Social Impact Investing: An Australian Perspective
A new book co-authored by InDaily 40 Under 40 alumnus Carmen Garcia studies the factors necessary to create a more robust investment market for social enterprise to flourish in Australia. An extract from the book follows.
Social impact investing (SII) is a relatively new concept first coined in 2007 at the Rockefeller Foundation conference held at its Bellagio Center in Italy. The Rockefeller Foundation conference had invited leading investors, philanthropists and entrepreneurs to explore how they and others might deploy more capital to work for social and environmental causes (Rodin and Brandenburg, 2014). According to venture capitalist Sir Ronald Mourad Cohen, it was at this conference that the traditional concept of ‘social investment’ was replaced by ‘impact investment’.
The Rockefeller Foundation report described impact investing as involving:
investors seeking to generate both financial return and social and/or environmental value – while at a minimum returning capital, and, in many cases, offering market-rate returns or better.
SII is now one of the most important and rapidly growing investment trends in the world.
While the size of the SII market is still relatively small, SII is gaining momentum because it appears to meet a deep-seated investor desire to fulfil a social impact objective, but this need not be at the expense of making satisfactory returns.
In the Australian context, governments at the federal and state levels have shown considerable interest in the development of an SII market. These initiatives mirror international developments such as in the UK.
There is increasing recognition in Australia and internationally that government has a critical role to play in growing the SII market, not only as a market facilitator and market regulator but also as an active market participant or purchaser of social outcomes.
Towards a viable SII market in Australia
While Australia has one of the most mature SII markets in the region (and possibly the world), the market is only in its most formative stages. Ultimately, the Australian Taskforce on Social Impact Investing report (2019, p. 22) “envisages a future in which Australia has a deep capital market for social impact investments facilitated by skilled specialist advisor ‘intermediaries’, with measurable social and financial returns across a broad range of investments – from those with a low to those with a market-rate of financial return”.
For the Australian SII market to grow and meet the Taskforce’s vision of becoming a deep market with many participants, and on a large scale, SII needs experienced intermediaries who can facilitate and structure SII investments (such as Social Impact Bond arrangements). Social Ventures Australia and Social Finance in the UK are good examples of how intermediaries operate in the SII market.
One way to attract social impact investors, increase liquidity and access and provide clear exit strategies is to promote a secondary market such as a social stock exchange.
There are some notable examples of social impact exchange platforms around the world that have been established to provide a marketplace for both primary and secondary transactions including investment information on potential investment opportunities.
Current social stock exchanges include the Social Stock Exchange (SSX) which opened in the UK in June 2013, the Social Venture Connexion (SVX) which opened in Canada in September 2013, and the Impact Investment Exchange (IIX) which opened in Singapore in June 2013.
If secondary markets for SII are to be effective and build investor confidence, there must also be high-quality regulation and oversight, including effective corporate governance and transparency comparable to listed public companies.
For public companies, there is a wide range of risk evaluation models which regulators, auditors, creditors and investors can use to assess risk and financial performance.
In the case of a Social Impact Bond (SIB), government performance payments are linked to the achievement of social outcomes. One of the key risks for an investor is that the service provider (which might be a private company, an NGO or an NFP entity) fails to deliver on the agreed outcomes.
In a SIB arrangement, the government cannot completely eliminate risk (e.g. lost progress payments if the SII arrangement fails). There is also potential reputational damage for the government if the SIB arrangement fails.
Robust risk evaluation tools are therefore needed to evaluate the viability, capacity and quality of service providers (and social enterprises more broadly).
While most distress prediction models in the literature have been applied to publicly listed companies, many can be readily adapted to private companies, NGOs and NFP entities responsible for social service delivery. Examples of risk models include simple probability models such as logit and probit models and advanced probability models such as mixed logit model, NL and latent class models.
More recently, artificial intelligence and machine learning models have been used to predict distress and bankruptcy and have ready applications to private company, NGO and NFP service providers.
Service providers also need effective and transparent assurance and governance frameworks to build and maintain investor confidence in the SII market. Charities and NFP entities are not necessarily subject to the same robust oversight and monitoring rules as listed public companies.
While the governance requirements of the ACNC Act 2012 are fairly minimal, the Australian Institute of Company Directors have set out ten more detailed governance principles for directors of charities and NFP entities:
(1) purpose and strategy,
(2) roles and responsibilities,
(3) board composition,
(4) board effectiveness,
5) risk management,
(7) accountability and transparency,
(8) shareholder engagement,
(9) conduct and compliance and
One way for market participants involved in an SII arrangement to ensure that service providers are meeting best practices for assurance and governance standards is to develop a checklist that addresses how well they are managing assurance and governance risks. This is considered particularly important given the strong links established in the literature between poor governance practices and distress risk.
An effective assurance framework provides confidence to market participants in the SII market that the service provider’s internal controls have been established and operate effectively to mitigate risk and that major operational and strategic challenges have been correctly identified and addressed.
There is a range of quantitative and qualitative factors for assessing the overall risk and performance of the service provider. It is possible to integrate these factors into a scoring model or rating system to assess current SII proposals or renewals for existing projects.
A framework for rating the overall viability, performance and service delivery capacity of social service providers is therefore a must for social impact investing to flourish.
Jones, Stewart, et al. Social Impact Investing. Available from: VitalSource Bookshelf, Taylor & Francis, 2021.