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Suresh Fernando <suresh@radical-inclusion.com> Mar 23 09:52AM -0700 ^


 
Hey Folks,
 
My latest addition to the conversation regarding the lack of capital for
early stage social ventures is to think about ways that we can *build
collaborative partnerships between traditional, financially motivated,
institutional investors, foundations and the social venture finance
community. *To seed the conversation on this topic, here are a few ideas….
I`m wondering if anyone is working on something that is of this sort.
 
 
*ZERO COUPON BOND STRUCTURES TO RAISE PRIVATE CAPITAL (financially motivated
investors) for Social Ventures Financings*
 
One strategy that could be used to approach institutional investors with is
the following:
 
1. Raise, say, $10,000,000
2. Invest enough in a government guaranteed 10-year zero coupon bond *to
guarantee that the principal is returned*
3. If the discount rate is roughly 3% (which is comparable to 10-year
bond rates), then the required amount is roughly $7.400,000
4. This leaves $2.6 million for investment fund
 
This fund could be invested in debt, equity or a combination of both. The
returns will be hard to model and therefore to make this work we would have
to market the idea as:
*
'Social Good Bond!',* or something like that.
*
The selling point is that we could guarantee that they get their money back,
that they will contribute to welfare of humanity and that they might get a
decent financial return!*
 
In return for this investment, institutions would probably need to be
provided with some benefit to their brand etc.
 
Obviously this structure could be modified so that you provide them with
some nominal guaranteed return,.say 1%
 
Furthermore, we could provide some financial upside using the following
strategy to engage foundations…
 
 
*
LEVERAGING FOUNDATION CAPITAL
*
*Concept: *The basic idea is to utilize foundation founds to offset the risk
of financially motivated investors. This could be structured in, at the
least, the following ways:
 
1. *Insurance:** *we could, in theory, utilize foundation capital to
purchase insurance policies to offset financial risk. The challenge with
this will be to determine how to quantify the risk in order to price the
insurance contracts.
2. *Loss Offsets: *an easier strategy might to get foundations to simply
agree to a fixed number that they are willing to provide an offset for.
 
For sake of example lets consider a strategy that involves foundations and
private institutional investors.
 
Let's assume that, as per the example above that we raise $10,000,000 from
private institutions and we purchase the zero coupon bond as outlined above.
Let's also assume that we guarantee private investors a return of 2%
compounded. This results in a guarantee to private investors of $2.2
million.
*
The question, therefore, is what can foundations do to guarantee $2.2
million to private investors?
*
Since the presumption is that we will conduct effective due diligence in
selecting projects, actively support projects etc. we can safely assume that
the whole $2.2 million is not going to evaporate. This is to say that
(assuming we are talking about a loan fund) the projects that we provide
loans to will have some repayment rate and this repayment rate will
determine the the risk profile for the funds that the foundations need to
guarantee.
 
This will lead to a *repayment rate probability distribution* that will look
something like this. I am just guessing at this point…
 
 
*Total Capital Commitment – Proportion Repayed* *Percentage
Repayed* *Probability
of Repayment – hypothetical* *Probability Weighed Capital Returned*
$2,200,000.00 100% 60% $1,320,000.00 $1,980,000.00 90% 63% $1,247,400.00
$1,760,000.00 80% 67% $1,179,200.00 $1,540,000.00 70% 70% $1,078,000.00
$1,320,000.00 60% 75% $990,000.00 $1,100,000.00 50% 80% $880,000.00
$880,000.00 40% 85% $748,000.00 $660,000.00 30% 90% $594,000.00
$440,000.00 20% 95% $418,000.00 $220,000.00 10% 99% $217,800.00
 
I am not a mathematician so am not sure how to quantify this risk, but this
is a relatively trivial problem for a probability theorist.
 
 
Thoughts…
 
 
Suresh