Social Stock Exchange: Great Expectations

However, with India’s structural fiscal deficit, raising capital to solve for social problems is a Herculean task, especially in the post Covid  scenario. 
Image of SEBI used for representational purpsose (FIle Photo | Reuters)
Image of SEBI used for representational purpsose (FIle Photo | Reuters)

India is estimated to need over USD 2.6 trillion in investment to meet the UN Sustainable Development Goals by 2030. Capital is also a key requirement if India were to substantially improve its abysmal Human Development Index rank of 129 out of 189 countries. However, with India’s structural fiscal deficit, raising capital to solve for social problems is a Herculean task, especially in the post Covid scenario. 

So, what is the answer? Well, one possibility is the Social Stock Exchange (SSE) mooted by the central government and the SEBI. The proposed SSE in India would be an electronic fund-raising platform, where both for-profit social enterprises (FPEs) and non-profit social enterprises (NPOs) would be allowed to list and raise various kinds of risk capital (including debt and equity) from a variety of domestic and international funders, similar to a regular stock exchange but only for a social cause.

SSEs are not new internationally, with Brazil (2003), South Africa (2006), the UK, Canada, Singapore (all in 2013) and other countries having established them. Spurred by the budget proposal of Finance Minister Nirmala Sitharaman in July 2019, a SEBI appointed Working Group has recently released a draft report on the SSE which outlines the fund raising mechanisms for the social sector and the associated regulatory framework covering eligibility norms for listing, disclosures and trading. Comments on the draft Working Group report were to be submitted latest by August 15.

The SSE’s chances of seeing the light of the day are bright since it is directly driven by the combined muscle of the government, the SEBI and the existing stock exchanges (SSE expected to be housed in BSE & NSE). Why would funders be attracted to an SSE? For one, the Working Group has proposed bold tax incentives for funders — 100% tax deduction under 80G instead of 50% currently; making CSR grants to SSE listed organisations as tax deductible; exemption from Long-Term Capital Gain and Securities Transaction Tax on securities listed on SSE and removal of 10% cap on income eligible for deduction under 80G.

Funders would also derive comfort from the (i) proposed ecosystem of intermediaries viz. information repositories (would collect data and perform due diligence)  and social auditors (would assess social impact in a standardised manner), (ii) robust financial & social impact reporting, (iii) protective regulatory & governance mechanisms all of which will ensure proper checks and balances. For social enterprises, listing on the SSE would provide increased credibility and market standing besides providing access to capital from a diverse pool of funders, both through the SSE and outside the SSE (as a rub-off effect due to listed status).

Social enterprises are also expected to benefit from the proposed tax breaks — increase in the limits for commercial activities to 50% of income from the current 20%, the fast tracking of statutory registrations, 5-year tax holiday for listed FPEs and removal of the need for periodic renewal of 80G registration. 
Another advantage is that those NPOs without Foreign Contribution (Regulation) Act (FCRA) approval can effectively tap foreign capital through social venture funds since the Working Group has proposed that such venture funds be allowed to raise capital from foreign investors/donors. SSE listed organisations can potentially be allowed much more flexible use of CSR funds such as for capacity building and funding outcomes rather than program implementation — even escrow of CSR funds is envisioned.

The Working Group envisages a Rs 100 crore fund for capacity building of the social sector (building awareness, handholding NGOs in the capital raising process and implementing standards), especially of the smaller NPOs who are in dire need of it. What would be the returns for funders? Funders of FPEs can expect financial return through dividends/interest and potential capital appreciation similar to debt and equity investments in any regular for-profit entities. In case of NPOs, there is no financial return for funders; “return” would be in the form of social impact achieved by the NPO.

An SSE would obviously conjure parallels with the tried & tested Stock Exchanges (SEs) in the for-profit world. A regular SE has a highly vibrant and liquid secondary market due to intensive trading. However, one expects a fairly subdued secondary market in an SSE and whatever be that extent its concentration is expected in instruments of FPEs. For NPOs, the secondary market is expected to be pretty shallow, though the Working Group proposes “trading” between corporates who exceed their CSR obligations and those in deficit. Price discovery may also not be key feature of the SSE if the secondary market is limited. 

The fund raising instruments proposed are also not genuinely radical or new, be they MFs, Social Venture Funds and pay-for-success instruments (e.g. Impact Bonds) – even the so-called “zero coupon, zero principal bond” (zero coupon bond with tenure equal to project duration with principal write-off at the end assuming proposed social impact is achieved) is essentially the donation certificate repackaged. A further issue is that FPEs eligible to raise capital in the SSE have not been defined. This presents a loophole for misuse and also may pull capital more towards these FPEs rather than NPOs. Even NPOs need to be properly defined to avoid this issue.

The SSE should also allow maximum possible flexibility in terms of funding instruments for both FPEs and NPOs — currently the report specifies only certain funding types for FPOs and other types for NPOs. The SSE listed social enterprises are also exposed to cross regulatory risk such as from the charity commissioner, tax authorities and Registrar of Companies — it would be preferable to sort out of this issue a priori to avoid turf wars and the consequent hurdles. 

Many of the international experiments in SSE have remained limited to being “directory” programmes. Considering India’s acute capital shortage for social causes, one hopes that the SSE is a successful experiment and becomes a vibrant capital raising machine rather than one more moribund institution. We have taken the first baby steps in this direction but it is a long and uncertain journey.

Prasad Baji
Finance professional with expertise in capital markets, project finance, corporate banking and investment banking  

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