The Scottish Government

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A review of the Scottish Executive's Policies to promote the Social Economy

3. OBSTACLES

3.1 The previous section of this report examined reasons for the Executive and the wider public sector scaling up its engagement with the social economy as a provider of public services. The following paragraphs discuss the obstacles which are perceived to stand in the way of the sector fulfilling its potential in this area.

3.2 The main obstacles which this report identifies are:

• funding arrangements for social economy organisations and linked to that a lack of assets;
• market access: what is perceived to be an uneven playing field for social economy organisations in tendering processes for service delivery contracts; and
• lack of clarity over support mechanisms for social economy organisations.

Funding arrangements

3.3 Most social economy organisations receive their funding from a range of sources - grant income, earned income, charitable donations, borrowing, etc. While charitable fundraising direct from the public or from grant-giving trusts remains an important source of income at around 25% of the total, the social economy has been steadily developing its capacity to earn income. Trading, rents and investments now provide 32% of its income while another 11% (200 million) comes from mainstream public service markets through contracts or service agreements. Obviously, for different organisations within the sector, the balance of their funding arrangements varies. For example, as a general rule, the larger the organisation, the greater is the proportion of its income likely to come from revenue. For organisations with an annual turnover of less than 100,000, around 17% is likely to comprise revenue.

For organisations with annual turnover greater than 500,000, the proportion is likely to be around 45%. But across this diversity, the sector as a whole has a general concern that the financial infrastructure of the kind necessary to underpin successful economic activity in any sector is, in the case of the social economy sector, weak; and this acts as a significant inhibitor of the sector's capacity to develop.

3.4 The infrastructure weakness takes a number of forms. First, the existing infrastructure lacks diversity. While, for example, private sector businesses can, depending on their business needs and circumstances, access a wide range of financial products in a spectrum including different kinds of borrowing, equity and grants, the market place available to most social economy organisations is much more limited - restricted in many cases to grants and charitable giving (whether from companies under the flag of corporate social responsibility or from individuals). Where they seek to access commercial financial products, they often find that those products do not fit their particular financial needs. It is easy to attribute this lack of diversity to the operation of financial markets - put crudely, the notion that financial institutions are unlikely to invest in not-for-profit businesses. But as is discussed in the final section of this report, this is an over-simplification. Opportunities do exist for creating viable markets, though there are barriers to be overcome both within financial institutions and social economy organisations themselves. Financial institutions need to be persuaded that there are commercial opportunities within the sector involving acceptable risks and returns; and sector organisations need to develop an understanding of how different forms of financial support, that they might not previously have contemplated, may not expose their business to unacceptable risks but may actually allow them to operate more efficiently and effectively.

3.5 Secondly, there is an inherent lack of stability in the income streams of many social economy organisations. This can serve to inhibit their capacity to develop a broader-based, and therefore more secure, financial structure. While organisations such as housing associations have the capacity to negotiate, for example, loan finance deals on the strength of long-term rental income, others, which may for example rely on grants or renewable three-year service agreements do not have this option. These issues will be addressed by the Scottish Executive's forthcoming Strategic Funding Review of the Voluntary Sector.

3.6 The third reason cited for social economy organisations being unable to access alternative financial products, particularly loans, is their lack of an adequate asset base that can open up access to such products. The voluntary sector is not lacking in assets. But in comparison with more strictly commercial organisations, many social economy organisations are under-endowed with assets that could be used as collateral for borrowing. This is seen as an obstacle to the development of a broader financial base.

3.7 The fourth weakness identified in the financial infrastructure is the current inability of organisations which rely significantly on grant funding to build up reserves. The development of any business, whether in the for-profit or not-for-profit sector requires the development of a realistic long-term strategy. The holding of a reserve provides some protection against short-term influences that can otherwise disrupt a long-term approach and can therefore provide organisations with the confidence to plan for long-term growth. But social economy organisations are often penalised by the withdrawal of grants if they generate a visible surplus. The reasons for this are clear enough. Public sector funders are reluctant to deploy scarce grant resources simply for these to apparently rest in organisations' bank accounts. There are also public expenditure accountability issues. The Executive's forthcoming Strategic Funding Review of the Voluntary Sector will assess the scope for squaring this circle. While a move away from reliance on grant funding would help alleviate this problem, it will continue to exist wherever grant forms a part of an organisation's overall funding arrangements.

3.8 A fifth weakness concerns the obstacles placed in the way of social economy organisations by its funding relationship with Government. A key concern lies in the inability of social economy organisations to ensure that the costs of contracts for services reflects the full costs of delivery - including any relevant part of the overhead costs.

3.9 A final weakness is the amount of effort which many social economy organisations have to devote to accessing grant money and the extent to which this can infect the whole approach to the way in which those organisations conduct their business. Organisations experience difficulty with:

• identifying funding sources from which they might benefit;
• the different application processes and different timescales required for different grants;
• delays in grant decision processes, causing uncertainty in planning;
• the short-term nature of some grants; and
• delays in resources becoming available, even after grant awards have been agreed (a particular problem with European grants).

3.10 Experience of some or all of these difficulties can lead to organisations concentrating significant effort simply on raising resources, which could be better employed on their core business. It can mean that realistic planning can sometimes encompass only the timeframe of the grant award; and it can engender a culture of grant chasing and grant dependency. This can lead to organisations pursuing grants in areas not central to their core business in order simply to ensure a continuing flow of resources. This can divert an organisation from its business planning objectives and damage its effectiveness.

Market access

3.11 As the following table shows, social economy organisations are very active in some policy areas. In others they have made little impact.

3.12 The social economy's share of publicly-funded services does not by any means represent the sector's total contribution to priority areas of service. Social economy organisations working with socially disadvantaged groups spend around 500 million each year of self-generated income and income from private donors and charitable trusts, a sum which probably exceeds the annual total of the Executive's dedicated social inclusion expenditure.

3.13 Reasons for a lack of access to markets are difficult to pin down because they tend to be attitudinal rather than structural. But the following obstacles have been identified during the course of this review:

• bureaucratic inertia and/or a lack of political leadership to encourage the opening up of markets;
• lack of a clear purchaser/provider split across significant parts of the public sector. This can affect the incentive among existing public service providers to be prepared to open up service delivery to alternative providers;
• ignorance of the social economy sector and its capacity and, in particular, doubts within the public sector of the capacity of social economy organisations to deliver services in a consistent and effective way;
• failure by social economy organisations always to market their capacities effectively. In the face of institutional uncertainty, organisations need to present to potential contractors-out of services, cases that demand attention. There can be no assumption by any organisations that they have a rig ht to deliver public services;
• a lack of capacity in parts of the sector to compete effectively with other potential providers of public services;
• an accountability regime that is perceived to focus on discrete service outcomes to the exclusion of wider beneficial social side-effects. In other words a perception that public sector contracting regimes are not set up so as to take proper account of the 'added value' benefits which social economy service providers can offer; and
• lack of a leadership culture that promotes excellence in management.

Support Networks

3.14 With the new emphasis that has emerged on the development of the social economy, so there have developed new support networks for organisations within the sector. There is, of course, already in place the generic and specific support provided to voluntary organisations through infrastructure bodies at different levels (SCVO, the CVS network, intermediary organisations, etc.). Then there has been in recent years the development of social economy organisations which operate specifically to provide business support to other organisations in the sector. New support mechanisms built around funding mechanisms - particularly Social Investment Scotland and Scottish Community Development Finance Institutions (CDFIs) - are emerging; and now, increasingly, public sector organisations - most notably the enterprise networks and Communities Scotland - are being asked to engage directly in a support role for the sector. In the future, Community Planning Partnerships may also have an important role to play.

3.15 This is potentially good news for the sector and its prospects. But currently the roles of the various players are not in all cases clearly defined. There is potential for confusion and unhelpful overlap and, of course, the risk of the organisations which actually need support falling between the cracks. Furthermore, different social economy organisations will require different types of support and also different support at different stages in their organisational life-cycle. Matching support to demand can be difficult.

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