How the Private Sector is Paying for Public Innovation

Evans-Blog-20160405City governments have experienced increasing financial strain over the past several decades – pension payments are coming due, infrastructure needs replacing, and the cost of providing social services is increasing. This leaves little room for local governments to get on the social finance innovation train that has been sweeping the private sector for the past few decades, where bright minds have been exploring social enterprise, low-profit limited liability companies, impact investment, and more. However, many have recognized the importance of bridging the gap between private sector innovation and government, leading to organizations across the sectors investing time and money devising ideas that may fill this void.

One promising idea is the Social Impact Bond (SIB) – also known as a Pay for Success Initiative – which promises to provide better government services while eliminating financial risk in the short term and reducing costs in the long term. This initiative is piquing the interest of government officials, philanthropists, social investors, and service providers as an alternative to status quo government spending on social programs.

Big names like Bloomberg Philanthropies and The Rockefeller Foundation are pouring huge sums of money into exploring SIBs to better understand their applications and implications. Even the White House is on board, granting $10 million last year to intermediary organizations to work with dozens of cities investigating promising ideas.

So How Do Social Impact Bonds Work?

Thus far, US-based Social Impact Bonds have mimicked the model that originated in the UK in 2010 – utilize private money to fund an intervention that tackles a pressing social issue in an innovative way. This model requires five distinct stakeholders: 1) a government that has identified a social issue it would like to solve, 2) an investor interested in social impact, 3) a service provider that has demonstrated success through an innovative intervention, 4) an independent program evaluator, and 5) an intermediary. The intermediary plays a critical role, as it convenes the other four stakeholders to create the SIB-enabling contract.

The enabling contract specifies the intervention and its desired social outcomes, as well as how the independent evaluator will measure the success of the program. It also indicates that the investor will cover all costs incurred by the service provider in executing the intervention. If the intervention succeeds in reaching the agreed upon social outcomes, the government pays the investor for the services rendered. Here is the kicker, though – if the social outcomes are not met, the government and the service providers are not at risk. Instead, the investor absorbs the financial loss.

Let’s look at an example:

In 2012, recidivism rates at Rikers Island Correctional Facility were upwards of fifty percent. The City of New York recognized the growing social and financial cost this presented and sought out MDRC, a nonprofit education and social research organization, to serve as an intermediary. With the goal of reducing recidivism by 20%, the first US-based SIB was born. Goldman Sachs joined the team by investing $9.6 million to support Adolescent Behavioral Learning Experience (ABLE), an evidence-based recidivism prevention program run by the Osborne Association and Friends of the Academy – two NYC-based service providers. Since the program’s implementation in 2012, it has been monitored by the Vera Institute of Justice – the program’s independent evaluator. In 2015, Vera released an evaluation that ABLE had not resulted in a 20% reduction of recidivism and as a result, the City of New York is not on the hook to repay Goldman Sachs.

While the Rikers Island SIB was not successful, many believe it is too early to tell how SIBs will play out in the US context in the long run. Only eight SIBs have been fully implemented thus far, two of which have produced some type of formalized evaluation. Much is yet to be learned about what types of interventions are most aligned with the Social Impact Bond structure and how their impact can best be measured and monetized. Those with an eye to innovation and government should stay tuned, as more trends are certain to arise with the release of several other SIB evaluations in the next few years.