NextBillion - An Initiative of the William Davidson Institute at the University of Michigan

Friday, September 18, 2015

In spite of the growing interest of investors and donors in social entrepreneurship, funding for new, early-stage and growing ventures remains difficult to secure, leading some entrepreneurs to make decisions that may not align with the core mission of their organization.

Fundraising can have substantial implications on management decisions as well as organizational culture depending on the type of capital that is being sought and whether the organization is structured as a for-profit, nonprofit or hybrid.

To understand what these implications may be, let’s first have a look at the main types of capital – grants, debt and equity — that are currently available to social enterprises.

1. Grants.

Grants are available to both for-profits and nonprofits, and are considered as one of the safest ways to take a social enterprise through its risky first stages. While traditional grant-making is tied to specific programs, social entrepreneurs tend to favor unrestricted grants — like those from the Mulago Foundation — which help support organizational growth as a whole. Financial support can also be awarded in the form of fellowships  — like Echoing Green — which often include much-needed in-kind services.

2. Debt.

Debt in the form of lines of credit, asset-based loans and other products from private investors or financial institutions is also a possibility for all types of social enterprises provided, and this is often a challenge, they have the cash flow to make payments.

Debt is typically not available to new or early-stage enterprises, but may be adequate for later rounds of financing. Convertible debt can be issued to for-profits, but is not often used in the social enterprise space. It functions as a debt and may convert to equity at a previously set conversion rate. Quasi-equity debt is issued as a debt whose return rate is calculated as a percentage of revenue. It works for all structures, but is especially advantageous to nonprofits, as it helps them attract private investment. Other types of instruments such as loan guarantees, whereby a guarantor assumes the debt obligation of borrower, are starting to emerge as well.