ESSA

ESSA

The new philanthropic instrument


Bori Ahn

By

May 4th, 2015


Social impact bonds are the new frontier for charities and investors. Bori Ahn discusses why this new innovation could change philanthropy.


The blunders of well-meaning charities, NGOs and other organisations are much publicised. The organisation United Methodist Communications once used limited funds to fly volunteers from the United States to Angola. The problem? There were already capable people in the country. This slip-up is just one of many. Stories of ineffectiveness, miscommunication with communities, and top-down hierarchical management paint a picture of volunteers with too much idealistic zeal and not enough economic savviness. A recent trend to publish annual reports means that many organisations now openly acknowledge failure to donors. Although a step in the right direction, these inadequacies remain a waste of valued resources.

Those who donate want to avoid charities with widely perceived ‘bad’ qualities: financial trouble, highly paid CEOs, and big charities. Nowadays, the information available can aid prospective donors. Advertising itself as a ‘guide to intelligent giving’, Charity Navigator provides a list of the top 10 most inefficient fundraisers, among others, seen in Figure 1. These organisations are part of the reason why public and private bodies alike questioned the current social change system.

Figure 1 Top 10 Most Inefficient Fundraisers” These charities are four times less efficient than the average charity, spending more than $0.50 to raise each dollar, Charity Navigator, 2015

So what if we changed the way people fund a project? Could charity be integrated into a business model?

A clever new alternative making waves in the philanthropic sphere is the Social Impact Bond (SIB). An SIB brings together investors, government, and a social service provider to implement a program with clearly demarcated outcomes of benefit to society.

If the program is fruitful, the investor providing initial capital sees a return from public sector savings made by the government. As repayment is conditional subject to the achievement of quantified outcome, the investment risk is comparable to a structured product or an equity investment. The concept is illustrated below in Figure 2.

Figure 2: Basic model of a Social Impact Bond, Forbes, 2014

Developed by the UK’s Council on Social Action in 2007, this initiative was designed as a marriage of charity and business. SIBs attempt to tackle the paradox where investment in social action saves money, but government still struggles with finding the funds to do so. It also allows innovation in promising programs where they otherwise would not be governmentally funded due to insubstantial evidence of efficacy. Proponents laud its positive effect on taxpayers who do not lose regardless of success.

The idea of outcome-based payment is not unheard of. Microfinance in Indian village communities are oft cited as case studies of an observable way to make a profit by financing a social issue with a definable economic outcome.

The first SIB was launched in 2010 by Social Finance UK, an organisation that has pioneered the cause. In the US, a 2012 budget proposal dedicated $100 million to running SIB pilots. These have been met with mixed results. Opponents cite reliance on governmental support, caring more about profit than the social program, and impracticality of the concept as conceptual detractors. Additionally, because the government must budget for payments to investors, Stanford Social Innovation Review’s Kyle McKay suggests that SIBs may just divert funding for other programs instead of raising extra capital.

In practice, the sheer expense of the operation – evaluations, complex financial and contractual mechanisms, and program managers – makes it difficult to save enough government funding. Furthermore, some SIBs have also showcased the struggle to attract investors. In February 2013, the UK’s Allia, a charitable social investment organisation, was forced to retract the first public offer to invest in an SIB following lacklustre response. It would have invested in a solid program for affordable housing in Essex.

But Australia’s initial attempts seem to have been largely unaffected by these risks. In September 2011, the New South Wales Treasury released a Request for Proposal to non-governmental organisations entreating proposals for reoffending and children in out-of-home care. By March 2012, three respondents were working in conjunction with the government. And in August 2014, Australia’s first bond made a return of 7.5% to investors.

A $7 million bond hinging on the reduction of numbers of children in foster care, it has a term of 7 years and coupons are contingent on the cumulative restoration rate; the higher the restoration rate, the higher the coupon. It also guarantees a 5 per cent coupon in the first three years if the rate is 55 per cent or below. Currently supporting two SIBs, the state is awaiting the second bond’s returns report in October.

For the players involved, it is a promising – if tentative – win. Uniting Care received funding in its work to restore children in foster care to their families and educate parents of children at risk of entering care. The state government was able to reduce its foster care costs; KPMG estimates that the program could save the state $80 million by 2030. And, of course, investors are pleased with results, especially given the current low interest rate environment.

Following this feat, the government has proved willing to create more bonds for other issues like social housing and aged care. They should proceed with caution, aware of the possible pitfalls of attempting to cut government spending by investing in such a novel, radical idea. The input of investors could grow while the government’s public responsibility for delivering social services lessens.

Whatever the case, it is clear that the widely debated Social Impact Bond will be increasingly employed in future.  If it proves successful, this new avenue could change the face of philanthropy and social policy.

 

The views expressed within this article are those of the author and do not represent the views of the ESSA Committee or the Society's sponsors. Use of any content from this article should clearly attribute the work to the author and not to ESSA or its sponsors.

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