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Rothschild, Founder & Chair of Twin Cities RISE!
8301 Creekside Circle, Bloomington, MN 55437
February 11, 2011
Human Capital Performance Bonds are a way for private investors to finance
social service providers (mostly nonprofit organizations) able to
demonstrate economic value that is above the state's cost of borrowing the
funds. Economic value is a combination of incremental cash to the state
from taxes paid and lower public subsidies realized as a result of the
providers' social value creation. The state pays a portion of this cash to
the successful provider, and interest to investors. A proposal to pilot
this program-in part already shown to work with one Minnesota nonprofit-is
making its way through the legislature this session.
Welcome and introductions
Rothschild is the Founder and Chairman of the Board of Twin Cities RISE! (TCR!),
an organization that provides employers with skilled workers, primarily
men from communities of color in the Twin Cities area, by training under-
and unemployed adults for skilled jobs that pay a living wage.
In November 2010,
Rothschild founded Invest in Outcomes (IIO), where he is president. IIO is
a non-profit organization whose purpose it is to pilot a "Human Capital
Performance Bond", an innovative financing vehicle to both improve the
productivity of state human service spending and attract private
investment capital for high performing non-profits.
was CEO of TCR! during its first nine years. He was also formerly an
Executive Vice President of General Mills, Inc.
Comments and discussion -
private sector has the capacity to resolve the state's structural problems
projections derived by state economist Tom Stinson' s office showing that
if state revenue increases at an anticipated 3.9 percent, health care
spending increases at its projected 8.5 percent and education spending
growth is held even with inflation at 2 percent, then all other spending,
including such things as higher education, early childhood education, jobs
programs, and infrastructure, must decrease 3.9 percent. The result is a
compounding decrease in spending in all other areas of public services
"I would submit to
you," Rothschild said, "we will never see General Fund spending for these
items at $6 billion again, unless something fundamental changes in the way
the state funds service providers.
"The state created
this problem," Rothschild said. "Philanthropy cannot resolve it-that would
require the equivalent of four new United Ways each year." He believes the
only way to resolve this funding shortfall is to attract the private
sector. Private, market rate investors have the capacity to inject
significant capital but they have traditionally not invested in social
is spending money without knowing what it gets in return
There are three
assumptions underlying Rothschild's formation of the Human Capital
Performance Bonds plan:
Quality nonprofits create social value
Social value equates to economic value (the value can be monetized)
Economic value equates to cash flow
"You can monetize the
economic value of most social programs, if they avoid costs and increase
revenues to the state,"
"The state now is
spending money without knowing what it gets in return because it doesn't
measure outcomes, it doesn't capture value and it doesn't reward high
performance based on value being created." Measuring economic impact would
allow us to determine which programs create the most social value.
"pay for performance" with Twin Cities RISE! (TCR!)
A 'pay for
performance' contract with TCR! was established by the Minnesota
legislature in 1997. State officials estimated cash flow to the state
based on the economic value of higher tax receipts and lower government
subsidies resulting from increased incomes to individuals attaining better
jobs. TCR! is paid only for success, when an individual's income increases
by at least $10,000 as they obtain and stay in the job for at least one
year. TCR! shares the economic value that it creates for the state and
takes all the risks; there is no payment for failure.
Over the last 13 years
the state has received $7.24 for each $1 it has invested or a $33.4million
benefit for a $4.6million investment.
Capital Performance Bonds
Performance Bonds (HCPBs) build on pay for performance as follows:
- The state sells bonds with an (anticipated) AA-rating to external
- The bond proceeds go into a "performance pool" segregated from the state
budget and overseen by a board of upstanding citizens with demonstrated
financial expertise who are appointed by the Commissioner of The Office of
Management and Budget.
- Any entity providing service to the state at present-non-profit,
for-profit, union, etc.-could apply to receive funding from the
- The applicant would provide performance data on its outcomes, and a
group of economists would evaluate (1) the applicant's ability to have its
outcomes monetized, and (2) whether returns are sufficiently high to cover
the costs of borrowing (the interest rate on the HCPBs). The economists
would also judge whether an organization's track record would imply future
"This allows a program
to participate," Rothschild said, about the qualification process. It's
the way for the state to ensure that only organizations with a high
likelihood of yielding a sufficient return for the state and, hence
sufficient cash flow to repay investors, are involved in the pool.
-The pool pays sums to the participating organization only as long as
performance standards are met.
-The bond would be structured to pay up to 75% more than the pool of
providers' current state allocation over 3-4 years (assuming a 10 year
bond). This provides significant new investment potential for
participating providers if their outcomes meet established targets.
- If performance goals are met, the state's improved cash flow funds the
bonds' principal and interest payments.
- If performance goals are not met, the state has use of the funds to
retire the bond early.
The costs of failure
to the state (some interest and administrative expense) are more than
offset by the potential of tens of millions of dollars in new investment
if it is successful.
Rothschild shared an
example of how the performance bonds would work in a pilot program: When a
workforce program trains a client and places that person in a higher
paying job, the change in income creates increases in income and sales
taxes, as well as savings to the departments of Health and Human Services,
Corrections, Employment and Economic Development, and other areas of
government services. The present value of this benefit is divided between
interest and principal repayment to the investor and a performance payment
to the program provider. Greater benefits generate larger performance
"The state must track
program clients by their Social Security numbers and be able to determine
the actual changes in their tax payments and any government subsidy.
Obtaining actual results is critical to the fidelity of the bond
"We have a bill in the
House authored by Keith Downey and in the Senate by Julie Rosen. There is
broad support by leadership in both the Senate and House.
"As this idea moves
forward I think there will be more interest. It can be a catalyst for
redesign, because it has the potential to stimulate government officials,
philanthropists, investors and providers to think differently about
meaningful outcomes and value generation."
A participant asked
where friction on the bill might come from? "From the complexity, the
limited exposure of the legislature to such ideas and the present focus on
How could this scheme work for organizations like homeless shelters?
The basic question to ask is: What is the social outcome, and can it be
monetized? To what extent does it increase state revenues, and to what
extent does it avoid state costs? The key here is the fidelity of the
economics. If you can't capture the economics then it doesn't work. The
discipline of this is that the savings must be captured, and the savings
on the pool must be sufficient to cover costs while returning interest to
What are the
This program will provide an incentive for organizations to improve
results. The highest performers that are most effective and efficient will
garner more investment and scale up their programs to serve more needy
clients. Some that are close-doing well but not good enough-will have a
target to aim for to get better. There will be greater transparency of
outcomes to state officials, legislators and taxpayers, alike.
Why keep the program separate from the legislature, and privately
A: The sale of bonds,
the payment of interest and repayment of principal will need legislative
approval. However, the legislative process is not set up to evaluate
purely economic outcomes necessary to ensure the fidelity of the bond
(e.g. short term decision making, spending and revenue are handled by
different committees and political pressures include non-economic
criteria). Furthermore, the state is cutting budgets, not increasing them.
Private investment is the only legitimate way to meaningfully increase
support for worthy social programs that demonstrate value.
What kind of organizations would be interested?
Any organization that can provide the data to demonstrate their economic
value from their social outcomes.
What areas of service do you see participating in the first stages of a
Potentially work force development, rapid housing, senior care,
disabilities, among others. The economists are looking into areas of state
government where potential cost avoidance is great in the near term. Over
time, we will look across all state government spending areas and
data-mine to find areas of potential.
What are other potential service providers that will not be part of
the initial pilot program?
It won't work where social value doesn't equate to economic value like in
a museum or zoo. Areas where it will take more time to evaluate data,
where the return takes longer to develop or where other considerations
could delay implementation won't initially be included. Examples include
K-12 education, health care, early childhood education, and higher ed.
Down the road these could be excellent candidates given the potential for
cost avoidance and increased revenue.
Could bonds be issued locally?
We need the state to
issue the bond during the pilot because investors have no way of assessing
its risk as a new investment. Once the bond is established a group
representing providers could issue the bond itself, necessitating only a
contract with the state to pay the group based on a share of the economic
value it creates. The group would pay the investors directly. It's also
possible that counties could issue bonds once value to them is established
and captured. The federal government is another logical arena.
To close Rothschild
highlighted differences between this model and other social venture
institutions and foundations are increasingly making Social Capital
Investments. They are invested in a variety of social areas and expect to
earn less than a market rate of return for the investor.
While HCPB's have a
similar purpose- to provide increased investment to high performing social
organizations- it differs in a number of important ways: first, it is a
market rate investment thereby attracting a much larger potential
investment pool including commercial banks and other financial
institutions; second, as a bond whose interest rate will be around 4% the
hurdle rate is much lower than social venture capital that requires 3 to 4
times the return to attract even social investors. As such, HCPB's, if
successful, could scale up to much larger investment pools both in
Minnesota and elsewhere.
"We see HCPB's
improving the productivity of state spending while providing a major new
source of funds for high performing service providers. While traditional
state spending for social services will be squeezed in the years ahead,
HCPB's offer a way to increase social spending as productivity is
Rothschild promised to
keep the Civic Caucus abreast as the plan makes its way through the