Impact Investing – A social approach to investments

I read this news article and I like the idea of this investment approach to helping social and community projects. While the concept is new to Australia, the Philippines has been doing Microfinancing for a long time already. However, the recent tax issues arising from the PEACE bonds are still show a lot of work needs to done to ensure these financial instruments are cleared of any tax implications.

Give and you shall receive – an inner glow and a 12% return

Sydney Morning Herald 19 November 2011

It seemed an idea sure to take off. When the chief financial officer of the Chris O’Brien Lifehouse at Sydney’s Royal Prince Alfred Hospital, Brent Cubis, knocked on the doors of potential investors last year with plans for an innovative charitable bond – to raise $35 million to complete its cancer centre – the initial response was promising.

”We spoke to over 300 people,” he told a Senate committee meeting in September. ”I have never been involved in anything where we have had such a positive response. The phone was not slammed down on us and doors were not closed. Everyone wanted to listen to us because they thought it was a great concept.”

Seeking to bring forward the second stage of the cancer centre’s development, including the final two floors for inpatients, and have it fully functional some three years earlier than planned, Cubis offered investors about 6 per cent interest a year over six years.

The coupon was to be paid from operating surpluses the hospital would make after opening, with expectations the early completion could deliver up to $20 million in cost savings.

It was a bold new approach to get funding for charity: rather than begging for more donations or government funds, it offered philanthropic trusts, financial planners, self-managed super funds and high-net-worth individuals to put their money into a bond that would serve a social benefit and still deliver financial returns, albeit lower than for commercial investments.

”It was tugging at people’s heartstrings, that was the sales pitch,” says Cubis, who in a former life was chief financial officer at the Nine Network. ”If you put your money in the bank you get 6 or 7 per cent. You put your money with us, sure it’s not as capital guaranteed and there’s a bit of risk, but you can still feel good about yourself that you’re supporting a social cause.”

The outcome was sobering: Lifehouse ended up raising just $3 million, less than a tenth of the amount targeted.

When it came to actually opening their wallets, it transpired many funds were restricted by requirements they seek the highest-possible returns, or simply did not understand how investing and philanthropy could be combined.

ANZ came to the rescue with a loan to cover the gap in project costs, allowing the construction plan to proceed.

”But it was very clear Australians still don’t really understand, they don’t like to blend their charity with their investments,” Cubis says, reflecting on the experience.

”They prefer to make as much money as possible over here and then turn around and give a cheque for donations.”

Fast forward a year and social investments, such as the bond Lifehouse was marketing and other ways to invest in charitable organisations and projects, are treated as the next emerging asset class.

Impact investing, charitable bonds, blended-value investing, venture philanthropy, microfinance programs, ”philanthrocapitalism”, the models and names are varied but all revolve around the same idea: providing capital to create positive impact beyond mere financial returns.

This is not about philanthropy and giving money away. Investors in these schemes want to see at least a return of their capital, adjusted for inflation – and more.

In contrast to ethical or socially responsible investing, which screens investment opportunities to weed out what it does not want to back, such as tobacco, weapons makers or gambling stocks, this is an active interest in investing in projects and organisations that will bring about social or environmental change.

Presented as a new way for not-for-profit organisations to boost their firepower as governments tighten funding and philanthropic donations prove insufficient, moves to develop a social financial market are intensifying.

A Senate committee that has been looking at options on how to improve charities’ access to finance and credit over the past few months is due to hand down its report in the coming days.

And, in September, for the first time in Australia, the NSW government announced that it would trial a social-benefit bond for private investors modelled on a pilot in the UK. It has called for proposals from organisations by next week on how to deliver community programs for out-of-home care for children and help reduce prisoner recidivism.

The federal government established a Social Enterprise Development and Investment Fund in August to kickstart the social impact investments market. It has provided $16 million in seed capital for funds that will offer financial products and loans for social enterprises to grow their businesses.

The money, managed by two community-financing groups, was matched by investments from private and corporate investors and the Christian Super fund.

”Social investment is the new black,” reckons David Knowles, the director of philanthropic services at JBWere, which advises high-net-worth individuals how to spread their wealth. Yet he says that while there’s much talk about the sector, and ”considerable interest” from non-profits to tap it, it is early days without proven investment models and a track record of success.

The appeal of social investment for non-profits is clear. It gives them the chance to go beyond the public purse and philanthropic souls to access a ”completely new pool of potential investors”, such as superannuation funds. So far, Knowles acknowledges, ”social investment is an emerging market and potential investors are only beginning to dip their toes into unchartered waters”.

Some experts say the potential for the market though, once developed, is huge. The US-based think tank Monitor Institute predicts impact investments could grow to represent around 1 per cent of global assets under management in 2008, or $US500 billion by the end of the decade. According to JPMorgan, the sector could reach up to $US1 trillion in invested capital once it starts attracting large-scale private capital as an alternative asset class.

”With increasing numbers of investors rejecting the notion that they face a binary choice between investing for maximum risk-adjusted returns or donating for social purpose, the impact investment market is now at a significant turning point,” the broker said in a report on the sector late last year.

”In fact, we believe that impact investing will reveal itself to be one of the most powerful changes within the asset management industry in the years to come.”

Yet looking at the local market today, it’s hard to see developments of similar proportions taking place soon, with not much more than a handful of actual opportunities available to social investors.

”You wouldn’t want to guild a lily and say we’ve got this explosion [in social investments],” says Simon McKeon, the prominent Macquarie Banker, corporate philanthropist and Australian of the Year. ”Progress is relatively slow.”

He is optimistic the concept will ultimately catch on as social investment was a ”natural area” to come to for the ”many people in this country who have business naturally through their veins”.

Being able to get a rate of return and their capital back at the end, which they can reinvest in charitable investments for more sustainable impact ”is philosophically closer to where a lot of people are in business, rather than just actually putting their hands in their pockets and giving the money away”.

Playing into this are the wealthy benefactors who are embracing the ideas of ”philanthrocapitalism” – using business principles to back social causes, planning their giving systematically and expecting to see a bang for their buck rather than simply handing out cheques. With more questions being asked about the impact contributions make, not-for-profits are increasingly being forced to operate like results-oriented social enterprises.

The fund-raising environment in the wake of the global financial crisis is tough. JBWere’s Knowles has found that many not-for-profits have reacted to the new demands and reorganised, appointing more experienced chief executives and chief financial officers with professional qualifications.

To Peter Shergold, the Macquarie Group Foundation Professor at the UNSW’s Centre for Social Impact, things are starting to align for social finance to take off.

”In the not-for-profit sector, in the corporate sector and in the area of investment there are changes going on which suggest that you could create a market for new financial instruments for people who want to contribute to the community good,” Shergold says.

Governments are also realising that using more entrepreneurial funding models, such as social impact bonds instead of contracting out community services, could bring better social outcomes.

”There are huge public savings to be made if some of those community ambitions can be met.”

Not to mention that, as in public-private partnerships, which have brought private investment into infrastructure projects such as tunnels and toll roads, risks for social projects can be moved on to private shoulders, and their upfront costs to the governments reduced.

Advising the NSW government on its social benefit bond pilot, the Centre for Social Impact estimated the overall potential scale of the social impact investing market in Australia at around $10 billion, based on the international estimates of 1 per cent of managed assets including superannuation funds. One of the growth engines could be the more than 800 private ancillary funds such as family charity trusts which donate some $150 million a year to charities and non-profits.

So with all the high hopes and win-win scenarios touted, what’s holding back the market? Is Australia ready to mix profits and charity and willing to invest in products with goals other than financial gains? And while financial details can be clearly outlined, how would the social return of those schemes be measured?

Players involved invariably describe the industry as ”nascent”, ”embryonic” or ”emerging”, pointing out that positive case studies, experienced intermediaries who understand both business and charities and regulatory changes are needed to gain momentum.

The landmark social investment so far has been the $165 million acquisition of the ABC Learning Centres by the GoodStart consortium in 2009, which dwarfs all the other $100,000 and small-million-dollar range deals in the sector.

Seeking to rescue tens of thousands of childcare places in Australia following the collapse of ABC, non-profits including Social Ventures Australia, Mission Australia and the Benevolent Society invested some of their own funds, obtained a $15 million loan from the federal government and $120 million in debt-financing from NAB.

The remaining $22.5 million was raised through social capital – issuing eight-year social capital notes to private investors with a fixed interest rate of 12 per cent.

For the social investment sector, much is riding on the success of the unusual venture philanthropy alliance of commercial, government, private and non-profit players.

”Nothing sets a market back more quickly than unsuccessful investments,” the CEO of Social Ventures Australia, Michael Traill, says. But with the first coupon paid out recently and the business seemingly performing to plan, he adds: ”I’m confident that people who subscribed in GoodStart and others would look favourably on future social investment opportunities.”

A crucial factor to attracting social capital was the promised 12 per cent interest, which stood out as ”pretty solid returns” in the jittery, post-financial crisis equity markets, according to Traill – the rate is about twice as much as Lifehouse’s bond coupon.

But one mammoth investment doesn’t make a market. And while its proponents say social finance combines financial gain and positive social impact, for some there’s doubt whether commercial interest and charity can really mix or whether it means profiteering from other people’s welfare needs.

Sceptics cite examples of microfinance lenders in Mexico and India, which reportedly have pushed some of the poorest into a spiral of debt with exorbitant interest on loans.

Seeking financial as well as social returns, ”it would be naive to believe that these two imperatives are never in tension”, JPMorgan acknowledges in its report. ”The recent global financial crisis will no doubt provide further evidence to support the claims of sceptics that capitalism left unchecked can be more destructive than constructive.”

A bigger deterrent for prospective investors is the lack of standardised performance indicators for social investment products. They don’t attract credit ratings or analyst research and have no proven track records, thus generally don’t qualify as approved products that financial advisers can recommend to their clients. And trustees charged with maximising profits for their clients find it hard to value the social returns.

The chequered history of public-private partnerships does not help to instil confidence. And globally, there are no established examples to follow, with Britain, Canada, Europe and the US still establishing their own versions of social investment markets.

”There is a concern that some of the social investing opportunities on the market at the moment, given the infancy of the industry, push up clients into higher-risk profile than they would prefer to be in,” says Andrew Thomas, Perpetual’s general manager of philanthropy.

If a social investment ends up losing capital, it could be more beneficial to make straight tax-deductible, traditional donations.

Behind the scenes, financial advisers and non-for-profits have been lobbying the federal government heavily in recent months for structures that will increase trust in the sector and encourage investments.

In submissions to the Senate committee, they have proposed steps such as establishing a UK-style social investment task force, charged with devising a plan for boosting investment in the sector, publicising product developments and putting in place rules and reporting standards for a social capital market.

Proponents say there should be more seed funding by the government to trigger private investment, and government guarantees of repayment for capital invested in social vehicles. There have also been suggestions that a wholesale bank be established to give better access to capital, and that the concept of carbon credits be emulated to introduce some form of social credits.

”It is clear that in the absence of a catalyst, this will remain an underdeveloped market,” Lifehouse warned in its submission, calling on the government to top up social finance products with cash payments or tax credits to put them on par with commercial investment returns.

If the right incentives were put in place, financial planners and wealth advisers would start introducing their clients to social investments, the sector argues.

Yet hopes for big government boosters are muted amid Canberra’s focus on balancing the budget.

Yet as realisation is growing that traditional ways of funding non-profits through government grants and philanthropy are not enough to address today’s social and environmental challenges, expectations in the emerging social finance market remain high.

”Commerce has lifted more people out of abject poverty over the last 20 years than the combined effort of every multinational aid program and all of the NGOs put together,” McKeon argues.

Players say the lukewarm response to early products such as Lifehouse’s social bond has taught them a crucial lesson: stepping out of the philanthropy niche into the big league of financial markets, it won’t be enough to appeal to investors’ hearts.

Show them the money, give them good returns.

”If this is going to be a completely new paradigm to why people invest, it really needs to tap into that potential of private investors and superannuation funds, who make investment decisions primarily on investment grounds not social grounds,” says JBWere’s Knowles.

Investors want to see at least some moderate premium against the risk-free cash rate before they open their wallets, the social finance architects say.

”We should look to borrow from models where we actually compensate investors for the risk that they’re taking,” says Belinda Drew, the CEO of Foresters Community Finance, which advises social enterprises struggling to obtain traditional financing.

Targeting wealthy do-gooders with sub-market returns would only intensify the competition for Australia’s small pool of philanthropists, she says.

”What we really want to do is be able to crack into that major market where all that money is.”

This story was found at: http://www.smh.com.au/business/give-and-you-shall-receive–an-inner-glow-and-a-12-return-20111118-1nn0b.html

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