Community Capital: Investing in Social Innovation Date: Wednesday, May 1, 2013 Time: 8:30 AM 9:45 AM Room: Oakhurst
The impact investing sector is growing Cumulative number of impact-focused funds 400 350 300 250 200 150 100 50 0 1970 1975 1980 1985 1990 1995 2000 2005 2010 Source: Clark, Emerson, Thornley, The Six Dynamics of Impact Investing.
Average investment sizes remain small Number of deals per bucket, bucket sizes shown in US$ millions 600 500 400 300 200 100 0 0-.5.5-1 1-1.5 1.5-2 2-2.5 2.5-3 3-3.5 3.5-4 4-4.5 4.5-5 >5 50-40 40-70 Source: Clark, Emerson, Thornley, The Six Dynamics of Impact Investing.
Breakdown of institutional assets in the U.S. Investor type Assets Pension funds $15.3 trillion Insurance companies $6.1 trillion College/university endowments $400 billion Private foundations $590 billion Total $22.4 trillion Source: Rockefeller Foundation.
Impact investment sectoral focuses Sector investment focus, percent of respondents 60 57 51 50 47 46 45 44 43 40 30 20 10 0 36 31 30 Source: GIIN, J.P.Morgan. Note: Out of 99 respondents.
Impact investment stage preferences Investment stage preference, percent of respondents 90 80 70 60 50 40 30 20 10 0 18 Seed/start-up stage 51 78 Venture stage Growth stage Mature, private companies 33 9 Mature, publiclytraded companies Source: GIIN, J.P.Morgan. Note: Out of 99 respondents.
Usage of impact investment instruments Investment instrument use, percent of respondents 90 83 80 70 66 60 50 44 40 30 18 20 10 15 14 13 11 0 Source: GIIN, J.P.Morgan. Note: Out of 99 respondents.
Spectrum use of impact investment funds Grants Below-market-rate Impact Investments Market-rate Impact Investments Conventional investments Charitable objectives Financial objectives Philanthropic return Financial return Source: Milken Institute.
Social investing capital structure Senior Debt Loan or bonds at market rates; takes collateral (assets) or cash flows before anyone else is paid Providing funding to protect senior investors from initial losses Shifts risk from the project and lenders through standby guarantees or reserve funding First Loss Protection Social Debt Credit Enhancement Market Equity Subordinated loans at alternative interest rates and terms; taking collateral (assets) or cash flows after other lenders are repaid Cash or in-kind services invested early; competitive returns Cash or in-kind services invested early; returns are at subordinated to market equity based on financial Source: Milken Institute. performance hurdles Social Equity
Phases of impact investment evolution Source: Freireich and Fulton, Investing for Social and Environmental Impact..
Continuum of mission-related investments Source: F.B. Heron Foundation.
Value of reported investments by region, 2011 Source: Saltuk, Bouri and Leung, Insight into the Impact Investment Market.
What are the new capital market opportunities? GRANT & AID (NFP) Low risk Sources : TIA, Hudson Institute, McKinsey, AMF, WHO, WSP THE NEW BLENDED OPPORTUNITIES Foundation Core Funds: $1 Trillion > Redirected To Mission Related Investment MRI Social Impact Bonds: Multi Trillion (WSP/ WSFF TEEB/ WHO) Capturing the Value of Externalities Local Pension Funds in Developing World. $1.3 Trillion > Capture and Leverage (AMF) Social Finance Tools Multi Billion FOR PROFIT SRI Circa $10 Trillion Metrics Mainstream For Profit Investments $285bn Historically 1/5 th VC/ PE Impact Invest Govt DFI s Circa $45bn
The move to outcome models: delivering multi-stakeholder solutions based on the delivery of tangible social outcomes CAPITAL MARKET INNOVATION Impact Investing Injecting Modern Capitalism into Social Market no financial return blended market returns market return Grants Recoverable Grants Programme Related Investment Investment Plus Mainstream Investments OUTCOME MODELS - Contingent Models Capturing Future Cash flow (Social Impact Bonds ) x 10+ INTERMEDIAIRES Capable of Blending Different Sources of social capital LEGAL Structures Corporate (B Corp / CIC) and Partnership Structures (L3C / SELLP) ENTREPRENEURSHIP Social Entrepreneurship the R&D of Society DISTRIBUTION Leveraging Civil Society and Corporate Delivery Mechanisms Sources: TIA / Bates Braithwaite / Bolton
Pryde
How much guarantee capacity US$1 in public funds buys 70 SBA 60 50 40 30 20 10 Typical State 0
How much lending US$1 in bank capital supports $50 $45 Federal Guarantee $40 $35 $30 $25 $20 $15 $10 $5 $0 Typical State
Customizing Federal and State Loan Guarantee Programs
Rosen
What are PRIs? Returnable investments made by private foundations for charitable purpose Count toward minimum payout rules but any returns redeployed for charitable purposes A legal term used by IRS An alternative to a grant Primary purpose is always to accomplish charitable outcomes Financial return is acceptable, but not goal MRIs are the opposite: first financial returns, then charitable outcomes Requires Repayment A financial instrument Made to charitable and non-charitable organizations Recipients must be financially sustainable, able to repay investments Low-interest loan Equity investment in a company or a fund Guaranty of a partner s investment or contract
Basic investment criteria 1 2 3 4 5 6 7 Programmatic impact Strong alignment with our program goals Leverage of external capital Target 5:1, expect minimum of 1:1 Scalable / sustainable transaction The market solution we re promoting is rational Passes the but for test Project wouldn t happen without us / would have lower programmatic impact Appropriate level of subsidy Level of subsidy is justified by the expected programmatic impact Within portfolio limits Overall PRI portfolio isn t over-exposed to this sector/geography/investment type Acceptable portfolio management burden PRI team has capacity to manage the investment
Foundation PRI history Established in June 2009 as a $400M pilot initiative to explore leveraging the balance sheet and investing in PRIs Completed 2 year pilot in June 2011: Executed 10 transactions, bringing PRI portfolio to $215M Experimented with a range of tools, including loans, guaranties, investment funds and equity investments Leverage external capital on average 3X, with some transactions as high as 11X In 2011, expanded program to $1BN notional risk envelope, transitioning PRIs into a mainstream tool of the foundation
When should we think about using a PRI? 1 2 3 4 Supporting a private company or revenue-generating project Invest in low-cost manufacturing, service provision, or facility Extend products / services to markets targeting the poor Stimulate new innovation and/or ensure innovation is applied to our priorities Working with other investors Tap into the resources and expertise of VCs and financial institutions Support the development of the impact investment industry Ensure that investors understand and support foundation charitable objectives Mobilizing commercial capital Increase returns / reduce risks to commercial investors by accepting a below-market return / above-market risk Signal to commercial investors that a sector may be an attractive investment opportunity Building partner financial capacity and sustainability Encourage more robust financial management and procurement processes among public sector partners
Which instrument do we use? Reduce prices by stabilizing demand Allow partners to access loans or bond markets Build and leverage intermediary capacity Support small companies that the foundation can t invest in directly Create vehicle/conduit for other investors INVESTMENT FUND Provide technical assistance to complement investment activity Support specific applications with limited revenue potential GRANT GUARANTY What problem are we trying to solve? Provide direct funds for facilities, capital expenditure or working capital Create incentives to hit milestones through partial reduction in repayment LOAN / REDUCIBLE LOAN Build partnership with an early stage company Support development of a platform or technology with profitable and charitable objectives Ensure access to technology or platform for our target populations EQUITY INVESTMENT
Case study: charter schools PROGRAMMATIC CHALLENGE Charter schools are critical partners in testing and demonstrating new approaches and models High-performing CMOs need access to facilities financing in order to achieving meaningful scale CMOs do not have access to public facilities or public financing, and often have lower student reimbursement rates Deteriorating state and municipal financial conditions putting further financial pressure on key foundation charter partners Commercial financing available (via NMTCs, CDFIs and bond offerings) but limited capital for leasehold improvements or school start-ups Few credible intermediaries INVESTMENT APPROACH Made two exploratory investments in 2009: bond back-stops (partial guarantees) for KIPP and Aspire In 2011, worked with program team to evaluate financial models for charter school sustainability Developed investment thesis that CMOs need to access public facilities and financing to enhance sustainability In late 2011, invested a $5M loan in CSGF facilities fund to evaluate capability of CSGF and learn from their investment activity In early 2012, issued a PRI RFP for District-Charter collaborations in facilities access financing OUTCOMES Exploratory investments allowed for one-off expansion KIPP transaction encouraged Texas to open up public facilities financing to charters CSGF has made one investment, and continues to be a strong thought partner in refining investment thesis Recently took three investment proposals from the PRI RFP with innovative PRI models in Chicago, Central Falls and NYC Expect to make 1-2 additional investments in 2012
How do we decide between a PRI and a grant? Grant Does a PRI make sense? 1.Is the proposed partner a for-profit entity? 2.Is the proposed project likely to be able to generate revenues or financial return? 3.Will the partner accept an investment? 4.Are the charitable outcomes consistent with the business purpose of the partner? 5.Is the investment >$2M? Ability to influence partner 1.Will our partners find it challenging to operate in the markets we care about? 2.Will we be able to influence our partners to develop technologies, products or services for the poor? 3.Can we provide incentives or negotiate terms to get access for the poor? 4.Can we agree on measurable, relevant charitable outcomes? Grant Financial analysis 1.Do our financial projections show that partner can repay investment? 2. Is the investment is likely to have value in the future? 3. Will we be able to mobilize additional external capital? 4. Can we exit the investment? Grant Analysis of downside risks 1.Can we get access to collateral or first loss capital? 2.Will we be able to invest on similar terms as experienced investors? 3.What information do we have about the likelihood of default? Grant Investment partners 1.Will a partnership with an investor give us access to resources and expertise? 2.Could the company benefit from investor oversight? 3.Do investors understand and support our charitable objectives? Grant Investment A high potential PRI should have: credible financial projections, good investment partners, limited downside risk and clear charitable objectives
Kuraishi
building a social sector powered by information
A better world is possible, if we work across sectors to effectively generate value Private Sector Financial Value Creation Social Sector Social Value Creation Public Sector Enabling Environment for Value Creation (rule of law, regulatory framework, infrastructure, security, social safety net, etc.)
Need for an information infrastructure Financial Investing Impact Investing Philanthropy IMPACT INVESTORS SOCIAL BUSINESSES CUSTOMERS... Information Infrastructure enables the flow of information about financial performance, allowing for better decision making Impact Investing uses the existing information infrastructure for financial performance. Like philanthropy, it needs better information on social performance Under-developed Information Infrastructure inhibits the flow of information about social performance
There is a spectrum of investors + FINANCIAL INVESTING IMPACT INVESTING PHILANTHROPY Investors Impact Investors Philanthropists Intentionality Financial Intentionality Social Intentionality Type of Investor Financial Investor Socially Responsible Investor Sustainable Investor Indirect Impact Investor Direct Impact Investor Venture Philanthropist Strategic Philanthropist Charitable Donor Investor Screening Financial Screen Only Financial & Negative Social Screen Financial & Positive Social Screen (ESG) Financial Returns, then Social Impact Social Impact, then Financial Returns Organization s Potential to Scale Organization s Performance Organization s Basic Compliance Expected Outcomes Market-Rate Returns (with no regard to social impact) Market-Rate Returns (that attempt to avoid negative social impact) Market-Rate Returns (aligned to values) Near-Market Returns (with modest to moderate social/ environmental impact expectation) Below to Near- Market Returns (with significant social/ environmental impact expectation) High Impact & Scalable Organizations (with no financial returns) High Performing Organizations (with no financial returns) Organizations Aligned to Donor Mission (with no financial returns)
There is a spectrum of enterprises FINANCIAL INVESTING IMPACT INVESTING PHILANTHROPY Commercial Businesses Social Businesses Nonprofits + Legal Structure For-Profit Legal Structure For-Profit Nonprofit Type of Enterprise Traditional Business Business with CSR Program Shared Value Business Social Business Social Venture Enterprising Nonprofit Charitable Organization Enterprise Activity & Audience Goods & Services for Customers Goods & Services for Customers & Beneficiaries Programs & Interventions for Beneficiaries Enterprise Metrics Financial Performance Measurement Financial + Social Performance Measurement Social Performance Measurement
There is a spectrum of regulatory bodies FINANCIAL CAPITAL MARKETS IMPACT INVESTING MARKETS + PHILANTHROPIC MARKETS Enterprise Commercial Enterprises Social Businesses Nonprofits Government Regulator States Attorney General Industry Self Regulator Opportunity to Create Self-Regulatory Organization? Opportunity to Create Self-Regulatory Organization? Industry Trade Groups Standards Body Opportunity to leverage Social Performance Standards created by impact investing sector? Reporting Standards Generally Accepted Accounting Principles (GAAP)
There is a spectrum of information infrastructure Data Providers Data Hubs, Aggregators Information Exchange Protocols Performance Analysis Analysts Association FINANCIAL CAPITAL MARKETS Wall Street research analysts IMPACT INVESTING MARKETS + Universal ID pilot (Bridge) PHILANTHROPIC MARKETS Rating Agencies Money Transferred Foundations, direct mail, fundraising events, Investment Banks
Spectrum of markets: information for consumers FINANCIAL CAPITAL MARKETS IMPACT INVESTING MARKETS + PHILANTHROPIC MARKETS User Reviews Survey of Experts Certification/ Standard of Quality Retail Marketplaces Common Applications
The social sector has the potential for even greater impact Today in the social sector: capital flows are inefficient and costly interventions are not as effective as they could be knowledge of impact is often limited. Many of these issues are driven by the lack of a robust market for information. There isn t enough information available Information that exists is hard to access and use There is limited demand and capacity to make use of information
We can and must build a better tomorrow where information will be shared and used dynamically In the future we need a system in which stakeholders can access the information they need, when they need it, to make better decisions. This will require information on issues, interventions, organizations, and resources to flow freely in a knowledge commons. Types of Data in the Knowledge Commons SOCIAL ISSUES Baseline social indicator data and information on the breadth, depth, addressability, and drivers of issues INTERVENTIONS The goals, strategies, and programs for addressing social issues, and data and research on their outcomes and what works ORGANIZATIONS The goals, strategies, activities, operations, and finances of organizations, their effectiveness, and their impact RESOURCES Details of the grants, donations, investments, and volunteer time that support interventions and organizations
Building a better tomorrow requires structuring our fragmented today We need to strengthen the sector s information infrastructure to enable a system in which information can be shared and used dynamically. Specifically, we need to build on current initiatives regarding data classifications (to create consistent definitions), technical standards (to facilitate data exchange), reporting protocols (to specify what data is reported when), knowledge platforms (to allow data to be productively captured), and governance (to ensure intellectual property rights and privacy concerns are managed, to build consensus, and to drive compliance).
This will help information flow freely Structuring and organizing data will make information more accessible and useable, increasing the supply and use of information, just as it has in other markets.