The positive use of money can change the world

Learning from a pioneering social bond:

A Point-of-View from the Social Investment Frontline

In 2012 Investing for Good (IFG) launched a Social Bond for the disabilities charity, Scope, which was the first corporate-style bond issued by an operating charity. It was received as a success, winning numerous awards over the past year. It was honoured with the 2012 Charity Times award for Social Investment Initiative, which hailed it as ?a highly innovative game changing sector initiative?. Along with its legal advisers Linklaters and Weil, Gotshal, Manges, the Scope Bond received the British Legal Award for CSR initiative of the year. It was also highly commended for the Social Enterprise UK award for Finance/Investment Deal of the year and won the Sustainable Finance category at the 2013 Sustainable City Awards.

The launch of our Social Bond Programme marked the eighth year since Investing for Good was founded on the basis of a simple vision:

the positive use of money can change the world

Over those years, as a pioneering social investment intermediary, we developed a unique insight into what it takes to make that vision a reality. Our journey has taken us from advising investors on creating portfolios that achieve both financial return and social value through developing a proprietary impact analysis and rating methodology that has been used to analyse billions of dollars? worth of impact investments to arranging impact investment products.

We continue to garner valuable insights from the launch of our Social Bond Programme. These insights allow us to continuously innovate by providing real-world lessons on offering investible products that create social value while generating solid financial returns. We want to share our point-of-view from three perspectives: what we hear from those around us producing valuable research, what we see on the ground in our work as an intermediary and what we do to evolve and adapt our products in response to the market we are operating in.

What we hear

Government austerity measures have put increasing pressure on the social sector. A recent survey by the Charities Aid Foundation (CAF) found that one in six charities believe they face closure in the coming year amid cuts in government spending and falling donations. At the same time, these organisations are seeing an increase in demand for their services and in the costs required to deliver them.  

Social investment and social enterprise models have emerged as potentially viable solutions in this tough economic climate.  We hear that the social investment market is small but growing at a rapid pace.  Estimates of the potential size of the global market vary (from $500bn to $1,000bn in 2020), however there is strong consensus that the market will grow significantly over the coming years.   In the UK it was estimated that the total amount of social investment in 2010/2011 was £165m. However, forecasts show that the market will grow rapidly - by roughly 38% per year - over the next 4 years, bringing the total supply of social investment capital to £1bn in 2016 in the UK alone.  

Increasing potential is ascribed to Big Society Capital to catalyse the industry.  They are expected to accumulate up to £600m in just 5 years to inject into social investment finance intermediaries (SIFIs), capital that is intended to flow through to the frontline organisations that need it.  Funds like Big Lottery Fund?s Next Steps programme and the Cabinet Office?s Investment and Contract Readiness Fund are designed to build capacity of SIFIs and social purpose organisations (SPOs) so they can effectively absorb this capital.

What we see

As one of these SIFIs, we have a unique point-of-view from the social investment frontline. Since the launch of the Scope Bond we have spoken with dozens of SPOs and have developed a strong pipeline of prospective issuers interested in issuing their own Social Bonds. We also regularly speak to and get feedback from our network of over 130 different investors about our social investment propositions.  This network is comprised of a broad range of investor types including institutional investors, high net worth individuals, foundations, advisers, and a number of others.

We see that the social investment market does indeed provide a viable and attractive alternative for many SPOs under pressure to deliver more services with less funding. However we are faced with a number of challenges on the path to growing this market. A few of our key insights are summarised below.

Interest in Enterprise Models

Many of the charities we speak to are seeking to develop or expand their sustainable revenue streams.  We see organisations transforming elements of their service provision from grant- or contract-based charitable models into revenue-generating enterprise models. Some charities are looking to develop concurrent social enterprise models, which will bring in revenue while providing employment and training opportunities for their beneficiaries. At the same time foundations with large endowments are considering modestly leveraging their portfolios to further support their beneficiaries. Scope is using the funds from the first tranche of their Social Bond Programme to expand their existing network of retail shops, which will provide more sustainable income for them to expand their charitable services.

Corporate Finance Expertise

Very few of the SPOs we deal with, if any at all, have raised investment in the capital markets before. Their well-honed, in-house expertise in raising voluntary income, bidding for government contracts and obtaining secured bank loans is not seamlessly transferred to issuing debt through a bond. We work very closely with these organisations guiding them through the process and taking them through a robust due diligence process.

Professional Subsidies

As with many new products or markets, subsidies are often needed to address market failure and catalyse market development.  In order to issue the first social bond, we secured subsidies from many of our professional service providers. Our legal advisers, Linklaters, worked with us on a pro-bono basis and many of the financial service providers to the programme ? such as the fiscal agent, registrar and transfer agent, custodian and stock exchange ? provided either pro bono or low bono support.  Investing for Good also charged a subsidised arranging fee. 

This reduction in cost was enough to attract first movers like Scope and their investors into the market and to begin to develop a pipeline of investments and a track record for the social investment market. The key for us now is to develop a sustainable model that is not reliant on subsidies to create a competitive environment that can grow and scale.

Investor Interest and Barriers

While we successfully secured investment from two institutional investors into the Scope Bond, we spoke to many more that did not subscribe.  We found that these investors are primarily bound by prescriptive internal compliance rules and asset allocation frameworks.  This often means they need offerings to be of a certain minimum size (because larger investors have higher fixed costs) and have an identifiable track record. They also often need to be convinced of secondary market liquidity and exit opportunities.  But, above all, financial returns are the primary concern for this investor group and we believe current market conditions provide an attractive backdrop for our products. Bond yields are low, and likely to stay low in the near term, which encourages many of these investors to explore alternative investment opportunities and products further down the credit spectrum.

The foundation space in the UK has invested approximately £50m in impact investments to date.  Foundations like Esmée Fairbairn, NESTA and Panahpur (all holders of the Scope Bond) have been important first movers in the space. Their appetite for risk is integral in developing the pipeline and track record necessary to unlock further amounts of capital from investors.

Advisers are concerned about the regulatory ambiguity of the social investment sector as well as the lack of tax incentives in this space.  A recent study suggests that extending existing tax incentive schemes, such as the Enterprise Investment and Venture Capital reliefs, to social purpose organisations could unlock £480m of investment capital. The UK Government has indicated that it will introduce new tax incentives for social investment in 2014 (Budget 2013, paragraphs 1.135 and 2.45).

Price Discovery

Some investors welcome what is often referred to as ?below market rates? for investments that generate social impact, while others are deterred by the idea that they should sacrifice yield.  The social investment market is very much in price discovery mode and there is much confusion, if not frustration, about where and how these products should be priced.  Social bonds have few direct comparable products and imperfect benchmarks, making the determination of ?market rates? a somewhat nebulous exercise. 

However, we are getting closer.  We have been exploring the pricing of our products for the institutional market in more depth. Using current rates and bond indices as benchmarks and the Scope Bond and Triodos? Golden Lane Housing Bond as comparables, we have put together what we believe is a first estimation of a social bond yield curve.