Governments and philanthropies have long sought to improve the lives of society’s least fortunate and most vulnerable, often with discouraging results. Money spent doesn’t reliably equal lives transformed. Enter the social impact bond, an innovative approach to marrying social purpose with financial returns for investors. Still in the pilot stage in the UK, social impact bonds already have enthusiastic supporters determined to bring them to the United States, Canada, Australia, and Israel.
The concept is simple enough. Investors fund nonprofit social ventures whose interventions result in a measurable social benefit as well as a financial savings to the government. (Government saves money, for example, when fewer people are homeless or return to jail.) The government then funds the repayment of the principal and a rate of return with a portion of the savings. If the predefined social outcomes are not met, the government owes nothing.
“What the social impact bond does is enable a social organization to raise capital for preventive action, to establish a track record of social performance, and to be paid for that social performance at a rate that enables it to give a satisfactory return to the investors,” says Sir Ronald Cohen (MBA 1969), a cocreator of the idea.
Cohen has emerged as the public face of social investing in the UK since retiring in 2005 as chairman of Apax Partners, the renowned venture capital firm he cofounded in 1972. In 2007, he cofounded and became a nonexecutive director of Social Finance, a London-based nonprofit social investment advisory that is pioneering ways to apply market principles to solving social problems in the UK.
In September 2010, Social Finance brokered creation of the first social impact bond, which supports a program to reduce reoffending rates among former inmates of Her Majesty’s Prison Peterborough, a facility 75 miles north of London housing short-term offenders. The bond will pay investors on a sliding scale, starting at 2.5 percent and rising to a maximum of 13.3 percent, but only if the reoffending rate is reduced by at least 7.5 percent. Even at the highest rate, the government is forecast to pay out only about a third of its cost savings. Fifteen months into the pilot project the results are promising.
“The social impact bond appears to be the first financial instrument that enables social entrepreneurs to raise capital based on social outcomes,” says Cohen. “If we can prove that these approaches deliver social improvement, then we may well get to the day when a pension fund, an insurance company, or a corporation has an allocation to this new asset class of social investment, the same way that venture capital and private equity benefit today from such allocations.”
The idea is taking off in the United States. President Obama proposed $100 million in his FY 2012 budget to pilot social impact bonds, and last October the White House hosted a conference on the topic, says Tracy Palandjian (MBA 1997), CEO of Boston-based Social Finance US. Inspired by Cohen’s work with Social Finance in the UK, Palandjian in January 2011 led the creation of the sister organization in the United States.
“We are seeing a high degree of interest from a cluster of northeastern states as well as broader interest across the country,” she notes. In particular, Massachusetts Governor Deval Patrick has expressed interest in using social impact bonds to address homelessness and youth violence.
“We are very keen on bringing high-quality transactions to the United States to demonstrate the promise of this instrument,” Palandjian adds. “Social impact bonds have the potential to improve social outcomes at reduced taxpayer expense; shift performance risk away from government to private investors that are arguably more able to price and bear that risk; and reward effective nonprofits with the long-term growth capital necessary to scale intervention.”