Wednesday, December 7, 2011

Blended Value and the Liquidity Thing

Blended Value is a widely recognized way of referring to the well-known, but hard-to-express, desire of many, if not most, investors, both institutional or individual, to put their wealth to work in ways that make a positive impact, not only on their portfolio, but also on the larger world in which we all live.

It's part of the movement towards Socially Responsible Investing, or just Social Investing. This has, in turn, given rise to discussions about Social Entrepreneurship.

Social as used here does not mean disguised philanthropy. It means making investments that are calculated to deliver returns that can be measured in both financial goods and other goods.

In this regard, I contend that almost all Entrepreneurship is really Social Entrepreneurship. There may be some people who start a new business just to pump it up and sell it off, but I don't think most entrepreneurs feel like that. I think most are really trying to make a positive improvement in their lives and the lives of others by bringing new and needed goods and services to the market at affordable prices.

And, I contend that most investors are really Social Investors. There may be some people who just care about making a buck, and don't really care how, but most people want to do right both by themselves and by others. After all, at the end of the day, we're all in this together!

But then there is the liquidity thing.

When we think about finance and investing, for social impact or otherwise, we have all been trained to think about the Market. What is meant by the Market is the public equity and other financial markets, or what is more commonly known as Wall Street (although, really how common is real knowledge of how Wall Street really works?).

The Market (or Wall Street) is really a system of Exchanges for trading in financial instruments. As with so many things, the great strength of the Exchanges is also their greatest weakness: they are built to provide instant liquidity. Their whole reason for being is to constantly attract “the next new buyer”. Even when we look beyond the public equity markets, to such innovations as Venture Capital or Private Equity, we are still looking at models built for liquidity. It’s just that in VC/PE models, liquidity is deferred.

We pay a high price for all this liquidity. First, there is the volatility it engenders, and the instability that comes with volatility. But there is also a more subtle, but more pervasive skewing of our values. Once an Enterprise enters an Exchange (or commits to entering the Exchange markets, by going the VC/PE route first), it goes to work for that Exchange. Every decision that Enterprise makes has to be calculated to please the Exchange. If an Enterprise tries to run its business without regard for the Exchange, it does so at its peril!

The same is true for Investors. When an investor commits to an Exchange-traded instrument, it is not making an investment in the underlying Enterprise that issued that instrument. It is making an investment in the Exchange on which that instrument is traded. The returns to be realized depend on the liquidity of the Exchange, which is at least one step removed from the fundamental prosperity of the underlying Enterprise.

The Exchange stands between Enterprise and Investment, and imposes its values on both. And those values are not blended. They are singular.

The Exchanges are built to optimize one single point of value: the market clearing price. It's best if the price goes up, but it's OK as long as there is a price. The Exchanges, after all, make their money on the trade.

There are times when Enterprise and Investment both need liquidity, and for those times, there is no better option than the Exchange.

But when our focus turns to making real, meaningful, long term, sustainable impact for the better, do we really need that much liquidity? In this context, liquidity is at best, a distraction. At worst, it can be disruptive (see the story of microfinance as Antony Bugg-Levine and Jed Emerson tell it in their new book, Impact Investing)

There is another choice. That choice is to follow the example of the tax partnership. Tax partnerships are the granddaddy of impact investing, bringing billions of dollars of socially responsible institutional equity into social enterprises in affordable housing, renewable energy and community development. We’ve been using them successfully for decades.

The problem with tax partnerships is, of course, the "tax" part of the partnership. But the tax part is not essential. We can redeploy the tax partnership structure as something I call the Base Case Partnership, and voila, we have a field-proven, reliable structure for bringing Enterprise and Investment together in shared pursuit of longer term, stable, sustainable prosperity; prosperity that can be measured financially, but that can also be measured in other ways.

If you're interested in Blended Value, consider the whole liquidity thing, and then consider the option of a Base Case Partnership for blending your values into your investments.

Let's discuss.


1 comment:

  1. Interesting concepts. How do we deal with the corruption of the Exchange though? Or should I say the perceived corruption? I don't think people have a problem investing. Though, more and more these days want to invest in companies that they perceive are for the common good and not just for lining execs pockets or destroying the environment just to make a few extra dollars. Part of the issues from my perspective, is that the Exchanges, or Wall Street, have been playing games. These things backfired as instruments failed and the markets collapsed. So the perception becomes that the man-in-the-middle (the Exchange) is the bogey-man. How do we rebuild that trust? I think people would be willing to invest if, first, there was a good chance of a return on investment, and second, that the company they were investing in was socially responsible. So I guess, it ends up coming back to, do you trust the man in the middle?