Social Impact Bonds: Going Beyond Environmental Metrics with ESGs

Investing can be more than just numbers. It can be a way to positively impact the world socially, environmentally, and economically. As an investor, you would not want to fund companies actively engaging in unethical practices such as exploiting laborers, overusing natural resources, or polluting the environment.   

You would want to invest in companies that are aiming for growth ethically, while promoting human welfare and protecting the environment.  

That’s where environmental, social, and governance (ESG) investing comes into play. ESG has gained a lot of traction in India over the past decade, with investors becoming more conscious of their impact on society. While ESG investing applies to both equity and debt investments, we will focus on the debt part of ESG investments today.  

In the fixed-income realm, environmental bonds, such as sovereign green bonds issued by the central government, have been a popular investment alternative under the “E”, i.e., the environmental part of ESG investing.  

The “S,” i.e., the social component, is as vital, even if it is trickier to quantify. Social impact bonds (SIBs), which address social development, are becoming popular with Indian investors in their quest for impactful, ethical investing.  

We will explore the social aspect of ESG investing to help you understand and expand the clean investment horizon beyond environmental factors.  

Why the “S” in ESG Is Gaining Importance 

Climate change, carbon footprints, and other environmental factors are the first to pop up in our minds when considering ESG Bonds for ethical investing. However, ethical investing is not limited to environmental factors. Social causes such as inequality, upliftment, etc., are also quickly gaining prominence, drawing investor attention.  

Indian investors can invest in social impact bonds to add social impact instruments to their portfolio. Interestingly, multiple studies have established a deep correlation between companies that perform well and the social issues they stand for such as workforce diversity, employee welfare, stakeholder relations, and community engagement.  

Companies focusing on social issues as an integral part of their growth strategy often outperform overtly capitalist counterparts. Socially conscious companies attract top talent, have loyal customers, and engage stakeholders to build trust. Their increased social presence helps them set a foundation for long-term growth.  

Socially conscious companies are for-profit organizations that aim for growth by taking a more responsible and human approach. The social aspect is a part of their DNA and is not limited to corporate social responsibility (CSR) initiatives.   

While some organizations have social responsibility at the core of their value system, investor preference for socially responsible investing forces others to return to the drawing board to adopt socially responsible strategies and goals.  

It is this prospect for strong long-term growth and financial stability that encourages socially conscious companies to issue investment-grade bonds for both the short and long term.  

Socially conscious enterprises of all sizes today issue high-rated social impact bonds to attract ethical investors while allocating capital for welfare causes. These initiatives typically include building houses for community development, enhancing stakeholder skills by funding their education, etc.   

Let’s unpack the workings of social impact bonds and understand how they can make a good addition to your investment portfolio.  

Understanding Social Impact Bonds 

Social impact bonds (SIBs) are innovative, outcome-based financing mechanisms that seek funds for social development. They are relatively young financing instruments first issued in the United Kingdom in 2010.  

Unlike traditional bonds, which fund a wide array of projects such as expansion, infrastructure development, etc., SIBs are focused on socially impactful projects such as affordable housing, promoting gender equity, affordable education, and more. 

SIBs are a good ethical investment alternative that allows you to put your money towards the betterment of society without sacrificing returns. The social cause behind the bond is known before the issue, giving you visibility into where your money is going and its possible impact on the society. The transparency aspect makes SIBs attractive from the investors’ standpoint.  

Any organization seeking to create a social impact can borrow via social bonds. The central government, PSUs, corporates, NBFCs, etc., can all issue social impact bonds. However, the Sovereign Green Bonds (SGBs) under the ESG bonds initiative are issued only by the Central Government. Other Indian organizations, such as NABARD, have previously issued SIBs.  

Types of ESG Bonds and How They Compare to Social Impact Bonds 

The ESG bonds universe is vast, comprising multiple bond types such as green bonds, social bonds, sustainability bonds, and sustainability-linked bonds. Each bond type addresses a unique cause. While they all fall under the ESG umbrella, they are all different and are used to address unique causes.  

It is easy to get confused between the bond types. Here is a simple breakdown of the various ESG bond types:   

The focal point of social bonds is capital allocation for building socially equitable societies, while that of green bonds is a cleaner environment, and sustainability bonds combine both social and environmental causes in one project. On the other hand, sustainability-linked bonds help borrowers achieve the larger sustainability goals over the long term.  

Social bonds are fast gaining prominence in India. While they are a great addition to the ethical investment portfolio, they do face some challenges, the major one being gauging the qualitative impact of social change.  

Challenges in Measuring Social Impact 

ESG reporting is complex. Social impact is qualitative and implied, as opposed to quantitative measures such as CO2 emissions, carbon footprint, etc. Qualitative things, such as ‘improved diversity’ or ‘enhanced community-being,’ are tougher to benchmark and quantify, making them challenging to measure. Let’s dig deeper into the challenges, and understand and evaluate SIB issues better.  

• Lack of industry-wide metrics or standardization 

There is no global scale that quantifies social impact. It is a relative measure, and different organizations use different metrics to quantify it.  This makes comparison between one or more social impact bonds difficult.  

• Resource constraints 

Smaller organizations might not have access to sophisticated resources to collect and report robust social impact data.  

• Risk of overstating the impact 

Organizations may overstate the impact to look impressive and socially relevant.  

Despite the challenges, the demand for high-quality SIBs is rising amongst young investors in India.  

Opportunities for Better Measurement 

Despite the challenges faced in quantifying social impact, organizations can adopt the following practices to enhance the accuracy of reporting the effect of schemes funded by social impact bonds.  

• Quantify the measurable part of social impact 

A SIB project can have a quantifiable portion and an implied effect portion. For example, Issuer X is raising money via SIBs to provide affordable vocational education to underprivileged youth. The issuer can quantify the individuals who secured work after attending vocational training.  

• Adopt international frameworks 

Issuers should follow global standards such as the Global Reporting Initiative (GRI), Sustainability Accounting Standards Board (SASB), and the UN Sustainable Development Goals to enhance the reporting efficiency of social impact.  

• Clear Objectives and KPIs 

The issuer should clearly define the objectives for the SIB issue. Additionally, the project should be regularly gauged to track progress and enhance accountability and transparency. This will make quantification easy, which will, in turn, improve reporting efficiency.  

While these strategies can help companies improve their social impact reporting efficiencies, the reports will help investors track the project’s progress and see the positive impact their investment is making on society.  

Investors should be careful when investing in SIBs of companies with weak or no reporting standards. The lack of transparency from the issuer’s side may mean misappropriation of funds or usage for non-social or commercial causes, which defeats the purpose of investing in a social impact bond.  

Real-World Case Studies of Social Impact Bonds in India 

Social bonds, a relatively new debt instrument, are powerful tools for tackling social challenges. SIBs are gaining traction in India, especially as the public and private sectors look for innovative ways to fund social impact projects in education, healthcare, housing, and public infrastructure.   

Pimpri Chinchwad Municipal Corporation, with the United Nations Development Program (UNDP), co-created India’s first SIB issue in 2020. The SIB issuance market is picking up pace, with noteworthy issuers such as NABARD issuing SIBs and developing a Sustainability Bond Framework to pave the way for financing and refinancing eligible social projects.  

Here is an example of social impact bonds issued in the recent years:  

Case Study: NABARD SIBs to finance Jal Jeevan Mission   

The National Bank for Agriculture and Rural Development (NABARD) issued its inaugural social bonds in September 2023 to raise Rs. 1040 crores. These were the country’s first externally AAA-rated social impact bond issue, rated by CRISIL and ICRA.  

The bonds were issued privately for a 5-year tenure and listed on the BSE. The Rs. 1,00,000 face value bonds carry a coupon rate of 7.63%.  

The issue saw an overwhelming response with subscription offers received for Rs. 8560 crores against the base of Rs. 1000 crores. The funds were raised to refinance drinking water projects under the Government of India’s Jal Jeevan Mission. 

While SIBs are gaining prominence, finding investment opportunities for retail investors could be difficult, as most social bond issues are privately placed for institutional investors.  

Another prominent reason hampering Indian investors’ SIB investment goals is the preference of Indian issuers for foreign markets such as the UK or the US when borrowing through social bonds. For example, Shree Ram Transport Finance issued social bonds in the US to fund social cause projects in India. This limits the Indian retail investor’s ability to invest in SIBs. Lower interest rates and a higher demand for social investment opportunities drive borrowers to developed markets.  

This can change in the coming years as interest rates come down in India and demand for ESG bonds rises.  

The Future of Social Impact Investing 

Social bonds are uniquely positioned to channel capital to otherwise unaddressed causes and underserved communities. These bonds help level the playing field by funding projects promoting equality, inclusion, and development.  

Social impact bonds are neither CSR initiatives nor charity cases; they are credit-rated instruments issued by recognized NBFCs, allowing investors to earn returns while funding a social cause.  

SIBs might be the future of raising money for self-help groups and co-operative societies with a social development mission. The social bonds route will bring together borrowers and investors with similar philosophies of social development without compromising the return on investment.   

Investing in social bonds means you’re seeking financial returns while actively contributing to a fairer, more inclusive world.  

Final Thoughts: Investing Beyond Environmental Metrics 

ESG investing was earlier synonymous with environmental bonds, such as the central government’s Sovereign Green Bonds (SGBs). The social aspect of ESG is slowly gaining prominence as it presents a positive way to change society without compromising on returns.  

While social impact bonds are gaining traction, retail investors might find investing in them difficult, as most opportunities are for institutional investors or foreign markets.  

You can watch for opportunities to add social impact bonds to your portfolio.