This week, a Third Sector feature looks at how charities are creating new intermediaries to win government contracts – organisations focused on gaining business and becoming big, allowing local charities to win business while remaining relatively small, close to their beneficiaries, and focused on delivery.
One of the key issues highlighted was the need to get in place financial products which can support those organisations.
Martyn Oliver, chief executive of 3SC, perhaps the best known of these consortia, has said that if the sector doesn’t crack that problem, then these organisations won’t function. They will always play second fiddle to the Sercos of this world.
Interestingly, there’s a commonly held view of social finance that it’s a solution in search of a problem, and that it’s something people are keener to talk about that do. It is looking for the “killer app” that will make it necessary, rather than a nice idea.
At least some of the social finance world think the killer app for social finance is exactly this: helping charities win contracts. Early indications from Big Society Capital suggest it thinks it will be two thirds of everything it funds.
Social finance and winning contracts fit well together, largely because other traditional sources of cash for the sector don’t seem to be appropriate. You don’t get to the scale needed to win big government contracts by gradually building your reserves. Nor do you get the money from grants; it’s too slow, and too small-scale.
Based on a few conversations I’ve had so far, there appear to be at least four types of social finance that could usefully be made available to charities and consortia to win government contracts.
1. Start-up funding
To get contract-ready or form a new consortium, you need start-up funding. Often this can be a grant, but an alternative is the commercial equivalent of a career development loan – funding that you only have to repay when the charity wins its first contract; with a reasonable repayment rate so the loan repayments don’t threaten the charity’s margins.
2. Balance sheet support
To win a contract, an organisation needs enough money on its balance sheet satisfy commissioners. In the case of a consortium, some commissioners will accept the reserves of the member bodies. But others require the cash to be on the books of the organisation itself.
One way to do this is to use charities’ existing reserves. This is a big commitment, but there is only a small possibility the money might be lost. A social lender could underwrite this risk in exchange for a fee, so that if anything does go wrong, it’s the lender, not the charity, bearing most of the risk.
3. Contract funding
Once a consortium has won its first contract, it may well face a delay between delivery and payment. It may need to take on new staff. If the contract is based on payment by results, it may face a lot of risk. A charity should be able to speaker to a social lender and agree in-principle funding to cover all of these things as soon as it identifies a contract with an acceptable margin.
4. Growth capital
Once an organisation has won a contract or two and has a track record, it may discover there are a lot more options than it can pursue with its existing resources. It needs funding for rapid growth. This needs to be long-term, flexible, and allow the charity or consortium to share risk with the investor.
In the private sector, this funding comes from equity – stocks and shares – but the sector can’t take this type of funding on. An alternative is needed that offers the same benefits to both sides as selling a section of your company, but doesn’t actually transfer ownership.
This alternative doesn’t really exist at the moment. One idea is that a large capital injection would entitle the investor to a fixed percentage of any contracts won in the future – probably a percentage in the high single digits.
The advantage that the private sector has when bidding for contracts can largely be summarised in one word: equity. Developing these types of financing would go some way to combating that form of funding, which has proven so effective at allowing private sector organisations to build their balance sheet fast.