Joe Fuller: As the skills gap grows, students take on debt toward traditional four-year degrees that often don’t leave them job ready. Short-term certificate programs, while they can deliver more relevant skills, cost upwards of $10,000. And they often require months of fulltime study. That can be challenging for working learners. In this environment, impact investing provides a potential vehicle for upward mobility. That model, which taps private funds to address social challenges in workforce development, enjoys growing bipartisan support. To what extent does social financing realign incentives and reallocate risk in the workforce development system? Who are the beneficiaries? How will Covid-19 and its aftermath affect that equation?

Welcome to the Managing the Future of Work podcast from Harvard Business school. I’m your host, Harvard Business School professor and visiting fellow at the American Enterprise Institute, Joe Fuller. My guest today is Tracy Palandjian, CEO and co-founder of Social Finance, a nonprofit specializing in impact investing in the skills development sector. We’ll discuss how private capital, deployed through impact investing mechanisms, can help bridge the skills gap and promote upward mobility.

Welcome to the podcast, Tracy.

Tracy Palandjian: Great to be with you, Joe.

Fuller: Tracy, I think our listeners will be generally familiar with the broad concept of social finance, but probably not with many of the details about how it works, how well it's worked, or what we've learned about it. Could you just start off by framing that for us?

Palandjian: Yeah. It could be a little confusing, because there's the field of social finance, and then there's our organization, which is called Social Finance. So, the field of social finance, or impact investing more broadly, has been gaining great momentum, especially over the last decade. It's simply the idea that we have big social and environmental challenges out there. And these challenges could be best addressed when the public, social, and private sectors come together and work together. And it's the idea that government funding and philanthropy are critical, but they alone cannot solve our greatest challenges, and that there's a role for the capital markets to play here. And then there's our organization, Social Finance. For context, Joe, we're an impact investing nonprofit. We were founded 10 years ago, in 2011. And we're focused on building outcomes-based financing tools to align resources with impact, and to deliver measurable outcomes. And at the end of the day, we work across sectors, and we are issue area agnostic, but we want to combine the best of markets—the discipline and incentive alignment that markets bring—with the best of government and civil society to solve these big challenges that face us and to improve lives at scale.

Fuller: So, tell us a little bit about your personal journey. You're the CEO and the co-founder of the firm Social Finance. What attracted you into the sector? And tell us a little bit about your firm's evolution.

Palandjian: My journey to starting Social Finance 10 years ago was definitely not linear, and almost accidental. I've been fortunate enough to have had lots of great opportunities in my life. I didn't grow up in this country. I grew up in Hong Kong. I came to the States for school, decided to stay here and had the chance to build a fulfilling career in the private sector, in management consulting and in asset management. And around 15 years ago or so, I wanted to more intentionally move into the world of social change. And at that time, I was at a management consulting firm called Parthenon. And I thought I would do this by starting the not-for-profit practice there. The premise was, could we inject private sector practices, the analysis, the rigor and the discipline, to support nonprofits to scale and to help them more effectively achieve their mission? So, that was all well and good, but I felt that we were just working at the edges. So, when 2010 happened, and I had the opportunity to co-found Social Finance with Sir Ronald Cohen and David Blood, I leapt at the chance to create a new kind of organization, to rethink how we finance social change by working across sectors and realigning incentives to get better outcomes for our communities. So we've been at this work now for a whole decade and our team has built out a range of outcomes-based instruments to accelerate impact, and especially in the current moment during the pandemic, helping people prepare for the future of work and build new pathways to achieve greater economic mobility, while also helping close the nation’s skills gaps—importantly, Joe, a topic that you know so much about.

Fuller: Share with me a little bit of your thinking about the application of small “s,” small “f” social finance in the whole domain of skills acquisition and educational attainment. We have a large, primarily government financed, system for higher ed, for post-secondary education. There are other firms, including for-profit firms, that participate in the space. Where do you see the application of social finance as a solution? What are the imperfections in the way the market works, or the distortions of the way the market works, where you think a socially conscious but intrinsically market-based solution is going to move the needle?

Palandjian: I think that the status quo system, which has worked quite well for the 20th century, is no longer working as well for the vast majority of Americans. We live in the richest nation in the world but we're the worst in the OECD [Organization of Economic Cooperation and Development] in terms of the percentage of our population with low wealth. And the pandemic has just exacerbated this situation. And we know well how fragile our economic and social infrastructure is. We all knew before the pandemic that wealth and income inequality has been going the wrong direction for many decades. I loved your podcast with David Autor, when he unpacked this and I think David mentioned that since the 1970s, only the top 25 percent of earners actually saw wage growth commensurate with increases in productivity. At the same time, businesses are investing less and less in frontline worker training, because turnover has really increased over the years. And the same for government funding. In fact, if you look at statistics from US DoL, the Department of Labor WIOA [Workforce Innovation and Opportunity Act], or workforce funding, is nearly down 90 percent in real terms since 1980. Most of the wealth and benefits from all this technological innovation and globalization have been sequestered to the top and that the American dream is no longer applicable for the vast majority of Americans. And obviously, the pandemic has only made things worse. But, even amidst the pandemic, there are opportunities. There are still over 6 million unfilled job openings. More than half of them are good jobs in the middle of skills arena, with great advancement potential, that require training beyond a high school degree, but less than a bachelor's degree. And these roles are growing in industries like green energy, and healthcare, and IT, and the skilled trades. But unfortunately, our current education and training system isn't really set up well to separate people into pathways to get these skills, to land these middle skills jobs. The institutions that have traditionally prepared many of us aren't working as well as they used to. College, which was definitely a pathway to the middle class in the 20th century, is no longer working as well. And in fact, it's really contributed to an unprecedented student debt crisis, going up to over 1.6 trillion of debt collectively owed by over 40 million Americans.

Fuller: Let's talk a little bit about a social impact bond as a mechanism, because it's something that a lot of our listeners will have heard of, but how exactly would it work? And who would back such a bond if it were really designed to create measurable impacts for social goods, but not necessarily maximize rates of return? Help us unpack that a little bit.

Palandjian: Absolutely. So, the first tool that we brought to the United States was the social impact bond. This was back in 2011. The social impact bond is part of a broader set of outcomes-based financing, that we've developed. And the career impact bond is solely focused on upskilling and worker retraining. The social impact bond brings together very different stakeholders, government's, impact investors and service delivery partners. And the social impact bond is a mechanism to basically enable the public sector to only pay for success. And I'll give you a quick example. In 2017, we launched a social impact bond with the state of Massachusetts, whereby we raised almost $13 million of investor capital, that money went toward upskilling immigrants and refugees —2,000 of them across the greater Boston area—through a wonderful nonprofit partner called Jewish Vocational Service. And the metric that would govern investor repayment is based on job placement and wage bumps as experienced by these 2,000 immigrants and refugees. The wage bump, depending on how you count, is between $4,000 and $7,000 more than the control group as measured by a randomized controlled trial, and our investors stand to earn a double bottom line. So that's the social impact bond. It's enabling governments to pay for success by tapping private capital to help align incentives and allocate risks.

Fuller: Let's turn to formal education a little bit more directly. Obviously, there's been a tremendous amount of debate about the impact and efficacy of higher ed, the ability of people to get the financial resources in order to advance their income potential through adding credentials or degrees. Can you talk to us a little bit about what an income sharing agreement is and how those have developed in the United States to start with?

Palandjian: So the income share agreement, or the acronym ISA has been around for a long time, since Milton Friedman wrote about it in his 1959 essay. And it's simply another consumer finance tool. And ISAs are gaining greater prominence, especially in the four-year college setting, where it seems to be a better tool to finance one's college education than a traditional student loan. So here at Social Finance, we simply took the components of the ISA, which are the four levers—the percent share, the duration of the obligation, an income threshold, before this kicks in, and the ultimate cap, which is the total payments that one could pay. We took all these components of the ISA and design the career impact bond around it. And we didn’t rebrand it just to be clever but because we firmly believe that the career impact bond approach isn't simply another consumer finance option. It's actually built as a tool for impact. And the impact that we're seeking to achieve is to support people with low income and other barriers to get into pathways of economic mobility. So a couple of years ago, Joe, back in 2019, our team developed the career impact bond to really think about where the intersection of all these things is. Like, what are the job openings in the market? What credentials and licenses do these job openings require in the middle skills arena? Who are the people who've been locked out of these wonderful training programs that exist in the marketplace? And what are the right financing parameters to enable folks—notably people of color, women, and people who face barriers to employment—to get skills to actually land these in-demand jobs, that are in sectors that are continuing to be relatively recession resistant? Many of these workers and students need tailored wraparound support, like living expense coverage, or emergency aid funding, to cover unforeseen expenses like rent, transportation, childcare, et cetera. So, the deal, if you will, Joe, is that students would enroll at these vetted training programs with no upfront costs. And they would enter into an obligation with financial literacy accompanying it, and they would repay their training if they graduated and earned salaries over a particular income threshold. We have a student bill of rights that underpins the whole arrangement, and to make sure that workers have access to financial safeguards like downside protection and allows them to pause payments if they can't find work, as well as fixed caps, and other kind of transparent terms to make sure that the consumer, the worker is at the center of the arrangement. Another feature, Joe, that is also core to the career impact bond approach, which is different from your traditional ISA, is the incentive alignment between the worker and the training provider. So right now, the status quo is that whether you're a college or training program, you get paid by the number of people in your seats, it's all output-based, and they have no skin in the game and whether or not the degree or the program works for the worker, they still collect their tuition. Typically, when someone signs up for a career impact bond, we only advance 50- to 60 cents on the dollar upfront to the training provider. As the students graduate and they land a job, and they keep their job, and they make the career impact bond repayments, they first go back to make our investors whole, because the investors are funding this program. And then the provider is, if you will, at the end of the waterfall, so that they would only be made whole if their constituents are successful.

Fuller: So Tracy, that kind of turns the world upside down relative to the traditional positioning of the skills provider educator. Are they open to this just because it's a last resort? Or are there educators embracing this because they're able to access a type of student that really benefits from these surround services that you're offering, which we found in our research here, the Managing the Future of Work project as being absolutely essential to help advance the success of a lot of learners and working learners?

Palandjian: Absolutely. We've been lucky to partner with some amazing training providers, whether it's General Assembly, or a couple of other coding boot camps out in the Pacific Northwest, Alchemy [Code Lab]. We have another fantastic IT partner that we launched a career impact bond with, called Acuitus, in the Bay Area. Or even in the skilled trades, we have an exciting partner and the Diesel Technician Training space right now. We look for strong graduation rates, we look for strong job placement rates, and importantly, wage growth over time. In fact, these training providers are so confident in their own track record that they say, "You know what? We are very comfortable getting a deferred fee structure, and we would only be made whole if our students are successful at scale." So, it's the incentive alignment piece that is really important to everyone, and it's also another opportunity for these training providers to actually have more students in the door because many of these students would never have the credit or the savings to pay for these programs up front.

Fuller: So it sounds, Tracy, like these are our training providers who have very specific expertise and therefore a clear line of sight from their training to a labor market where they're confident there're placements available, and where they're also confident that their curriculum equips their graduates to be market-ready. Is that a fair characterization?

Palandjian: Absolutely, and very strong employer linkages.

Fuller: So, that's quite different from a traditional educator who's providing a more general background, and a degree, and their best wishes as someone leaves their campus. Is that by design or are those institutions not yet able or willing to take on this kind of subordinate position in the repayment scheme that you described?

Palandjian: Joe, you're very astute in making this point. So, take the diesel technician training program that we have launched. So the traditional way of becoming a diesel technician is to go through a community college. So diesel training programs offered through community college typically are around 150 hours of shop time, but two years of other courses in general education. So, our provider partner has basically said, "You know what? People don't need to go through two years of all this coursework, let me condense a two-year community college program and actually focus more time on hands on training." So the American Diesel Training center has basically boiled down this whole thing into a six week part-time, 300 hours of hands-on training for people to go through the program in one sitting and be able to contribute to the workforce immediately afterwards. I'm happy to tell you a story about one of our students. This guy's name is Joe. He joined this five-week diesel mechanic training program through the career impact bond mechanism. Before joining the course, he was working in minimum wage kind of food service prep. He finished his training and he's now got a job at a leading transportation company making $50,000 a year. And this is not extraordinary for the kinds of people coming out of this program. I think you're familiar with some of the labor shortages in the industry, and some experts say that we need over 200,000 new diesel technicians by the year 2025. The advancement potential is incredibly exciting. So, people might start out as a mechanic, but as they gain more certifications and stay on the job, they can move upwards to other roles in customer service, sales, and management. So, in terms of the career impact bond terms, for Joe, because he's earning $50,000 a year, he's paying $280 a month for a fixed term of four years. At any given time during this four-year period, if he makes below the income threshold, or if he falls out of the workforce, he doesn't owe anything in that particular month. So, the math is such that even after the worker repays, they're still far better off financially than before. And then, for this particular program, there's another exciting feature in the sense that some employers have also offered to take over the payments for the workers for every month that they stay successfully in the job.

Fuller: Also, that type of guarantee is a great encouragement to the student and aspiring worker that this is a legitimate course, that there are bright economic prospects at the end of it, because so often, people make choices about how to pursue training, or an educational degree without really any firm understanding of the degree to which it correlates with an income outcome that will be attractive and make it worth the time, and particularly, the either debt capacity or cash invested. Are you targeting a particular demographic? Is Joe, and are Joe's classmates, people that have some college, no degree? Are they fresh out of high school? Are they repositioning themselves from a different job that has faded away, or is it just all over the map?

Palandjian: Well, every career impact bond is different. So, for the diesel technician one, I think by and large, the population only has a high school degree. And most of the students in the classroom are in minimum wage kind of food service hourly worker. For other career impact bonds like the one with General Assembly, we're focused on a population that is either low income, people who've been in the criminal justice system, we really target people who have been on the public benefits program or have been on the earned income tax credit. If it's just a simply a lateral move, a pivot from one middle class job to another, that wouldn’t fit our mission.

Fuller: Tracy, we're just talking in March 2021. Spring is beginning to make itself felt. A few crocuses were spotted this weekend, in the Boston area at least. And similarly, we're beginning to come out of the worst part of the Covid-19 pandemic, which has wrought such terrific damage on a lot of people's jobs, and job prospects. How do you see the impact of Covid-19 on the types of middle skills jobs in which you're focused, and the role of things like career impact bonds in helping us get out of the aftereffects of Covid?

Palandjian: We see tremendous growth in the types of middle skills positions that are going to continue to grow as we get out of the pandemic. Just look at healthcare, Joe, the demand for middle skills professionals is incredibly high and growing. Support staff positions like physician's assistant and pharmacy tech rank among, probably some of the most sought-after roles. And of course, the need for nurses up and down the nursing ladder remains really high. IT is another area that we're really focused on. The pandemic has quickly transformed how we all work, how we get together, and businesses that never thought that they could adapt or adopt remote work policies, for instance, are now trying to figure out how to handle telecommunications and all the IT requirements that come with it. And there are just so many of these middle skills, IT roles, that we have to fill to support this economic transformation from help desk, customer service roles to user experience, design roles, software engineering, et cetera. As I mentioned, we've now launched three career impact bonds in the IT space, network administration, software engineering, user experience, and we're just seeing the demand for these skills continue to grow.

Fuller: Tracy, you've written that things like career impact bonds, social impact bonds are the ultimate bipartisan issue that the types of things they fund or things that the outcomes that everyone can get excited about. How do you feel about this as an issue of public policy, and what would need to change in terms of the policy domain, the regulatory domain, to really unleash the power of these tools?

Palandjian: The field of impact investing has really enjoyed bipartisan support over the last 10 years. And if you really think about the principles that undergird these instruments, I think we can all agree that we need to get better outcomes for people and we need to spend taxpayer money more effectively. And it's just highly resonant across the aisle. In particular, during the Obama years, we've just seen a huge boost to the field, to community development finance, to impact investing, to the broader field of pay-for-success. Congress passed the first ever piece of pay-for-success legislation and this is something that we're very proud to have shaped and advanced called SIPPRA, which is The Social Impact Partnerships to Pay for Results Act, an historic piece of federal legislation, which earmarked initially $100 million to sit in Treasury for use for these types of public-private partnerships. And we're seeing similar embrace at the state and local level. And we have worked with a lot of Republican and Democratic governors and mayors to think about public-private partnerships and these outcomes-based funding tools to improve the lives of their citizens. I think in our current work with the career impact bond, there's just such a great need for bipartisan agreement around having good regulation around the ISA, around the income share agreement. The ISA world is really the Wild West, because there's just no regulation right now. So, I think that there's great opportunity in Washington to craft ISA legislation, to really focus on the worker. There are lots of features in our student bill of rights that we hope that Congress would look into, like fleshing out important learner safeguards, payment caps, repayment terms, downside protection, and the like.

Fuller: When people express concerns about social finance, or they criticize it, what do they focus on, and to what extent are you sympathetic with some of those concerns or criticisms?

Palandjian: The field of impact investing and lowercase social finance is really broad. And by and large, it was born out of the sentiment, that markets have a role to play in solving social problems. And maybe policy should get out of the way a little bit. I think our specific approach at our firm, at Social Finance—capital “s” and “f”—is very much about harmonizing the power of markets and government, and it's really bringing together sectors that we can get the best, and the most enduring outcomes for our communities. I think the knock has been that many of these problems are hard to define a set of metrics around, and we completely appreciate that. But to kind of go from the status quo, which is that we don't really measure much—and if we measure anything, it's around outputs—to having a much more outcomes-focused set of metrics, no matter how imperfect they may be, is a huge advancement vis-à-vis the status quo.

Fuller: And I imagine your funding sources are very intent on seeing those results and insisting on seeing positive results.

Palandjian: It's actually a very important point, Joe. So we're basically putting the career impact bond to work in two ways. The first way is an investor-backed model, so we've raised an investment fund called the Up Fund. And it's backed by all kinds of philanthropically motivated investors, so it's a $40- to $50 million pool of capital. And our anchor investors are the MacArthur Foundation, the Michael & Susan Dell Foundation, Schmidt Futures, Blue Meridian Partners, Donor-advised funds, etc. And this money is first and foremost about the impact on people. And secondarily, it's about their return. And no one's really getting rich. We are targeting a low single digit return to our investors. But compared to grant making, the money's coming back, and you can do more impact with it. And we're also putting the career impact bond to work without investor participation in a public policy arena, working with state and local governments.

Fuller: So Tracy, how do you see social finance unfolding in the next five to 10 years? Or is this something we're going to see much more commonly deployed, and particularly in the space of education, career readiness, skills and competencies, which is such a big sector of the economy, and frankly, has continued to perform pretty poorly by a lot of measures?

Palandjian: We're incredibly excited about the power of this tool going forward to upskill and reskill, hundreds and thousands of people. Since launching the Up Fund back in 2019, we've now launched four career impact bonds, three in IT, and one in the skilled trades. And we have half a dozen on the way in the sector's and healthcare. And we're beginning to see proof of concept as people graduate from these programs, they land jobs in the middle of skills arena, and begin making payments in midst of the pandemic. But we're really focused on scale, and with an eye toward building a scalable platform, we're focused on these pay-it-forward funds models that I mentioned earlier, by partnering with state and local governments, because we really believe that using the policy lever is one of the most efficient and powerful ways to achieve broad-based social impact for our communities. So, as I mentioned earlier, this is something that we've now been working with half a dozen states in building, and instead of using investors as the capital behind the career impact bond, these pay-it-forward funds are powered by public dollars and philanthropic contributions in the local community. And as workers gain skills, get jobs and begin to make repayments, their funding goes back into this pool, to pay it forward for future cohorts of workers who benefit from upskilling opportunities. Obviously, for government to see sustainable results for their workforce dollars, and to build the workforce of the future to drive their economic development agenda. Obviously, employers are incredibly excited because they can get diverse talent and fill these critical job openings. Training providers are also very much embracing this tool as they're rewarded as they place students in good careers. And they get to serve many more students and expand their addressable market. And then obviously, the most exciting aspect is that workers like Joe get to realize their potential, find meaningful work, and actively participate in the economy of the future.

Fuller: Well, it certainly seems that the development of skills and helping people get on a pathway to economic independence and a solid basis for household formation, really is very well suited to the social finance model, because the system we have for education funding and training funding is very hidebound—works for a large number of people, so we don't want to throw it out the window—but really, is not well suited to accommodate the type of responsiveness to market trends given the pace of technological change, proliferation of new types of jobs, that this type of social finance arrangement can arrange for. So, it's a very, very appealing concept. And, Tracy, we thank you for joining us on the Managing the Future of Work podcast.

Palandjian: Glad to be with you, Joe.

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