The trend towards more business-like community involvement is strong. On one side, voluntary projects write business plans and learn to run themselves by keeping an eye on the bottom line. Some effectively become small businesses, earning income by signing contracts with local authorities for care services or making charges to their beneficiaries.
On the other side, companies use a business-case rationale for their contributions and talk about making a social investment not donations. Yet so far only a few are experimenting with making part of that contribution in the form of loans to projects capable of servicing them.
The obvious benefit of a loan-based approach is that the funds become available for investment again once the loan is repaid. For the right project, using the asset of a future income stream to secure a package of grants and loans may get a scheme started long before up-front fundraising is complete – and the discipline of a loan may actually help to keep the project focused on achieving outputs and the CCI manager committed to helping.
Market failure?
So are financial institutions entering the market? Is the concept financially viable or is there a case of market failure? In fact some of the ‘niche’ ethical/special interest banks have done so – the trade union orientated Unity Trust Bank and the Dutch based Triodos Bank, which recently took over Mercury Provident which was the UK’s first social bank in 1974. But so far the mainstream banks have not got involved, other than as part of their normal corporate banking service to the large and well-established national charities. The reasons for this include:
partly their staff simply do not understand the customer as the non-profit is a very different model to the normal profit-maker, and so they cannot assess what is a good and bad risk;
rarely is there any security for the loan and charities deliberately keep low reserves as they are resource distributors not profit maximisers;
the cost of doing deals is greater because of the time and effort needed to set them up;
returns are inevitably lower than in the commercial sector, yet interest rates would be need to higher to cover perceived greater risk.
But now banks like NatWest and Barclays are quietly investigating by providing finance and technical advice to new loan funds run by third parties.
Practical examples
The best established is the Local Investment Fund, run by Business in the Community, which started lending in 1995. This has a £3 million fund, £1 million from the Department of the Environment and the rest from the private sector, mainly NatWest. It concentrates on projects for local economic regeneration and has so far lent £850,000 to nine projects on terms from two to ten years. Examples include two community construction companies, using self-employed labour along side ex-offenders on training schemes, and a law centre needing cash flow support before legal aid fees are paid. All the projects were turned down by banks but are now happily trading and servicing their loans.
A project under consideration is a IT training centre for the long term unemployed and for women returners. A contract with the local FE college will provide revenue support, if the initial capital costs of equipment can be financed, and additional grant aid may be released once the project is up and running.
The Local Investment Fund is not trying to be a bank nor to duplicate existing provision. Effectively projects must have been rejected by conventional lenders before it can be considered. Once the project is bankable, LIF is happy to have the debt taken over, as funds can be ploughed back. If conventional funds can be brought in, the total of resources generated for the voluntary sector increases again.
More recently, in October 1996 Charities Aid Foundation established a social investment fund, Investors in Society. It has £1 million, partly provided by Barclays Bank, and a NatWest secondee is assisting in development. CAF is well placed because of the range of financial services it already offers charities. The fund is soliciting other contributions from companies and individuals, either as donations or interest free loans, and is expected to grow substantially above the initial ?1 million.
Investors in Society has financed start up capital for two Instant Muscle job clubs, with income earned from payment-by-results contracts with the Employment Service. Another loan finance the purchase of a home for a housing and training scheme in Sunderland.
Both LIF and Investors in Society operate nationally, but in Birmingham the Aston Reinvestment Trust is seeking funds to lend to suitable community enterprises as part of wider regeneration schemes. In addition, Industrial Common Ownership Finance, established in 1977 primarily to serve co-operatives, has experimented with expanding into the wider social economy.
Direct company lending
Is it feasible for an individual company to lend directly? At present some do, on a very ad hoc project specific basis. And, stretching the point, companies already lend resources in the form of staff secondment: the process is not wholly dissimilar – setting objectives before hand, agreeing the term and return arrangements, and monitoring progress. But only for the very few will it be practical to set up their own in-house loan fund. The volume of lending would not be large enough to justify the overhead nor would the company have the expertise to manage it effectively. Few would want to handle the ‘disciplinary’ side of lending directly.
The practical alternative is to assign a block of funds to a third party, like the Local Investment Fund or Investors in Society. Subject to any policy restrictions, they would then assess viable projects, and can identify the company as the source of the funds if required. This allows the beneficiaries to be included in the company’s communication and reputation strategy. It is also possible to arrange staff involvement, either volunteering or secondment, to transfer a wider package of skills.
An annual contribution of say ?250,000 to ?500,000 a year is feasible for many large companies and within about five years repayment of the first loans would provide more money for re-lending, yielding considerably greater added value from the community programme. Meanwhile donations can be focused on projects that really need them.
Having access to a loan fund can also help in saying no to applicants, for example by including a leaflet about the loan fund with the rejection letter, although making it clear that any decision to lend is taken not by company but strictly on merit.
Furthermore there is scope for companies with positive cash balances to make a long term loan to a social investment fund, treating the loss of income from interest foregone and any writing off of bad debts as a charitable contribution.
Bad debts
The whole concept is not viable unless projects are capable of repaying their loans plus interest. Bad debts and defaulters have to be kept below normal commercial limits, otherwise interest rates rise to punitive rates. Commercial lenders increasingly stress that relationships are the key to keeping defaulters low – understanding the customer, tracking their progress, offering advice when needed. The same applies in social lending.
The evidence so far is promising, with only one LIF loan having got into difficulty: by working intensively with the project, the problem was turned round and now the loan may be refinanced from conventional sources.
There lessons to be learnt from the success of micro lending in developing countries, where closeness to the customer is key. Likewise, closer to home, credit unions are successful because of the social ties – you are borrowing your neighbours savings; you would default on the anonymous and uncaring finance company’s loan before hurting your friends and acquaintances.
That is the key to success: lenders who understand and stay close to the communities they operate in and borrowers who want to repay, knowing that funds can then be reinvested in projects they care about.
The future
Interest is growing in lending as an additional option on the menu of ways to help communities. For example, in March the Baring Foundation will be publishing a report on alternative forms of finance for the community sector. For companies, traditional contributions are likely to remain the mainstay of community involvement for the foreseeable future but for some an element of lending will increasingly be seen as a way to achieve more value added from the programme.
For more information, contact Malcolm Hayday, Investors in Society, on 01732 520000, Andrew Robinson, Local Investment Fund, on 0171 224 1600, and Julia Unwin, Baring Foundation, on 0171 767 1000
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