30 Aug 2011
For many years the government has, with the best of intentions, funded programmes that for one reason or another failed to deliver the anticipated results. So long as the provider has undertaken the specified services it is paid its money and the government is left with the frustration of having spent considerable sums without achieving the desired outcome. When existing solutions fail to solve social challenges there is a need to try new things. Meanwhile it must be exasperating for government ministers to recognise that all the risk of failure rests with them. Payment by results is very attractive to government however very few providers have the resources to fund service provision up front and accept outcome risk.
One can argue that it is the role of government to take these financial risks but given the public’s reaction to failed projects it is easy to understand why ministers and civil servants become risk averse. In addition, the nature of procurement means that the provided service has to be clearly specified as an open cheque would be an invitation to actual and suggested fraud. However a clearly specified service cannot react flexibly to changing circumstances. Far too often major projects proceed with all participants knowing that failure is inevitable but without an obvious mechanism to solve the problem or end the programme.
A possible solution is Social Impact Bonds. The government pays for results and investors make available the project funding. The provider can focus on effective delivery without needing deep pockets and meanwhile there is a funder that can be pragmatic whilst also taking a very close interest in project outcomes and not losing its money. The objective is that spending decisions are made as though it is one’s own money because for the investor it is. In the same way that venture capitalists can take informed risks and achieve more successes than failures, Social Impact Bond investors will ensure that projects they fund are effectively managed and failures are swiftly halted.
Providing a financial return to investors means that successful projects will cost more. But if there are fewer failures along the way the overall costs should be lower and meanwhile society benefits from better delivery. I think this method of funding could be positive for all, however there are a few pitfalls that I hope are avoided.
The more risk the investor is required to take the greater the return that will be demanded. Think Dragons’ Den and the challenges of asking for money to support an idea! Welfare programmes, especially the more innovative ones, will simply become unaffordable.
However if used smartly I think this finance method can work extremely well. In my view the following are key:
- The government should only use this funding model where providers can specify a measurable outcome that will be the payment trigger.
- The investors’ risk should be their profit margin and at most only a small part of their capital. This will encourage them to work for the upside without charging a huge premium for downside risk.
- The government should be wary of philanthropic investors. The key to success is an investor breathing down the neck of the provider, focused on achieving the outcome targets and thus the investment return. A philanthropic investor may not attach the same importance as a traditional investor to attainment of the outcome targets and consequent payment of the success fee.
My company, MyWorkSearch, has submitted a bid as part of a consortium where the funding will be via Social Impact Bonds. At this stage I don’t know whether we have been successful however the bidding process has been an interesting process for all the consortium members. My experience so far is that both the government department procuring the service and the providers are feeling their way, not totally sure what model is best and where exactly to pitch risk and return. This is a topic I will return to as I learn more over the coming months.