What are social costs?

Social costs are any cost incurred by a social enterprise above and beyond ordinary business costs in order to fulfill its mission. In social enterprises with an employment mission, these costs are often related to providing the extra training, supervision, and support that enable individuals with significant barriers to employment to become successful employees.

On the other hand, social costs are not:

• General inefficiencies – some inefficiency is inherent in all businesses
• All training costs – most businesses require some training
• General overhead
• Revenue opportunity costs (i.e. potential revenue lost due to mission)

Whatever the specific social mission is, incurring social costs is not an accidental matter; it is a by-product of doing social mission work. Social enterprises are set up to accomplish special tasks and those tasks generally cost extra money. There are numerous costs to running a social enterprise that can be attributed directly to the sponsoring organization’s social mission or the social mission of the business. Many of these are found within the business itself. Examples of the social cost often carried by a social enterprise are:

• a lower level of productivity among employees
• increased materials wastage
• time spent addressing employees’ personal issues,
• employee time spent with job counselors
• employee time spent involved in support groups or other support activities
• higher insurance rates that may need to be paid for certain types of employees
• additional management and supervisory costs of managing such an enterprise
• increased employee turnover

The specific social costs incurred will vary with each organization and business depending upon the actual social mission of the parent nonprofit and other factors. Additional costs can be traced more directly to the training many employees need before they can start working at all.

Still other costs stem from the interaction of the business staff and the parent nonprofit staff:

• meetings to coordinate services and policies
• presentations by the business managers to the nonprofit board
• fundraising done by nonprofit staff for the benefit of the business
• tours and site visits which take the manager away from the day-to-day responsibilities of operating the business

Identifying all of these additional social or mission-related costs is no small task, and depends on how the nonprofit interacts with the enterprise, and how the relationship between the two is structured.

 

Identifying Social Costs

Distinguishing social costs from regular business costs is not always easy, and generally requires experienced judgment and periodic updating. We advise thinking of it in this way: “If a cost would be incurred by a similar for-profit business, consider it a regular business cost; if a cost is incurred for activities that are needed in order to accomplish a social mission, consider it a social cost.” REDF has helped social enterprises estimate their social costs with a variety of approaches. Some have used industry benchmarks together with observations of their own workforce to estimate which of their costs are regular business costs and which are social costs. Some have conducted snapshot time studies to answer questions like “how much time does it actually take employees to accomplish specific tasks?” Some have brought in third-party experts to help make estimates. Like most analysis of financial information, a balance needs to be struck between the level of detail and accuracy, the amount of effort it takes to perform the analysis, and the value it brings to managers.

 

Why Do We Care?

Why do we care whether a cost is a social cost? In our work with social enterprise, REDF often hears “we just want to know if our total revenues cover our total costs; figuring out what the enterprise’s social costs are isn’t going to change what the enterprise’s total costs are.” We agree that an analysis of costs won’t in itself change the costs, of course. But it’s usually necessary to dissect an enterprise’s total revenues to know more about what the business dynamics are and what options are available. Similarly, more in depth analysis of costs is part of figuring out the puzzle of how to make a business work. An analysis of social costs adds valuable information to categories like “manufacturing costs” or “production costs” in giving managers input for making decisions and directing strategy. No one would advise running a manufacturing company without knowing which costs are generated by the company’s manufacturing activity. Similarly, no one should expect to run a social mission enterprise without assessing which costs are generated by its social mission activity. This information can be used to raise funds targeting the social costs or to guide any cost control measures implemented.

 

Is doing the analysis worth the work?

Although the analysis required for estimating social costs takes some time initially, the time spent on it can pay off.

In several cases, the social costs of a nonprofit-run enterprise were being absorbed by its parent agency and didn’t show up as enterprise costs. Until this was rectified, agency and enterprise managers didn’t know the true costs of their enterprise. They thought it was more profitable than it was, and did not understand why their agency overhead costs had increased. In one food service business, an analysis of costs showed higher food wastage costs than industry experts considered “normal”. Further investigation revealed that though good controls had been put in place, the extra waste was unavoidable as long as the enterprise continued its on-the-job training and transitional employment strategies. Agency leaders assessed the financial implications and decided to accept these additional “social costs” as a standing, predictable cost of implementing their social mission strategy. The enterprise’s manager was able to plan for the part of wastage costs that would be unavoidable. Upper management was able to gauge the enterprise’s financial and social mission success more accurately. Although the bottom line profit was not changed, management knew more about what its financial performance/social mission trade-offs were, and could plan accordingly.

In some nonprofits an analysis has helped management decide which parts of an enterprise to expand or contract. In others, having a credible estimate of social costs has helped managers with goal setting and budgeting, enabling them to sort out and compare costs to commercial industry standards.

Whether you’re a social enterprise newcomer or a social enterprise old-timer, estimating social costs is good practice.