How our impact-first approach led us to our first Perpetual Bond

In a new report, we share our learning from our social investment into Fair for You and our first Perpetual Bond along with how it could open up finance options for social purpose organisations looking for equity-like investment.

In July 2020, Esmée Fairbairn Foundation finalised an investment into Fair for You – the affordable credit provider (and a Community Interest Company limited by guarantee) alongside six other investors, in the form of a Perpetual Bond. If you're not familiar with the term, a Perpetual Bond is a form of permanent capital which falls firmly into the category of ‘equity-like’ investment. And depending on how it is structured, it can also be accounted for as partially or fully equity on the investee’s balance sheet.

The report shares our learning on the investment and offers suggestions for its wider use, which we believe will be particularly useful for new and existing social investors and foundations interested in social investment.

This blog serves as an introduction to the paper: illustrating our approach to social investment and articulating why we believe flexible, alternative forms of social investment are essential to enable the creation of long-lasting social impact.

What is the true purpose of social investment?

We believe that social investment is a powerful and financially sustainable tool we use, alongside grants and our own actions, to achieve our impact goals.

We take an ‘impact-first’ approach and seek to catalyse impactful organisations with our finance. Practically, this means starting with the social need and tailoring our investments: adapting and selecting financial instruments that are most appropriate. This must be done through co-designing solutions with those we seek to support, and invariably this means we need a higher risk tolerance than many of our peers have.

Of course, we must recognise our enablers: a break-even financial return target and no disbursement targets, driven by funds being our own, and as such we have no cost of capital which we need to pass on to our investees.

The result of our approach is a social investment portfolio which is diverse, particularly in investment structure. Our active portfolio consists of 78 investments and £34m of commitments. Of those commitments:

  • 11% are in standard amortizing loans
  • 22% of our social investment portfolio is in ‘non-standard’ loans (which we define as including, but not limited to, revolving facilities, bullet repayments, impact-linked interest)
  • 7% is in ‘genuine’ equity
  • 4% is in ‘equity-like’ (or ‘quasi-equity’) instruments*
Esmée's social investments

*as of September 2020

Alongside this, 46% of our social investment is in financial instruments with a maturity of 10 years or greater.

We hold a longstanding belief that a patient, equitable risk-sharing approach to investing is core to meeting the true purpose of social investment: placing the social purpose organisation and the creation of impact for those they support at the heart of investment decisions. This, we believe, is more important than ever as organisations recover from COVID-19, and beyond. This belief also forms a key component of our new social investment strategy.

Should we take a different approach?

COVID-19 has highlighted some of the challenges with social investment. In recent years, the social investment ‘market’ has become awash with ‘standard’ amortizing loans (loans in which principal and interest of the loan are paid in periodic, fixed payments) which, due to their inflexibility, are not right for every social purpose organisation, particularly in times like these with uncertain income.

It was for this reason that we supported Shift’s research into the unmet need for equity-like instruments, which itself built on Flip Finance’s research. We’ve been delighted to see the momentum gather around equity-like investments, with Connect Fund’s call for ideas to support the deployment of Access Foundations’ Flexible Finance for the Recovery being the latest example of a supportive initiative.

However, this approach is not without challenge. For the investee, a challenge with equity-like investments which is rarely referenced is its accounting. Despite many of the investment instruments sharing ‘genuine’ equity characteristics, they often appear as a liability on the organisation’s balance sheet, having an impact on how the organisation is perceived, their stability as a business and ability to leverage future finance. This is particularly problematic to social purpose organisations unable to take genuine equity finance due to their legal form.

For the investor these challenges predominantly concern resource-intensity and expertise needed for deal structuring, lack of liquidity and a necessity for financial returns to be a secondary driver rather than a primary one. Yet our 1.6% return across our 84 exited investments is proof that, despite these challenges, positive financial returns are possible when adopting this approach.

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