Venture capital for social service organizations (Rochester Business Journal)

By MICHAEL COONEY and NAVJEET BAL

Social impact bonds were the subject in these pages in September 2013, recounting the attention brought to the funding mechanism by the Children’s Agenda the year before. The NY Funders Alliance recently hosted a case study on this technique, while Mayor Lovely Warren also has made numerous public references to it.

Social impact bonds are gaining popularity as an innovative way to bring together private investors, social service organizations, and state and local government to address social problems such as juvenile recidivism and homelessness. Private investors provide funding to social service organizations, which allows them to scale up their services and reach a larger number of clients. If the organization is successful in meeting certain benchmarks, the state or city government will make payments that are used to repay the private investors. The private investors take on the risk that the social service organization will not succeed, and the government makes payments based on measurable, successful outcomes. 

So, how can social impact bonds help address the many challenges facing the Rochester area, particularly those described in the Doherty poverty report published by the Community Foundation and ACT Rochester?

As of April 2012, the Children’s Agenda noted that there was only one social impact bond in existence—in the United Kingdom. Since then, Massachusetts and New York have led the way on these projects, bringing innovation to government. We are privileged to have been involved in projects in both jurisdictions.

It would be inappropriate to think of social impact bonds as a mere financing device, although public-private financing expertise is an essential component. Rather, the method recognizes the growing confluence of interest existing among the civic, business and social sectors by allowing each sector to act in its own best interest—and collectively in the interests of all of us.

Successful community programs are sometimes a challenge to bring to scale, as are many business endeavors. Often, both sustainable cost savings and results are premised on a broad enough population and service provision framework. Small scale is good for innovation, but is rarely sustainable in the long term. Social impact bonds provide sustainable risk capital. Many providers could only dream of having the capital resources to fully scale successful programs; fundraising and borrowing are simply not enough. The service provider base in the United States is robust and the envy of the world; much of our firm’s philanthropic support in the developing world is focused on creating organizational capacity, not optimizing it.

Private-sector investors are increasingly interested in having an impact beyond a rate of return on their investments, and they are seeking out social service providers with a proven track record of addressing social needs that result in better outcomes for their clients, stronger communities and a reduction in government spending for remedial or other costs. Such investors, together with the philanthropic and foundation community, are bringing their talents to the social service sector, imposing market discipline and performance measurement on a sector that has not typically been subject to such rigorous analysis. 

Government, which spends a tremendous amount of taxpayer money on addressing social problems, has not been disciplined at determining which service providers effectively solve such problems. On the other hand, social service providers are frustrated by limited or slow government reimbursement, lack of incentives for cost containment and distractions like New York’s Executive Order No. 38 (designed to prevent use of public funds for excessive compensation and unnecessary administrative costs). A different model is needed. Under the social impact bond structure, government pays for a service only if the social service provider meets its performance measurement thresholds. Social impact bonds give service providers a reliable, ready source of capital so they can focus on delivering results instead of the minutiae of complying with government regulations and processes. 

Social investment bonds require a broad group of stakeholders to participate. That element alone demonstrates the fundamental nature of these social problems and costs—they are borne by each and every one of us—which is masked by current financing and service delivery models.

We applaud New York for establishing a $30 million fund to develop social impact bonds and the pay-for-success contracts they support. Now is the time for those in finance, service provision and government contracting to demonstrate that collectively we are able to make a sustainable difference in the lives of New Yorkers. 

Michael Cooney and Navjeet Bal are attorneys at Nixon Peabody LLP.