for-success contract actual does become a bond -- whereas now the bond is a misnomer for a contract contingent on outcomes.

Perhaps the largest disadvantages to using local governments rather than third-party intermediaries as the project manager revolves around risk and management.  The Peterborough model transfers risk from government -- that is, from taxpayers -- to the funders of the intervention.  If the intervention does not achieve the predetermined outcome, then funders do not get paid.  In the model described by Young Foundation (and they describe other models as well) local taxpayers retain the risk of intervention failure because the bond must be paid, yet the federal government payments are contingent on outcome.  In fact, because mutual funds are large purchasers of municipal debt, and people's retirement portfolios often sit with mutual funds, taxpayers are hurt three times:  from the failed intervention that aimed to improve their social welfare; by having their taxpayer dollars diverted to payment for a failed intervention; and from whatever effects this may have on their retirement portfolio.

Second, although whichever party bears this payment risk faces the greatest incentive to organize the program in a way that best achieves outcomes, the local government may not be the best suited to accomplish this program management.  Local governments typically work with service providers on a regular basis and understand the existing landscape of service delivery well.  But not every local government has the capacity to discover and understand new types of interventions, orchestrate complex delivery of services in a new way, or oversee service delivery in a new way that forces providers to prioritize outcome over process compliance.  Outsourcing of programmatic content and project management is one of the things the innovative social impact bond scheme is testing.

Paper source:

Geoff Mulgan, Neil Reeder, Mhairi Aylott & Luke Bo’sher
Social Impact Investment: the challenge and opportunity of Social Impact Bonds
The Young Foundation March 2011.
http://www.youngfoundation.org/files/images/11-04-11_Social_Impact_Investment_Paper_2.pdf

I recently came across and short and interesting interview with Dr. Judith Rodin, president of the Rockefeller Foundation.  I roughly capture and comment on two Dr. Rodin's points below.  The full interview is here:   http://www.bbc.co.uk/news/business-15102389.

If you look at the problems in the world ... it's estimated that there are trillions of dollars in need.  It's very clear that when we did the catalogue that there are really only billions of dollars of money in government aid and philanthropy that are the traditional sources of trying to solve some of the world's problems...  At the same time we were beginning to understand that capital markets were developing funds with what we called double bottom line mandates...

I think that this quote captures an interesting shift in the social contract between businessmen and citizens in general and the governments under which they operate.  The way I understand the original social contract is that people unite under governments, and agree to surrender to it some rights and resources, and the government agrees to resolve for those people a set of collective problems that they alone cannot address, such as providing for a common defense.  When the Great Depression drastically undercut social welfare, not just in the United States but also abroad, the government took a much larger role in creating and sustaining social safety nets -- we now taxed everyone much more and redistributed welfare to a greater extent.

We now seem to be moving away from looking to governments and international development agencies for safety nets and economic development assistance.  Most of the funding and technical acumen still resides within governments.  But people seem to be increasingly looking toward non-governmental solutions - whether by giving to NGOs as a way to assist with acute crises like in Haiti and Chile, or by preferring double-bottom line solutions like microfinance (through Kiva and others) rather than waiting for the IMF or USAID.

High net worth individuals are acutely aware of the growing inequality in Asia and other developing countries. They want to give back in ways that are consistent with the ways in which they gave money ... For those who would like to figure out how to use their financial acumen and have social impact within the same set of vehicles ... impact investing is becoming a great idea. 

I take away from this quote that economic and social development by businessmen will look drastically different from that done by international development agencies and NGOs.  Already, as I sit in classes at Harvard Business School where we discuss impact investment and social businesses, I see a focus on financial health of socially responsible enterprises at the expense, at least in my mind, of focus on the social impact of those businesses' activities on their target populations.  Whereas financial return is measured using complex instruments, validity of the logic model for the social impact seems to suffice for many business investors when evaluating social return.

A cute story about an early public awareness and mass philanthropy campaign from a professor of French and American history.

http://www.nytimes.com/2011/12/23/opinion/christmas-seals-and-mass-philanthropy.html

I have not yet seen public announcements of social impact bonds for "problem families," which UK's Big Society project intended to accomplish.

Here is from the August 2011 article from the Cabinet Office:

A major trial of an innovative new way to fund intensive help for families blighted by anti-social behaviour, crime, addiction and poor education was announced by Nick Hurd, Minister for Civil Society today.
Liverpool and Essex are also looking to trial a related Social Impact Bond initiative to support vulnerable adolescents and their families with the objective of preventing care entry
We expect the Social Impact Bond pilots to be funding intensive interventions from spring 2012.

The Rt Hon Iain Duncan Smith, a British MP, spoke about social impact bonds at the Social Market Foundation conference last week.  He mentioned the Peterborough UK social impact bond, as well as Steve Aos's research in Washington State about estimating per-dollar social returns.   Some interesting news:

Many of you will be aware of the reoffending Social Impact Bond in Peterborough – the first of its kind anywhere in the world.
We are also in the middle of procuring for the Innovation Fund, which will enable investors to back innovative projects which help disadvantaged young people.
This is about getting in there before people have left school, targeting kids from the age of 14 and up and tackling the root causes of disengagement from education and employment.
And the Cabinet Office is currently leading innovative pilot projects with four local authorities, looking at how social investment can be used to help turn around the lives of some of the most troubled families.

More on Steve Aos's research here: http://www.wsipp.wa.gov/topic.asp?cat=18

MP's comment here: http://www.dwp.gov.uk/newsroom/ministers-speeches/2011/15-12-11.shtml

Roundup of great obituaries to Vaclav Havel on the web.

David Remnick, who spent many hours with Havel, writes in his New Yorker
http://www.newyorker.com/online/blogs/newsdesk/2011/12/living-within-the-truth-vaclav-havel.html

Dan Bilefsky, who covers Eastern and Central Europe, and Jane Perletz, who has covered Indonesia and Pakistan, write in the New York Times
http://www.nytimes.com/2011/12/19/world/europe/vaclav-havel-dissident-playwright-who-led-czechoslovakia-dead-at-75.html

And, my favorite, a reprint of Timothy Garton Ash's 1989 piece on the Czechoslovakian revolution in the New York Review of Books
http://www.nybooks.com/articles/archives/1990/jan/18/the-revolution-of-the-magic-lantern/

The McKinsey recently-launched Innovation Navigator profiled my friend's project in NYC to crowdsource ideas for greening New York.

Project:  http://nyc.changeby.us/#start

McK's Innovation Navigator:  http://mckinnovate.com/

Description:
"The Innovation Navigator aims to make it easier for everyone to learn about the people, places, and management strategies driving government innovation. Navigate around the publicly sourced case studies in the map. Become part of the discussion and submit your own."

The city council of Westminster incorporated social impact bonds into a new social contract with its citizens and businesses.

"The government's economy in public spending and other social and economic changes demand a new approach from local government. We see this as being guided by a new sense of civic responsibility, fairness and opportunity. Our principle of responsibility is about recognising the value of public contributions to contribute to making it a successful place.

http://www.guardian.co.uk/local-government-network/2011/dec/12/westminster-council-civic-contract-summary?newsfeed=true

JP Morgan's impact investment research team released its second report on the nascent industry.

http://www.thegiin.org/cgi-bin/iowa/resources/research/334.html

Biggest investment are in housing.

See spreadsheet below. If Table 8 in the report is reformatted and sorted by average investment type, we see that the largest investments are made in housing, the second largest in education.  Average housing investment is $5 million, and the average education investment is $0.7 million.  The average overall impact investment is around $2 million.


https://docs.google.com/spreadsheet/pub?hl=en_US&hl=en_US&key=0AoRYN7f_7ejDdEtUNTJhQnEzZno4UVlUUE13TkxBS1E&output=html

Interesting insights about government efforts to spur impact investment (pp. 7-8 of the report):

The United Kingdom (“UK”) government has established Big Society Capital, an impact investor with potentially GBP 600mm (USD 960mm) in capital to serve as a cornerstone investor leveraging further private capital. It will also support the development of new products for the impact investment sector, including “social impact bonds”, in which investors receive dividends linked to successful social results

In the United States (“US”), the Overseas Private Investment Corporation committed USD 285mm to catalyze USD 875mm of investment into six impact investment funds in emerging markets, an example of growing support for impact investments by development finance institutions. The US Small Business Administration also launched an Impact Investment Initiative, pledging USD 1bn over five years to support domestic businesses operating in underserved communities. The initiative matches capital raised by private investment funds through a public-private partnership.

The Australian Government’s Social Enterprise Development and Investment Funds initiative established the country’s first investment funds for domestic social enterprise late-stage seed and growth capital. The funds have been seeded with government first loss capital, include matching capital from private sector funders, and will provide flexible, tailored financial products and support to social enterprises.

"The data exhibits a lower return expectation for developed market impact investments than for traditional investments in the same region."
"For emerging markets, by contrast, the impact investment return expectations are more in line if not higher than the benchmarks’ realized returns"

What do impact investors expect from their investments?
"We find that 84% of investments into non-profit companies or funds were made with concessionary return

expectations (relative to similar non-impact investments). Similarly, 93% of investments made with competitive return expectations went into for-profit companies or funds."


What return do impact investors expect?
Return on debt investments into nonprofits was 3-4%.
Return on debt investments into for-profits was 7-8%.
The corporate form of the investee shaped investors' perceptions more than did the investors' goals for the investment (i.e., concessionary versus competitive expectations).

Returns on impact investments into for-profits do not exceed expectations.
Investors expected returns on the range of 2-7% into developing markets and 8% for emerging markets.  They realized returns of 3-8% in developing markets and 2-6% in emerging markets.  (Tables 10, 11)  And this result is likely to be more stark in reality because reporting bias probably inflates reports of realized returns and suppresses reports of returns that fell short of expectations.

I think the extent to which North Korea engages in externally-oriented violence depends on the extent to which Kim Jong-un feels that he needs to prove himself to solidify his rule.

http://www.nytimes.com/2011/12/19/world/asia/kim-jong-il-is-dead.html

http://www.nytimes.com/2011/12/20/world/asia/china-moves-to-ensure-stability-in-north-korea.html

Interesting historical footnote about George Romney, Mitt Romney's father, using computers to identify and track voters in New Hampshire in 1968.

http://graphics8.nytimes.com/packages/flash/politics/20071114_ROMNEY_TIMELINE/content/pdf/romney-tl-pres5.pdf