Friday, July 9, 2010

The challenge of equity investment for social business

Dear Colleagues

Jeff Mowatt sent me this ... and it raises some interesting questions.

It is interesting that a capital market fund should be offering finance into the social enterprise community, with no takers ... or at any rate only one! The article text of the article is copied below and is also at this URL: http://www.socialenterpriselive.com/section/news/money/20100709/%C2%A33m-fund-closes-after-one-%C2%A3320000-deal

I have followed this matter over a number of years, and wondered why there is such a disconnect between the capital markets with people who are the owners of money and the tremendous unfunded needs in both developed and developing countries. I have concluded that part of this is to do with the fact that equity investment ... especially early stage equity investment has an incredibly high expectation of financial return ... hardly compatible with most social business business models. Early stage investors explain their need for high return with the argument that it is high risk and many of the investments fail ... which may be true, but this reflects something wrong with the investor due diligence process and is, I would argue, something of a "cop out".

There is another issue ... the issue of who is in charge. Few social business entrepreneurs really want to cede control of their business to anyone ... and are very uncomfortable to having control move to the "money people". This is a huge constraint on equity investment in social business ... and not likely to change without some good reason.

The good reason may be deployment of a broader set of metrics about business performance ... metrics that include not only money profit reporting but also value accounting. When modest profits are combined with very good value adding performance ... and this accounting is routine and normal ... then more people might become interested in investment in the social business sector. With this sort of rigorous and routine reporting the social entrepreneur might also feel more comfortable because the primary goal of making "value adding" for society has a real place in the reporting, rather than being something ad hoc and not taken very seriously.

Peter Burgess
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£3m fund closes after one £320,000 deal
9 July 2010 by Chrisanthi Giotis

'Our experience was mainly not finding the number of social enterprises that were ready for, and had the appetite for, equity'

Triodos UK managing director Charles Middleton (pictured)
A £3m Triodos fund set up to invest equity venture capital in social enterprises has closed after two years and only one £320,000 deal.

Triodos UK managing director Charles Middleton said the bank had not found the appetite for equity that it expected, or enough social enterprises in a strong enough position to take on equity.

‘The recession is having an impact,’ said Middleton. ‘But our experience was mainly not finding the number of social enterprises that were ready for, and had the appetite for, equity.’

Middleton compared the difficulties Triodos faced in providing equity to social entrepreneurs to the same difficulties it faced many years ago in convincing charities to take on debt.

‘Entrepreneurs have to be comfortable with letting go that sense of control and ownership which is not easy to do and we have to respect that,’ said Middleton.

He also urged the government’s proposed Big Society Bank to play a role in helping to get social enterprises investment ready.

‘We come across this persistent theme of investment readiness being an issue,’ said Middleton. ‘That’s why you hear many people agreeing that the Big Society Bank should have some funds available for addressing investment readiness.’

Middleton stressed that Triodos’s lending to social enterprises remained strong with record levels of lending to the charity and social enterprise market.

‘On the lending side we have £120m loaned out to what we define as charities and social enterprises, and if you add the commitments we’ve made, but which have not yet been drawn down, it’s more like £220m,’ he said.

Middleton said closing the Triodos Social Enterprise Fund was a ‘very difficult’ decision and came only after the investment team had tried ‘very hard’.

He pointed to the fact that other venture capital funds for social enterprises, which had been set up after the Triodos launch, had ended up combining equity-like investments with loans.

‘We didn’t think there was any point in using this fund to do debt,’ he said.

‘In the end it was fairer on investors for them to have the money back and to use it in a way that would make a positive impact. I think it’s important that we tried.’

Middleton added that if the experience helped to throw the spotlight on the issue of investment readiness then that was a positive outcome.

He said that Triodos would be keeping a close eye on the market to see when the time was right to re-launch an equity fund for social enterprises.

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