This article is written by Aditya Baheti pursuing LLB from Campus Law Centre, University of Delhi and the article has been edited by Khushi Sharma (Trainee Associate, Blog iPleaders).
Table of Contents
Background
The Hon’ble Finance Minister announced as part of the Budget Speech for F.Y. 2019-20 that initiative to set up a social stock exchange (SSE) under the Securities Board of India (SEBI) for social enterprises (SE) working for social welfare to facilitate adequate fundraising for such enterprises. The SEBI constituted Working Group (WG) and Technical Group (TG) have published their reports on the working feasibility and framework required for SSE.
Need for the SSE
Last two year has left humankind with no better safeguard than a collective show of strength to meet the challenges posed by the pandemic. In India, the case has not been any different. Since the outbreak of Covid-19 especially the intensity second wave has put the social sector under cumbersome pressure. The need for SSE is felt more than ever before especially in the light of following factors:
COVID Pushed shortage
So far in FY21, the fund collection for non-government organization (NGOs) has declined by 43% from the previous year. Unrestricted funds or donations that are not attached to a specific initiative and can be used for any purpose has plummeted 63% in the same period.
It is interesting to note that one inadvertent reason which has pushed for such a shortage is the PM CARES fund under which any donation is fully exempted under 80G of the income tax Act. Another ad hoc reason that has arisen out of Covid-19 is the shortage in CSR funding. As 30-50% of the total funding of NGOs is CSR and almost half of such funding comes in March and due to Covid-19 companies contributing major CSR funding have diverted more than half of their total budget toward covid-19 relief purposes and lockdown in the usual period of receipt of funding has disrupted that process.
Large Social Spending
According to the Indian Philanthropy Report, for the fiscal year 2021, private-sector funding totaled about INR 64,000 crore, close to 23% more than in the fiscal year 2019 (INR 52,000 crore).
Despite this growth in funding, the social Sector remains underserved. Compared with other BRICS countries, India underspends on the social sector—reflected in its relatively poor ranking (117th) in the Sustainable Development Report. According to the Niti Aayog VNR report, India additionally needs 6.2% of GDP expenditure to meet the demands of the social sector by 2030. The report estimates that the annual demand for the social sector funding would be at 21.2 lakh crore by 2025. Given this gap and the pandemic induced setback to the social sector, India will continue to face a significant annual funding deficit in the near term if a systematic approach is not given to bridge these gaps.
Change of outlook:
A report on social enterprises in India by the British Council pointed out that-
“Younger social enterprises are becoming increasingly interested in repayable finance as a method to grow their business. And are also accessing diverse non-traditional sources of finance.”
This shows that is growing popularity of the private limited structure over NGO registration as having greater autonomy over how they use their profits/ surplus. The number of social enterprises registering themselves as NGOs is 23% or Section 8 co. is 3 % in comparison to 58% opting to register their social enterprise as of private Co. and WG report by recommending a standard form of reporting for both NGO and FPE on use of funds, approach and impact created by them have endeavored to overcome reporting or disclosure bias if any with respect to a specific legal structure.
Restriction under current framework
The existing dispensation of funding for the social sector provides diverse avenues of fundraising. However what lacks is the availability of a common platform and uniformity in reporting the utilization and impact created by social enterprises which pales the transparency in the system and also results in inadequate availability of information even to investors which has also been observed by the working group. Therefore, SSE is an institutional attempt to overcome these barriers.
Impact of Social Enterprises
A broad estimate indicates that there are as many as 2 million social enterprises working for the improvement of socially, economically or physically weakened class and other deprived classes especially women which constitute be one of the major group of beneficiaries reached by these social enterprises as per a survey by a British council.
In terms of employment, particularly by COVID-19, unemployment has reached 12.4% and 11.2% in urban and rural areas, respectively. And in the survey by British Council, 62% of the surveyed social enterprises have stated that the creation of employment is their primary goal.
On the gender equality aspect, 25% of these enterprises have been led by females, higher than the average of 8.9% in mainstream enterprises having a female top manager. Yet their contribution is not fully acknowledged as 86% of the social enterprises surveyed stated that access to finance was one of the major constraints faced by them which is only 15% in mainstream enterprises. Some usual constraints are lack of funding, access to investors, limited supply of capital, so on and so forth.
Meaning
A Social stock exchange is a platform to list securities and raise funds by social enterprises that are engaged in creating a positive social impact. An exchange like this would help not only such enterprises looking for funds but also sociable investors who look for bonafide entities engaged in social sectors. It would be a separate segment under the existing Indian stock exchanges, although unlike conventional stock exchanges, SSE has a deeper purpose which should be reflected in their governance, design and operations.
Benefits
The raison, d’être of SSE is to increase funds available to the social sector by enabling diverse avenues of funding to social enterprises and reducing their over-dependence on impromptu sources like grants and donations which are primarily based on the discretion of limited investors. As per the said report, 33% of the social enterprises said that they faced a lack of access to investors because of limited networks.
As noted by India philanthropic report 2021 SSE would help in the availability of large-scale social spending needed in India which is currently underspending and running on a deficit.
On the procedural side, an SSE that mandating compulsory reporting of impact created by social enterprises to assess the platform would help in better disclosure of fundraised, utilized and thereby impact created. This will go a long way in establishing trust among various stakeholders like investors, the government and other interested parties.
Social Enterprises
SEBI reports define social enterprises as a select class or category of enterprises that are engaged in the business of “creating positive social impact” which is further classified into not-for-profit organisations (NPO) like trust society or for-profit enterprises (FPE) like a private company, partnership etc. This categorization is required because the category as a whole includes entities that differ significantly in terms of their legal structure, existing regulatory structure, and other factors. Furthermore, allowing both NPO and FPE to feature would aid in achieving the scale and demand required for SSE to remain financially viable.
Process of assessing SSE
Measuring Social Impact:
“For us it’s about putting the principles of fairness and decency before profits” – Jen woodgate (social entrepreneur Cuddle + Kind)
As such SSE would allow its platform to raise funds only by those social enterprises which have created and reported social impact. Therefore, measurement of the social impact is inevitable. However, quantifying social impact has always been found to have some inherent setbacks.
In the words of Professor Alnoor Ebrahim notes, as an example, “delivering emergency relief and basic services in sanitation, water, and housing is easier to measure than impact on public policy or on good governance, freedom, and rights or societal transformation such as improving human rights or democratic conditions”.
In such cases, the best possible test is what an organization is doing and whether its strategies are working to influence societal change. And while measuring such impact the approach should be from the perspective of actual impact created on the target segment rather than mere reporting of corporate behaviour.
Eligible Social Enterprises
Technical group advocates in its report that to qualify as a social enterprise, the entities whether NPO or FPE has to demonstrate primacy of social impact. SSE is an institutional approach and to ensure its viability as a platform it is inevitable to provide an exploration of the platform only to bonafide social enterprise prioritizing societal need rather than mere profits.
The report has listed out the social enterprise need to be predominantly engaged in the activities provided as eligible activities to ensure their qualification. The scope of activities allowed has been premised on the same footing as of Schedule VII of the companies Act and Sustainable development goals which includes poverty health climate sports so on. Social enterprises can either deliver products or services or work on research, policy analysis and development, promote awareness building, governance, or work on capacity building.
Eligible Activities
A broad view of the list:
- Promote sports like Olympics.
- Strengthen Non-Profit Ecosystem.
- Promoting livelihoods for rural and urban poor.
- issues of misinformation and data protection.
- Promoting welfare of migrants and displaced persons.
- Bridging the digital divide like in internet access.
- Access to land and property for disadvantaged communities.
- Promotion of financial inclusion.
- Slum area development, affordable housing, sustainable cities.
- Disaster management activities.
- Supporting incubators of social enterprises.
- Eradicating hunger, poverty and inequality.
- Environmental sustainability, forest and wildlife conservation.
- Protection of national heritage, art and culture.
- Promotion of education and employability.
- Promoting gender equality, empowerment of women and LGBTQIA + communities.
Ineligible Activities
The TG clearly recommended keeping political or religious activities outside the ambit of eligible activities to ensure that the very object of social enterprises remains social.
Certain organisations are also restricted from assessing the SSE even if they demonstrate the primacy of social impact. The first one is corporate foundations that are primarily funded by a parent corporate entity or group of corporate entities because these foundations have strong financial backing from their parent company and are usually formed to fulfil the social commitments of their parent company.
Political or religious organisations and Professional or trade associations are also restricted. As the central object of SSE remains the availability of funds to social enterprises which are mainly concerned with their social target, organisations engaging for instance in a trade that has profited as their primary objective goes contrary to the very object of the SSE. However, it has to be noted that social enterprises are not restricted from engaging in the trade as a part of their social objective or incidental to it.
Infrastructure companies and housing companies other than affordable housing companies are also not allowed to offer securities on SSE. Affordable housing is part of eligible activities and companies engaged in it are recommended to be kept within entities that are eligible to assess the social stock exchange if it fulfils the criteria of the primacy of the social impact.
Target
The next element for social enterprises to qualify as eligible social enterprises for SSE is its target population, segment or region. Social enterprises shall target population, segment or region that are underserved or less privileged or that have recorded lower performance in the development priorities of national or state government under eligible activities.
The predominance of Eligible Activity :Finally, to be qualified as an eligible social enterprise, the technical committee has advocated a filter by setting a minimum engagement limit for intended social enterprises in the eligible activities to access SSE.
The social enterprise shall have a minimum of 67% of its total activities qualifying as eligible activities to the target population.
This is to be established through one or more of the following :a) Revenue b) Expenditure C) Customer Base. 
b) Expenditure – At least 67% of the immediately preceding 3-year average of the SE’s expenditure has been incurred for providing the eligible activities to members of the target population.
c) Customer base– Members of the target population to whom the eligible activities have been provided constitute at least 67% of the immediately preceding 3-year average of the SE’s customer base/beneficiaries.
The inevitable result of such a filter would be the availability of the platform to only bonafide social enterprises predominantly engaged in eligible activities resulting in better social fulfilment to investors and thereby society at large.
Declaration of Primacy of Social Impact
Once a company has fulfilled the mandatory eligibility criteria it has to submit a declaration of the same in the prescribed form.
Framework for listing
Considering the nature of both NPO and FPE is different the technical group recommended a different procedure for both. However, eligibility criteria remain the same for both.
Listing Process for NPO
Registration
The requirement to demonstrate that it is qualified to be an eligible social enterprise under the framework applies to all social enterprises. However, only NPOs as social enterprises are required to register on any of the SSE, regardless of whether they choose to list their securities or not. FPEs can, however, go straight for listing if they are companies registered under the Companies Act and comply with the requirements under SEBI regulations.
Registration for eligible NPOs would serve multifold ends. The technical group pointed out that since NPOs differ in their legal structure and the laws or bodies governing them. Therefore, registration would help in taking the diverse nature of NGOs to a common stage. In addition, it would also help to develop a sense of discipline which is required to raise money through the public on an institutional platform. Even without listing registration would signal the primacy of social impact and the quality of their governance and transparency. For registration the TG has recommended these mandatory requirements:
A. Legal Requirements
The Entity should be :
- An NPO is legally incorporated as (charitable trust, society, or corporation under Section 8).
- Be governed by (MoA & AoA/ Trust Deed/ Bye-laws/ Constitution) & be transparent about whether it is government or privately owned and/or controlled.
- Having a registration certificate under 12A/12AA/12AB of Income Tax valid for a minimum of next 12 months and does not have any notice or ongoing scrutiny by income tax authorities regarding any condition of tax exemption under 12A/12AA/12B.
- And must have a valid IT PAN, a Registration Certificate of a minimum 3 years of its existence and 80G registration under Income Tax.
B. Minimum Fund Flows
In order to ensure that the NPO wishing to register has a sufficient track record of operations, the following have been recommended-
- In the last financial year, receipts or payments from audited accounts or Fund Flow Statements must be at least Rs. 50 lakhs.
- The receipts from audited accounts/the fund flow statement for the last financial year should stand at least at Rs. 10 lakhs.
Listing
- Only those NPOs that have met the eligibility criteria in terms of social impact and has submitted its audited financial statements for the previous three years, as well as social impact statements in the format prescribed, can issue offer document.
- The offer document to issue securities at SSE shall comprise a list of various heads called the ‘differentiators’ like vision, target, segment, management, finance and others which shall help the potential investors to make a comparative assessment of the soundness of similar NPOs being listed and form a well-informed investment decision.
A list of such differentiators as provided in the report of the TG are:
The TG, by pointing out these differentiators clearly specified a need for a higher threshold for social enterprises to channelize the social stock exchange as a route of funds in comparison to other available sources like CSR or individual donation.
Moreover, the NPOs are required to include more detailed information about the track record and impact created on the target segment in the listing document for program-specific and project-specific listings.
Type of Securities Available :Modes available to NPOs for fundraising shall be Equity (Section 8 Co’s.), Zero Coupon Zero Principal (ZCZP) bonds, Social Impact Fund (SIF), Development Impact Bonds (DIB), and funding by investors through Mutual Funds.
Listing Process for FPO
Eligible FPE, shall require to fulfil the existing regulatory guidelines under various SEBI Regulations for listing securities such as equity, debt in addition to the differentiators recommended by the technical group.
Further, FPEs have been granted an option to list their securities on the appropriate existing boards and the extent of regulation to be followed shall also depend upon the chosen board. Thus, the issuer can list the debt securities on the main-boards, while equity securities can be listed on the main boards, or on the SME or IGP depending on their discretion.
Type of Securities Available :FPE may choose any type of instrument that SSE allows depending upon its structure and needs. FPEs have already popular instruments in form of equity and debt or specialized instrument like Social Impact Funds.
Post Listing Disclosures
Transparency in the affairs of an entity is one of the core pillars of governance. Taking it especially in the context of SSE where investors are induced by the objective of social fulfilment rather than any financial benefit, it is essential for the success of the SSE and securities to be listed on it to have strong, fair and impartial disclosure practices which ensure robust transparency. The working group report also observed this while recommending disclosure requirements.
Looking at the advantageous functions performed by such disclosure it has been recommended for all social enterprises.
NPO
Both types of NPOs whether listed or even registered but not listed its securities need to comply with a minimum set of disclosure required to remain listed.
Disclosures
General :Vision, mission, activities, and scale of operations.
Governance :Legal form, board and management, org-level risks and mitigation, related party transactions and other ethical concerns, remuneration policies, stakeholder redressal, compliance, and certifications.
Financial :Balance sheet, income statement and cash statement, program-wise fund utilisation for the year, auditor’s report and auditor details.
A balance sheet, an income statement, a cash statement, funds utilised program-wise for the year, and an audit report.
Material Event
NPOs shall report within 07 days of any event that might have a material impact on the planned achievement of their outputs or outcomes, to the exchange on which they are registered/listed. Some examples pointed out in the report are events like exit of key executives, disturbances in the implementation locations, regulatory restriction and so on. The analogy of this disclosure can be drawn to Regulation 30 of SEBI (LODR) 2015 which mandates a listed entity to notify promptly all material events or information to stock exchange(s) and not later than twenty-four hours following the occurrence of event or information.
FPE
FPE’s having listed equity/debt will comply with the disclosure requirements as per the application segment such as main-board, SME, IGP etc.
FPE’s with listed equity/debt shall comply with the applicable segment’s disclosure criteria, such as main-board, SME, IGP, and so on.
It is specified in the report that any social enterprise either NPO or FPE whose Total Post Issued Share Capital is More than 25 Cr. shall follow the Indian Accounting Standard issued under Section 133 of the Companies Act 2013 and other remaining SE shall follow the Accounting Standard issued by ICAI.
Social Impact Report
As the working group cleared that it is not only on the basis of technical compliance that a social enterprise would be eligible to explore SSE or remain to continue to be on SSE but it has to be in the true spirit and to take this consideration to its logical end, the technical group has advocated a disclosure in form of social impact report once their security has listed or even registered in case of NPO.
To put in the words of TG, the report is to capture the qualitative and quantitative aspects of the social impact generated by the entity, and where applicable, the impact generated by the project or solution the security is meant to fund . In other words, this report would highlight the problems existed, the solution which the instrument or the security intended to fund the challenges, approach adopted in meeting the challenges and as a consequence the impact resulted in the target segment.
Summarization of post-disclosure requirement:
| PARTICULARS | APPLICABILITY | TIMELINE | |
| General Governance and Financial | NPO | Annually | |
| Material Event Reporting | NPO | Within 7 days of the event | |
| Social Impact Report | Both NPO & FPE | Annually |
It has to be noted that FPE shall make disclosures as per requirements of the application segment such as main-board, SME and IGP, etc.
All information given as part of the pre-listing and post-listing procedures must be displayed on the social enterprise’s website.
Critical Areas for Success
Only three (Canada, Jamaica, Singapore) out of seven (Brazil, Portugal, South Africa, UK) SSEs that were set up across the world are still active and a study shows that one of the common yet significant reasons for their close down is the absence of a viable revenue model for SSE. It has been observed that due to lack of scale and demand the platform fails to generate enough income to cover its costs.
A review of already existing SSE shows that projects which are more visible and lend themselves to revenue stream are more popular, like environment, healthcare than the care of elderly, gender-based violence. Therefore SSEs need to be encouraged to make their project or cause more visible and to adopt a model which their project can streamline with revenue sources.
The Minimum taxation approach and compliance burden on investors would be inevitable for the success of SSE not only in India but also have been seen in other existing SSEs. The WG report has reiterated it by advocating for suitable tax relief to SEs, investors and SSE.
Organisations listed on SSEs are relatively large. At least this has been the case as shown in a study. For instance, a median revenue of USD 8.2 million was recorded by 25 of the 36 for-profits listed on the UK SSE that released annual revenue statistics. The three individual social enterprises listed on Canadian SSE reported median annual revenue of around USD 4.7 million. These numbers don’t highlight very optimistic bets on the wide feasibility of SSE for maximum social enterprises in India. Therefore, an inference could be drawn that reaching scale is amongst the most important challenges for SSE.
Conclusion
Even though SSE is more than a decade old as a subject internationally, in India it is still at a nascent stage. Past record of underspending in the social sector and compounding by Covid-19 makes persistent flow of capital inescapable. And SSE being institutional approach would help in giving a systematic and large-scale solution to it. However, its success would still be largely determined by the scale and awareness it reaches.
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