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December 24, 2008

A Better Way to Finance Social Enterprise

Bruce Kogut
Sanford C. Bernstein & Co. Professor of Leadership and Ethics Management; Director, Sanford C. Bernstein & Co. Center for Leadership and Ethics
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This is part of a series of posts on the challenges surrounding social entrepreneurship.

The case of Ethos Water offers us an example of the challenges in financing a social enterprise and why we need to improve the instruments available to do so.

A little background: the founder of Ethos, Peter Thum, wanted to create a bottled water company that donated part of its revenues to a fund to improve water supply conditions in poor countries. Founded by Thum in 2001, Ethos was acquired by Starbucks in 2005 for a total of $8 million.

A one-liter bottle of Ethos Water sells for around $1.80. A fraction of this price is given to NGOs that work to improve access to clean drinking water in underdeveloped countries. Starbucks aims to raise $10 million in donations by 2010. Of the $1.80 sale price, however, only $0.05 is donated.

The concept and purchase of Ethos have been the topic of much criticism in the blogosphere. One blogger, writing from France, summed it up:

First problem: this practice is like a marketing operation disguised under false good humanitarian intentions. Second problem: selling bottled water to solve a problem with water. Indeed, it is as if a salesman was selling a Hummer SUV, and offered to donate portion of sales to organizations fighting pollution while claiming that the customer is helping to preserve the environment by driving the Hummer.

We agree — it's a little weird. I am not challenging these criticisms except to add that $0.05 is not negligible and that $10 million is still $10 million. Every penny counts.

I use this example to discuss the company’s initial funding. Ethos was founded in 2001 by partners Thum and Jerry Greenfield and two angel investors. Three years later, eBay founder Pierre Omidyar invested in Ethos after it had experienced difficulties. Less than 10 months later, Ethos was sold to Starbucks, where the CEO is a friend of Omidyar. After the 2005 sale to Starbucks, all of Ethos’s original investors left with capital gains. During its four years of independence Ethos never experienced a profit, though it did contribute more than $100,000 dollars to several NGOs.

In the sale, the founders stipulated that Starbucks must continue to contribute revenues to a fund under their control. Instead, I would like to advance the idea today that it would have been better to create financial instruments in social funds independently. We would prefer to see the creation of financial instruments and markets that are designed specifically for social enterprise.

To do this, it may be necessary to create alternatives to the legal status of non-for-profit organizations that still provides the fiscal benefits of charitable giving. In return, shareholders agree to allow a portion of the capital gains be automatically reinvested in a social investment fund. More interestingly, it could be encouraged that these shares be traded in markets, which would improve liquidity and also attract a new segment of investors.

The story of Ethos is an example of the immaturity of existing financial markets today for the financing of social enterprises. It is scandalous that we have not managed to create financial instruments better adapted to the needs of social enterprise. We must create new, innovative markets for financial help in social enterprise.

The above is drawn from remarks made at “Leadership for the 21st Century”, an interactive training session held at the U.S. Ambassador’s Residence in Paris on October 23, 2008 to launch the Ariane de Rothschild Fellows Program: Dialogue & Social Entrepreneurship. The program aims to develop a network of social entrepreneurs with an interest in fostering a culture of mutual respect and dialogue among Jewish and Muslim communities.

Comments

by Kenli Okada | January 02, 2009 at 1:42 PM

There is a nonprofit called B Lab which is trying to accomplish the change described in this article. One of B Lab's goals is to create a new corporate form designated "B Corporation," with its own legal framework and capital markets. See www.bcorporation.net for more information.

by ventureblogalist | January 13, 2009 at 8:52 PM

not rushing to the defense of a large company here, but I think I read the water bottle profit is a dime. 50% is somewhat better way of looking at it. Still agree with your points here though.

by Monchiere' Holmes | March 07, 2009 at 1:24 AM

I agree 100% with the statement on developing new laws for a social enterprise venture when the efforts fall along the lines of a hybrid organization.

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