Social Impact Bonds Generate Buzz in New York and Massachusetts

New York City and Massachusetts have tapped into capital markets to fund social intervention programs by introducing social impact bonds.  A concept originating from the UK in 2010, Social Impact Bonds (SIBs) are a financing mechanism designed to support the efforts of government agencies that provide social services. In essence, they help transfer some of the risk in crime prevention or homelessness assistance, among many other social services, to private investors. They are just now beginning to gain recognition in the United States with the city of New York and the Commonwealth of Massachusetts bringing recent SIB deals to the market.

At its very core, the program enables the public sector to leverage upfront funding from private investors. Social Impact Bonds are commonly known as “pay for success” contracts, in which the government pays only if the program meets preset goals, resulting in all parties benefiting financially. However, the idea is in its infancy, with only a two-year-old prison program in Peterborough, U.K., serving as a model. “Assessing a nascent market — or one that isn’t clearly defined — is a tricky undertaking,” consultant McKinsey & Co. said in a report.

While “bonds” is a misnomer, SIBs could open doors for new funding mechanisms.  “This does not behave like a traditional municipal bond because of the risk transfer. The government only pays if the program is a success. The issuing entity is not the government, so this does not affect the credit rating of the state,” said Tracy Palandjian, co-founder of Social Finance US.

Philanthropically inclined investors are figured to be an easier initial sell as reaching profit-driven investors won’t come right away. Laura Callanan, a senior expert at McKinsey, said “as the SIB program grows, community development finance institutions and venture funds could repurpose themselves to serve as intermediaries.”

Social impact bonds could also provide new means to gauge performances of government programs. “Government has always been motion without progress. But now you can put people’s feet to the fire and force them to pay attention to metrics,” said Anthony Figliola, vice president of Uniondale, N.Y., lobbying group Empire Government Strategies.