THE NUTS AND BOLTS OF SOCIAL RETURN ON INVESTMENT

The concept of Social Return on Investment (SROI) emerged from the work done by the Roberts Enterprise Development Foundation (REDF). Originally intended for large social enterprises, over time it has been fine-tuned to meet the requirements of various types of organisations. SROI is an outcomes-based measurement tool that helps organisations to understand and quantify the social, environmental and economic value they are creating. In effect, SROI captures the triple bottom-line of people, profits and planet.

Every business needs to periodically measure its performance. One of the ways of measuring the company’s performance is the accounting rate of return.  This is simply the profits that the company has earned divided by the investment that it made in the business. Companies are also impacted by externalities – things that take place outside its factories. These externalities are not captured in the accounting rate of return.

Externalities are best understood by examples. For example, if the factory’s chimney releases smoke it has harmful consequences on the people and farms nearby. This is beneficial and is called negative externality. On the other hand, if the company builds a road to its factory then it makes it easier for people in nearby areas to commute. This is positive externality.  Every social and sustainability action of a company will have an impact in terms of externalities. To measure the performance of a company’s social and sustainable actions we use the metric – social return on investment or SROI as it is popularly called.

In practice, there are two ways of calculating SROI depending on the level of measurement. When the measurement is undertaken at the company’s level, it is based on both social and economic benefits and considers economic as well as social investments. On the other hand, when the measurement is undertaken at the project level it is simpler to look at only social costs and benefits and relate them to social investments.

Thus, the company level measurement is defined as:

where social profit is social benefits less social costs.

And, the project level measurement is defined as:

THE PRINCIPLES OF SROI

There are seven principles of SROI that support the application of SROI. These are:

Involve stakeholders: Stakeholders are the ones who are most impacted by the change being brought about. They should be informed and identified and involved during the entire process.

Understand what changes: There are two types of outcomes of any change process—intended outcomes and unintended outcomes. It is necessary to have sufficient proof of the changes that have been brought about.

Value the things that matter: Value all things that matter. Where direct measures are unavailable, suitable proxies should be used.

Only include what is material: Materiality requires an assessment of the criticality of that piece of information to the decision at hand. If this is information is excluded would the decision-maker make a different decision? 

Do not over-claim: Only that portion of benefits should be claimed that the organisation is responsible for creating.

Be transparent: All inputs and outcomes must be documented and made available to the stakeholders.

Verify the result: The results of SROI should be vetted by an independent assurance agency for it to be credible.

THE SROI MEASUREMENT PROCESS

Unless one follows a systematic process to arrive at SROI, the outcome is unlikely to be credible and reliable. The following steps are recommended for arriving at a credible and reliable SROI.

Step 1 – Map the stakeholders: It is important to establish the boundaries of the SROI measurement. First, one needs to figure out the outcomes of social intervention. Second to figure out who the stakeholders of the social project are. It may be worthwhile to list the stakeholders. Finally, one needs to understand how to involve the stakeholders in the project.

This is undertaken by means of impact maps. To understand an impact map, let us take the example of a company constructing a farm pond. The farm pond provides benefits to agriculture, humans, and animals. For agriculture, benefits may be in terms of increased yields and/or more crops in a year. For humans, more water is available for drinking. bathing and cooking. Milch animals may yield more milk. Although there may be lots of benefits, most of them will add little value to the impact. These need not be considered. As the accountants will tell you these fail the materiality test. Once the benefits are identified these need to be converted to monetary terms.

One of the interesting things about outcomes is that they often depend on circumstances. For example, a water project in an arid area is more valuable than one where water is relatively easily available.

Step 3 – Evidencing the outcomes and giving them a value: Step 2 provided a qualitative measure of the outcome of the social project. However, it is also important to put a monetary value to the outcome. This involves (i) developing outcome indicators; (ii) collecting outcomes data; (iii) establishing how long outcomes last; and (iv) putting a value on the outcome.

Step 4: – Establishing the impact: The outcomes that we measure should be auditable. Hence it is essential that outcomes are not over claimed. Also, we need to figure out how much of the impact is because of one’s own activity and how much of it would have taken place anyway or how much of the outcome would have occurred without our intervention and how long will the benefits last. This requires measurement of three key metrics:

Deadweight is a measure of the amount of outcome that would have happened even if the activity had not taken place. It is calculated as a percentage.

Attribution is an assessment of how much of the outcome was caused by the contribution of other organisation’s or people.

Drop-off is used to account for how the outcomes, in future, are likely to be less than current measurements. It is only calculated for outcomes that last more than one year

Step 5 – Calculating the return: Now all the inputs and outputs have been measured, SROI can be calculated using formula listed in the section Social Return on Investment.

Step 6 – Conducting a sensitivity analysis: Relying on a single SROI number can be dangerous. Many assumptions are made while computing SROI. Hence it makes sense to test the robustness of SROI to these assumptions.

ADVANTAGES AND DISADVANTAGES OF SROI

Like any measurement SROI also has its advantages and disadvantages. All the advantages and disadvantages of economic ROI apply to SROI as well and some more.

Advantages

  1. It is simple and easy to calculate. Requires only two pieces of information—profits and investment—numbers that are already available in financial statements.
  2. It measures profitability by scaling social profits to the investment made. Thus, companies are comparable on SROI.

Disadvantages

  1. SROI measurement is impacted by the point of time when the measurement is undertaken. Thus, in a multi-year project, SROI could be different in each of the years. This causes confusion.
  2. Profit (the numerator) is impacted by accounting choices. Different depreciation policies could lead to different profit numbers even though there is no change in the underlying business.
  3. Measuring social costs and benefits often requires measuring shadow prices—making it complicated to apply in practice. For example, where water is conserved in a water-scarce area, the value of water conservation depends upon the extent of water scarcity. Higher the water scarcity, higher would be the value of water.
  4. Measurement of deadweight, attribution and drop off poses significant challenges as there are no direct measures. Estimates must be made based on prevailing local conditions. Such measurement errors could have a significant impact on SROI.

References

SROI Network, ‘A Guide to Social Return on Investment’, London: Cabinet Office, 2012

Photo Credit: Photo by Leon Dewiwje on Unsplash