GuidelinesforSocialReturnonInvestment.pdf

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Guidelines for
Social Return on Investment

Alison Lingane

Sara Olsen

© 2004 by The Regents of
the University of California

M
ost managers today run their businesses without full informa-
tion about the impact of their operations on the environment
and human well-being, and thus without the ability to opti-
mize these impacts while achieving the financial returns share-

holders expect. Although a number of guidelines and reporting standards have
been advanced since the early 1990s, no framework has yet been articulated for
quantifying the value of a company’s impact on people and the environment.1

The basic purpose of accounting is to facilitate sound business manage-
ment by quantifying the creation of value by firms. However, managers and
investors concerned with sound management of firms’ social and environmental
impacts will be frustrated in their efforts to use financial accounting for manage-
ment of these activities, since standard accounting does not address them. Envi-
ronmental and social performance figure in conventional financial statements in
only a few high-profile exceptions, such as when a firm’s exceedingly poor envi-
ronmental or social practices are brought to light and diminish sales, share price,
and goodwill. In such cases, these financial metrics serve as weak, lagging indi-
cators that a different management approach would have resulted in less dam-
age to both shareholder value and the public’s well-being. These examples point
to the fact that a market imperfection exists that can only be addressed if man-
agers can identify, interpret, and act upon environmental and social impact
information.

Conventional wisdom dictates that financial and social goals are in oppo-
sition: economic development versus environmental protection has been framed
as a zero sum game in the United States for decades. The real opportunity, how-

CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004116

Guidelines for
Social Return on
Investment

Alison Lingane
Sara Olsen

We thank Cathy Clark, Jed Emerson, Will Rosenzweig, and Sanjay Wagle for their contributions to
our thinking.

ever, is the “blended value” model articulated by Emerson,2 in which companies
achieve both economic success and maximize social benefits. If positive and
negative externalities (social and environmental impacts) resulting from com-
pany operations were quantified, with metrics that were tracked over time and
used to compare impacts across companies, then entrepreneurs, managers,
and investors could design, manage, and fund companies to maximize both
financial and social returns. Companies that realize this vision must have a social
accounting system to augment conventional accounting if they are to measure
and manage the full spectrum of value they create.

To date, the effort to develop a practical, comprehensive system to assess
the social impacts of business has focused primarily on large corporations and
environmental performance management. The first large set of entrepreneurs
who have attempted to integrate systematic social and environmental impact
tracking into their management accounting systems are those who have com-
peted in the Global Social Venture Competition (GSVC), a business plan compe-
tition begun in 1999 for profitable businesses with a social mission.3 These
entrepreneurs developed quantified projections of their businesses’ potential
social impacts, translating the impacts into monetary values where possible.
Their “social pro forma statements” lay out high-level performance goals from
which performance metrics and data collection systems could flow logically, and
taken together they form a comprehensive social accounting framework. If com-
bined or integrated with financial accounting, such a framework generates a
more complete picture of a firm’s total creation of value.

This article presents an analysis of the patterns evident in the 88 social
pro forma statements developed by GSVC entrepreneurs from the years 2000-
2002. All were developed for business plans by seed-stage and startup compa-
nies, and they represent a wide range of industries (see Figure 1). To address
often-repeated implementation issues affecting the credibility and standardi-
zation of these social impact analyses,
we have developed a quality standard
against which to assess these methods
and their implementation, which we
call the Standard for Social Return on
Investment Analysis (SSROI).

Definitions

While terminology is not yet standardized in the area of measuring social
impact, we use the following definitions:

▪ social—This term refers to all of the non-investor stakeholders affected by
business: individuals, employees, communities, and society. These stake-
holders may also be described as those affected by market externalities.

▪ social bottom line—A term used to represent the social outcome measure-
ment that parallels the financial bottom line. The net social benefit from
business operations.

Guidelines for Social Return on Investment

CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004 117

Alison Lingane is Senior Product Manager at Benetech.

Sara Olsen is the founder of Social Venture Technology
& Consulting.

▪ social return on investment (SROI)—A term originating from return on
investment (ROI), as used by traditional investors. It describes the social
impact of a business or nonprofit’s operations in dollar terms, relative to
the investment required to create that impact and exclusive of its finan-
cial return to investors.4

▪ social venture—This term, as defined by the Global Social Venture Compe-
tition, is a seed-stage or early-stage business venture that is designed to be
profitable and that has an integrated social mission. The social impact of
its operations is greater than the industry standard.

▪ sustainable—This term refers to being both economically viable and having
a neutral or positive impact on the environment’s ability to sustain itself
and on the health and well-being of individuals, society, and
communities.

Financial Return on Investment Analysis

ROI is generally understood to be a relative measure of a company’s suc-
cess. ROI is calculated to compare companies within a given industry to each
other and to their own individual performance over time. An ROI number in a
vacuum would not be a useful indicator of a company’s value or of its potential
future success; rather, it is a benchmark that quickly gives a sense of the com-
pany’s financial situation in a relative context. For example, imagine all we
knew about a particular investment was that its projected ROI was 50%. We
would have no idea how much money we would get from the investment
because the absolute value of the return is unknown—perhaps the return would
be 50 cents because the investment amount was only $1. Also, we would not
know whether a 50% return was good without knowing what other invest-
ments of similar risk would yield. If other investments yielded at least 75%, the
50% return would be a poor choice.

Guidelines for Social Return on Investment

CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004118

FIGURE 1. Industry Breakdown of the 88 SROI Analyses

Other

Agricultural Products

Banking/Investments

Job Training and Placement

Education

Biotech/Healthcare

Environment/Energy Efficiency

22%

10%

10%

9%7%

7%

35%

The ROI ratio is a useful management metric. Executives manage their
businesses to maximize ROI among other key metrics, knowing that ROI reflects
company strength and that shareholders look to it for that evidence. Likewise,
investors and managers can use social return on investment to determine a busi-
ness’ performance against social and environmental criteria. SROI is a monetiza-
tion of the social benefits and costs relative to the financial costs of a company’s
operations. It is based on the net present value of these non-market impacts in
dollar terms.5 It can be used on an ongoing basis to gauge success and inform the
management of social value creation.

SROI analysis is the set of practices necessary to generate meaningful
SROI figures and other quantified social metrics. It includes four steps:

▪ collection of ongoing social performance data;

▪ prioritization of data important enough to track;

▪ incorporation of these data into management decision-making and
reporting; and

▪ valuation to understand what amount of social value is created or
destroyed, and by extension where resources should be allocated.

SROI analysis helps managers and investors accomplish three critical tasks:

▪ plan—It helps entrepreneurs as they plan their businesses to identify
business model modifications or alternatives as well as market oppor-
tunities that could result in increased social benefits.

▪ manage—It assists management with ongoing operational management
and capital allocation decisions by helping them manage and maximize
the social bottom line in tandem with the financial bottom line.

▪ assess—It facilitates evaluation of investment opportunities and of their
performance with respect to investors’ specific social and financial goals.

Social Return on Investment Analysis

Economists and public policy analysts have used economic models and
cost-benefit or cost-effectiveness models for decades to gauge the economic
impact of social programs, most often as a policy tool used to influence levels of
government spending.6 Cost-benefit analysis is typically carried out either at the
outset of an investment to determine whether it is likely to generate benefits
superior to the next best alternative, or retrospectively to determine whether the
investment was worthwhile. SROI differs from cost-benefit analysis in two criti-
cal ways. First, SROI is a practical management tool, enabling informed decision
making on a regular basis. A typical social cost-benefit analysis is not used by
managers in regular business decision making, instead it is used periodically
to determine the least expensive way to provide benefits or to reduce negative
impacts to all key stakeholders. Second, SROI enables managers to maximize
both social and financial benefits. By contrast, cost-benefit analysis typically
frames benefits and costs as trade-offs and does not facilitate planning or priori-
tizing that optimizes both financial and social value creation.

Guidelines for Social Return on Investment

CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004 119

To illustrate SROI calculation, we use the version employed by the Global
Social Venture Competition (see sidebar on “Steps in the Calculation
of SROI”), which is based on the model first articulated by REDF.

SROI is of little use in the absence of a process framework by which it
may be consistently applied by a large number of companies. As with ROI, SROI
alone in a vacuum would not be a useful indicator of a company’s value or the
potential of its future success; rather, it is a benchmark figure that gives a sense
of the company’s situation in a relative context. Our proposal for such a frame-
work is presented here as the Standard for Social Return on Investment
Analysis.

Guidelines for Social Return on Investment

CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004120

TABLE 1. The Standard for Social Return on Investment Analysis

Guideline 10. Include ongoing tracking of social impact.

Note: While the unit of analysis of the SROI is referred to in these guidelines as “the company,” these guidelines are relevant to any entity on
which SROI analysis is performed (e.g., a business unit, project, or nonprofit organization).

Construction

Continuity

Guideline 1. Include both positive and negative impacts in the assessment.

Guideline 2. Consider impacts made by and on all stakeholders, including those inside the
company itself, before deciding which are significant enough to be included in the
assessment.

Guideline 3. Include only impacts that are clearly and directly attributable to the
company’s activities. Be conservative with leaps of faith and don’t take credit for more
than your organization can realistically affect.

Guideline 4. Avoid double counting the value (financial and social) created by the
company and avoid using market valuations of social impacts where they do not reflect
full costs and benefits.

Content Guideline 5. In industries or geographic areas in which impacts would be created by the
existence of any business, do not count these impacts.The SROI should describe what
makes the company different from a standard venture in the industry (i.e., from its
competition).

Certainty

Guideline 6. Only monetize impacts if it is logical given the context of the impact,
business, or industry.

Guideline 8. Address risk factors affecting the SROI in the assumptions and carefully
consider and document the choice of discount rate for social cash flows.

Guideline 9. Carry out a sensitivity analysis to identify key factors influencing projected
outcomes.

Guideline 7. Put numeric metrics into context (e.g., this period versus last period, this
company versus similar companies) to give the social return on investment meaning.

Guidelines for Social Return on Investment

CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004 121

Steps in the Calculation of SROI

The fictional example company trains and employs formerly homeless people and
provides health care to its employees, resulting in a reduction among the employees
in the number of visits to the emergency room per year.The company’s product is
a polyurethane (PUR) foam recycling technology that enables PUR foam makers to
purchase fewer chemicals per year, resulting in the creation of fewer emissions in the
production of those chemicals, among other benefits. For the purposes of a simplified
example, we assumed no negative social cash flows.

1. Quantify non-financial impact of operations per unit
Example: 10% reduction in visits to emergency room�150 fewer visits per year ;
6% reduction in CO2 emissions per year � reduction of 12,000 tons CO2.

2. Translate into dollar terms per unit to achieve “social cash flows.”
Cost per ER visit $250�150 ER visits no longer happening per
year� $37,500/year ;
Cost per ton CO2 $1.25 based on regional emissions trading markets�12,000
tons reduction per year� $15,000

3. Sum all SCFs for the horizon in question
Annual social cash flow is $37,500�$15,000�$52,500
There is currently no standard time frame for social return on investment pro-
jections. Five years is used since projections beyond this time are so uncertain
as to be meaningless, and since this is typical for financial projections among
startups.

4. Discount SCFs to present value**
Discount each year’s summed social cash flows by an appropriate discount rate.
Document all assumptions.
There is at present no market standard for determining the appropriate discount
rate.This issue is discussed further in this paper.

Present Value of Social Cash Flows
Year 1 Year 2 … Years 1-5

52,500/(1�.20)� 52,500/(1�.20)2� � $171,993

5. Divide by investment to date� SROI

Year 0 – investment Year 1 Year 2 Year 3 Year 4 Year 5

$ (100,000) $36,451 $25,308 $17,571 $12,200 $8,470

PV of SCFs $157,007
Investment $100,000
SROI 157%
SIRR* 44%

*SIRR is preferred by some investors. It is the discount rate at which all cash flows including
investment sum to zero.

**Any errors in PV calculations are due to rounding.

The Standard for Social Return on Investment Analysis

Guideline 1. Include both positive and negative impacts in the assessment.

To draw a complete picture of the value it generates, a company must
account for not only the positive social impacts resulting from its operations, but
also the negative social impacts. Most often, however, entrepreneurs in the sam-
ple failed to even consider the various negative impacts of their operations. For
example, the business plan of a paperless company claimed the environmental
benefit of reduced paper use as part of its potential social return. However, it did
so without any discussion of the relative impact of the substitute: computers and
the impact of their manufacture, operation (through energy-related pollution),
and disposal. Similarly, a solar energy company gave no attention to the relative
environmental impact of the manufacture, distribution, and maintenance of
solar panels.

Guideline 2. Consider impacts made by and on all stakeholders, including those
inside the company itself, before deciding which are significant enough to be
included in the assessment.7

Typical startup business plans contain little or no detail regarding specific
internal policies and practices affecting financial performance. The majority of
business plans in the sample focused on assessing the external impacts of their
organization and ignored social impacts resulting from internal operations.
However, since one goal of SROI analysis is to assist companies in growing while
also achieving greater sustainability for both internal and external stakeholders,
consideration of the social impact of internal practices is important. Internal
evaluation should reflect consideration of such things as the company’s culture
and supplier relationships. It should also include assessment of activities such as
energy and waste management and the corresponding effect on the environ-
ment, as well as assessment of employee satisfaction and its effect on retention.

One firm in the sample planned to produce air conditioning optimizers—
machines that reduce overall energy consumption of commercial air condition-
ing units. In its business plan, the company did not mention that it planned to
use its own air conditioning optimizer in its own facilities, or assess the cost sav-
ings that might result. Although the company would have been too small to use
its product during start-up, an in-depth internal analysis through its growth
should have included the use of its own air conditioning optimizer, among other
internal practices.

Guideline 3. Include only impacts that are clearly and directly attributable to the
company’s activities. Be conservative with leaps of faith and don’t take credit for
more than your organization can realistically affect.

A recurring question is whether the company can actually claim respon-
sibility for the impacts included in its analysis. In some assessments in the
sample, entrepreneurs credited themselves with social impacts that were not
the direct result of company activities. One company, with a software tool to

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CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004122

help microfinance institutions manage their loans, claimed the full benefit from
all of the activities of the microfinance institutions. Another consulted to compa-
nies around bioethics, and claimed the full social benefit of the products on
which it consulted.

Several companies whose activities were projected to result in donations
to nonprofits, or whose measured social impact was based solely on a percentage
of company profits allocated for charity, claimed the dollar figure of these funds
without considering the social impact of those funds once they were donated. It
is a common, though seriously mistaken, assumption that simply increasing
money flow into nonprofits equates to positive social impact.

Guideline 4. Avoid double counting the value (financial and social) created by the
company, and avoid using market valuations of social impacts where they do not
reflect full costs and benefits.

The companies in the sample were asked to prepare both financial and
quantified social impact projections. This resulted in some double counting:
some companies meant to quantify their social return on investment, but
counted their financial impact instead. For example, one company used revenue
generated from the recovery of waste gas as a measure of its social impact, rather
than quantifying the environmental value gained. Here, good old-fashioned
financial returns were confused with the public benefits of an incrementally
cleaner environment.

In another example, a coffee producer counted the value of its sustainable
farming practices to be the $0.50 per bag of coffee that consumers were willing
to pay for their sustainably grown coffee. Measuring the social impact by the
market value of the perceived benefit, called contingent valuation, works only if
the market is good at valuing all of the externalities that affect all relevant stake-
holders. Making this distinction can be tricky, but it is critical: the essential ratio-
nale for calculating SROI separately from financial returns is because the
market’s valuation of social benefits is imperfect. In cases where it is perfect,
there would be no need for an SROI analysis.

However, there is a difficulty in determining a comprehensive, valid, reli-
able value for a given impact when there is no market-based price for it. Over
time, one of the great potentials of the widespread use of high-quality, standard-
ized SROIs is that market prices could begin to reflect the true value and cost of
social impacts, or that proxy markets for units of social impact could be estab-
lished enabling companies to capture their social value creation. It is left to the
interested parties to determine whether a dollar value derived from market
prices is sufficiently inclusive of the full value or cost of a social impact. In cases
where it is not, a social impact valuation must factor the full dollar cost or value
to society of the impact in question. When even this is incomplete, the monetary
social impact value must be accompanied by a discussion of the value inherent
in a given impact that is not monetizable or even quantifiable.

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CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004 123

Guideline 5. In industries or geographic areas in which impacts would be created
by the existence of any business, do not count these impacts. The SROI should
describe what makes the company different from a standard venture in the
industry (i.e., from its competition).

In the same way financial analysts need to understand a company’s com-
petition to truly understand the context of financial performance numbers,
understanding a company’s social impact requires comparison of a businesses’
social performance to the next best alternative. As noted, there are some
industries with very clear social benefits built right into the product or service
—e.g., health care or energy-efficient products. When socially aware investors
concerned with financial and social returns make decisions about investments in
such industries, they still need to be able to judge a given company’s social per-
formance relative to others. Similarly, for managers to know if they really are
making progress and maximizing their potential positive social impact, they
need to know how they are performing relative to their industry peers.

Take the case of a drug company that improves people’s health through
the sales of its drug. Given that the company’s financial success depends upon
the company creating the social benefit of improved health, is it fair to claim
these benefits as the company’s social impact? Merely knowing that a benefit
is created is not sufficient to inform an investment decision: even a health care
company must strive to make its social impact greater than its peers’ before it
can claim to have a large SROI.

In a similar vein, there are situations in which any company in a partic-
ular region would have comparable social benefits. Consider a company that
locates in a developing country and claims economic development benefits. In
regions where there is little economic activity of any kind, the presence of any
company offering jobs may represent a significant step forward in the quality of
life for community members. However, if the business is no more socially and
environmentally responsible than other companies in the region, how does one
judge social impact? In such a case, including the company’s benefits relative to
the alternative of little or no economic activity would be reasonable. In well-
established industries in thriving economies, on the other hand, the context
dictates that social impact must outstrip that of peer firms.
In between lies a gray area, which is why continually raising the social perfor-
mance bar is essential to meaningful impact assessment: a paying job is better
than no job, a living wage job is better than a subsistence wage job, and so on.

The quantitative analysis of a company’s impact should always begin
from a theoretical ideal of zero negative impact, but information on how the
company’s performance compares with the next best alternative in its market-
place must be provided to give the SROI context and meaning. It is virtually
impossible for any company in the present market context to be perfectly free
of any negative impacts. When properly calculated, SROI reflects the relative
improvements in well-being that a business delivers over the status quo, and
thereby SROI becomes useful as a management and analytical tool. If we value
companies’ marginal improvements in social impact relative to their peers and

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CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004124

base capital allocation and investment decision on these valuations, over time,
market forces will drive industries toward sustainability.

Guideline 6. Only monetize impacts if it is logical given the context of the impact,
business, or industry.

As noted, a monetized social return on investment alone—even one that
avoids some of the problems outlined in these guidelines—is not enough to pro-
vide investors and managers with an accurate assessment of the social perfor-
mance of a company. Monetization enables the analyst to deduce complex
information into data that can easily be compared and valued. At the same time,
it may be difficult or misleading to summarize all impacts in one number. To
overcome this, one business plan for a solar energy technology for use in devel-
oping countries identified multiple metrics to explain the company’s impact,
from electricity savings to increased quality of life to projected lives saved due
to reduced harmful pollutants. Not all of these impacts (such as increased quality
of life) could be accurately monetized, and some (such as lives saved) could not
be meaningfully reduced to monetary terms alone.

When monetization is appropriate, one common technique is to use com-
parison costs, or how much money it would cost to create the same benefit. For
example, one plan measured the value of increased voter turnout by the cost to
register additional voters. Another intriguing technique was to estimate the
value of some benefits by analyzing what one would pay for a guarantee of that
benefit, a technique that factors risk into the valuation of the specific benefits.8

However, users of these techniques should avoid confusing these approaches
with the market’s valuation of the benefit (which, as noted, is not presently
based on impacts on all relevant stakeholders and thus is not an accurate reflec-
tion of the public cost or benefit).

Companies should test and identify metrics that work best for their partic-
ular industries. As the practice and methodologies of social return on investment
progress, it may be possible to standardize some measurements in the same way
financial reporting has been standardized.

Guideline 7. Put numeric metrics into context (e.g., this period versus last period,
this company versus similar companies) to give the social return on investment
meaning.

As a widely-used introductory financial accounting textbook states:

Ratios, by themselves out of context, provide little information. For example, does
a rate of return on common shareholders’ equity of 8l.6 percent indicate satisfac-
tory performance? After calculating the ratios, the analyst must compare them
with some standard. The following list provides several possible standards for
comparison:

1. The planned ratio for the period

2. The corresponding ratio during the preceding period for the same firm.

3. The corresponding ratio of a similar firm in the same industry.

4. The average ratio for other firms in the same industry.9

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CALIFORNIA MANAGEMENT REVIEW VOL. 46, NO. 3 SPRING 2004 125

In the same way, the SROI ratio itself, which ultimately coalesces the
company’s social performance into a single figure, cannot possibly tell the whole
story of the company’s social impact without a well-understood context.

Guideline 8. Address risk factors affecting the SROI in the assumptions and
carefully consider and document the choice of discount rate for social cash flows.

The choice of discount rate can dramatically change the result of a quanti-
fied social return on investment. Many entrants used the municipal bond rate
(ranging from 4.3-5.0%); other entrants used the 30-year Treasury bond rate,
making the argument that they were saving federal and other …