Written by Gautam Patil for Gaebler Ventures
There's a new breed of entrepreneurs that has helped marry what have so far seemed like opposing ideas -- market forces and social welfare.
Bringing together their heart and the market and backing it with a fierce determination and persistence, 'social entrepreneurs' have been instrumental in solving many pressing social problems.
Serving those masses that the markets had shied away from a long time ago, they've changed many lives with simple, user-friendly and practical ideas.
Social entrepreneurs combine market mechanisms with innovative business models to make these products affordable and available to larger masses of society.
Dr. Albina Ruiz, an industrial engineer from Peru, has formed a community based system called Ciudad Saludable (Healthy Cities) which has turned solid waste management into a profitable and sustainable venture. Beginning with smaller towns where most solid waste was relegated to land fills in the suburbs and rag pickers sorted waste manually risking their health.
She has developed a system wherein residents pay token amounts to get the garbage cleared and anything of economic value is then salvaged from this waste (plastic waste is recycled and organic waste is turned into compost). The whole system is run by former rag pickers who're trained by Dr. Albina Ruiz's organization. Thus helping them earn a decent livelihood and also keeping the town clean. This approach is now being scaled for larger cities and townships as well.
Jacqueline Novogratz, Founder and CEO of Acumen Fund, explains the difference between philanthropy and social entrepreneurship, "The market is the best listening device that we have. If I offer you a gift, you're going to tell me that you like it. If I offer you something you have to pay for you may tell me you can't afford to pay -- but you may tell me you really want it and I have to figure out a way to get it to you for free. Not all my customers are really going to need it for free. Some of the people are going to have to pay some of the cost."
As another excellent example of social entrepreneurship, Mr. Harish Hande has harnessed solar power to light up thousands of lives.
Mr. Hande's startup, SELCO (based out of Bangalore, India), engineers solar equipment to serve a clientele that lies in far flung regions of India not served by the electrical grid.
He has also developed solar power as an alternative for conventional fuel based lighting systems currently used by hawkers and stall owners. Mr. Hande's understanding of financial nuances is also impressive. A lot of hawkers balked when they were asked to cough up 220 rupees a month to rent the solar lamp. To prove that it would be cheaper than the kerosene lamp, they were given a box and asked to put, on a daily basis, the amount they would've otherwise spent on kerosene. At the end of the month, the box was emptied and the result was clear. In a world given to monthly salaries and EMIs, we're unaware of those whose cash flows vary daily (daily wage laborers) or with seasons (farmers).
So why aren't these superstar ventures and ideas backed by venture capital money? Very few funds operate in this segment and most are backed by philanthropic institutions or other similar organizations.
The answer, I believe, lies in the returns these ventures provide and scale related issues. Social entrepreneurs are faced with a paradox when it comes to scaling their business.
On one hand, they'd like to make their products as affordable as possible which in turn limits their profitability. On the other hand, though scaling - due to economies of scale - is likely to make their products cheaper (and more widely available, which happens to be another important objective) it requires capital in the form of accrued cash flows (historical profits) or a fresh infusion.
Traditional start up firms may get a fresh infusion because there is a promise of huge profits once the business is scaled. But start ups by social entrepreneurs do not guarantee such returns even if completely scaled because the foremost objective is to make their products affordable - thus limiting profits - and also more widely available. In fulfilling the second objective, they may price discriminate, thus any profits made by selling their product to a relatively well off customer are offset by the losses incurred in selling a product below cost to a poor customer.
However, it is possible to theorize that not all investors seek returns that are purely financial. It would be handy to borrow a few lessons from the utility theory of microeconomics at this point.
Philanthropists derive utility from charity just as financial investors derive utility from the financial returns on their investments. In the former case it's due to the welfare of some other person and in the latter it's presumably out of consumption. Applying this principle, it could be possible to find investors who could be willing to divide their net expected utility into financial returns and social welfare in varying proportions.
Thus, it could be possible to form a so called 'social exchange'. A hypothetical example would be a firm promising a 6% dividend annually though the stocks of other listed companies might have higher yields on an average.
This social exchange could mobilize immense amount of capital to pump into 'social ventures' if suitable investors are found. This idea however has some problems. An important problem is an agreement on objectives because objectives will determine financial and social outcomes. In a 'regular' public firm, naively speaking, only the financial outcome is important because investors can later choose to consume the returns in any way they deem fit.
However, in a social venture that's gone public, financial and social results could become conflicting goals. The solution in this case lies in having a concentrated ownership with likeminded investors and that, as is evident, is the prevailing model. This however, will make it difficult to bring in the 'retail social investor'.
However, meanwhile, it would be interesting to track the careers of these social entrepreneurs, their ventures and the changes they will bring about in the near future.
Gautam Patil is a recent MBA graduate from the Indian Institute of Management, Bangalore. In addition to serving as a contributing writer for Gaebler.com, he will join the consulting firm Oliver Wyman at their London office.
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