Responsible Investing: Looking for new ways to invest in social enterprises

This article first appeared in Personal Wealth, The Edge Malaysia Weekly, on June 18, 2018 - June 24, 2018.
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Investors who want to support social enterprises and earn returns at the same time have to think about the impact they want to have and whether the returns must be financial in nature, says Patsian Low, director of Asia Policy Forum at the Asian Venture Philanthropy Network (AVPN).

That is because not every social issue addressed by these enterprises is scalable and able to churn out financial returns. For instance, some social enterprises only address local issues and serve a small target group. This is why impact investing funds, which are typical platforms for investors to support social enterprises and earn returns, may not be able to cater to all enterprises that fall into that segment.

“It is not an easy thing to understand because, historically, an investment approach would be very black-and-white on whether something is making money or not. But here, we have different yardsticks to determine whether this has been a successful investment,” says Low.

Singapore-based AVPN is a funders’ network that promotes high-impact philanthropy and social investments across Asia.

New platforms such as the Pay for Success (PFS) model are becoming popular. These platforms allow funders to get their capital back and sometimes a return as well if the social enterprise achieves its predetermined target. The PFS is also called a social impact bond, although it is not related to the financial instrument.

“The reason the word ‘bond’ is attractive to use is because it implies there is a certain obligation to pay back. The more general term we have been using in the industry is Pay for Success. You design a certain outcome, but you only distribute funds if the outcome is achieved. By using this arrangement, you ensure that you only pay for successful outcomes,” says Low.

The first PFS was launched in the UK in 2010. Called the Peterborough Social Impact Bond, it aimed to reduce the recidivism rate at a Peterborough prison. According to various reports, investors in the programme were paid a dividend of 3% last July after the social enterprise achieved its goal.

Most of the funding vehicles using this model are in the UK and the US, with a growing number in Asia, says Low. “In Asia, fewer than 10 have been launched, but more than 30 are under design and exploration. Thailand and Singapore are looking at it, Malaysia has already started, Japan and South Korea have already launched this model and India has a couple of these vehicles.”

In a PFS, there are three parties: the payer — who is any party that will benefit from seeing a reduction in a social problem — the private funder and the service provider. The payer can be the government, foundations or even insurers. The private funder will provide capital to the service provider, which is usually a social enterprise, to tackle a social issue.

If the service provider can achieve the pre-determined target, the payer will return the capital to the funder. This structure aligns the goals of the parties involved to ensure that success is achieved.

“If you are in a market where the government’s budget is stretched, like in India, you will see that the PFS models being experimented with there do not have government investments. But the government has an interest in making them successful by making it possible for service providers to access all government hospitals and schools,” says Low.

Governments are typically the largest spenders on social welfare. So, if the models are successful, they will translate into cost savings for the government.

For PFS to succeed, a funder has to be willing to make the investment and the market must have social organisations that are able to deliver the service. There must also be enough underlying data to determine what constitutes as success. PFS funders will need to know what kind of impact and outcomes they are looking for, says Low.

“When we look at the impact investing landscape, we find that the nature of funding has to be adapted to the social issue you are trying to solve. And sometimes, it is not return generating,” she adds.

“In some cases, it can be financially sustainable, but not generating high financial returns. However, it brings an incredible amount of social impact.

“What kind of investor would the PFS model appeal to? It is unlikely to be someone who wants a high return on investment. But it could appeal to someone who is looking for great outcomes and wants it to be financially sustainable.”

 

The PFS model in Malaysia

Agensi Inovasi Malaysia (AIM), a statutory body created by the government in 2010, introduced the PFS model Social Outcome Fund in March last year, with the government as the payer. Social purpose organisations (SPOs) would be the service providers.

According to AIM’s definition, SPOs include non-governmental, non-profit and community-based organisations, social enterprises and businesses and charities.

If the SPO manages to tackle a problem and result in 1.5 times or more of cost savings for similar government interventions, the government will pay back the full amount given by the funder for the particular project. The data used to determine success is taken from the national social progress assessment report compiled by AIM. The government allocated RM3 million to the fund last year.

An independent assessor will determine whether the SPO has achieved its target in one year. In AIM’s case, the assessor is Universiti Teknologi Mara (UiTM).

There are currently eight projects in the Social Outcome Fund and AIM is in the process of matching the rest of the SPOs with funders. Of the eight projects, four are fully funded.

These are the National Autism Society of Malaysia’s autism intervention programme, SUKA society’s programme to empower orang asli youth to start their own pre-school classes, Protect and Save the Children’s programme to prevent child sexual abuse and Global Peace Foundation’s programmes to provide clean water to rural communities and build resilience among at-risk youth through football.

Another programme running concurrently with the Social Outcome Fund is the Social Impact Exchange (SIX), which was launched last December. SIX was established to resolve the lack of information about the performance of SPOs. AIM will list high-performing SPOs that it has assessed on SIX’s online platform together with quarterly reports of their performance.

“We quantify and measure the impact of the social organisation and we try to match them with funders. For example, if you fund RM100,000 for this project then you will get RM500,000 worth of impact. The SIX platform will list all the SPOs and we track and measure the outcomes,” says Dr Melissa Foo, vice-president of social innovation at AIM.

Anyone can access the SIX platform online and donate to the SPOs based on the information provided. As at last month, 20 SPOs were listed on the platform. The eight SPOs in the Social Outcome Fund were also listed. The SPOs listed on the platform include Teach for Malaysia, Drug Intervention Community, Women of Will, Chumbaka Malaysia and Persatuan Seni Jahitan Kreatif Malaysia.

 

Trends in social investing

There is a sizeable funding gap faced by social enterprises in Malaysia and it is caused by the lack of information and funding platforms, observes Patsian Low, director of Asia Policy Forum at the Asian Venture Philanthropy Network (AVPN).

“A variety of factors could contribute to the funding gap. It could be the need for greater transparency and information about the sector, to know more about what each organisation is doing and how funding can make a difference. The information will educate the funder and make it easier for it to identify who it can fund and why,” she says.

“In an environment where there is not enough information, there is also the tendency to invest in what you know. So, you end up seeing quite a lot of money going to the usual suspects.”

Another factor that could be contributing to the funding gap is the lack of platforms that connect funders or investors directly with social enterprises. This presents an opportunity for intermediaries that can help investors identify social enterprises that require various forms of support. Some social enterprises, for instance, do not need large amounts of investment but require patient capital providers with no expectations of quick returns.

To address this gap, there should be more creative funding structures, Low suggests. Beyond just donating to foundations or investing in impact funds, there could be other ways to financially support social enterprises that were established in the last five years.

“What is exciting about Asia is that we are seeing a lot more creativity and innovation in how financial tools and social impact can come together,” says Low.

“There is a full spectrum of the different kinds of capital that can work together. Grants can work with loans, loans can work with equity, equity can work with grants. There are different ways in which capital can work together to close some of these gaps.”

For example, some corporations that work with incubators to build up social enterprises, thus building a pipeline of investable enterprises. Some private equity firms incorporate the impact investing framework into their financing. Equity crowdfunding platforms in Malaysia, such as Ata Plus and PitchIn, are also emerging alternative platforms that allow you to invest in social entrepreneurs while reaping a return.

 

Investors are also eager to fund

Meanwhile, there is a high demand from high-net-worth individuals (HNWIs) to support social causes with their wealth. According to AVPN’s social investment landscape report released in May last year, Malaysian HNWIs were the second largest group of social investors in Asia, with social investments representing 43.6% of their portfolios.

In Southeast Asia, there is a growing number of intermediary vehicles, such as impact investment funds and community foundations, that allow HNWIs to pool their money and invest in social purpose organisations (SPOs). Two of the five impact funds operating in Malaysia are notable international impact investing firms LeapFrog Investments and Omidyar Network, according to the AVPN report. Impact investing funds typically invest in SPOs using equity and seek financial returns for its investors.

“Based on what we see in the region’s trends, impact investing definitely brings benefits because it uses business incentives to encourage greater social outcomes. When these two are aligned, you are able to engage in a broader pool of capital. So, you can use more successful and sustainable business models to solve different social problems that the typical non-governmental organisation and non-profit sector cannot solve,” says Low.

Another vehicle for impact investing goes beyond funding social enterprises and non-profit organisations. Socially responsible funds (SRI) — or funds that focus on environmental, social and governance (ESG) issues in listed companies — are gaining momentum in the region. As at March, there was one SRI fund and five green SRI sukuk in the country, which were launched in the past two years, according to the Securities Commission Malaysia.

“The ‘mainstreaming’ of impact investing is increasingly becoming a discussion in Malaysia and it means going beyond funding non-profits and social businesses. That may mean, for example, putting together a portfolio of listed companies that have a good track record in ESG or social responsibility issues,” says Low.

“There is more interest in that now, particularly as many of the stock exchanges in Asia are implementing sustainability reporting requirements. It is creating more transparency in information. That is a good sign because it means investing for impact and outcomes beyond financial returns alone is starting to be generally more accepted.”

The push for incorporating ESG values in investing is also coming from institutional investors, she adds. “BlackRock is one of the largest institutional investors in the world and it holds close to a trillion US dollars worth of capital in the largest listed companies. It basically sent a letter to all the investee companies and said, ‘We will now hold you accountable for your social and environmental impact.’

“This is a very big statement for a large institutional investor to make. We are now at a stage of the evolution of this impact investing approach that even large investors are willing to step up and make such statements. So, I believe we are at a very exciting time now.”