Even the staunchest defenders of Wall Street or the City of London will admit that the private equity industry, rightly or wrongly, has developed something of a bad rep in the past couple of decades.
In the popular imagination, venture capitalists are all sharp-suited “greed is good” spouting Gordon Gekko-types, buying distressed businesses or household brands before stripping them bare and slashing employees to turn a quick buck.
But all this antipathy towards private equity however distracts from its rather sober, utilitarian aims: to turn a flagging enterprise into a flagship of success. Private equity is meant to inject working capital into a promising business and refine products, operations or management, while keeping shareholders suitably compensated for their risk taking.
According to David Hutchison, former head of UK investment banking at Dresdner Kleinwort and chief executive of Social Finance, a non-profit set up to improve third sector access to private financing, there is “considerable mileage” in bringing investment disciplines to bear on socially minded organisations, “particularly a focus on performance management and a sense of accountability for delivery.”
Yet until recently, where firms have attempted to invest in positive social or environmental impacts, the motivation has been more about corporate responsibility than business strategy. Social impact has been merely “an attractive by-product”, explains Hutchison. “What you need to find is capital that values the social impact being delivered and doesn’t just tolerate it. [This] is more than an extension of philanthropy.”
Breaking the mould
One private equity firm seeking to break the mould is London-based Bridges Ventures, which in June 2012 was crowned sustainable investor of the year by the FT and the International Finance Corporation. With a portfolio that includes environmentally friendly care homes, affordable gyms in deprived urban areas and even a charity-run social enterprise for vulnerable teens, Bridges Ventures takes a “fundamentally different approach to most other investors” says co-founder Michele Giddens.
“We are a part of private equity that is consciously asking: how can we place money for positive impacts?” The firm’s first criterion is whether a venture will have a positive social or environmental impact. Ensuring it is commercially viable comes next. The model is “investment plus an engaged relationship”, Giddens says. “Two things should happen if we have got it right. One is that they achieve more positive impacts, and the other is that [the enterprise will] grow in value, and therefore the investors make an attractive return.”
Ten years after it was founded, Bridges Ventures now has nearly £275m in funds under management and its backers include major private equity players such as 3i, Apax Partners and Doughty Hanson. This is evidence, says Giddens, that the industry recognises that there need be no “trade-off between financial return and impact”.
Interest in social impact returns among private equity investors is at a level now where it is possible to talk of social investment as an alternative asset class in its own right, says Rupert Gather, managing partner of Claridge Capital, a corporate finance advisory firm specialising in frontier markets and social enterprises. A major factor heightening interest, he says, is widespread adoption of the United Nations’ Principles for Responsible Investing.
Since launch in 2006, more than a thousand asset managers have become signatories to the landmark UN principles, 94% of whom now have a responsible investment policy. This represents tn (£20tn) – or 15% of the world’s investable assets. “What was a dusty side pocket of corporate governance,” says Gather, “has suddenly become fundamental to the way businesses are operated.”
Greater attention given to impact reporting – the auditing of non-financial results – has also made sustainable business, social enterprises and charities ventures that much more attractive, Gather adds. “It enables a fund to get involved with social impact investing because they can say, ‘OK we only made a 5% cash return, where normally we would look for a 20% cash return, but we made a 30% equivalent social return and here’s the audit trail’.”
As an approved provider under the UK government’s £10m investment and contract readiness fund, which aims to partner private equity firms with social enterprises, Claridge Capital provides “low bono” advice on creating a business plan, deal structuring and capital raising. Its clients include Good Connection, a social networking site with a focus on health and wellbeing, which aims to donate a significant slice of its profits to charity.
A furniture re-sale social enterprise started by the William Wilberforce Trust, aimed at improving the employability of ex-offenders, recovering addicts and homeless people, is also receiving support from Gather’s team. The enterprise scheme has seen 95% of graduates enter employment or training and is now being readied to become a scalable business that can tender on contracts for housing associations and other partners.
Using capitalist principles
Gather makes it clear he is no socialist. “The Good Samaritan couldn’t actually help the person by the wayside if the Good Samaritan hadn’t earned the money in the first place. I am profoundly capitalist. But there is a way of doing it that is consistent with ethics.”
Increased interest by private equity should be welcomed, says David Floyd, managing director of East London community organisation Social Spider, who has developed social enterprises and projects encompassing the arts and homelessness. “Can we draw on the expertise and the money of the financial services industry and private investment to deliver social change? The answer is yes, and we should do,” he says.
Yet Floyd warns that for many socially-orientated businesses, venture capital will remain a “pipedream”. “It is wrong to think that private finance is going to be the white knight that is going to rescue the social sector,” he says. “Finance is about providing organisations with the capital to get started or to scale up and grow bigger. But that doesn’t solve the problem of revenue. That is the more important challenge.”
An entirely separate, although familiar, challenge faces the private equity industry. Many people working on social ventures still believe that “the values of private investors are different,” says Floyd, “that if they take over they will pay the staff really low wages and cut costs and corners so they can make massive profits – that is certainly a fear that people have.”
While many private equity firms are increasingly keen to change the record, heartened by greater attention to responsible investing, encouragement by government, clear financial returns and improved reporting, it may take a little longer for past negative associations to fade from the popular imagination. Still, there are some who are demonstrating that there may be a case for a new city slicker mantra than “greed is good”.
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