As a lender to the kind of middle-market companies that employ vast swaths of the country’s skilled workers, Lafayette Square discounts its interest rate for borrowers that demonstrate they understand the value of such employees.
Lafayette Square offers such borrowers a package of “workforce solutions” to help low- and moderate-income workers save for retirement, access health benefits, reduce their families’ financial insecurity and increase their economic mobility.
“It makes sense that we would provide an economic reward for something that gives us a better chance of getting our money back,” Damien Dwin, founder of the impact-focused investment management platform, told me on ImpactAlpha’s latest Agents of Impact podcast.
The financial incentives are part of Lafayette Square’s toolkit for providing private credit to middle market manufacturing, wholesale, franchising, transportation, construction, health care and other businesses primarily located in low to moderate income census tracts.
Geographic spread
Dwin launched Lafayette Square in 2020 with a $100 million equity investment from Morgan Stanley. He had launched and built Brightwood Capital Advisors, which now manages nearly $6 billion, after building Credit Suisse’s North American special opportunities business and a career as a trader at Goldman Sachs.
Dwin saw an opportunity as bank consolidation meant middle-market businesses – the 240,000 businesses with revenues of between $10 million and $1 billion – had fewer commercial lenders to turn to for growth and operating capital. Such companies employ more than 50 million people and generate more than a third of the nation’s GDP.
“We know that labor and geography are two critically overlooked areas in our current system,” Dwin told me.
Private lenders that have moved into the market gap tend to favor large companies on the coasts. As much as 80% of private credit flows to high-income zip codes; at least half goes to just five states – California, Texas, Florida, New York and Illinois.
Lafayette Square has built a data analytics platform, Potomac X to “inform risk decisions based on localized data sets regarding socioeconomic indicators.” Lafayette Square is spreading its capital, aiming to provide at least 5% of its capital in each of 10 regions, targeting specifically low- and moderate income tracts as well as “empowerment” or “opportunity” zones or redevelopment areas. The firm made 14 new investments last year to bring its total to 19, with about $270 million in capital deployed.
The firm, which has 55 employees around the US, has a 2030 goal to create 100,000 working class jobs, out of 150,000 total and invest half of its capital in working class areas.
“We think it’s a more balanced, geographically diverse approach to investing, where we center working-class places and businesses that employ working-class people,” Dwin says, “because we can get paid, and because we see really interesting job creation and economic mobility opportunities by making credit available in those places.”
Worker solutions
The linchpin of the strategy is Lafayette Square’s Worker Solutions unit, which has full-time staffers helping portfolio companies reduce turnover and increase adoption of health care and retirement benefits. The toolkit includes zero-percent emergency loans, using rental payments to build credit scores, and coaching to increase savings and reduce debt.
“Those things are priorities for business owners, who are struggling to keep workers in their seats in this inflationary economy,” Dwin says. “Wages are not enough to motivate workers in America today. They’re looking for the total package, and that includes job training, an appropriate health care plan and an appropriate retirement-benefit plan, particularly for the lower wage workers.”
At least four of Lafayette Squares’ portfolio companies have taken advantage of the interest-rate stepdown by adopting a half-dozen services and policy changes, saving between $13,500 and $42,000, according to Lafayette Square’s 10-K filed with the SEC. Overall, Lafayette Square companies have higher turnover and lower participation in retirement and health benefits than the national average.
Lafayette Square has additional financial incentives for driving adoption of such benefits. At least until recently, its subscription-based credit facility with Sumitomo Mitsui Banking Corp. provided for interest-rate reductions if Lafayette Square’s loans advanced its 2030 goals. “We intend to negotiate similar discounts on future financing arrangements based upon the amount of capital we deploy that meets certain defined impact criteria,” the company said in its filing.
Another contrast with other lenders is Lafayette Square’s embrace of the public-interest components of laws such as the Small Business Investment Act of 1958, the Community Reinvestment Act of 1977, the Small Business Investment Incentive Act of 1980, the Investment Company Act of 1940 and the SECURE 2.0 Act of 2022.
“We believe you should run toward Washington, not away from Washington. We believe you should run toward public policy, not away from public policy,” Dwin said. “We believe you should run toward regulation, not away. Particularly when talking about extending credit to small medium sized businesses, where you are enjoying regulatory inducement, regulatory advantage.
“That largesse should not be monetized by the private sector without some sense of responsibility, some sense of purpose, some sense of place in the broader capitalist system.”
Dwin said Lafayette Square’s biggest impact would be for its success to attract competitors angling to take advantage of the same opportunity.
“Wouldn’t it be amazing if we had competitive dynamics and competitive juices flowing to the point that there was a food fight to get capital into working-class places and to businesses that employ working class people?” he said.
“We are betting on America. This is a pro-America agenda. And we need as many people with money and power and resources as possible to adopt this approach and get capital into these places into these people.”
