THE BLOG

The Next Frontier for Social Impact Investment

06/01/2015 10:33 | Updated 07 March 2015

There has been an incredible wave of excitement around social impact investment over the last couple of years.

Jean Case, CEO of the Case Foundation, evangelizes that "a new day has dawned" and describes this "exciting time as we mobilize the power of the market for good." Sir Ronald Cohen and Matt Bannick, of Big Society Capital and Omidyar Network respectively, believe that "impact investing is poised to change the trajectory of poverty, crime, homelessness, for education, green energy and much more."

So far, the majority of social impact investment in the UK has sought to increase access to public service contracts or add scale to businesses selling exclusively to local or national authorities or public institutions. This investment aims to improve the quality and efficiency of these services, deriving measurable social value, and to take a slice of these contracts as a return for investors, which provides sufficient financial value.

This represents substantial progress. Social enterprises and mission driven businesses introduce innovation into public services and, when delivering services directly, help replace some of the compassion that purely commercial contractors have been draining out for some time. Meanwhile, this approach enables social investors to raise capital by offsetting lower returns with considerably lower risk.

But now is the time for this approach to extend into an important area of social innovation that is crying out for more entrepreneurial investment: the development of consumer products and services that can profoundly affect social, health and environmental problems in challenging markets.

Firstly, consumer products represent an almost limitless source of impact and change. They touch every aspect of our lives and the corporations that sell us these products and services are the most powerful entities on the planet. For better or worse, the commercial products that surround us shape much of our lives and much of the health, wellbeing and sustainability of our communities. They are ubiquitous and universal. So, while, intervention in social problems through services that are primarily purchased by government plays a crucial role, intervention through products that are primarily purchased by consumers, clearly play another.

Secondly, social ventures that develop products which directly target consumers can be transformed by more entrepreneurial investment. Well structured commercial investment, which seeks to generate a sensible return on that investment alongside measurable social impact, introduces a rigour and discipline to social (or mission driven) ventures that increases the chances of scalable, sustainable success. Whereas traditional grant funding can provide a hiding place for these ventures, allowing them to fudge questions of genuine traction amongst target audiences or replicable revenue streams, impact investment would demand their resolution. Inevitably, this influence will make these products and ventures more effective in relation to their core social objectives.

Thirdly, it seems clear that now is the right time for a transition to broader investment portfolios for social impact investors. A near exclusive focus on business models that name government - or publicly funded institutions - as their main customer potentially represents a structural weakness for social impact investment. The UK government, under whatever leadership, is likely to reduce its spending by over £50 billion over the next two terms. Some would argue that further cuts and more devolution to local government might increase the appetite for innovative and socially motivated contractors and service providers. Nevertheless, any investor would be wary of a business model that is reliant on winning and generating profit from a source of revenue that will shrink dramatically every year for at least the next 8 years.

There is much more work to be done on identifying and codifying socially progressive consumer product development - and not the ones that "make life more convenient for the already comfortable" or package up superficial solutions to win market share - but the ones that profoundly affect social, health and environmental problems in challenging markets, like d.light and Kit Yahomo. But, from what we already know, it is clear that one of the major reasons why consumer product development is such an untapped source of intervention is that it doesn't align well with existing forms of investment.

Imagine yourself in the shoes of a product designer or entrepreneur motivated purely by commercial outcomes. You have an insight into a market and a good product concept. You and your co-founders work round the clock on your own dime to put together a proof of concept. You generate some early funding from friends and family, launch a beta and start getting some traction amongst users or customers. Now, you're at the sink or swim phase for your product: can you get the seed funding you need to obsess about your core product for the next two years, iterate, improve, refine, build your user and customer base? While this investment doesn't come on a plate, it is readily available. Investors are looking for teams like yours and products that could be snapped up by a big fish within 3 years or find themselves in an IPO at 5.

Now imagine yourself as an entrepreneur that has identified the role for a product to play in reaching and helping an audience affected by a complex problem. There are some small pockets of early stage investment available for you, like £15,000 plus some non-financial support, and you use this and a heap of unpaid time to create a simple prototype and a robust social value proposition and business case. Then, you're lucky enough to find an innovation grant to develop and launch a beta, something like £150,000. But when you've started to get some traction amongst users and generate stronger evidence of impact, you look around hoping to find investment that allows you to obsessively improve and refine your product for the next 2 years and there is very little available to you.

So, you bootstrap and take on a stream of small contracts to leverage a product that is only 20% ready and use much of the revenue to manage accounts and deliver against client requirements. Or you take on several small pots of grant funding, accumulate project deliverables before you're ready and cobble together a only a small part of the resource you need for really good product development. Or, you give in, commercialise the whole thing, drain away much of the social value and take 10 meetings with venture capital investors.

Private investors aren't to blame for this gap, because meaningful, mission driven product ventures very rarely offer the same risk/reward ratio for their capital as standard commercial innovation. But, social impact investment, which is based on a risk/impact/reward ratio, can play the role for social entrepreneurs that venture capital investors play for their commercially focussed counterparts.

Despite these clear mutual benefits for investors and social entrepreneurs, there are many challenges contained in this potential next step.

Investment in ventures that set out to deliver social impact through consumer products needs to embrace substantial risk and come in at an early enough stage to have the greatest impact. Within commercial venture capital logic, only a very small number of backed ventures need to win big to offset the initial risks. While social entrepreneurs must develop robust business models that show strong potential for long-term profitability, some of the traditional routes to high, short-term returns are less likely, such as acquisitions or IPOs. Evidence suggests that social ventures of this kind are more likely to need to be nurtured over considerable time, finding small margins in products and services for underserved markets and gradually building scale.

As the very useful report from the Social Impact Investment Taskforce discusses, the means of locking-in a social mission sufficiently to enable profitable exits for investors do - or will soon - exist. Nevertheless, this tension inevitably remains and we need to accumulate more evidence of how to resolve it.

But the rewards are substantial. Supporting a new wave of ventures that can deliver impact at scale with products and services that are being chosen and paid for by the very people they aim to help is a very exciting ambition and one that social impact investors are best placed to adopt, as they understand how to maintain the subtle balance between commercial and social influences and outcomes within a venture. It will require these investors and social entrepreneurs to work closely together, as the latter create better business models and the former attracts capital that suits this approach. The prize for this collaboration would be thousands more sustainable social ventures that harness consumer markets to drive social progress and change.