News and Comment

25th anniversary guest blog series: The case for SIBs

Monday 8 December 2014

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Rough sleepers in London. Newly-released prisoners in New York. Foster kids in Manchester and unemployed immigrants in Belgium.

Four very different social issues, but with one important thing in common: they’re all the subject of new interventions funded by social impact bonds.

For the uninitiated, the basic principle behind social impact bonds is that rather than governments (or some other donor) funding a particular set of activities in the hope that it will lead to a certain set of outcomes, they instead define a set of outcomes up front – and only pay if those outcomes are achieved (usually in a set timeframe).

The provider then raises capital to cover the cost of the intervention from third party investors – who agree to invest on the basis that their returns will depend upon the success of the intervention. This is not a bond in the typical sense used by investors: it may be time-bound, but the risk/return profile is more like equity. The ‘bond’ here refers to the three-way contract between service commissioners (usually government bodies or donors), service providers and investors.

The concept is still relatively new, but it’s already gaining traction around the globe. As of the end of October, some 26 SIBs were in operation worldwide (of which Bridges Ventures’ funds have invested in seven), with dozens more in the pipeline. They span a diverse range of social issues, and have already raised around $120m in capital from a broad range of investors, including individuals, pension funds, foundations and investment banks.

So why all the fuss? For governments, the concept is attractive because it allows them to test new approaches to difficult social issues – and since they only pay for successful outcomes, the cost of failure becomes lower. When providers are being paid to perform a set of pre-defined activities, they have little room to experiment, and no incentive to surpass expectations. With SIBs, because the focus is on outcomes, providers have much more leeway to innovate in the way they deliver their service – and the better they do, the better the outcomes for beneficiaries and the more they get paid.

It’s also an attractive proposition for investors, for three reasons. An SIB can provide an opportunity to address the sort of social issues investors might not be able to access elsewhere in their impact portfolio (because these are usually state or donor-funded services). The link between payment and outcomes creates a direct alignment of interests between all the parties involved, which ought to increase the likelihood of success. And over time, the hope is that SIBs can deliver attractive risk-adjusted returns – in a way that is not necessarily correlated to the broader economic cycle. Taken together, this ought to draw in more private capital to help tackle difficult social problems.

Of course, there’s still plenty that can go wrong, especially since SIBs often involve relatively unproven interventions. To mitigate the risk, it’s vital that the SIB is structured properly up front, with the right incentives and metrics, and managed properly thereafter – which means that the provider has to have the right team, and that investors need to be very engaged and hands-on throughout (if they don’t have the capacity to do this themselves, they can use an intermediary, as Greater Manchester and Merseyside local authority pension funds have done by investing in Bridges’ Social Impact Bond Fund, for example).

Clearly there will be successes and failures in this early cohort. But judging by the pipeline of potential SIBs globally, policy-makers are enthusiastic about the idea, and not just because SIBs can bring in funding and new ideas.

Some of us believe that SIBs might turn out to be a more efficient way of commissioning public services. Many organisations across all sectors have already made the change from providing critical services in-house to buying outcomes they can better cost and monitor.  And they’re finding that when given the opportunity to be paid for successful outcomes rather than prescribed inputs, providers have developed and invested in entrepreneurial solutions – which ultimately leads to better and more cost-effective services.  If SIBs can have the same impact on public sector services, the scope for this market to grow may be beyond even the most optimistic forecasts.

Antony Ross is Partner, Head of Social Sector Funds at Bridges Ventures

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About the series

OPM is celebrating its 25th anniversary this year, and as a public interest organisation, we’ve always contributed to the debate about the future of public services.

With this and the next general election in mind, we’ve asked a number of senior thinkers to give their views on the challenges and opportunities facing public services and society in the near future.

This is one of a series of guest blogs, which we’ll be adding to in the coming weeks and months. To read previous posts in the series, go to our news and comment page.