Charities (Protection and Social Investment) Bill [HL]

Lord Cromwell Excerpts

Wednesday 1st July 2015 Grand Committee

[Baroness Barker]

My Lords, after that foray into the wider realms of charity law and purposes, we come back to the anorak stuff of social investment. As the noble Lord, Lord Hodgson of Astley Abbots, alluded to earlier, new Section 292C(2) sets out the considerations which charities must make before they exercise a power to make social investment, and it refers specifically to advice that they should take.

As we discussed in relation to the earlier amendments, there are two different sets of considerations which trustees will have to make. One is a straight financial assessment. I know that it is argued that some social investments are almost akin to the making of grants—they are very few, I would imagine—so a great deal of what most people involved in making decisions about giving assets to social investments are concerned with is the business case for doing so and the likelihood of return. It is therefore quite right that the subsection should place a strong requirement on trustees to obtain advice on that. I think that most trustees making a social investment would seek the advice of people who had relevant experience in business.

On how charities make a judgment as to what is a correct social investment, which is particularly relevant given what the Minister said in his response to the previous amendments, we are talking not only about charities being able to make investments which are seen to be socially good but about such investments being both socially good and in pursuit of their charitable objects. That brings an important level of complexity to this matter because many charities would see making an investment in the sort of work which they do as not only being desirable but having the potential to get them out of some of the financial deficits which charities are getting into. They would say that that was quite a complex thing to do, whether or not it fell under this legislation.

I understand what the Government are trying to do by saying that before trustees risk money, they should take early advice. There was some debate on subsection (2)(a), which states that before making a social investment charity trustees must,

“consider whether in all the circumstances any advice about the proposed social investment ought to be obtained”.

There was a fear on the part of some people that that might give people carte blanche to go ahead and make investments without taking advice at all. Perhaps the Minister might make clear whether the Government envisage that there will be circumstances in which charities go ahead and make social investments without taking any advice.

I turn to the point of my amendment. If the investment concerned is truly to be a social investment, an interested party ought to be the beneficiaries of a charity. That is so for two reasons. First, they ought to be the people who can talk about the social value of the investment being made. Secondly, for different reasons, the beneficiaries of a charity have a direct interest in determining whether or not a social investment would be the best use of the assets of the charity from which they would otherwise benefit. It is therefore not unreasonable for there to be a discussion that includes both them and other relevant stakeholders. In a way, this is supposed to add a bit of belt and braces to the social aspect of social investment. I beg to move.

[Lord Cromwell (CB)]

We would all agree in principle that the beneficiaries of a charity should surely be involved as far as possible. My difficulty is where it is reasonable. Who decides, particularly if an investment goes wrong, whether or not it was reasonable to have consulted them?

I turn to Amendment 20, which is in my name and that of the noble and learned Lord, Lord Hope of Craighead, who cannot be with us today as he is required elsewhere: I am sure that the Committee, like me, will be happy to know that he was today confirmed as the new Convenor of the Cross Benches. I declare my interests: I have worked for and with a number of UK and international charities for much of my life. Latterly, in about the last eight years, I have moved much more into the investment world, where I look after some quite substantial investment portfolios for clients that include charities.

I am going to take a slightly different approach from some of the other speakers, which may or may not make me popular. I shall approach this amendment in three steps: first, what happens currently; secondly, what I think the Bill as it stands would mean for trustees; and, thirdly, why I think the amendment is needed. So what happens currently? Much of what is called social investment already probably happens in two ways. The first is that some charity investors seek to use various degrees of what we might call “ethical overlay” to their investment portfolios. At its simplest that is an ethical portfolio, and you can buy them off the shelf. It might involve avoiding certain companies or sectors, and tobacco and arms are obvious examples of that. These are available now; you can buy them online as a private investor if you wish to, or a charity could do the same. A common difficulty, of course, is the divergence of opinion about what is an ethical investment; I do not propose to dive into that today as I suspect we could spend most of the evening on it.

However, the provisions of the Bill go well beyond this type of investing. Moving perhaps closer to what the Bill envisages, some trustees invest in projects or activities where there is an expectation of some element of financial return beyond mission-related benefits. I agree about “mixed motive”; I prefer “mission-related”—it is a case of potayto/potahto. One might cite social enterprises, revolving credit funds, concessional lending to development projects or just models of work that require an element of repayment by the beneficiaries to recycle the money and ensure that they treat the money that they receive responsibly.

Last week I chaired a group in Birmingham for the Prince’s Trust, which advances modest sums to individuals seeking to start their own businesses. These loans are repayable to the trust to fund further such work, and that is made very clear to the beneficiaries when they receive these loans. My view, however, is that realistically these types of projects fall within the spending activities of that charity rather than being classed as investments, for reasons that I will come on to—the “two pockets” approach that the Minister referred to earlier. Nevertheless, the 2006 report of the noble Lord, Lord Hodgson, showed that there is anxiety among some trustees about how such activities fit within their responsibilities to invest charitable resources prudently. His report suggests specifically that a fear that social investments might not be within these rules is holding back and inhibiting investment into them and that it should be put into law that social investments are in line with trustees’ responsibilities—something that most of us have touched on already today. The Law Commission came to a very similar conclusion in its 2013 report and the wording of this section of the Bill follows very closely what it said. It comes as little surprise that the Minister told us that it had drafted this section. I am also glad to hear that better guidance, associated with that, is on its way, because my first instinct on reading the Bill was that this might be better dealt with through guidance than law. However, I bow to the far greater expertise that has been deployed on that matter than I have to offer.

So far, so good, but there are four other aspects of social investing that cause disquiet for trustees. Simply passing a Bill to say that they can make social investments does not sufficiently address those. First, social investing is poorly defined. It lies somewhere between charitable spending on worthwhile activities and investing for purely financial return. It is widely covered elsewhere, particularly in the Law Commission report, where one witness stated that it is,

“an unclear concept and capable of being used by a proponent to mean precisely what the proponent wants it to mean”.

The Bill seeks to define it; we have agreed to discuss that point separately, on the head of a pin, so I will not elaborate further today.

The second issue is that the returns on a social investment can be extremely difficult to quantify. The old cliché that two economists in a room will give you three opinions multiplies exponentially in this sort of area. Measuring and attributing a numerical value to social benefits, which trustees are going to have to compare between, can produce a very wide dispersion of arguably equal returns, depending on which criteria you use, how you weight them and—let us be candid—how keen you are to promote that particular investment to whoever is listening to you on the other side of the table. The prospect of asking trustees to leave the realms of quantifiable financial return, which they could then use for good works, and enter the world of social, environmental and other forms of accounting puts off as many as the worries about whether they are entering into something they should not be doing. The whole idea ends up, very quickly, in the “too difficult” box or, as I suggested earlier, allocated to the spending committee, a topic touched on widely in the Law Commission report.

Thirdly, if social investing takes off as a significant asset class—and it is already well on its way—it is, inevitably, going to attract an increasing number of purveyors and advisers who want to attract funds, recommend certain types of investments or manage funds within them. That is no bad thing in itself, but only if it is properly regulated. If it is not, whole new areas of mis-selling arise, where social investments could be knowingly or just irresponsibly hyped to investors and trustees. The danger in that is exacerbated by the difficulty in calculating, quantifying and comparing returns.

Finally, the Bill gives the power to make social investments, but it does not look at the possibility that some charities themselves may well want to use this as a fundraising opportunity and market them to other charities or the public. Add to this formula a situation where a trustee is involved both as a trustee of a charity marketing a social investment and as a trustee being invited to invest in it and you can see the complexities. I have not put forward a specific amendment on that point but I urge the Minister to think about whether we could address it at the next stage in terms of enabling charities to use social investments to raise much-needed funds, without the hideous cost of compliance which will probably come with it, but at the same time restrain them from being overexuberant in doing so.

That brings me to my underlying concern and the reason for the amendment: in pretty much every case, charities that have traditional investment portfolios have highly regulated individuals managing those portfolios. I believe the noble Lord worked with the FCA—FSA as was—so he will have background on this but an individual recommending investments has to be very specific on the expected returns, the level of risk, the previous track record of this type of investment and the previous track record of the person, object or company providing it. You have to be able to evidence that you know your customers in great detail and that what you are recommending to them is suitable. That may not be the case in the world of social investment. Social investments may be more risky, more volatile, more concentrated and certainly less liquid—an important consideration for charity trustees with bills to pay—than what I might call mainstream financial investments. You can sell a blue-chip investment at the press of a button but if you are putting money into a 10-year health project in a developing country, pulling your money out halfway through because you need the cash is not only technically but reputationally and morally a very difficult place to be.

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[Lord Hodgson of Astley Abbotts]

My Lords, perhaps it because it is the end of a long day or because I had a spat with the noble Lord, Lord Lea of Crondall, but I feel slightly scratchy about these two amendments and I feel bad about feeling scratchy about them because the noble Lord, Lord Cromwell, has sat patiently through a couple of days of our debates. But I do not find myself happy with what is being proposed.

If we take new Section 292C and what the trustees of a charity must do,

“before exercising a power to make a social investment”,

they must consider,

“whether in all the circumstances any advice … ought to be obtained”.

Having done that, they need to obtain and consider the advice they think ought to be obtained. Thirdly, they must satisfy themselves that it is in the interests of the charity to make the social investment. That seems to me to be about as simple, as dutiful and as clear as could be. If we are not careful, we will constrain trustees further and put them in a position where they say, “Ought we to be doing more?”. That absolutely lays it on the line: do you need to take advice? Have you taken the advice that you decided you needed to take, and does it all match up with your charity’s objectives?

I can live with Amendment 19, tabled by the noble Baroness, Lady Barker, but, as she said, any good charity would make sure that the beneficiaries were involved and it would take the stakeholder beneficiaries with it. Because I am a minimalist on these things, I do not think that it is necessary to put this into statute. Good charity trustees will do it anyway.

Amendment 20 is a different matter. I accept what the noble Lord, Lord Cromwell, has said about the social return on investment; there is a lot of work to be done on that. I accept what he says about suitability, knowing your customer and so on, but to suggest that social investment has to be undertaken in the same form as that undertaken in the regulated financial markets is actually to shoot the whole thing straight in the head. The whole purpose of social investment is that it is different: not better or worse, but different. To try to force social investment into the pattern of regulation that is available for financial investments is to hobble and cripple it.

[Lord Cromwell]

Will the noble Lord give way? I thank him for his patience because I could see that he was getting quite scratchy as I was speaking, so I am grateful to him for taking pity on me in that way, and for giving way. I think that we may have misunderstood each other. I am perfectly in support of, first, social investment, and secondly, social investment not necessarily being subject to the rigour of FCA supervision, as would be the case for financial investments. My proposition is that trustees, if they make such an investment, should be conscious that they are entering into an investment that is not so regulated. I hope that that closes the distance between us a little.

[Lord Hodgson of Astley Abbotts]

Of course it closes the distance between us, but what it does not do is make clear why we need paragraphs (a) to (c) of proposed new Section 292C. In my view those paragraphs cover all these things, so in my view adding more to them means that you are trying to force a regulatory system on to a new type of investment that does not fit with it at all well. On Monday next we shall be talking about the financial promotions regime and all that goes with it. Once an adviser says to the trustees, “How does this compare with regulated financial markets?”, they will say, “We need to be exceptionally careful”. You will find that the costs that apply to the regulated financial markets will be applied to social investments, most of which are quite small. We are still finding our way through, but there will be a very high fixed cost that will make it almost impossible for people to bring these ideas forward. If it is accepted, when trustees look at this amendment they will say, “Is it the same as an undertaking in the regulated financial markets?”. They will be scared off by their advisers. I hope very much that my noble friend will not accept the first part of the amendment.

I turn to the second part of the amendment, which states,

“consider whether there is a conflict between the investment vehicles”.

Every single investment decision has an option. There is never one thing you can buy. Are you going to buy BP or Shell? You have to think about how to deal with that. The way it is dealt with is by diversification—not putting all your eggs in one basket—and by a readiness to accept risk. That is the way to do it and it is the way that trustees should do it. They should not be forced through further hoops or jump over hurdles because of additional things being added to the Bill at this stage.

At the very least, the chilling effect of Amendment 20, if it were accepted, would be stupendous. I will give the Committee an example: when we were doing the review, we came across a case of a £100,000 investment going to a charity that was going to relieve third-world poverty. The charitable investment was to be made to enable local people to produce goods that could be sold. If it worked, the charity would get some money back because it would have proceeds from the sales. By the time the charity had gone through all the due diligence recommended by the serried ranks of investment advice, it was £40,000. The trustees said, “What on earth are we doing this for? Why do we not just give the money?”. And, as I shall say more vehemently still on Monday, we have got to a situation where I can give the noble Lord £100,000 for his charity but I cannot invest it because I might get some money back. That simply cannot be sensible. That I could get 5% or 10% back—a small return—must be encouraged, as opposed to giving it for ever.

I hope very much that my noble friend will not accept these amendments, not because I do not think that they are important points; indeed they are. There will be scandals and difficulties in this emerging market but we must trust trustees. They have the framework and they must take the decisions. That is what they do and should be encouraged to do. We should not be trying to guide them and say, “Don’t worry about this and look after that”. They must be given the self-confidence to take the decisions on their own account.

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[Lord Cromwell]

Perhaps I may have one more try at this. I hear what the noble Lord says but I have to say to him that I think that trustees should be careful. Batting this aside and saying, “Oh, there will be scandals and mis-selling” is not the approach that perhaps he meant. I could offer one further comment that may be helpful. The FCA currently offers guidance to investors on proportional investing—that is, the sort of recommended amount that it would say you should put into a particular type of investment, be it a private equity fund, a structured product or whatever. Perhaps here there is something about which the Minister could talk to the FCA. A social investment could be a very exciting but possibly, in risk management terms, relatively modest part of an investment portfolio. I still stick to my dictum that trustees are required to be careful. On the prospect of the noble Lord giving me £100,000, I would be very happy to discuss it with him afterwards.

[Lord Watson of Invergowrie]

My Lords, I was slightly taken aback by the response of the noble Lord, Lord Hodgson of Astley Abbotts, to Amendment 20. We believe that these amendments would enhance the Bill. In respect of the noble and learned Lord, Lord Hope of Craighead, who is a signatory to Amendment 20, perhaps I may further record my congratulations on his election as Convenor of the Cross-Bench Peers. New Section 292C(2) to (4) covers the scope of the duty applying to trustees. This will apply in relation to social investments made after this part of the Bill comes into force, whether or not these were made by the exercise of the new statutory power. The duty in the Bill will require charity trustees that have existing powers to make social investments to adapt their current processes in so far as they do not currently comply with the duties set out in the aforementioned sections.

The Bill is not clear as to how the duty in new Section 292C would apply where the trustees delegate their power. We believe that Amendment 19 offers clarification on this point. The section does not take into account that larger charities are more likely to want to set a social investment policy at board level and delegate to staff the responsibility for putting the policy into practice when implementing individual transactions.

Amendment 20 adds two further requirements that charity trustees must consider before exercising the power to make a social investment. I can only echo the comments made by the noble Lord, Lord Cromwell: surely it is important that care is taken and that trustees are absolutely clear that they are doing what is in their charity’s best interests. This amendment would require trustees to reflect on what type of investment they are making and the associated level of regulation, risk, concentration versus diversification and the type of qualified advice that was taken, all of which seems to be sound common sense. I cannot ascribe to the chilling effect that the noble Lord, Lord Hodgson of Astley Abbotts, suggested.