Bridges Community Ventures conducted an exploratory study to examine the existing investment models available to not-for-profit social enterprises and socially driven businesses, and to investigate if there is a need for a new kind of equity-like capital to support their growth.
The study identified a gap between social ventures seeking investment and the capital available to them. Conventional venture capital funding is not ideal for either the investor or the social enterprise, it said, and it does not suit the investor because the financial returns are often lower than in the mainstream private sector.
And the normal method of repayment - selling the business or floating it publicly at the end of the investment period - means the model is not favoured by social enterpreneurs because they fear the operation's social mission would be compromised if it leaves their control.
In interviews with several social enterprises, including Kikass, the Ethical Property Company and Oxfam's Progreso Cafes, the report's authors found that a large proportion cited lack of available external finance as a main barrier to growth.
And anecdotal evidence from a variety of finance sources - banks, the Ethex ethical stock market, Foursome and Bridges Community Ventures itself - demonstrated that their financing models were generally unsuitable for enterprises seeking a social return.
At present, grants or loans remain the leading sources of financing. But neither is ideal - grant money is too restrictive and loans are too short-term, cannot supply 100 per cent of the cash requirements and are not available for risky ventures.
A social venture capital fund would access money from wealthy individuals and larger organisations that want to grow in scale. Government could also help to establish the fund by providing matched funding or a subsidy, later scaling back its involvement to providing tax breaks with the aim of attracting investors. Once the marketplace is established, government involvement would no longer be required.
Such a fund would complement other forms of equity-like capital currently being developed, such as angel investment and the nascent ethical stock market, Ethex, which is for large, mature social enterprises seeking to float publicly.
The report recommended that a £5m "concept fund" be established to demonstrate what returns could be achieved and attract more investment capital. Ten to 20 investments should be made, it said, ranging from £100,000 to £1m, with expected returns of 3-5 per cent. These should include a mix of early-stage and later-stage investments, and would act as role models for the sector, stimulating more entrepreneurs to set up social ventures.
The report concluded that sector growth was being held back by a lack of funding mechanisms. Both financiers and social enterprises agreed there was a need for equity-like capital, it said.
A venture fund would be an "important first step in establishing a new social investment asset class", the report concluded.
Sarah McGeehan, deputy chief executive of the Community Development Finance Association, said there had always been a gap in the social enterprise funding market for equity-like products. She said the report had advanced what a potential product might look like.
Bridges is now seeking capital to launch the fund, and McGeehan said public grants would be needed first in order to leverage money from private investors.