We know that there is simply not enough government or philanthropic money to address America’s growing social needs. We must use private capital to address today’s complex problems. But to attract that capital, there need to be financing vehicles that offer a rate of return commensurate with level of risk of the investment – or at least closer to market rate than the concessionary rates received by foundations on their program related investments (PRIs). And, we need to develop new models for investing not just in physical infrastructure, but also in human capital. One opportunity is to develop a commercially viable market for Pay for Success financing.
Pay for Success (PFS) is a new and experimental contracting model. The model obligates governments to pay for social programs only when agreed-upon outcomes are achieved within a specific timeframe, as opposed to providing the up-front payments of a traditional government service contract. PFS financings raise funds from private investors – both philanthropic and market-rate impact investors – to pay for the provision of a service and bridge the timing gap between service provision and outcome payments. If the service delivers as promised, thereby creating better societal outcomes and financial savings (or avoided costs) for the government, investors receive success payments from the government. Private investors assume the risk by financing the services up front, getting repaid by the government only if agreed-upon measurable social outcomes are achieved. In exchange for taking on the risk, the investors receive a financial return. This means that precious government resources are spent only in the event of proven success and government savings.
As an organization focused on improving the lives of low income people in U.S. cities, we see our role as an investor in Pay for Success partnerships as a way for philanthropy to fulfill its important role as an accelerator of change. Through our Catalyst Fund, we have been an investor in two of the first PFS financings done in the United States – the Massachusetts Juvenile Justice PFS Initiative and the New York State Workforce Re-entry PFS Project. Our early investments are allowing us to test how developing Pay for Success models can address human capital issues such as juvenile recidivism.