Tim Ferguson: There is a perception that CDFIs have become too bank-like to fulfill their mission to provide capital and resources to underserved communities. Do you agree?
Ellis Carr: I don’t. I would challenge someone who said that to really understand it. My perception of that statement is that we are transforming our business to be more efficient and effective, and creating products that don’t necessarily look like they did 10-15 years ago in the community development space. Some may be concerned these changes may potentially be watering down our impact, but to me, that sounds and looks like innovation. I think we are in a state of innovation within our space, and the source of that innovation in some cases is the traditional capital markets and financial services space. So in some respects, we do look at that space, but we also look at other social enterprises, B Corporations, to gather inspiration on how we need to innovate and aggregate more capital for communities that most need it.
TF: Your strategy is very focused on creating healthy communities. Is that right?
EC: Yes, that’s a big part of it. In 2018 you’ll hear a lot about us focusing on the inequality of wealth in this country, so really continuing to push forward on the tenets of social justice, racial justice, wealth, and inequality. So going back to your first question, the “what” is absolutely not bank-like; we’re calling out and naming things that in some cases the CDFI industry has shied away from doing because they may be a little “problematic.” But we’re at a time in our country where we need to call it out, we need to name it. But the way we go about it – the “how” – may seem bank-like to some, because these challenges can’t be addressed with a $1-2 million PRI. You’re not able to address systematic change with such a small amount of capital. You have to have both capital and programs that are focused on these issues to get movement.
TF: If I remember correctly, your focus is on health care, education, housing, and food. Can you talk about how you see transforming the communities you work in from a systems point of view?
EC: So, yes, those are our four sectors. We also have two cross cutting initiatives, one is Cooperatives, and the other is Aging. And so for us, when I think about trying to address some of these issues at scale, there is a capital portion of that, a programmatic portion, and a research/thought leadership/policy portion. We try to go about it from all angles. And, actually, a fourth would be investment, recognizing that some of the entities that are advancing these social justice issues aren’t necessarily loan ready. So we’ve done patient capital investments that have helped move the needle in those cases.
But back to your point, I’ll use Detroit as an example. Several years ago, we were at a point in time when there was lack of investment in Detroit. Local CDCs were sitting on pipelines that they couldn’t deploy because they didn’t have the capital. They needed someone to bring capital to the table, but they also needed to have the ability to raise additional capital so that investment could be made across the city, and specifically the Midtown area, to address the isolated poverty and population shrinkage we were seeing across the city. With the support of foundations, CDFIs, CDCs, the City, and some large national financial institutions, we were able to aggregate enough economic activity, vis a vis two $30 million loan funds focused on mixed income commercial real estate, all around a supportive inclusive growth strategy. This strategy included everyone, regardless of age, race, etc. That specific example really talked about the financing, but there was also research that was done in partnership with the City around what “inclusive growth” meant. This helped everyone agree on what that strategy needed to look like, and that served as impetus to formulate city-wide policy changes. This helped ensure that the growth that was happening was for everybody, not just for some.
Going back to your point, had we not had the balance sheet or the ability to bring in capital at scale in those cases, we wouldn’t have been successful. And the second fund we did was the Detroit Neighborhood Fund, where we put in effectively $25 million in a fund with Chase to really support economic development in some key area across the city.
TF: How did you measure the impact of those initiatives? Or is too early to say?
EC: Our goal was to create economic activity, and to support businesses. The vacancy rate was one important metric we looked at. When we looked at that absorption and vacancy, the vacancy rate was at .1 shortly after some of those housing developments that we financed came online. You had tremendous amount of waiting list activity. That was one piece of it- actually seeing people physically move to those spaces. Then what you started to see was additional capital start to come in. And those two metrics in particular were two that we looked at to assess the impact. The other metric was making sure that the housing, in this case, and services were specifically targeting the whole income spectrum, not just top half. So we had housing and support services for folks across the income spectrum, and those services really align themselves well with the inclusive growth strategy we had laid out with the City.
TF: That’s great, because it seems that it really changed something at the City level. I assume Capital Impact designed the programs, but you did the work with partners on the ground?
EC: Yes, that’s correct – local CDCs, the Kresge Foundation, Wayne State University. It was a public private partnership.
Just to go a step further – we’ve actually created two programs as a result of that work that will continue to support those neighborhoods going forward. The first was launched when we began to see folks move to the area and saw the population get denser; then we saw the potential for the population to grow too fast, and for rents to rise. So we began to think about how we should plan for displacement and gentrification. We, along with a local CDC, created a program called the Stay Midtown program, which effectively provides subsidy to folks over a specified amount of time, maybe two years, so that as new housing gets developed people have bridge to stay in place, so they aren’t displaced while this new affordable housing comes online. So it was a way to keep people in place, and not have them displaced given the economic activity that was happening in the area.
The second one is a program we just announced about a month ago called the Equitable Development Initiative. This program is really in support of our four strategic pillars, one of which you talked about: building healthy communities. Our four strategic pillars center around addressing systemic poverty, the creation of equity, building healthy communities, and promoting inclusive growth. I talked about inclusive growth a second ago; building healthy communities is about the co-location and pairing of services around health, housing, food, education, etc.; and then the last one gets around the creation of equity.
In and around Detroit, we saw that a lot of developers weren’t a diverse group of people. We also saw that the folks who wanted to get into those larger developments didn’t have the equity or the expertise to be able to do so. This new program will work with 20 developers who are women and people of color, and it will take them through a process to connect them with key vendors and other stakeholders in the Detroit area, so they can learn how to be more efficient and effective developers, and can compete on a larger scale. We’re also putting together a pool of capital so they can take advantage of their new training and also have the financial capability to step up and compete on larger projects. So, we’re doing work to support all those tenets.
TF: The third part is the capital piece, which you just touched on. You mentioned the JPMorgan money, and the Kresge money, so I imagine you can leverage whatever Capital Impact put in, and grow it from there. In your comments in your recent podcast, you say that you see yourselves as a “quarterback.” Can you say a little bit more about that?
EC: Yeah, so oftentimes CDFIs are really thrust into the role of what I call “Community Quarterback.” This refers to an organization that can bring together and convene a very broad constituency of people; someone who can help organize, develop, and create a shared vision; and someone who can put the pieces together, both from a programmatic and a capital perspective, to make those things work.
We’ve played that role on a number of different occasions. Detroit is a good example, where we were able to partner with many organizations, both on the ground and within the broader region, who care about same things we do. We were able to do a number of different things in Detroit that really exemplify that. We put our capital to work in different and creative ways, to insure that the community was able to thrive.
One other example is that we put up some of our own capital, from an investment perspective, so that a local CDFI had the ability to leverage our dollars to make more small business loans. We’re not necessarily in the small business space, but we realize that part of recovery in that area depended on creation, support, and financing of small business. So, again, it’s about taking a broader view and bringing it back to what we started from. Some may think of us as bank-like because of that, but we’re using that capacity of our balance sheet and our resources to provide value on the community and to our partners. The way we look at is, on the one hand, we have to have credibility within the financial and capital markets, which look at Capital Impact as a credit worthy financial intermediary, someone they can trust, who has a great track record. And then on the other hand, we also have to be our authentic self: we connect with community, and we listen, observe, react, and respond to the things we’re seeing in community. Then we can use our resources and the capital markets to really effect positive change in these communities.
TF: Obviously the work in Detroit has been innovative, but also seems to have had considerable impact. How replicable is the Detroit work? What other communities are you taking either that complete package or elements of it to?
EC: Good question. That is one of the things you’ll probably hear and see differently than in past conversations. We’re starting out by really looking at playing a similar type of role where we can be providing more of our capacity and resources “in place” around our offices. So that means the Metro DC area, the Bay Area, and in Detroit. And we’re also beginning to explore the Southeast, where there’s a huge need. To answer your question, we’re starting around our own offices, and figuring out how we can play a role in that way.
TF: One thing you said that struck a chord for me is that part of the problem with addressing inclusive growth and equity issues is the unwillingness on the part of those providing capital to actually help to create wealth for individuals within that community. You mentioned developers of color specifically. Were you using your own investment or patient capital to help support them, with the intention that they’ll have an equity layer that allows more traditional financing to come in on top of that, for development within the community itself?
EC: That’s right, absolutely. I’d also align that back to our work with cooperatives as another major way that we’re doing that, just by the nature of the co-op and worker ownership models, which have gained steam as of late. We’ve been doing some research, and are in the initial stages of developing programs that are focused on leveraging the co-op model to build wealth and create equity in communities in a couple of different areas. The first one we’re looking at right now is with the work we do in aging, and thinking about huge number of people turning 65. Something like 10,000 people per day turn 65, and we’re considering the number of baby boomers that are retiring, who actually run really strong businesses, and thinking about converting those businesses to co-ops, where the workers become the owners. When you look at wealth inequality in this country, co-ops could play a significant role. We’re also looking at home health care as another industry with significant lower wage employees, the majority of whom are women and people of color. We’re partnering with the AARP foundation to think about how we can create a sustainable model for home health care cooperatives in the vein of growing and building wealth, not only in the communities, but among the worker/owners as well.
TF: That sounds to me like Capital Impact going back to its roots. Is that an intentional shift or reemphasis?
EC: I think it’s going really well. I would say that we have consistently been focused on co-ops. The country has been changing, and the economic landscape in particular has changed quite a bit over the last several years. We were finding ourselves in an environment where there’s more receptivity to the cooperative, given the wealth inequality that exists in the country. And on our side, we’re really spending time to focus on refining our strategy. We’re now in the third year of our five-year plan. We spent the last year taking our strategic plan and developing logic models to define and articulate what we mean by “creation of equity” in healthcare, in cooperatives, in aging, etc., so that we have a very clear perspective on what we mean by the impact we want to have. When we did that, working backwards and looking at tools in toolbox, we realized that in some cases we need to develop new tools, and in other cases we need to elevate existing things, like the co-op model in communities of color, which we felt was a good opportunity to explore and invest capital into.
TF: That’s fantastic. I think the coop model is a really interesting one, especially in communities that lack “friends and family” and other sources of capital. I want to switch topics to talk about how you’re thinking about sources of capital. You have a pretty significant balance sheet; I believe roughly $800 million in assets under management. I know you’ve done some quite innovative things around sources of capital, especially over the last year or so. Could you talk about some of those things, and contrast that with how you view the “traditional” sources of funding for CDFIs, meaning the CRA banks, and the government?
EC: So you’re right, and this brings us back to your initial question: depending on who you talk to, this could be the perception that we were talking about, around being too bank-like. We have really been on a path to diversify our capital sources, since about the beginning of 2014, recognizing that the landscape is changing dramatically. We don’t want to be caught flat footed if a funding source changes direction or dries up.
The first thing we did was become member of Federal Home Loan Bank, because we felt that it could provide a great source of liquidity for CDFIs. We fall under Federal Home Loan Bank of Atlanta, and we’re able to borrow from one day to 30 years, provided that we have the eligible collateral. As we talked about diversifying our capital, one of our explicit goals was to diversify outside of the traditional CDFI and CRA lending space. That includes pension funds, impact investors, and other organizations who didn’t necessarily invest in CDFIs historically. And it’s still a goal for us to engage corporations in different ways than we do today; and with that as a goal we realized that we need to continue to provide that “good housekeeping” seal of approval, while we continue to expand our capital base. So the Federal Home Loan Bank was one way that we did that.
We then went through the process of being rated by S&P at the entity level – at the issuer level. We were successful in earning a AA rating, which really helped to begin to pique the interest of other investors, particularly those that aren’t as familiar with our space. While no entity looks only at S&P ratings, it’s a nice complement to our 30-year rack record with strong loan performance, a proven ability to deploy, and a seasoned management team.
So while we were in the process of getting our S&P rating, we began our two-year journey to develop an impact investment note. And the reason we did that was because we wanted to be able to leverage our strong balance sheet to be able to aggregate and raise capital at scale, but give ourselves the flexibility to respond to markets in the way we felt was most needed.
When you think about it, the “more traditional” way that CDFIs raise capital, which is to identify the need then going out to raise the capital, could put you in position where by the time you raise the capital, the community’s needs have changed, and you can’t respond as effectively. And we did not want to be in that position, nor did we want to raise capital having to bring in a number of different layers all the time, because again that actually slows your ability to deploy even more.
In October, we went to market with a fixed income shelf offering available to retail and institutional investors. We got the issuance itself rated by S&P as well, because over that two–year time developing the product, we heard a number of different things around what investors needed, particularly those that didn’t traditionally invest in CDFIs. What we heard was that they need vehicles to invest in; that structured funds are okay, but they take a long time and sometimes won’t get through credit committee, given the relatively small size of these funds, compared to institutional investors. Having, effectively, a ticker for someone to invest in was important. We also heard that rating traditionally helps. Again, while it’s not end all be all, there’s a lot of negative screens that exist, where investors won’t even look at your product if you’re not rated.
We also heard what they were looking for in market price. “Market price” is kind of misnomer in and of itself, because it should be relative to something. We wanted to price competitively with similarly rated products, and that’s what we did.
Lastly, we heard about the ability to provide daily liquidity, but unfortunately that was one we couldn’t solve for. So we moved on without that, and came to the market in October; to date, through this month we have sold $44 million worth of notes at favorable rates. So that’s one way we’ve been able to go to market to provide more capacity, our note is actually available for durations of one to ten years. In that we have ability to understand what our needs are from an entity level, and from a transaction level. And this allows us to position ourselves and raise the capital that we need to, while looking at a holistic balance sheet as opposed to just one transaction at a time. So we’re getting efficiencies in how we’re aggregating capital, which hopefully will allow us to reduce our costs and pass that savings onto our borrowers.
The last thing I’ll mention here is a joint venture we have with Annaly, which is large mortgage Real Estate Investment Trust (“REIT”). Through this partnership, Annaly is investing $20 million of equity into a joint venture with Capital Impact, which we then can use to further leverage our balance sheet and invest in communities. We think this is great partnerships, which we’re going to look to expand over time, both with them and hopefully others as a way to continue to grow our on-balance sheet resources, which again, allows us to quickly respond to needs in the community.
TF: Congratulations. That’s a lot to happen in a short amount of time. And you said that’s equity Annaly’s invested?
EC: That’s correct. There’s a jointly owned for-profit LLC that consolidates up to us, which allows us to leverage the $20 million in equity.
TF: And their rationale is that they believe there are potential returns that are social and financial?
EC: Yes, I think both. Annaly is a $12 billion mortgage REIT; in the second quarter and raised over $2 billion in capital, and they wanted to dedicate a portion of the capital to support community development. They wanted to work with someone who had proven track record and we were felt fortunate that they chose us.
It’s a great example of reaching outside of traditional market to find a common interest with an “unlikely” investor, in order to serve both a social and financial mission.
TF: Did they approach you or vice versa?
EC: It was a mixture of both. We had some existing relationships with them from within our organization. So the conversations happened over time, and we were both able to get comfortable moving forward.
TF: Do you think they’re also doing this at the suggestion of their Limited Partners and some of their other funds? Do you think they’re being encouraged to think about more than just financial returns?
EC: Possibly. It’s hard to say. I just saw an article today on CNN talking about $250 billion impact investing market, and how it’s real and it’s here to stay. With all the interest that millennials and others are taking in impact investing, I think organizations are positioned themselves appropriately towards that.
My hope, and this was our hope all along, is that as more folks begin to work in this space, it’s going to truly redefine how CDFIs play in the market. So we need to have products ready for folks to invest in.
TF: Historically, note programs like the Calvert notes and others have been fairly small denominations. Is that true of yours as well?
EC: Our largest investment thus far has been about $7 million, and we’ve had investments as low as $1,000. We’re extremely delighted to be over $40 million in sales.
We’ve also heard that lot of investors are interested in our shorter term products. This is the first month that we’ve issued a 3-year note. In the first two months we only sold longer term notes and have the ability to issue short-term notes in the future.
TF: And did you say you were unable to solve for your daily liquidity?
EC: That’s correct.
TF: And what are you thinking about that? Because the shorter the duration becomes, the more the demand and pressure for liquidity is.
EC: Today, fixed income mutual funds are comprised of a certain amount of illiquid securities – that are not priced daily. Fund managers have an ability to stay within, I think, 5% of their fund size for illiquid securities. I feel that even if community development financial institutions were able to get a small market share of illiquid position in fixed income mutual funds, we’d have enough capital to do what we want to do.
TF: I’m very impressed with the Annaly capital joint venture. That has the ability to unlock a lot of capital. Historically there’s also only been “ones and two-sies;” not the bigger chunks of $10-20 million that can actually be truly transformative. The $1 and 2 million gifts aren’t going to fundamentally change anything. So with that in mind I’ll ask you, do you think CDFIs have been doing impact investing all along?
EC: We absolutely have. Folks in the community development space realize that the work isn’t about us, it’s about the people in the communities that we serve. We serve because we are passionate about helping others which may be the reason most people don’t have a good understanding of the work that a CDFI does.
We, the CDFI field, need to learn from the broader impact investing movement, and how folks are positioning and messaging the work that is being done. A lot of times we may say “we’ve been doing this all along so invest in us.” but when you consider the billions of dollars that the impact investing movement represents, CDFIs couldn’t deploy a material percentage of that capital. What we need to do is make sure that we have an outlet to impact investor capital, whether it’s directly to the investor, or through an aggregator who aggregates for us so that we can leverage those dollars. And I think what you’re seeing is more and more folks who setting themselves up between CDFIs and the retail investors. I don’t necessarily think that’s a totally bad thing, provided that we’re able to get the capital and that it is usable at the same time. So that’s where I think some of the innovation for us need to be: we need to think about how and where we’re going to position ourselves in that value chain, and begin to develop those relationships now. Otherwise, we’ll look up in a few years and see that impact investing has passed us by.
TF: I think that’s right. Given your background in more traditional investment banking, what are your biggest concerns around infrastructure and particularly around the notes, the capital from people like Annaly, etc. As you bring to scale that, what are you worried about? I’m thinking specifically about portfolio and risk management.
EC: From 2015 through when we close the year this year, Capital Impact will just about double our loan portfolio. We’ve been able to do that without changing our credit box, because the community need is so great. With that, we have invested pretty heavily over last five years in our infrastructure, technology, and processes to really get us to a place where we can operate efficiently and effectively, to rely more heavily on data to drive our decision making, to manage risk and to learn from our work. Specifically, we implemented a new general ledger system, servicing system, underwriting system. Additionally, we implemented an enterprise management framework and an Asset and Liability Committee. We have replaced our legacy systems with more modern systems and have redesigned our systems and related processes. Making the investment over five years, has allowed us to scale our balance sheet and increase our assets under management, we can do it more effectively, by relying on technology to help bolster some of that growth.
TF: That’s really interesting. Through some of the work we’ve been doing on the investment side, it’s quite clear that people are thinking about more than just financial returns, which will require different ways of thinking about underwriting. I don’t know how familiar you are with something called the “net contribution framework,” but it talks about not just financial capital, but also human, social, and environmental capital, and trying to think about how to actually utilize those as forward looking tools, or as forecasting models. So we’ll have to rethink the way we invest money. Do you agree with that lens, or are you thinking about it that way?
EC: Yes, I think that’s exactly right. I think that we have consistently looked at opportunities through a financial lens, and we use broad frameworks to assess the impact.
TF: one final question. If you weren’t a CDFI, what would you be?
EC: So that’s an interesting question, because it’s something I’ve actually been very thoughtful of over the last 18 months, particularly as I’ve been out talking to more people outside of the CDFI space. The most common question is always “what is a CDFI?” It always bugged me that we described ourselves with an acronym that then has to be described. If you have an acronym in your elevator pitch, it goes right out the window and you lose the person you’re talking to.
But to answer your question, I would describe us as a social enterprise. I think that encapsulates a broader movement, and connects Capital Impact with a number of other organization (which could be for profit or non-profit) that are socially and mission minded. I don’t know if that’s the right nomenclature, but it attaches us to a larger movement – one that is not purely financial, or purely programmatic, which makes sense because we are a hybrid.