Thoughts on Making Social Impact Bonds Work—If They Should at All

In the past few weeks, the Cohen Report has examined the practice of Social Impact Bonds or Pay-for-Success projects....

In the past few weeks, the Cohen Report has examined the practice of Social Impact Bonds or Pay-for-Success projects. As currently designed and implemented, SIBs are one-offs, linking strong, proven service delivery models associated with well-capitalized nonprofits to private investors, like banks and individual investors, who project that they can make a reasonable return (or sometimes more) by investing in these projects.

The slim handful of SIB/PFS endeavors that currently exist in the U.S. address issues of prison recidivism, supportive housing for the homeless, and early childhood education. Not one of these privately capitalized projects, anticipating government payment if they should reach predetermined outcomes, has yet reached even a first payment point. Still, enthusiasts promote SIBs as an exciting solution for a bevy of social problems and an alternative to what SIB backers see as dysfunctional governmental efforts.

SIBs may be just another public policy fad sweeping the social sector, generating bipartisan excitement accompanied by heavy promotion by a few consulting and investment firms, but buried within the SIB/PFS concept might be nuggets of insight that could be useful in boosting the efficacy of both nonprofit service providers and the government agencies that provide the bulk of their funding.

“How to Make Social Impact Bonds Work—If They Should At All” might be a useful topic for both the true believers who have something of a religious attachment to the concept and for the consultants who imagine themselves earning money as forwell-compensated financial intermediaries between investors and government. The answer is embedded in an understanding of the needs of nonprofits, the capacities of government, and the motivations of private capital.

Supporting truly innovative projects and groups

Why would government be willing to pay Wall Street banks and billionaire investors premiums ranging from 5 to more than 20 percent for funding social programs that have already been proven to work? If a program works and has been proven by experience and evidence, government is better off paying 100 percent to support the program for widespread implementation rather than 120 percent of costs for one-off projects funded by big capital. It is almost financially irresponsible for government to pay more than necessary.

Here’s what government could, in theory, benefit from in the structure of a Social Impact Bond (or Pay for Success financial structure—choose your favorite terminology). While legislative bodies can be lobbied to support programs that have evidence demonstrating that they work, they are hard-pressed to find political support for programs that haven’t been proven, that are experimental, or that test the boundaries of what is known to work.

If there is solid research supporting a truly innovative program, not one that is already guaranteed to reliably produce results, that’s where private capital could play an important role. That’s where the risk and challenge are: private risk capital for projects that need up-front dollars to be tested, hopefully, proven, and if proven, replicated, while government funding should be taking already proven solutions and turning them into widely implemented programs.

Building systems/networks of social progress

The notion of providing funding for private investors behind social problems involves a major conceptual error: that the interventions that reduce prison recidivism, increase employment, or produce supportive housing are neatly attributable to one provider. The reality of these social programs is that they are dependent on functioning systems of providers. For supportive housing for the homeless, for example, what undermines the “supportive” element is the lack of organization and integration of the multiple service providers whose participation is needed as the mechanisms of support for otherwise chronically homeless individuals and families. For employment programs for veterans with serious disabilities, the solutions are dependent on an array of providers who can help the returning veteran not only with connections to employers, but with post-placement support and accommodations at the worksite, help for the veteran’s family, and services from the Veterans Administration and other providers of a variety of mandated benefits.

Which of the players in the system of supportive housing, reducing prison recidivism, and disabled veterans employment get the benefits of SIB investments and which essential entities get left behind? The effective responses and solutions to these social problems are not one-offs with single nonprofits or small nests of nonprofits, but systems of interventions and providers. If we fall prey to the idea that the construction of effective social policy is simply a compilation of one-offs, we are generating resources for selected nonprofits and for profit-driven investors but not doing much for social policy per se.

When social policy in the U.S. requires thinking systematically, building systems and networks of providers, the SIB/PFS model takes government into byways that do not lead to effective public policy. Government programs aren’t meant to create marketable widgets, but effective systems of social program solutions writ large.

What private investors need to be thinking of is how they contribute to building networks and systems of creative and capable service providers. It is difficult to imagine how that would occur. Building systems for social policy solutions doesn’t seem to fit investors expecting a return on investment, but certainly is a function for another kind of private capital—private philanthropy. If SIB designers would devote their private market creativity, such as it might be, to the design and funding of systems for social change, that would potentially be a private sector entrepreneurial contribution to a truly difficult dimension of social progress, the creation of systems.

Avoiding private sector over-influence

That having been said, using private capital to help kick-start good projects may not do anything systematic, but that doesn’t mean that it is harmful. Is there a downside for luring private investors to provide up-front money for social projects? There is one that is hotly contested by diehard SIB enthusiasts. If government were to focus on projects and programs for their ability to involve private capital (assuming the complexity and terms might be more reasonable than SIB/PFS projects like the Goldman Sachs deal on Rikers Island), that could lead government in a problematic direction, one in which private sector investors unduly influence what issues and problems government chooses to pursue and what issues government passes on.

Think that isn’t a possibility? Due to the attractiveness of the concept of private sector leverage and, as SIB supporters argue, the notion that investors bring a different and superior rationale to government programs, U.S. government policy already relies on a number of indirect, privately incentivized methods of picking and funding programs that eschew direct appropriations. Much of government policy operates through tax incentives that are meant to attract private investors to participate in financing public programs, albeit with some measure of economic return to the investors. As an overall justification, the theory is that these incentives harness private capital to serve public purposes, albeit often with robust economic returns and sometimes surprisingly limited genuine risk to the investors.

The Low Income Housing Tax Credit is a case in point. On one hand, it has been for many years an indispensible mechanism to incentivize for-profit and nonprofit developers to produce low-income rental housing. But relying on the preferences of investors, the results, as demonstrated in many studies, show that the majority of housing units produced and sited in suburban and rural communities have been elderly units while the majority of low-income family units have primarily been located in high-poverty inner city neighborhoods—for example, in the New York metropolitan area. In the subsidized housing arena, there is a much greater need for subsidized family housing than for subsidized housing for seniors—and social policy need to locate low-income family units in areas that would result in the dispersion of poverty units. As a recent report prepared for HUD observed, “the LIHTC program may be contributing to the concentration of subsidized housing units within the nation’s largest metropolitan areas,” inconsistent with HUD’s national policy goal of dispersing affordable housing outside of high-poverty areas. That goal of affordable housing dispersion isn’t happening in the housing tax credit because the choice of projects to be assisted depends on the preferences of the investors, not necessarily state or federal locational priorities.

Notwithstanding the problems built into American public policy’s reliance on tax incentives rather than public appropriations for many critical public functions, that is simply unlikely to change. However, the model of the Low Income Housing Tax Credits—and similar structures like the New Market Tax Credits—suggests a way of harnessing the potential energy, as opposed to the artificial marketing hype, behind Social Impact Bonds.

As currently structured, SIBs are financial mechanisms for accomplishing one-off programs—a supportive housing program for the homeless in one city, an anti-recidivism program in another—but not the systematic response of an LIHTC program supporting affordable housing production nationwide or NMTC boosting inner city economic development, and certainly not guaranteed to lead to a broader programmatic expansion. The notion that these one-offs will lead to regional or nationwide programmatic replication and expansion is based on a naïve perception of the American political process, that SIBs that “prove” these already generally proven, evidence-based projects will lead to widespread adoption and replication by state and federal legislatures.

Evidence and facts are useful in making the case to legislators for specific program delivery models, but it takes broader advocacy and social movements to get legislators to turn good ideas into funded programs. One-off project successes don’t win the day in the public policy process.

Upfront operating capital for nonprofits

What do nonprofits need that the supporters of SIBs seem not to recognize? Most of the SIB/PFS projects under consideration involve sizable, reasonably well-capitalized nonprofit service providers. Many of the most creative, innovative nonprofits with ideas to test lack a crucial element: upfront capital with which to plan and design programs that could then receive governmental support. They don’t have the fund balances and working capital to do the kind of in-depth program development that would get their projects in shape for government or private funding.

That’s why so many nonprofits are so appreciative of philanthropic and government programs that provide predevelopment financing. Nonprofit community development financial intermediaries have modeled not only predevelopment financing but also “recoverable grants,” funds that can be written off as grants if the projects don’t go forward or paid back as loans if the projects do proceed. By making a recoverable grant, the money isn’t carried on the nonprofit’s books as a loan and therefore doesn’t adversely the organization’s net worth.

Although couched as up-front financing for social enterprises, Echoing Green has published a brief but useful definition and discussion of recoverable grants:

The Recoverable Grant is essentially a convertible note, with no time expiration and no liquidation payback rights, where the conversion occurs only at valuations greater than a given threshold. It’s designed specifically for very early-stage investment, where entrepreneurs need risk tolerant and inexpensive capital…. There are three core components to the Grant:

    Minimal transaction cost…
    Zero downside protection…to enable the entrepreneur to invest the capital in whichever way they wish to create growth without needing to assess payback risks in the event things don’t work out.
    Reasonable upside benefits…Our Recoverable Grant converts only when the resulting dilutive impact on the organization is around 1% or less and prior to conversion accrues interest at a low rate.

This isn’t a new product. For decades, community development financial intermediaries have been deploying and refining recoverable grants and predevelopment financing as an essential tool in their financial arsenals. It isn’t new, but it is seriously limited in its availability to many nonprofits, especially smaller nonprofits. Were SIB investors to think in upfront recoverable grant terms, with the grants to be taken out, if the projects were successful, by government financing (or longer term private financing), they would be adding something that the nonprofit sector would value and devour.

Full-funding for services delivered

Besides upfront capital investment that can be treated as a grant if the project isn’t successful, nonprofits need something else as they implement social programs: full-funding. In the Nonprofit Finance Fund’s 2013 survey of more than 5,900 nonprofits, “only 14% of nonprofits receiving state and local funding are paid for the full cost of services; just 17% of federal fund recipients receive full reimbursement.” Many people might be surprised that the full-funded proportions of nonprofit service providers are even that high. Most nonprofits have to fundraise incessantly because of the shortfalls in their government reimbursements.

The research findings of the Urban Institute and the National Council of Nonprofits were not quite as dire as the NFF survey results, but still paint a serious picture of government policy to underfund nonprofit service providers on state contracts:

“The newest data from the Urban Institute reveal that nationwide more than half (54 percent) of all nonprofits surveyed identified governments not paying the full costs of the contracted services as a problem. In some states, however, nonprofits reported far worse. Three out of four nonprofits responding to the survey from New Jersey (75 percent) and Rhode Island (74 percent) reported problems with governments not covering the full costs of contracted services. In a majority of states at least half of nonprofits reported problems with governments not paying full costs for the work they perform on behalf of governments and taxpayers.”

In the research conducted by the Urban Institute, more than half of the surveyed nonprofits reported that their government grants required them to provide matching funds, and one-fourth faced matching grant or cost-sharing requirements on government contracts. SIBs promise private investors full payment plus a return for their capital contributions if projects meet their designated outcome targets. For nonprofits, a more attractive financial vehicle would be a structure that provides them full-cost reimbursement for their services.

The other issue that is, clearly, evidence in the SIB dynamic shows that the nonprofit recipients tend to be larger nonprofits. Smaller, community-based, community-controlled nonprofits are rarely if ever talked about as implementers of SIBs. Organizations that have been the mechanisms for SIB investment tend to be large—instruments of scale to be further scaled up, not in any way representative of the thousands of smaller nonprofits doing excellent work but unable to be the subjects of major academic studies or lures for Goldman Sachs or Bank of America investment. Some of these larger nonprofits might have the fund balances and funding sources to withstand less than full payment on services, but small nonprofits simply don’t have that financial latitude.

Moving forward

Amid all the SIB hypers complaining that critics don’t like the hype and SIB ideologues making sure they signal their potential investor clients that they’re available to craft SIBs hell or high water, the reality is, as a friend of NPQ recently noted, the SIB train has left the station. Unlike other over-hyped social enterprise ideas, like the L3Cs that have never shown signs of life, there are SIBs underway and SIB investors looking to place their money in social programs that generate a return based on meeting performance targets. Can we convert that investment energy into something more useful than one-off projects with big returns for banks and with support for big nonprofits?

If SIBs could be structured so that they don’t simply provide more resources to the nonprofits that are already well capitalized, if they can help nonprofits with vitally needed upfront working capital for social experiments, if they can help construct systems for social change rather than one-off projects, if they can address the sector-wide problem of nonprofits receiving less than full compensation for the services they deliver, and if investors would be willing to take real risk and accept returns much more moderate than those anticipated by the likes of Goldman Sachs…then you might have a SIB structure that would add some significant new value to government and to the process of social progress.

Thoughts on Making Social Impact Bonds Work—If They Should at All, July 31, 2014, Nonprofit Quarterly, by Rich Cohen

Board Members as Donors & Investors: Understanding Impact & Conveying ROI

I am preaching to the converted, or am I? What makes a Board work? What drives an organization to recruit one pe...

I am preaching to the converted, or am I?

What makes a Board work? What drives an organization to recruit one person over another? Why do some Boards with comparable missions and similar caliber people succeed more than others? How do they measure success? What do Boards today expect from their members? Do they achieve their goals? So many questions…

So let’s take a step back and start our conversation about the Board member as investor and creator of return on investment (ROI), hopefully with some feedback from readers. I am eager to hear what others think about the ideas discussed in this posting.

The American nonprofit Board model has developed and evolved over many centuries, and today it is fundamentally American. It is told that the Massachusetts Bay Company Charter written in 1629 specified that a Board of 13 “men of wisdom” would manage the colonial government. In fact, the Board model that has developed into what we know today developed from that time as a uniquely American construct and is linked to the enduring American culture of volunteerism, civic engagement and democratic rule. Alexis de Tocqueville punctuated that point, writing in the 1830’s that America’s philanthropic spirit, including the formation of Boards for decision making, distinguished it from Europe at the time.

Today, as the philanthropic marketplace in the Jewish world and throughout the country continues to evolve, we engage every day in revitalizing and updating an enduring model created in an earlier age. The nonprofit model, led by a Board and based on a strong commitment to a mission, may be old, but it has never become outdated.

Mary Ellen Jackson, noted authority on nonprofit leadership and the Executive Director of the New Hampshire Center for Nonprofits, noted that “the nonprofit Board requires that a group of volunteers, many of whom do not know each other nor possess expertise in a mission, come together and, through committees and four to six Board meetings a year, assume primary legal responsibility for the organization.”

This encompassing statement underscores the commitment to mission as the underpinning of a productive Board – not expertise or technical knowledge. Together with professional colleagues, Boards project legitimacy, credibility, community support and connection, and the ability to do business.

In fact, as I have been writing in most of my postings on and elsewhere, successful organizations, and organizational ROI, are driven by the power of new ideas and innovation, leading to effective approaches and solutions. Looking to the future, and staying with established best practices, Boards and organizations in the 21st Century thrive and lead by recruiting members who are serious about the mission, their fiduciary and fundraising responsibilities, and who employ critical, entrepreneurial thinking.

Driving the point one step further, and underscoring the centrality of a strong and meaningful vision to organizational success, Naveen Jain, Founder of the World Innovation Institute, added that “Philanthropy is not about giving money but about solving big problems.” We echo Jain’s challenge and encourage organizations throughout the charitable arena to step up to meet it.

All Boards debate and approve budgets, set financial and administrative policies, and are charged with the task of ensuring that the organization has adequate resources. What truly sets successful Boards apart is their commitment to gathering the courage to push boundaries, not micromanaging the operational details, and encouraging organizational investment of thought leadership and finances toward innovation and creative thinking among their volunteer and professional colleagues.

To stay true to this increasingly important ethos with a commitment to entrepreneurial thinking and generation of intellectual and financial investment, the Board must:

    Collectively and continually question assumptions
    Take the “10,000 foot” or even the “30,000 foot” view, and look at larger visionary issues and concerns
    Balance efficiency, opportunity, and mission
    Create and sustain a culture of transparency and accountability to their funders, stakeholders, and their community
    Always look through the prism of the organizational mission and consider the “end user,” the reason why the organization is in business
    Allow the CEO and the professional team to execute, and support new “products” and initiatives
    Expect every Board member to make a financial contribution at a personal level of capacity

To do this, as noted above, organizations must recruit the right people and make them aware of expectations before they sign on. Prospective members should not be “two dimensional” collections of friends, relatives, or only like minded people. Further, organizations should not merely go for a person because he or she “has time,” but they should find the right person, even (especially!) a busy person with the skills, attitude and resources to be successful.

And, speaking of ROI, Board giving is an obvious and important element. Across the country, according to the 2012 Board Source Survey, Boards average 74% participation in giving, and just 46% of Boards reported 100% participation, though we are making progress. Nearly 70% of nonprofits report a policy requiring annual Board giving – a number that has been growing over time.

When seeking to measure ROI, philanthropy can be a calculated risk, and successful nonprofits must make sure that every dollar has a multiplying effect. Thus, Board giving, as a motivator and first step to an organization’s broader annual giving program, can show the way for an organization and its donors to leverage personal giving through relationships with donors and funders.

In conclusion, and in keeping with our themes of leadership driven by entrepreneurial thinking, investment of financial and intellectual capital, and measurable ROI, we encourage nonprofits to see and utilize the Board as the basis and nucleus of their success. In doing so, organizational leaders must:

    Make sure everything relates back to the organization’s mission, purpose, and vision
    Focus messaging so that Board members are on the same page when they discuss the organization publicly and privately
    Create opportunities for volunteer leadership and synergy with professional activity
    Encourage Board members to be “brand ambassadors” for the organization
    Create mechanisms for the Board to review programs, services and operations without heading down the proverbial “rabbit hole”
    Press the CEO to focus on major issues
    Emphasize that one’s presence is not present enough: Board members must contribute ideas and dollars and be engaged
    Keep meetings concise to foster creativity, productivity, and collaboration
    Expect and obtain 100% participation in financial support from the Board
    Stress the role of the Board member as strategic philanthropic multiplier through identification and engagement of new donors

Board Members as Donors & Investors: Understanding Impact & Conveying ROI, August 4, 2014, eJP, by Avrum Lapin

Nonprofit Leadership Development Is a Vital Ingredient for Social Change

Many economists say the U.S. economic recovery will stay in the slow lane until American companies finally step up ca...

Many economists say the U.S. economic recovery will stay in the slow lane until American companies finally step up capital spending on things like equipment and technology.

But corporate America is definitely opening up its wallet for one purpose: Spending on training and leadership development by U.S. companies grew by 15 percent in 2013, to more than $70-billion, according to a recent study. That followed two years of growth, at 10 percent or higher, in such spending in 2011 and 2012.

While business is investing in its people with renewed vigor, the nonprofit world continues to lag in making such investments. The Foundation Center recently reported that foundation support for leadership development was less than 1 percent of overall giving from 1992 to 2011. That’s not nearly enough.

We all know that programs and strategies don’t solve problems; people do. So why aren’t more foundations making leadership development an integral part of their grant-making strategies?

If we agree that strong leadership is crucial to the success of the nonprofits we support, what is keeping us from maximizing the impact of our funding by investing more in the skills and capabilities of people who lead organizations, including staff and board members?

At the Evelyn and Walter Haas, Jr. Fund, our trustees strongly support leadership development, based on their experience in both the corporate and philanthropic worlds and their intuitive understanding of the importance of investing in people.

We dedicate 10 to 12 percent of our annual grant making to strengthening leadership. Since 2005, the Haas Leadership Initiative has made mote than $18-million in multiyear grants to more than 100 nonprofits working in the fund’s priority areas of immigrant rights, education equity, and gay and lesbian rights.

We have seen time and again in our work how these investments have contributed to grantee impact and success.

Consider the case of the National Center for Lesbian Rights. Over five years, the center received $834,500 in support from the Haas, Jr. Fund, including $235,000 dedicated to strengthening the organization’s leadership.

The flexible, multiyear funding amounted to about $50,000 annually, which the center used for consulting, coaching, training, and other activities to build and strengthen its leadership.

Among the important results of this work is that the center, which previously relied on two overstretched leaders to run everything, was able to build a strong and collaborative senior staff team of five people

Relieved of many of the internal management responsibilities that had occupied so much of their time in years past, the organization’s executive director, Kate Kendell, and its legal director, Shannon Minter, have become even more powerful forces in the movement for marriage equality for same-sex couples. And the center is widely recognized as a critical player in the movement’s recent wins.

The National Center for Lesbian Rights is not an isolated case. An independent, five-year evaluation of the Haas, Jr. Fund’s early leadership investments showed that our support helped leaders get better results for their organizations and movements. The evaluation also showed that many of our leadership grantees were able to complete successful executive transitions and that they experienced impressive budget growth despite the economic recession.

Of course, we are not alone in supporting nonprofit leadership. Many other foundations around the country have made investing in leadership a top priority.

The Annie E. Casey Foundation, for example, works to develop current and emerging leaders in government agencies and nonprofit organizations serving children and families around the country. The reason: Casey knows that its goal of improving conditions for kids requires building the skills of people to work together to untangle complex problems.

The Blue Shield of California Foundation is building a stronger network of organizations that serve domestic-violence survivors by investing in individual and organizational leadership through its Strong Field Project. And the Durfee Foundation, based in the Los Angeles area, has created a multifaceted sabbatical program that strengthens the leadership of boards and senior teams while giving executives a chance to recharge and renew their commitment to their work.

These foundations are investing in leadership to advance their broader ambitions, and they are committing substantial grant-making resources to this work. While each foundation’s leadership-development approach is distinctive, they all share attributes that our experience suggests are important.

Chief among these is that leadership support is multiyear and is tailored to each organization’s priorities and needs; in other words, this is not about a foundation coming in and telling grantees what to do.

Nor is it simply about sending executive directors to one-time training sessions. Rather, it is about helping organizations identify and secure the leadership support they need at all levels so they can reach their broader goals.

I am not one who believes nonprofits and foundations should indiscriminately follow the strategic expertise of business. However, when the issue is leadership and talent, it’s worth taking a cue from the corporate world.

Unless we can figure out what is behind the nonprofit world’s chronic underinvestment in leadership and turn things around, we will continue to overlook one of the most important ingredients of positive social change. Investing in leadership doesn’t just deliver higher performance; it can also deliver a better, more equitable world.

Nonprofit Leadership Development Is a Vital Ingredient for Social Change, July 13, 2014, Chronicle of Philanthropy, by Ira Hirschfield