Social impact bonds are a form of 'pay for results'
funding because the repayment of the original
investment and/or payment of financial return is
dependent on the achievement of measurable social
outcomes. If the service attains a certain goal (i.e.
social outcomes improve), then at the end of the
term of the bond, the original investment is repaid to
the investors plus a financial return. This return may
vary depending on the extent of the improved
outcomes, with higher returns paid for better results.
As is evident from this description, the name 'bond'
is in fact a misnomer: social impact bonds are not
like traditional bonds, i.e. debt securities that pay out
a fixed rate of interest until maturity. They are more
like equity investments that pay out only on the basis
of results achieved, and they carry high levels of risk:
social investment bond-holders may lose their entire
investment if the project is not successful.
Creating a social investment bond involves choosing
a social issue, developing an intervention strategy,
setting a budget and establishing outcome
measurements (including controls), as well as a
financial framework (including a time frame and
rates of return). Once the bond is set up, investors
have to be found. Typically investors in social impact
bonds include those interested in more than just a
financial return, such as philanthropists and grantmaking
trusts, who are prepared to accept a lower
financial return or greater risk in order to generate a
social benefit.
Social enterprises do not have to rely entirely on
social impact bonds, but may use social impact
bonds as part of blended financing. Some experts
give the example of a social enterprise that can earn
a return of 5% on a new health clinic costing
£100 000. If a charitable foundation were to donate
£50 000 towards the initial capital needed to set up the service, the return on a loan of
£50 000 to make up the difference could be 10%, sufficient to find funding on the credit
market. The health clinic would bring benefits to the people served, the charitable
foundation would not need to finance the whole cost of the clinic (or could use £50 000
from its remaining funds for another project), and the private creditors would earn a
reasonable return, so that all participants would benefit. Alternatively, the charitable
foundation could guarantee a loan for the full £100 000, bringing down the risks and
hence reducing the cost of the full loan obtained on the open market to a reasonable
5% level. (The Bill and Melinda Gates Foundation has provided such loan guarantees
rather than grants for a number of projects that it supports). In either case, donors are
able to leverage their gifts with private capital so as to support more activities; social