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Monday, December 27, 2010

Social Impact Bond Model: 7 Easy Steps

A Triple Win.

As I’ve mentioned before, social finance can be a confusing topic to explain. I am often asked, “What do you mean by new modes of finance?” or, “what does it mean to create new financial instruments?” 

The Social Impact Bond is a perfect example of one of these new financial instruments. Within the past year, the Social Impact Bond Model has been put into practice in the UK. The Canadian Task Force on Social Finance is now analyzing the successes from the UK pilot project and is working to build a strategy that enables the necessary policy changes to spread Social Impact Bond investments throughout Canada. 

In its simplest form, here is how the model works: 

1. An idea arises for a new social purpose organization or innovative project that could help solve a specific problem that the government is currently spending our tax dollars on fixing. 

2. Problem: People may think the social innovation sounds like a good idea, but the government is not willing to invest in the project because it is much too risky (or, dare I say, too innovative for them). The idea is to find a way to incentivize the government to take risks on social and environmental innovations without the fear of losing tons of cash.  

Solution: 

3. Find an investor who is willing to take a risk on a social/environmental innovation. 

4. With the three parties (The investor, the government, and the mission-based organization/project),build an agreement on the terms of the investment including specific, quantifiable metrics.

5. The Investor loans $xxxxx.xx to the NPO, social enterprise, or other mission-based organization or project. 

6. After x number of years, the success of the social/environmental venture is measured against the initial set of benchmarks.

7. If the project is deemed successful, the government pays the investor the amount (or a portion of the amount) the government saves by otherwise spending that money on the status-quo ways of dealing with the given social problem. If the project is deemed unsuccessful, the investor receives nothing in return. (Deeming an innovation successful would mean that its outcomes meet the initial benchmarks set out in the terms of the investment).

SO, the government feels no financial risk, the social innovation finally has the financial freedom to experiment with potential solutions to serious social/environmental issues, and the investor receives a return if the outcome successfully saves the government money. WIN, WIN, and, you guessed it: WIN. 

1 comment:

  1. I think this is a really cool idea! Sounds more like equity than debt, but I think it's a great financial instrument nonetheless. I could see it being hard to attract investors because of the high risk and potentially low reward outcome. For example, high yield bonds (junk bonds) pay investors high interest to compensate for the risk. I think an added incentive would be for the social innovators themselves to invest over a certain threshold of the required funds (let's call it 10%). This would show prospective investors that the people controlling the project also have a financial incentive to make the project work.

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