Building Community Capital

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At ComCap19, I drank from a firehose of information about local investing, securities law, crowdfunding, and democratizing capital. And had a great time!

by Evelyn Wright

the belt
Public art at The Belt, Detroit

I just returned from spending four days in Detroit at one of the most inspiring and informative conferences I’ve attended in a long time: Community Capital 2019. This was the fourth gathering of this network of entrepreneurs, lawyers, financial professionals, economic development practitioners, and community organizers dedicated to democratizing and localizing finance and investment. I went because — after several months of researching the opportunities and challenges for cooperatives — I’ve seen that access to capital is one of the most significant and under-addressed hurdles for growing coops. I wanted to learn more about the options available, and boy, did I!

The mission of the “ComCap” network, which has recently formalized into the National Coalition for Community Capital(NC3), is to create a world in which “empowered citizen investors catalyze the growth of locally-rooted ventures creating economic opportunity for all.” As NC3 points out, nearly half of the US economy consists of locally-owned small businesses. But due to the hyper-concentration of the financial system, some perhaps well-meaning post-1929 crash regulations that severely restricted how investments could be offered and to whom, and longstanding structural bias in the economy, in recent decades there have been almost no opportunities to invest directly in the economy that matters the most to us — our local communities.

“The money in your purse and under your mattress are just about the only savings that are remaining in the community.”

Meanwhile, as Amy Pearl, Director of Community Development at the local business-focused financial services firm Seedpay noted, apart from credit unions and a few truly local banks, virtually none of our savings are held and used locally. Deposits in most banks are immediately moved away to be invested elsewhere, and pension funds and retirement savings are almost always invested in big funds on Wall Street, usually in multinational companies, in commodities, or in real estate far away. “The money in your purse and under your mattress are just about the only savings that are remaining in the community,” Pearl said.

It wasn’t always like this. Investment advisor and NC3 Board Chair Angela Barbash said that in her home town of Ypsilanti, MI, construction of the Huron Hotel in the early 1920s was financed by direct sale of stock to local residents. Barbash suggested such examples were common in those days. On a larger scale, to facilitate ongoing regional investment, Detroit had its own stock exchange for most of the twentieth century, and was a hub for financing companies throughout the Midwest. General Motors, Chrysler, and Sears Roebuck were all capitalized on the Detroit exchange, which operated into the 1970s, until deregulation favored the centralization of trading on the New York Stock Exchange.

There used to be dozens of such local and regional stock exchanges across the US, in major cities like Boston, Philadelphia, St. Louis, New Orleans, and San Francisco, but also in smaller ones, includingAlbany, Syracuse, and Buffalo. Many of the regional exchanges closed after the formation of the Securities and Exchange Commission (SEC) in 1934. Other factors in their demise included the rise of state-level regulation to protect investors and advances in communication technology that made it increasingly easy to do business on the New York exchanges from all over the country. By about 1980, almost all of the regional exchanges were gone, and with them any ready structures for facilitating local investment.

This trend has begun to be reversed in the last few years. Direct public offerings like that used to finance the Huron — always legal, but somewhat cumbersome and costly — have become more common and therefore somewhat easier to do. And recent changes in both state and federal laws have enabled the rise of several dozen intrastate and national crowdfunding investment platforms, which allow investors to browse and select projects to invest in.

What Does Community Capital Stand For?

The conference took stock of these developments and asked, what’s next? In the opening session, Brian Beckon, a lawyer at Cutting Edge Capital, which has helped several community capital projects set up their offerings, gave a rousing talk, posing the question, “What does community capital stand for?”

“It’s not just another source of capital for entrepreneurial projects,” Beckon said, “It is that. But we’re also talking about making systemic change. Our economy was designed by and for wealthy investors. It is designed specifically to concentrate wealth. It’s become common to say the economy is ‘broken’. It’s not broken. It’s doing what it was designed to do extremely effectively.”

“The economy is not broken. It’s doing what it was designed to do extremely effectively.”

In order to change that, he said, we need to shift the whole culture that has developed to support that concentration, a culture that relies on stories and assumptions about how things are supposed to be. Stories like: wealth is a reward for virtue, hard work, and ability. We may not consciously believe that, Beckon said, but it’s so deep in our subconscious that it powerfully shapes our political and economic life. Its corollary: since people who are rich must be knowledgeable and virtuous, “when there’s a problem we need to solve, we want those rich people to come and solve it for us.” And of course, “if you don’t have wealth, you lack virtue, you didn’t work hard enough. If you’re poor, it’s your own damn fault!”

This story also underlies our investment institutions, Beckon said. The 1933 Securities Act, which was designed to protect investors from the kind of fraudulent activity that was believed to have caused the 1929 crash, distinguishes between wealthy (“accredited”) and non-wealthy investors. “If you’re wealthy, you’re presumed to have the ability to protect your own interests.” If not, you’re excluded from most kinds of direct investment in businesses. And of course, at the very heart of our system: if you’re providing capital to an endeavor, you have earned the right to control it. “You’re an owner of the business! Of course you have the right to decide and control. But how quickly that spills over into our civic and political life,” Beckon noted.

Community capital, Beckon said, should aim to directly address and shift this old story, embodying principles like inclusivity, equity, and transformative purpose. Everyone should have the right to fully participate in the community’s economy, as an investor, as a business owner, and have a voice in where the community is heading. Investment raises must be done in ways that are fair and reasonable to all and should reject the idea that those who invest more have earned the right to a higher return. And profit must accrue to all stakeholders in a business, not just the investors. Everything about the surrounding environment — the community, the business’s workers, the local government — contributes to the ability for it to succeed, and so all should benefit.

Arno Hesse and Amy Cortese presenting on the Community Capital 2000

So how is the community capital movement doing in advancing these principles? Arno Hesse and Amy Cortese of Investibulepresented their analysis of some 2000 offerings that have been made over the last few years on several dozen crowdfunding platforms. Of these 2000 offerings, 68 percent were successfully funded, while another 10 percent are still open. The funded raises had a median value of $86,000 from 143 investors. They ranged from $5,000 up to $12 million, and from 1 to 3515 investors.

33 percent of funded businesses were owned by women, and 26 percent by people of color, a stark contrast with the venture capital world, where only 2 percent of funded businesses are women-owned and only 1 percent owned by people of color. Funding rates were actually higher for women and non-white-owned businesses than the average: 82 percent for women and 78 percent for people of color. Hesse and Cortese attributed this success rate to the broader demographics of the investors. “If we want to change who gets funded, we need to change who does the funding,” they concluded.

Moving Towards Funds

Although these crowdfunding platforms have been able to fund a rapidly growing number of projects in the few years they’ve been in operation, they do have a number of limitations, said Janice Shade, co-founder of the Vermont crowdfunding platform Milk Money. They are a lot of work for both the entrepreneurs and the investors involved. Entrepreneurs need to intensively promote their projects in order to achieve funding, so much so that Milk Money is no longer accepting projects from solo entrepreneurs unless they have dedicated — and budgeted for — marketing assistance, said co-founder Louisa Schibli. They simply don’t have enough time to properly promote them while simultaneously doing everything else to grow the business.

As a result, many platforms are running short of active projects. “Crowdfunding can be a great strategy if your market is your community,” said Brian Beckon, but it’s not for everyone. On the investor side, it’s time consuming, too, because of the need to investigate projects one at a time. That might be fine for making a one-off investment in a favorite local brewery or ice cream shop, but it’s probably too cumbersome for most people to develop a sizable diversified portfolio of local investments.

To overcome these limitations, Shade is now working on developing an investment fund for Vermont-based businesses as part of the Initiative for Local Capital. A fund offers some key advantages over the platform-based approach for taking local investing to a larger scale. Fund managers would be responsible for conducting the due diligence on each project, as well as for promoting the fund. Investors would only have to perform their due diligence once, and would automatically get diversification over all the projects in the fund.

Brian Beckon explaining the ins and outs of 1940 Investment Company Act exemptions

Sounds great, but there are some complications. As Brian Beckon explained, investment funds are regulated under the Investment Companies Act of 1940, which defines requirements for businesses whose primary purpose is to invest. Being regulated as a mutual fund under the 1940 Act would impose an insurmountable regulatory burden for any community-scale fund. However, the Act allows for several types of exemptions, so the trick in setting up a community fund is to find an exemption that works for the purposes of the fund.

Charitable loan funds — such as RSF Social Finance, the PVGrows Investment Fund supporting farmers and food entrepreneurs in the Pioneer Valley, and many church extension funds — fall under one such exemption. Other possible fund structures that would qualify for exemptions include real estate-only funds that could, for example, work with community land trusts to acquire properties to be held by the trust, and holding companies that could acquire and manage local businesses whose owners are retiring without a buyer.

Shade is using another exemption structure, a pooled income fund, to construct her fund, because she wants to be able to make a broader spectrum of investments, rather than only loans. She notes that, although loans are the most common community capital investment vehicle, they are not right for all businesses at all times. Early stage businesses may not be able to take on debt before they are earning stable revenue, while later stage businesses run a risk if they take on too much debt relative to their assets. Shade is structuring the Vermont investment fund to be able to offer both debt and equity investments, as well as “in between” options like convertible debt and revenue sharing loans.

Democratizing Capital

Beyond the issues around structuring investment vehicles, there are some tensions within the growing community capital movement. Although crowdfunding platforms and funds often tout that they aim to make investment “open to everyone”, in practice they often have minimum investments of $1000 or even higher, locking out the nearly half of all American households who don’t have nearly that much saved. In sessions on democratic governance of capital, restorative economics, and community capital in communities of color, panelists shared strategies for broadening the reach of investment opportunities, including building investment projects out of existing community networks, where trust and collaborative relationships already exist; focusing on core community needs like food, housing, and energy; and rooting investment projects in intensive community organizing and education efforts.

Eric Horvath, Norman Christopher, Lucas Turner-Owens, Brian Beckon, and Margo Dalal discussing democratic governance of capital

One of the most interesting and innovative projects in this regard is the Boston Ujima Project, which is aiming to create an entire ecosystem of economic transformation in Boston’s lowest income communities. The heart of the Ujima Project is a democratically-governed investment fund that will finance small businesses, real estate, and infrastructure projects in Boston’s working-class communities of color. Inverting the usual return pyramid, the Ujima fund offers the highest rate of return to those who invest the smallest amounts of money. Their investments are secured by donations from faith-based and philanthropic organizations. Impact investors can who can invest larger amounts receive a moderate rate of return.

All decisions about the use of the funds — including a set of 36 Good Business Standards to guide investments and the election of an Investment Committee to conduct due diligence and make recommendations to members — are made by majority vote of Ujima Voting Members only, Boston residents and displaced residents who identify as working class and/or as a person of color. All other investors are Solidarity Members, who can participate in all community activities, but not vote. Surrounding and supporting the fund and its governance are a wide range of community and economic development activities, including financial education, technical assistance for entrepreneurs, a time bank, local currency, policy advocacy, work to mobilize the support of local anchor institutions, and an active arts and cultural program.

Another issue for mobilizing investment in historically under-financed communities is that the costs of conducting pre-investment due diligence is roughly the same regardless of investment size, which can create a barrier for offering the very small investments appropriate to start-up businesses. Especially in low income communities, where the friends-and-family investment most common in the startup phase may be unavailable, access to such small investments can be a primary barrier to business creation. The Detroit Community Wealth Fund (DCWF) and the Center for Community-Based Enterprise (C2BE) described how they use technical assistance to decrease investment risk, essentially paying down the cost of due diligence while simultaneously building capacity in the community.

DCWF — part of the national cooperative fund network organized by the Working World — offers non-extractive loans to cooperatives that are starting or expanding. Unlike most business loans, no collateral or personal guarantees are required, and loans are paid back as a percentage of profit, rather than at a fixed repayment rate. DCWF provides borrowers with technical support to help ensure their businesses succeed, including business development, financial feasibility, accounting and legal services, and coaching to their borrowers. They also offer a multi-week coop academy that startup coop teams can participate in.

“We are reducing our underwriting costs to nearly zero because these are all coops that we are already working with, so we know them very well.”

Terry Lewis of C2BE shared that they were in the process of starting a small loan fund solely for the purpose of helping worker owners pay for their shares in their cooperatives. “We are reducing our underwriting costs to nearly zero because these are all coops that we are already working with, so we know them very well,” she said. Lewis emphasized that pairing grant-funded education and technical assistance with capital investment was a vital strategy for their work. “We can’t fund the underwriting from loan proceeds,” she said. “We never will, but because we do that technical assistance and we do that relationship building, we can give the loans.“

Lucas Turner-Owens, Fund Manager at Boston Ujima Project, similarly shared that nearly forty percent of their budget goes to community education programs. In order to fund that work out of the small margins on the their loans, Turner-Owens said, their fund would need to be nearly twenty times its current size, jeopardizing the ability of the community to democratically manage it. Funding the education, community building, and advocacy work out of grants and donations ensures the effectiveness of their investment work.

I came away from ComCap super-charged with information and enthusiasm for exploring what we can create here in the Hudson Valley to support truly community-driven economic development, and get beyond the Developer Charming model of hoping those virtuous rich people will solve our problems for us. There are a lot of pieces available that we can work with and a number of really inspiring models to study.

Evelyn Wright is a climate economist, energy analyst, meeting facilitator, and longtime cooperative enthusiast. She lives in Kingston, NY.

This article was first published on Commonwealth Hudson Valley.

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