(Corrects time span of Goldman loan in Utah to five years, not
seven years, and clarifies that payback is over seven years,
last two paragraphs)
By Jessica Toonkel
NEW YORK Nov 12 Wall Street banks are eyeing a
nascent market that improves their public image at a low risk
and still offers them a reasonable return on capital.
The market is in so-called social-impact bonds, also known
as pay-for-performance contracts, through which private capital
can be funneled into philanthropic projects usually funded by
governments and charities. The investors will receive a return
based on whether a project saves public money by addressing the
social ill it targets.
Goldman Sachs has launched two such bonds in the past
16 months - one for $9.6 million aimed at reducing recidivism
among teenagers at New York's notorious Rikers Island jail, and
the other for almost $5 million, intended to help children from
low-income families in Utah prepare for kindergarten. This
month, Goldman also said it is raising a fund to allow its
clients to make investments that have "measurable social
impact," including social-impact bonds.
Now Bank of America Corp is set to launch a
social-impact-bond investing program, three sources familiar
with the situation said. Details of the program are not known.
Other banks, such as JPMorgan Chase & Co, Deutsche
Bank and Morgan Stanley, are keeping a close
eye on these projects before getting involved, bank executives
said. In some cases banks see the bonds, which were first
launched in Peterborough, UK, as a product to sell to their
wealth management clients, said George Overholser, chief
executive officer of Third Sector Capital Partners, a nonprofit
investment bank helping to structure various pay-for-performance
A Bank of America spokeswoman declined comment.
The growing interest of banks in these bonds bodes well for
cash-strapped governments and charitable foundations that want
more private-sector cash to fund projects that serve a social
need. Nonprofits and governments are hoping to develop a wider
market for such securities, betting that the bonds would become
a way to finance social programs that struggle as government
"We do these deals to get strong financial-risk-adjusted
returns that have a strong impact," said Alicia Glen, head of
Goldman's Urban Investment Group, which oversaw the creation of
the two social-impact bonds. The group has been structuring and
financing community revitalization projects for the past 12
Critics say that so far social-impact-bond deals have
required that philanthropies or other investors give too much
support to the banks, raising questions about whether subsidies
are the best way to create a sustainable market in the long
Both the Goldman deals are structured to reduce the bank's
risk. In the Rikers deal, a charity affiliated with New York
City Mayor Michael Bloomberg has agreed to absorb $7.2 million
of the losses if the program fails, while American businessman
and philanthropist J.B. Pritzker is providing a subordinated
loan of $2.4 million for the Utah program, meaning that if the
program fails, he has agreed to take losses before Goldman.
"If you want to mainstream it, you need to mainstream it in a
way that you do not have a 75 percent guarantee," said Gary
Hattem, who heads Deutsche Bank Americas Foundation, which
oversees the German bank's philanthropic activities in the U.S.,
Canada and Latin America, and is managing director overseeing
the bank's community development finance group.
Goldman said the risk-adjusted return on the two projects
is between 6 percent and 8 percent, in line with its other
community reinvestment deals. When the Rikers deal was announced
in August 2012, junk bonds were yielding around 7 percent.
Goldman's venture into social-impact bonds comes as the
firm is trying to rebuild goodwill with the public after events
that were deeply damaging to its reputation during the 2007-2009
As an added bonus, Goldman can also include the
social-impact bond in its Community Reinvestment Act application
to its regulators. Banks need high CRA ratings to engage in
transactions such as merger and acquisition deals. Otherwise
they risk facing vocal opposition from community activists.
Goldman is currently rated "outstanding," the highest CRA
rating, by the Federal Reserve Bank of New York.
In his 2013 federal budget, President Barack Obama included
$300 million to bolster social-impact bonds.
Supporters say credit backstops from government and
charitable foundations are necessary to get such programs off
the ground, since the cash flow from the securities is not
always clearcut and the risks are hard to gauge. The concept is
in a "trial-and-error period," said Overholser.
Goldman's Glen said credit enhancements are commonly used as
an incentive to get the private sector involved where it
normally would not. The U.S. Small Business Administration, for
example, regularly guarantees bank loans to small businesses
under a program called the 7A Guarantee, providing credit
protection on 75 percent to 80 percent of the loan.
Executives involved in the Goldman transactions said it also
makes sense for the bank's risks to be limited given how many
hours the bank has devoted to getting these projects going.
Goldman will make a $2.1 million on the Rikers deal if the
rate of repeat offending declines by 20 percent in four years.
At one point during discussions, Goldman asked for even larger
profits if the program reduced the recidivism rate by more than
20 percent, said David Butler, a senior adviser with MDRC, a
social policy research nonprofit involved in the Rikers program.
"That was a sticking point in the negotiation," Butler said.
Goldman finally got comfortable with the number, given that the
city would retain all the cost savings beyond that, said Glen.
'PROOF OF CONCEPT'
City and nonprofit backers of both Goldman deals said the
investment bank served a crucial role.
Kristin Misner, the chief of staff for Linda Gibbs, New York
City's deputy mayor for Health and Human Services, said
Goldman's funding meant the Rikers program - a therapy program
for 16- to 18-year-olds in jail - could run for longer than it
would if it were just relying on the Bloomberg foundation money.
The Bloomberg funds could also be earmarked for future projects
if the Goldman-funded effort were successful.
Misner also said that by working with Goldman, the city hoped
to demonstrate that social-impact bonds could be funded by
In Utah, home to Goldman's second-biggest U.S. office, the
bank's loan allowed the early education program to quickly get
started for a pilot group of 600 three- and four-year-olds,
allowing backers to make a case for state legislative support.
The program provides a targeted curriculum to better prepare
three- and four-year-olds for kindergarten, thus attempting to
prevent the need for special education or remedial services down
Bill Crim, senior vice president of collective impact and
public policy for the United Way of Salt Lake and the program's
administrator, said the pilot was intended to verify that the
idea was practically feasible, calling it a "proof-of-concept
Goldman provided a $1.1 million loan for a year to finance
the pilot, increasing it to up to $4.6 million over five years
if the state passes legislation to allow for private funding of
public education this year.
If successful, Goldman and J.B Pritzker can make up to $1.35
million for the one-year pilot program alone, which includes the
$1.1 million return on principal to the investors and interest
paid over the seven years, Crim said. It has not yet been
determined how much Goldman could make for the full seven-year
(Editing by Prudence Crowther)