Why the Gates-Buffett Billionaires Should Create a Social Private Equity Firm
http://socialentrepreneurship.change.org/blog/view/why_the_gates-buffett_billionaires_should_create_a_social_private_equity_firm

by Nathaniel Whittemore June 17, 2010 01:25 PM (PT)
Social Entrepreneurship

The big news this week is the Giving Pledge, a campaign led by Warren Buffett and Bill and Melinda Gates to get the worlds 400 wealthiest to commit 50% or more of their wealth to social causes. I think that for some of these new givers, social entrepreneurship could be a better field for them to deploy their talent and treasure than more the more traditional philanthropic fancies of the rich. Believe it or not, I think the single best thing they could do to supercharge social entrepreneurship is to create a social private equity firm.
I wrote yesterday about both my enthusiasm and my worries for the new injection of resources -- which ultimately, if all 400 on the list actually committed 50%, would be more than $600 billion. My worry is that the not-insignificant challenge of distributing so much wealth effectively will end up pushing many of the new philanthropists to predictable, known, and often well-supported giving.
The better game to me seems to be in actually trying to deploy these resources to transform entire cause areas, and perhaps shift the systems by which social change efforts are created and supported as a whole. To that end, I think a deeper enabling of the social entrepreneurship field could be a great bet. And when I think about what this field needs there is something that has recently been standing out to me above all else.
We need plausible paths for company exits that don't undermine the social or environmental mission.
An "exit" refers to an event like a merger with a larger company or a listing on a public stock exchange. These "exits" give founders and early investors liquidity, or financial return on their capital or time invested. Ultimately, the shape and size of exits within a given market are the key factor in determining the risk and reward of a venture investment. When the exits in a space are bigger or more predictable, investors are more likely to take risks and invest in companies. When exits are smaller or less predictable, the reverse is true and getting investors to take risks on companies is harder.
The situation is even more complicated in the social venture space because of the added priorities of social and environmental impact. For a socially-focused company to list itself on a public exchange, it means that it accepts its primary responsibility to be its fiduciary responsibility to its shareholders. While there are some publicly traded companies that have embedded social good as part of their business, the pressure to increase dividends to shareholders at all costs is immense, and not necessarily healthy for the social goals of a company. What's more, it is only very large companies (usually more than $50 million in annual revenue) that are appropriate for stock exchanges anyway.
Mergers with larger companies seem like a better fit for many socially focused companies -- particularly those in the food or consumer space where there are actually large established companies with capacity to and interest in acquiring smaller companies. The challenge in those arrangements is that often those larger corporations do not share the same commitment to social and environmental objectives -- particularly if they increase the cost of doing businesses.
The problem with the lack of good options for exits for social businesses is that it increases the risk for social investors and creates a barrier for new early stage investors in the field. For example, a social venture capital firm like Good Capital tries to raise a venture fund to invest in young companies, the lack of plausible exit opportunities means that there will be fewer people willing to invest in that fund.
I wonder if part of the answer may be to create late stage private equity firms focused on social as well as financial impact. Private equity is sort of a banner term, but generally refers to firms that buy controlling stakes in existing companies, and then increases the profits of those companies in order to pay themselves back. Although the public has gotten used to certain derivitives of the private equity model focused on buying distressed companies and then turning them around to sell again, that's not necessarily the model a social private equity firm would have to take.
What I can imagine is an institutional actor whose specialty is helping great social businesses with good revenues get even bigger while retaining their social and environmental missions. Bigger is not necessarily better. These types of firms would bring companies into their portfolio by acquiring some of the stock that had previously been held by investors and founders, in that way providing that liquidity that is missing from the current social finance system without compromising the social mission. This would create more incentives for early stage social investors, and provide social entrepreneurs more plausible returns that could increase the variety of the people thinking about social businesses.
I think that any firm like this would have to be financed by people who were both financial savvy, socially committed, and generally patient. It would need to be staffed by people who deeply understood the social impact landscape of the fields in which they were investing, as well as by people with experience in traditional private equity.
I think it could be awesome. Imagine Benetech founder and CEO Jim Fruchterman running a firm like this, supported by (Fortune 400 member) David Rubenstein from the Carlyle Group (the largest private equity firm in the world), and funded by everyone from Sergey Brin to Michael Bloomberg. I think it could be transformational, and would be a perfect fit for leveraging not only the capital but the broader array of talent and connections of the new Gates-Buffett Giving Pledge group.
Photo credit: David Rubenstein via the World Economic Forum