Last fall the UK’s International Development Working Group examined the impact investment landscape and concluded, “Impact investing has the potential to reach the world’s poor and improve people’s lives,” but “this type of investment is not being adequately used.” Why not? One reason is that investors have a hard time cutting through the noise to find enterprises that demonstrate both social impact and a business-like approach.

The report drew attention to opportunities for impact investing in base-of-the-pyramid (BOP) markets, commonly defined as the estimated four billion people facing low-income, subsistence living and extreme poverty worldwide. An earlier study forecasted that this market could absorb up to $1 trillion in invested capital. Despite the massive market size and potential for investment, BOP customers face a dearth of critical services in health care, clean energy, water, education, and financial services.

One way to address this market is with enterprises that employ “cross-subsidy” business models, defined broadly as business models in which support for one product or service comes from revenues generated from another product or service. This is not a new concept; enterprises with cross-subsidy models have succeeded in mature and developing economies alike. But a new spate of BOP-focused businesses are emerging with innovative models for financing subsidies, including revenues from differential pricing. These models may rely on one of many pricing structures, including:

  • Offer the same product to all customers, with differential pricing based on customer type or general ability to pay. Within development, Aravind Eye Hospital is perhaps the most widely recognized example of a cross-subsidy model that offers the same product—in this case, eye surgery and eye health services—to all customers, with payment based on income.
  • Offer a higher-priced upgraded product to cover the cost of providing discounted or free products. In the energy space, d.light is a social enterprise that offers upgraded products (solar-powered lights and power systems) to subsidize more basic products for BOP consumers.
  • Offer entirely different products and rely on one product to subsidize the other. This approach includes hybrid social enterprises, such as technology hubs in developing economies that offer for-profit tech services to subsidize activities such as providing free workspace to entrepreneurs.

Despite examples of this promising approach, impact investors face many challenges in identifying sustainable and scalable enterprises with proven BOP-focused cross-subsidy models. As a recent Global Impact Investment Network (GIIN) webinar on cross-subsidy models for the BOP highlighted, these enterprises face a dual risk of both business and social model failure.

The Aga Khan Development Network (AKDN), which consists of nonprofit and for-profit agencies focused on poverty solutions and improving opportunities in Africa and Asia, has long employed cross-subsidy models. Hybrid financing structures like cross-subsidy models are integral to our approach, with revenue from for-profit enterprises such as telecommunications and hotel chains directed to support programs that improve quality of life for impoverished communities.

In 2011, the Aga Khan Foundation’s office in the United States (AKF USA) began an impact-investing program to leverage innovative financing to achieve social and economic impacts. Like many impact investors, we struggle with the perceived trade-off between impact and financial returns. We recognize that balancing these returns is heavily influenced by the structure of the deal, and take great care to identify investees with strong subsidy models and structure deals in a way that supports an enterprise’s ability to grow its social impact. When analyzing subsidy integrity, AKF USA looks at core indicators beyond monetary value. Is the subsidy integrated in the enterprise model and designed to improve access for BOP customers? Is it sustainable for the life of the investment?

An example of a successful cross-subsidization model within the AKDN is the Aga Khan University Hospital (AKUH), a nonprofit private teaching hospital that has offered high-quality health care services to BOP consumers in Pakistan since 1985. The hospital’s mission is two-fold: 1) provide high-quality health care that is means-blind and open to all regardless of ability to pay, and 2) foster leadership in education, research, and workforce training that improves wider access to quality care. At the same time, the hospital generates substantial income through offering private facilities to patients willing to pay a premium, and applies the revenue from these services to subsidize care for poor patients and its academic programs. The hospital’s fundamental commitment to accessible health care services is clear: It has provided $54 million in patient welfare support to more than 450,000 indigent patients and has subsidized generations of university students with scholarships who receive much-needed health care training.


The Aga Khan University Hospital in Karachi serves 600,000 people per year; more than 70 percent come from low- and middle-income backgrounds, many with assistance from the hospital’s patient welfare program. (Photo by Gary Otte, courtesy of AKDN)

In 2013, the Overseas Private Investment Corporation (OPIC) provided a $30 million loan, alongside $7.5 million in debt from AKF USA as project sponsor, to support an expansion at AKUH. (The loans are part of a larger $99 million financing package that includes a $16 million loan from Agence Francaise de Développement and millions in donations.) This long-term, low-cost financing is allowing the hospital to, among other things, build a new ambulatory care facility and private wing, add critical-care beds, and establish a state-of-the-art Center for Innovation in Medical Education.

It was clear that the AKUH cross subsidy was integral to its enterprise model and significantly improved access for BOP customers, yet a concern when structuring the loan was: Could the subsidy endure if the hospital had to redirect revenues to loan repayments? In other words, might the deal jeopardize the very BOP model that made it attractive?

To mitigate subsidy sustainability risk, the financing was structured to invest in revenue-generating assets—in this case, a facilities expansion—that enable the hospital to serve more patients who can pay a premium. That in turn allows AKUH to expand subsidies for low-income patients and provide additional scholarships. Importantly, the willingness of OPIC and AKF USA to accept a deal-appropriate rate of return for the hospital’s capital-intensive project further enables the patient welfare program to grow over the period of the loan.

“The AKUH business model was developed with inclusiveness in mind,” notes Elizabeth Littlefield, OPIC’s president and CEO, “and it has strived to provide quality health care to all strata of patients in Pakistan. Its business model serves as an example for impact investment projects in other sectors—financial viability and social responsibility are not mutually exclusive.”

A benefit of the AKUH deal was that OPIC and AKF USA were lending to an enterprise with a mature model, and were thus less vulnerable to risks of business and social model failure. However, not all investors have the luxuries of investing in mature enterprises or flexible financing structures (many impact investors are accountable to their own investors). What’s more, BOP-focused cross-subsidy models face unique challenges involving customer willingness and ability to pay, scalability, and infrastructure and regulatory barriers. As we consider new investment models, we want to explore how other investors ensure that their investees with similar target markets and business models sustain social impact.

One approach that enterprises sometimes employ is to invite foundations and development finance institutions to provide grants to expand services to BOP markets. Pamir Energy, a company formed by the AKDN and its partners that addresses gaps in Tajikistan’s electrical infrastructure, operates a subsidy funded predominantly by donor governments to build power lines that reach some of the most remote places on Earth. Donor grant subsidies allowed Pamir Energy to construct hundreds of kilometers of transmission lines—which would have been prohibitively expensive otherwise—providing power to 30,000 Afghans who never before had access to electricity. In this case, grants ensured that the company met social impact targets for the BOP while focusing on profitability.

Another option is to include explicit social impact targets in the financing documents. That’s the practice of the Deutsche Bank Global Social Finance Group’s Eye Fund I, which is dedicated to lending to enterprises that employ the Aravind Eye Hospital cross-subsidy model. The fund codifies the expected BOP impact in all financing documents with borrowers and includes in its reports social metrics such as share of subsidized surgeries.

Ben Midberry, assistant vice president of Deutsche Bank’s Global Social Finance Group, explains, “To ensure fidelity of the organization to the mission, we put in place what we call ‘social covenants,’ which require certain volumes, in absolute terms and in volumes of growth, for subsidized treatment to lower-income patients.” This way, the fund ensures that borrowers can keep an eye on their social impact while generating returns that are attractive to a range of impact and fiduciary investors.

Similarly, funds can incentivize investment managers to keep a laser focus on social returns. The Africa Health Fund, managed by the Abraaj Group and designed to invest in businesses that target the BOP, assesses social impact along with management performance in its compensation structure. For example, as one GIIN brief notes, performance indicators include the number of BOP clients served by companies in the fund—a measure that directly impacts the fund managers’ earnings.

Impact investors now have various ways to ensure that investing in enterprises with cross-subsidy, BOP models creates social benefit: They can provide low-cost capital, incorporate grants into the financing structure, add social covenants to financial documents, and align investment managers’ compensation to social returns.

It continues to be a challenge for impact investors to maintain accountability when investees achieve their financial targets but fall short on social impact. As we find more ways to nurture a sense of accountability within our investment portfolio, we see this as an opportunity to collaborate and share ideas with peers. We would love to hear from others about their experiences and solutions.