The Role of Socially Responsible For-profit Entrepreneurs & Philanthropists in the Development of...

The Role of Socially Responsible For-profit Entrepreneurs & Philanthropists in the

Development of Social Enterprises

Dr. Maximilian Martin

Ljubljana, 15 April 2011

Conference Presentation «Social Entrepreneurship A Vector of Change in the EU»

CONTEXT: THE GREAT CONVERGENCE A Historical Phenomenon

© Maximilian Martin 2011

High

HighLowLow

Expected Financial Return

Philanthropy

Impact Economy

Exp

ecte

d

So

cial

Ret

urn

Private sector

«Four Revolutions»«Vision of shared

value»

Source: Martin

THE VALUE VECTOR Driving Investment, Powering Change


In philanthropy, capital will be deployed increasingly based on the principle of creating social value, as opposed to nurturing donor-grantee relationships.

In business, capital will increasingly be deployed based on values instead of market anonymity.

Source: Martin

IMPACT ECONOMY Social Entrepreneurship & Sustainability Capitalism


Fuente: Martin, Ignia, Innternt

Supply Demand

LOHAS

Annual income, México (USD)

A/B

C+

C

D+

D

E

7.4% $23,832 - +++7.4% $23,832 - +++14.8% $9,814 - $23,831 14.8% $9,814 - $23,831

19% $3,253 – $9,81319% $3,253 – $9,81331.3% $1,907 - $3,252 31.3% $1,907 - $3,252

17.8% $758 - $1,906 17.8% $758 - $1,906

9.7% $0 - $7579.7% $0 - $757

70% BoP

?

ENTREPRENEURSHIP & TRANSFORMATIONStepping it Up


$5

Tota

l D

oll

ars

($

Tri

llio

ns

)

$10

$15

$20

$25

$30

$35

$40

$45

$50

$55

$0.31 T

$7.2 T

$55.00 T

$0.50 T$0.03 T

Impact Investing has the potential to grow to about 1% of total

managed assets, which would result in about

$500 B of capital channeled toward social

and environmental impact.

How to get there? A Framework for Action:

Source: Monitor; Martin

Enabling Factors

♦ Government funding is scarce

♦ Companies look for authentic engagement

♦ Increasing number of social businesses

♦ Risk capital available

Beyond Government: A Multi-Trillion Dollar Social Capital Market

Beyond Philanthropy: Five Frontiers

Beyond Profit:Authentic Engagement

Powering Change: The Value Vector

Global Social Screening &

Shareholder Advocacy

U.S. Philanthropic

Giving

Global Managed Assets

Microfinance


ADAPTATIONChallenges & Opportunities

MAPPING OF INSTRUMENTSSupport According to Phase


Source: Adapted from Busink

INVESTOR PREFERENCESThe Etic View on Social Business


♦ General demand for investments with a meaning (such as social or environmental impact), and investments in frontier markets is rising.

♦ Capital is there: a substantial percentage of investor portfolios is still in cash after the financial crisis (30+%).

♦ Investors like liquidity, steady returns and bond-type instruments.

♦ Many venture capital and private equity funds still have «dry powder», assets that were gathered prior to the financial crisis, and have not yet been invested. This means that sourcing fresh capital for illiquid, long-term investments is hard.

♦ Investors and investment intermediaries like larger deal-sizes and co-investments.

♦ There is a sense that many social entrepreneurs are too small to be truly investable without hidden subsidies or foundation grants that pick up some of the due diligence and monitoring cost.

♦ There are questions about the institutional durability of social enterprises.

SOCIAL ENTREPRENEURS’ PREFERENCESThe Emic View on Social Business


♦ There is a tradeoff between maximizing social impact and maximizing profit.

♦ There is a profit distribution challenge: communities vs. social entrepreneurs vs. investors.

♦ Fundraising takes an enormous amount of time, distracting from operations and grassroots communities; moreover, as all capital markets, impact investment markets are also characterized by an unequal power relationship between capital providers and capital seekers (here: impact investors and social entrepreneurs).

♦ Impact investment has a flawed DNA: conceptualized primarily by investors with limited input from social entrepreneurs and stakeholder communities, the ultimate accountability element of the equation has to be worked out.

♦ Terms are mainly shaped by investors, replicating conventional investment approaches, with an added feel-good advantage of doing good and doing well.

♦ Impact Investing 2020 could become just another marketing concept.

THE «INSTRUMENT» SCHOOLTaking Advantage of New Mechanisms


Source: Martin

Observation "Instrument" School

Starting point The social capital market is highly inefficient

Problem Social entrepreneurship is underfunded

Solution Gather and aggregate capital

Constraint Availability of capital

Needed Step New legal and investment vehicles

Example L3C

THE «INVESTIBILITY» SCHOOLTaking Advantage of Capacity Building


Source: Martin

Observation "Investibility" School

Starting point The social capital market is highly inefficient

Problem Too few social enterprises are ready to become recipients of investment

Solution Make organizations "investible"

Constraint Absorption capacity

Needed Step Social enterprise capacity building

Example Ashoka-McKinsey Summer Study 2010

TOWARD A SOLUTIONS FRAMEWORKUnbundling the Value Chain is Key


Source: Martin

Logistics OperationsMarketing & Sales

After-Sales Service

Infrastructure

Human Resources

Technology

ProcurementValue Chain

Rewarding excellence

and efficiency

Innovative supply chain management

Organizational design features

Environmental impacts

Productivity of human

resources

Cost-effective platforms and technologies

Responsiveness to clients after delivery cycle

Entrepreneurial marketing, pricing and positioning

Reporting practices, governance practices, physical infrastructure

Lead Question:♦ Where do I need

philanthropy now and in the future?

♦ Where can I use investments now?

♦ Where can I use investments once I am at scale?

A GROWING EXPERT SYSTEMReaching Scale


Key idea: SE industry as an alternative

expert system to development industry and charity industry

Budget: Ashoka current annual budget of US$50mn; Red Cross US$1.3bn

Infrastructure: Global Fund spent US$40mn in software, Pictet spent US$400mn

Fellows: Today 2000, UNHCR alone has 10x more people on the ground

A MATURE GLOBAL INDUSTRY 2020?Social Entrepreneurship Comes of Age


If SE Industry manages to deliver…

♦ It will grow exponentially

♦ It will provide solutions across all issues and geographies

♦ It will fundamentally change the way private and social sector interact

♦ It will be the innovation powerhouse for high-impact economic solutions for governments

in times of tightening budgets

B A C K U P


FROM SOCIAL ENTREPRENEURSHIPTo Synthetic Social Business (I)


♦ Since the turn of the millennium, a veritable field of social entrepreneurship has emerged. More and more mainstream institutions looked to funding quality social entrepreneurs. But the field remains highly fragmented – for social entrepreneurs and more classical nonprofits alike. This holds back investment by raising costs and complexity. Consider that of 200,000 nonprofits founded in the US between 1970 and 2003, only 144 had reached revenues in excess of US$ 50 million by 2003. Fragmentation lowers the entry barrier for innovation, but it imposes higher transaction costs and renders expansion more difficult. Compare the due diligence and portfolio management costs to be borne by a 100 million US$ debt or equity investment vehicle with 100 portfolio investments of US$ 1 million each to a more standard private equity investment vehicle of the same size where the average investment is US$ 10 million. Assuming a typical private equity screening ratio of 100 opportunities for every investment made, the first vehicle would have to find, screen and monitor 10,000 opportunities, whereas the latter has to find, screen and monitor only 1,000. Moreover, in terms of effort-reward ratio, it is typically harder for social businesses to achieve full financial viability than for purely commercial ventures.

Source: Martin

FROM SOCIAL ENTREPRENEURSHIPTo Synthetic Social Business (II)


♦ Moreover, in the 2010s we are about to reach a point where the relative supply of high-performing individual social entrepreneurs is becoming constrained vis-à-vis demand for such talent. The problem is straightforward: There are not that many “Dr Vs / Aravinds” that can be scaled further if additional finance is tapped through financial engineering. On a sustainable basis, and as a rule of thumb, one can find about one additional Ashoka-quality social entrepreneur per annum per 10 million inhabitants. This means that we could in principle source 680 new social entrepreneurs per annum (at a current global population of 6.8 billion).

♦ One solution that is likely to be adopted on a wider basis going forward is to leverage social entrepreneurship talent through structures. This means setting up institutions and design and maintain incentive systems that reward aligned socially entrepreneurial behavior throughout an organizational pyramid and set boundaries on what not to do. We can refer to this approach as “synthetic social business,” where social entrepreneurship is incubated systematically in incubators such as hearts in South Africa.

Source: Martin

FROM MICROFINANCE TOInclusive Financial Services (I)


♦ Assuming an average loan of US$ 500-1000, the current market size is at US$ 75-150bn, suggesting a 30% annual growth of the industry over the past ten years, when market size was estimated at US$ 15-30bn. Underlying market demand is much bigger. Estimates indicate that there are at least 500m micro-entrepreneurs worldwide. Each would require on average at least US$ 500 p.a. to sustain their family and activities, yielding a target market of at least US$ 250bn. About 10%-20% of market demand is currently being met.

♦ From an investment perspective, about 250 MFIs around the world are currently commercially self-sustainable and interesting targets for foreign investors. India in particular is a “hot” MFI theatre. Pre-financial crisis, the balance sheets of many MFIs were growing at an average rate of 25%-50% p.a. Most capture savings locally and are at least partially owned by local investors. In the 2010s, we can expect a further development of the microfinance industry along three vectors, completing the industry’s shift from microfinance to inclusive financial services.

Source: Martin

FROM MICROFINANCE TOInclusive Financial Services (II)


♦ (1) The mainstreaming of microfinance means increasing attention to the corporate social responsibility of MFIs e.g. social governance; labor climate; contribution to financial inclusion; fair treatment of clients; diversity and quality of products; social responsibility towards the community; and environmental policy.

♦ (2) As MFIs look for opportunities to grow their business, they will gradually cover all segments of the unbanked from micro to small to medium entrepreneurs – and also social entrepreneurs.

♦ (3) Following the evolving financial product needs of the micro, small and medium entrepreneurs to improve their living standards, MFIs have already moved from microcredit into micro-savings, micro insurance, and micro-remittances. Via such “horizontal growth”, many MFIs now transition from a single product offering such as micro-enterprise loans to a framework of inclusive financial services covering the entire span of daily needs and correspondent capital requirements, from micro-housing to micro-utilities, micro-energy, micro-insurance, etc.

♦ As the decade progresses, increasing scale, vertical, and horizontal integration mean that investors will also face more choice and opportunity in each of the five possible pathways to invest in microfinance: direct equity, specialized funds, lending and guarantee schemes, investment banking and structured products, and IT-based peer-to-peer investment. Source: Martin

FROM DEVELOPMENT ASSISTANCETo Bottom-of-the-Pyramid Investing (I)


♦ The deconstruction of the development assistance paradigm needs to be understood in the context of a fundamental mindset change concerning the role of markets and business in development. Since the 1980s, the problem of underdevelopment started to be reconsidered in terms of opportunity and business, as the now widely adopted term “emerging markets” suggests. Originally coined by World Bank economist Antoine van Agtmael, it has partially substituted earlier concepts such as Third World or developing countries. Development assistance is increasingly questioned as problematic and transaction costs often assumed to be even higher than in the social capital market, whereas market-based investment solutions are instead seen as a more effective way forward. Thus the recent re-conceptualization as the so-called “base of the pyramid” (BoP) as a gigantic market with four billion people and pent-up demand for a whole range of goods and services in areas such as education, health, housing and sanitation.

Source: Martin

FROM DEVELOPMENT ASSISTANCETo Bottom-of-the-Pyramid Investing (II)


♦ We currently witness the early days of BoP investing. Over time investments at the bottom of the pyramid are nevertheless likely to become another emergent asset class that will draw interest from commercial capital market players. The rate of change seems to be faster than in the history of the microfinance industry. Dedicated BoP investment vehicles (BIVs) were beginning to be created in the 2000s. Similar to the MIVs which would have had no portfolio MFIs to invest in if there had not been philanthropic money and development assistance to get them off the ground, different forms of grant funding of portfolio companies at some point in their lifecycle is similarly essential to BIVs. As a rule of thumb, proof of concept needs grant money, whereas scaling up requires commercial money.

♦ BIVs therefore often operate in partnership or with the assistance of philanthropically-minded or multilateral players who want to draw commercial capital into the development equation and are happy to establish joint capital pools. The original grant pool can be enlarged via investment arrangements that combine investors and philanthropists into consortia or funds, taking into consideration their different risk tolerance, return objectives, and expertise sets. Going forward, the joint capital pool approach where philanthropic organizations and businesses collaborate to jointly develop a solution that neither of them could orchestrate alone will become widespread.Source: Martin

FROM CLASSICAL PUBLIC GOODSTo Privately-funded Provision (I)


♦ Grants remain today’s core business of philanthropy and social entrepreneurship, and many of the fundamental challenges humanity faces in the 21st century cannot be tackled by markets alone. Free markets do not internalize externalities such as environmental destruction or negative public health impacts on populations that are not working in the formal sector. To address these and other challenges, private or public subsidies are required. In some cases, subsidies can and should be temporary, and directed toward establishing functioning market places. In other cases concerning pure public goods such as, say, human rights, subsidies are required on a permanent basis to achieve the social objective in question. But if subsidies will continue to play such an important role in philanthropy, we need to ask how grantmaking itself is being transformed by the changes under way.

♦ Thinkers such as William Petty, Adam Smith, and John Stuart Mill argued for centuries for the large-scale provision of public goods by governments. They only became a reality with the rise of the welfare state in the industrialized world in the twentieth century. Today, public goods are omnipresent and their provision is expensive. Given the state of public finances in the European Union and around the world, long-term demographic trends, as well as the inherent limitations to the risk-taking capability of the public sector, a window of opportunity has opened up for providing public goods through market-based solutions. Germany’s federal social spending alone exceeds €154 billion a year; we need to find ways to create greater impact with the resources allocated. This requires creating incentives that reward excellence in public goods provision and continuous improvement and innovation.Source: Martin

FROM CLASSICAL PUBLIC GOODSTo Privately-funded Provision (II)


♦ To allocate capital efficiently, techniques and concepts of capital markets and investment banking can be applied to financing solutions for public goods. Reducing transaction costs will free up resources and create greater impact. Market-based funding solutions make sense in one of three cases: (1) whenever addressing a problem now is cheaper than addressing it in the future when a public commitment is actually paid out, (2) when the most efficient solution provider is not a government agency, or (3) when new market places need to be constructed to create a comprehensive solution.

♦ One promising way forward are social impact bonds: capital market transactions where private investors provide risk capital to fund a more efficient solution to a social problem, and are then later rewarded with appropriate financial returns if the solution they backed is successful and saves public money.

Source: Martin

Dr. Maximilian Martin

35, Rue de MontchoisyCH-1207 GenevaSwitzerland

M +41 79 592 99 [email protected]

CONTACTS


No Offer: No information provided in this document regarding services or products shall constitute or be construed as an offer to sell or as a solicitation of an offer to acquire securities or other instruments in any jurisdiction where such offer or solicitation is prohibited by law or in which the person making an offer or solicitation is not licensed or registered to do so or to any person to whom such offer or solicitation is contradictory to local law or regulation. Any such prohibited offer or solicitation is void and we will disregard any communication received in respect thereof.

Distribution of funds: This document contains information concerning investment funds that are registered and managed in different jurisdictions. As a consequence, this information is not directed at persons who are prohibited from accessing this information by laws and regulations which prohibit the publication or access to the information in question by virtue of the nationality, place of residence, domicile or registered office of the person or entity concerned or on other grounds. The investment funds stated on this document are not licensed for marketing in all countries of the world.

Risks: The future performance of an investment cannot be deduced from previous value since the investment may fall as well as rise. In addition, investments in foreign currencies are subject to exchange rate fluctuations. Thus, the investor may not get back the amount invested. We recommend that you get advice from your advisor prior to making an investment.

Exclusion of liability: We expressly disclaim any liability for losses or damages, whether direct, indirect, foreseeable or unforeseeable, incurred or suffered by any user of this document or of the information provided in this document. By accessing this document, each user fully releases the document author and all of its affiliates and its respective partners, directors, officers, employees and agents from any and all claims, right and recourses for such losses or damages.

Information provided by third parties: This document may refer to information provided by third parties. We have not verified whether such information is reasonable, accurate, reliable, complete or up-to-date. Links to other sites do not constitute our approval or endorsement of such sites or its products or advertisements. We are not liable in connection with any such information provided by third parties.

No reliance and no warranty: This document may include technical or editorial inaccuracies or typographical errors. The information on this document has been prepared solely for information purposes. While we have made every effort to ensure that the information on this document is accurate at the time of publication, we make no representation or warranty in any manner, expressly or by implication, as to the accuracy, reliability or completeness of the information provided in this document. We shall not be obliged to remove outdated information from its document or to expressly mark it as outdated.

Confidentiality: Any confidential, proprietary or sensitive information transmitted by a user by means of this document may be read and/or copied by unauthorized persons.

Copyright: The entire content of this document is subject to copyright with all rights reserved. Without my prior written consent this document or any part thereof may not be copied, transmitted (by electronic means or otherwise), modified, linked into or used for public or commercial purposes.

DISCLAIMER


The Role of Socially Responsible For-profit Entrepreneurs & Philanthropists in the Development of...

Documents

Transcript of The Role of Socially Responsible For-profit Entrepreneurs & Philanthropists in the Development of...