Sunday
December 4
2011

Scott Anderson

Weekly Roundup: Venture Capital Might Just ‘Save the World’, First it Needs Some Efficiency

Jacqueline Novogratz, the founder and CEO Acumen Fund, is pictured on the cover of Forbes this month as part of a larger spread on social entrepreneurs. It’s far from a puff piece; the article weighs Acumen Fund’s prospects as investor-cum-social entrepreneur factory, while asking some tough questions about the profitability and long-term sustainability of Acumen’s portfolio.

(The spread also includes a list of the Impact 30, a list of the top social entrepreneurs as rated by Forbes).

The online version of the story carries the headline: Can Venture Capital Save the World? As the article points out, Acumen Fund doesn’t mirror a traditional venture capital firm: “donor-investors don’t get their money back-all returns are reinvested in Acumen-progress is measured not in ROI but rather against the good that could have been done by simply giving the money away.”

Similarly, an untold number of grant-funded social startups do not follow the time-tested model of seed, angel, venture capital and finally mezzanine-level financing. But the social capital markets could stand to learn a few lessons on efficiency from the VC world, said John Kohler, director – Social Capital at Santa Clara University’s Center for Science, Technology, and Society. This past summer, (I’m embarrassed to say how many weeks ago it was), he and I chatted about the particulars of a study he led with Jessica Sawhney, a recent Clinton Fellow. Along with a team of SCU student researchers, Kohler and Sawhney examined 45 impact investment funds, probing where they invested, the size and type of investment vehicle used, the preferred time horizon and outcomes expected for each of several classes of capital: grants, “soft” loans, debt, quasi-equity and equity investors.


This study aims to be a first step toward creating a more coordinated, venture-capital-style system for such social-venture startups, Kohler said. The survey charted both symptoms of and remedies for an investment field of “heterogeneous players” operating in more “horizontal” fashion.

“In contrast to venture capital and its vertical ladder, what the social capital marketplace endures is the fact that different sources of capital have different vehicles,” said Kohler, a retired venture capitalist and now a fellow at the center. “So you might have philanthropy, grants, PRIs (preferred return instrument) that require payment, soft loans, quasi-equity, equity and then commercial style loans from development banks. And each of those deals are different in terms and expectations … So how do we get a phased approach for capital to be better used?”

Another intriguing take away from the survey: funds that invested for “impact” say they invest more in the entrepreneur and the idea, while financial investors focused on solid business models and execution by the social enterprise. More than 80 percent of investors also reported that they do not use capacity development organizations to assist their portfolio companies. Yet the 50 percent that practiced monthly or greater contact with their investments expected a much higher rate of return. (That sounds a bit more like the “high-touch” approach of a venture capital investor).

But short of coming up with “the mother of all terms sheets,” Kohler suggests that investors work to set up milestones that help ready a grantee for the next pool of capital.

“I think if they do that, then you won’t have two different types of investors with two different types of outcome expectations to support at the same time and whipsawing the entrepreneur with advice,” he said.

Kohler also advocates a greater use of technical service organizations on the ground and the importance of finding local investors to be part of the investors’ syndicate. He also noted that equity often is not the best instrument in investing in small and growing businesses because in many cases there isn’t an exit for that equity. Demand dividends or preferred return instruments might allow the investor to be paid back more easily.

It really all comes down to aligning all investors in terms of their expectation and looking down the road for each social startup, i.e. a syndicate model.

The authors soon plan to implement a pilot program to test out some of the indications of the study (the full study is here). For those investors as interested in saving the world as securing a profit, the results of the pilot will be worth watching.

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Categories
Entrepreneurship, Investing
Tags
Acumen Fund, patient capital, social enterprise, venture capital