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Social investment – it’s a systems thing

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The second trap we fall into with social investment is using a broad word to describe a number of quite different things. We then assert that social investment is just one of them – the investment part.  To me, social investment is actually four quite different things which do overlap with each other, but are quite distinct.  It’s not surprising therefore, that in a “can you explain social investment to your esteemed relative” test, we end up getting slightly confused ourselves.  

First, social investment can be a financial service.  Our banks and other providers of financial services do what our banks do – make money for their shareholders through their business activities, within a set of legal constraints and social responsibilities.  They do this by serving their customers. For a large minority to a reasonable majority of the population, a straightforward for profit service may well have aligned interests.  The needs of shareholders and the needs of the customers come together in a mutually beneficial arrangement.  

However, not all customers are as profitable as the bank shareholders may like.  The tendency therefore will be the more profitable customers are going to be the primary focus, and the less profitable, a secondary focus.  The unprofitable customers are not going to be a focus, other than to try and reduce the drag on the profitability of the business.

It is quite natural, therefore, that gaps will start emerging in the provision of financial services, if you fall into the second or third category above.

There are classes of social investment activity that fall into this provision of social investment as a financial service category.  CAF Bank, pooling together the deposits of charities, to give them a fairer rate on their savings, is one such entity.  Credit Unions, with nearly 1 million members in the UK, is another basic service.  Savings and loans – they are the heart of good banking, though not of course banks themselves.  Entities like Ffreeze, with 40,000 customers providing a service like a current account that automatically helps you save, has “jam jars” for your various bills – these are the services that the financially stressed need, that mainstream banking services do not focus on. 

Second, social investment can be a flow of money.  A transient thing.  A Haiku written in the sand as the tide rises, whose beauty is no less for being momentary.  Entities like CAF Ventureseome have as their bread and butter services the provision of overdraft like facilities – cash flow.  You look ahead, look at the annual pattern of quarterly grant payments and service contracts and annual variations in donations, and realise you are going to have a cash flow problem in August.  You’ve got the money – just not at the right time.  Basic cash flow can be social investment.  Some asset purchase, leasing or mortgages may fall to this category of a flow of money.  Buying a property does not necessarily increase efficiency or provide new services – it replaces one flow of money, rent, with another, capital and interest payments, and converts it to a stock of capital in the form of a building.   It is what organisations need to run themselves.  Social sector organisations need this just like any other SME and if the mainstream financial services providers, for rational reasons fail to provide these cash flow services, then it seems reasonable for social investors to do so.  

Third, risk transfer.  If there are small to medium sized charities with good, better than the alternative or innovative services that they wish to provide to their beneficiary groups as part of their mission and a government with budgets to pay for these services on an outcomes basis, it might well make sense for charities to bid for and provide these services.   However, if the service does not work out, the charity will not be paid for in full.  There is a risk that spending will not be matched by the income. 

Now, charities and social enterprises are not by definition risk averse.  They are often highly entrepreneurial risk takers.  A charity will, however, come to a reasonable assessment of the risk. If my new service fails, will my existing beneficiary group suffer, as my reserves are down or gone, or I have to make cuts elsewhere in the organisation?  This is where social investment can come in.  Investors who have the resources to take the risk, investing in the new service, and if it goes wrong, take the financial loss instead of the delivery charity.  This is social investment as risk transfer – moving the risk from organisations that least bear it to those who can – from small charities to large foundations, for example.  The Social Impact Bond is one such innovation.

This is not in itself a good thing.  Resources, in the form of a financial return to the investor, flow away that would have otherwise gone to the charity or social enterprise delivering the service.  This can perpetuate a division between the “haves” of the charity world and the “have nots.”

Where it can be a good thing is in proving innovation.  Once the charity or social enterprise has learnt how to replicate to new geographies or scale its service, the risk is lower and the new for risk taking money may have mostly passed.  So there is no need to perpetuate a cycle of risk taking social investment if it is not needed again. 

Fourth, social investment – as investment.  Just like any other SME, charities and social enterprises need resources to fund growth or develop new services.  In an ideal world, a surplus of income over expenditure would be sufficient to provide enough funds to invest in these new products or services and for some charities and social enterprises, this self-funded growth is both possible and ideal.  The next source would be external grants and donations.  There is a long history of both private sector as well as social sector innovation funded by grants from government or charitable sources.  Again, if you can get money that would not be available to you for any other purpose, as a grant, for investment, by all means take it.

In a world where grant funders keep a close eye on margins and government seeks greater outcomes for the same spend, the ability of social sector organisations to self-fund or raise sufficient grants for growth, at the smaller to medium sized end of the sector is constrained.  This is where social investment comes in.  Where there are income or contract generating services, where the margins are sufficient to repay and provide a return to investors, to cover their costs and maintain the value of their money against inflation, this is where social investment applies.  At times, it feels like a grail quest where the definition of a social enterprise is “an organisation where profitability is always three years over the horizon.”  Yet there enterprises that break through operate at scale and are viable and the sector is full of them. Grant funders and social investors probably see the least of the most successful ones – they simply do not need external finance from the likes of us and a good thing too.  There was wave of social investment focused on growth social enterprises starting from 2008 onwards and looking at it today, I’d definitely say it has filled a gap in the market and to some good ends.

So what does this tell us?  

That social investment is not one thing, it is at least four things. A financial service, a flow of money, a risk taker, an investor.  And that is just looking at it from the side of the recipient charity or social enterprise.  It can be so many things from the other side – a bank deposit, a withdrawable share, a loan, a bond, a private company investment, a publically tradable share, a fund, or thorough an ISA or even part of a pension. The helpful thing is to be clear what it is that you are doing, in your piece of social investment and knowing what it is not.

Read part four: Social investment - how big is it?

This blog is number three in a series of five looking at Understanding What Social Investment Is

Last updated | 
22 December 2014


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