Why have many of the most promising innovations in social finance not been implemented in the practical sense of being issued by a social enterprise as an investment tool or purchased or practiced by a broad set of investors? This article looks at a theoretical hybrid financial instrument to help shed light on persistent market hesitation in the uptake of these social financing mechanisms that intend to bring social entrepreneurs together with investors to advance the impact economy.

FLY Paper: A Bespoke Hybrid Investment Mechanism

In her book, Social Enterprise Law, Brooklyn Law School professor Dana Brakman Reiser proposes Flexible Low Yield (FLY) paper, a form of convertible or contingent debt with features tailored to social enterprises that can help guarantee the long-term social mission. FLY paper gives investors debt with a modest (low) yield and a conversion right into equity triggered in specific circumstances (e.g., if the entrepreneur tries to sell shares). This conversion right aligns incentives by making “selling out” less attractive for entrepreneurs because investors could convert and capture much of the economic upside. The goal is to make the social mission “sticky” during the lifetime of the financial instrument by tying investor returns to the social enterprise’s long-term success rather than short-term profit extraction.

For many impact investors, the challenge is not a lack of innovative tools, but determining which structures are sufficiently credible, scalable, and aligned with real-world market behavior.

There are many advantages to FLY paper that Professor Brakman Reiser and others identify that should serve to help de-risk the uptake by social entrepreneurs and investors. In theory, the mechanism:

• Can be layered onto essentially any hybrid single-entity social enterprise that can issue debt or debt-like instruments (PBC, L3C, CIC, and other emerging forms).
• Provides the certainty of an agreed, flexible, low yield that likely would be treated as debt for tax purposes. It also would incur relatively low taxes or none at all for a tax-exempt investor.
• Has built-in buffers against potential risk associated with investing in early-stage social enterprises. As one commentator writes, “If both the social entrepreneur and the investor remain steadfast in their obligation to both the social mission of the venture and realizing profit, both can advance their financial and social missions without much sacrifice.”

This bespoke investment tool requires careful negotiations within a highly case-specific and mission-specific context. But as Professor Brakman Reiser writes, the complexity of a FLY paper deal should be neither so foreign nor so costly as to turn off sophisticated investors. FLY paper’s unique mix of terms is designed to meet the blended financial and social goals of these investors and lines up well with their capacities and experience.

Appealing to Whom?

At the urban edge, financial innovation becomes visible in the systems that shape everyday life — where partnerships between entrepreneurs and local institutions determine how capital is translated into infrastructure at scale.

The FLY paper financing mechanism could help social entrepreneurs with small to medium sized ventures at relatively early stages identify mission-committed investors and demonstrate to them their own mission commitments. It also could be attractive to patient, mission-committed investors, who are not able or willing to sacrifice principle entirely (different from a convertible or forgivable bond) and who could evaluate and negotiate acceptable terms to balance financial yield and valsocial return. It could be especially attractive to philanthropic foundations as a mechanism to originate PRI loans, or as an investment opportunity in alignment with their MRI endowment considerations.

The goal is to make the social mission “sticky” during the lifetime of the financial instrument.

Even if it never evolves beyond a rarified context, FLY paper and other bespoke financial instruments can have a significant impact as testing grounds to catalyze the growth of social enterprise ventures that are hungry for capital investment. They can adopt and adapt these mechanisms without any limiting dependence on social enterprise law, the success of any specific hybrid form, or any government intervention.

Challenges but a Valuable Additional Tool

The FLY paper tool faces some of the same persistent uptake challenges as other innovative financing mechanisms:

• Complexity and novelty. FLY paper is more elaborate than most retail debt or equity financial products and it lacks a template or standard form that capital markets recognize or can easily put into practice.
• Cost and sophistication. Crafting and negotiating custom FLY instruments may be costly and require legal expertise that smaller social enterprises and investors don’t have. As professor Brakman Reiser notes, the costs associated with designing a FLY Paper investment might “swamp the deal size” and “transaction costs could be a barrier to entry.”
• Limited investor demand. Investors would need confidence in both FLY paper structure and in the mission of the enterprise. Without such a track record of implementation success, this confidence is hard to build.

When embraced by social entrepreneurs and mission investors savvy to the demands of financial markets, FLY paper could evolve from a bespoke context-specific instrument for high net worth and institutional investors into a branded workable template, appealing to debt crowdfunding or peer-to-peer platforms such as funding circles and lending clubs. It could serve as a reliable signal of commitment to mission, evaluated and endorsed by third-party certifiers such as B Lab. And possibly, it could find its way to scale as an accessible and democratic retail impact product – a securitized tradable pooled debt mechanism.

FLY paper is a valuable addition to the range of other mission-aligned financial tools, whether theoretical or practical, that are evolving with streamlined, standardized forms to align more closely with what mainstream finance and investors know and understand. The same focus on financial innovation apparent in these mechanisms needs to drive the push for their uptake, with clarity about financial, fiduciary and reputational risk and social return, to help change the narrative for the impact economy.