by Susan Lyon
The buzzword ‘impact investing’ is on the tip of everyone’s tongues. More than ever, investors and entrepreneurs are placing their bets on for-profit enterprises which have bottom-line goals of positive social or environmental impact, along with the more traditional goal of maximizing financial returns.
Whether you call it impact investing, socially responsible investing (SRI) or social finance, it’s getting more and more attention. The year 2013 has already been hailed as the “year of impact investing,” and this week venture capitalists, philanthropists, and entrepreneurs alike are convening from coast to coast to discuss its merits. From SOCAP12 in San Francisco to SRI: The Conference on Sustainable, Responsible, Impact Investing in Connecticut, global innovators and investors are working to create sustainable markets that generate both financial returns and social benefits.
But does impact investing actually work?
A Longer Timeframe Requires Greater Patience
Though different SRI financial instruments operate in very different ways, the average timeline for returns is typically longer than traditional markets, with operations averaging profitability after 2-5 years and requiring ‘patient capital.’ Still, different forms of impact investment are developing quickly from creative bond structures to crowdfunding platforms to seed- stage forums. Social capital investments perform best when multiple financing instruments are employed and funds are injected at certain intervals throughout the seed, growth, and scale stages of development.
During the seed stage, foundations and non-profits are often involved. They give funding in the form of grants or forgivable loans. This is the stage of highest risk. Once seed funding allows for creation of a viable, income-generating model, international development organizations provide soft loans, which will eventually become market-rate loans as the enterprise grows. Equity investors, impact investors, and social venture capital funds come into play once the business proves to be sustainable and ready to scale.
Achieving Sustainable Scaling
Impact investing opportunities exist internationally and across multiple asset classes. The social entrepreneurship realm transcends sectors, including everything from healthcare, agriculture and clean energy to education and microfinance. Across all SRI industries, the paramount success driver behind their profit margins is scalability. After hammering out an effective and sustainable model with key impact metrics, scaling up is the holy grail of social businesses.
Many of these businesses are startups just like any Silicon Valley tech-seedling, and they must deal with all the difficulties and risks that come with starting from scratch. Challenges include determining the most suitable equity blends, gathering adequate information in developing markets, and defining a measurable impact metric. Not only do they run the typical risk of failure as conventional startups, but also most social enterprises are operating in a mix of developing and underdeveloped nations. This brings on a host of social, political, and economic challenges unique to each country or sector.
Can you Succeed At Impact Investing?
Wondering how you can get returns on ‘doing good?’ First, recognize your priorities. If financial returns are clearly your top priority, SRI may not be the best way to go, since these investors are juggling multiple priorities beyond just money. But if you want to simultaneously do good while investing, socially responsible mutual funds composing a variety of ‘community investing’ platforms are a smart way to hedge your bets. Crowdfunding platforms are another interesting alternative. A public equity market for social capital has not yet been established, but the folks attending the high profile conferences mentioned above are hell-bent on developing that kind of mechanism as a way to create a conscience for capitalism.
Expert Opinions: What Kinds of Impact Investing and SRI Actually Work?
We turn to the experts to see if they agree on the definition of SRI – or the metrics by which the success of impact investing can be measured.
- Julie Gorte, Ph.D., the Senior Vice President for Sustainable Investing at Pax World Management LLC, lays out a path for successful sustainable investing that differs from traditional SRI:
“At Pax, we define what we do as Sustainable Investing, and we differentiate it from SRI in that it is primarily about seeking value, and not investing according to specific values. We regard a company’s performance and intentions with regard to its impact on workers, communities, consumers, and the planet as being important facets of the business that yield a great deal of information to portfolio managers on the quality of management, something that most actively managed funds seek every day. So we investigate not just a company’s financial profile, but also its environmental, social and governance characteristics and performance in our search for companies that we believe will be good investments over the long term.
Whether any particular actively managed fund is outperforming is never a validation of the investment strategy; at any given moment, half or more of all actively managed funds across disciplines aren’t outperforming their benchmarks. But there are some interesting indicators in the performance of indexes, which are better than actively managed funds at reflecting how the market sees a particular investment class or thesis. Several studies have shown that companies included in sustainability indexes, such as the Dow Jones Sustainability World Index, the FRST4Good index, or any of MSCI’s sustainability indexes, tend to financially outperform companies that are not in such indexes. A recent 2012 study by Laura Poddi and Sergio Vergalli reached this conclusion.”
- Sean Pool, Co-founder and General Partner at Canterbury Road Partners, explains how SRI can make a difference by both advancing new technologies and investing in communities that need a boost:
“At Canterbury Road Partners (CRP), we believe SRI investments can make the biggest impact when they are targeted at local, tangible new companies in communities that have talent and lack only resources. Some the best examples of this are university communities across the country where cutting-edge research and student entrepreneurial talent could support a vibrant innovation economy, but that lack the culture and private sector capital to support entrepreneurship and the translation of new ideas into viable businesses and jobs.
One example is our own city of Baltimore, where multimillion-dollar biomedical research facilities sit across the street from bombed-out and abandoned buildings.We think it shouldn’t be this way.
CRP is building better bridges between the cloistered laboratories where brilliant discoveries are being made every day, and the communities on Main Street that surround them. We partner with research universities to connect the right technologies to the right entrepreneurial talent to the right training, guidance, counseling and capital to help technology startup companies thrive and create jobs in the university’s backyard. And that leads to economic growth.
Investors interested in SRI typically want to see the tangible benefits of their investments. Where better to start to than to invest new companies, new technologies, and economic growth in their own communities?”
- Carter LeCraw, CEO of American Values Investments, provides some specifics on SRI and what “whether it works” really means to his company:
“Our investment strategy is very different than even most SRI firms and it has ‘worked’ for us in several ways. From my perspective, SRI managers must decide ultimately if the primary goal for the investment strategy is to make money OR to make a positive contribution to culture. Yes, both can be done, but, in order to give direction in times of doubt a decision must be made as to which is more important. It seems many if not most SRI managers subscribe to the ‘both and’ concept. Both performance and social impact are given the same #1 priority.
I have been criticized often for the first comment on our performance page where I clearly state, ‘Investment performance is not our main goal,’ and I am confident this one statement has lost us plenty of business. But, quite frankly, it may be one of the reasons we have been able to obtain competitive performance. Since we are not as concerned about investment performance we are not as likely to listen to fear when it says to ‘get out’ and also less likely to buy a bunch when our emotions are telling us that the market is leaving us behind.
Our goal is simply to support those companies we believe best reflect the eternal values ingrained in the founding of America as a way to build a better and brighter America. Our founding fathers pledged their ‘fortunes’ to build America, so I don’t see why we can’t pledge at least some of our own fortunes to build a better America.”
- Jonathan DeYoe, CPWA & AIF and founder of DeYoe Wealth Management, explains how one’s definition of successful SRI varies with their belief in the triple bottom-line inherent to SRI:
“This is an important question for my clients, and the biggest challenge is that SRI is not one single thing. My sense of what it means to be Socially Responsible is not the same as your sense of being Socially Responsible. For many years, advisors and clients basically reduced SRI to “Green.” This is not enough. My own crusade is on financial literacy; my way of being responsible in the world is empowering people with knowledge and the behavioral support to make the right choices for themselves and their passions for life. Some of my clients focus entirely on a “free internet.” Others believe that there should be more women on corporate boards. The point is, people differ – there can be no uniform definition of SRI.
Most investments focus on “The Bottom Line” – profit. SRI and Impact Investing are those investments that focus on the Triple Bottom Line – People, Planet and Profits. So, the question “is it working” must reference all three items (or at least profit, along with whichever item that particular investment expresses as its SRI target). There have been many studies that show that Impact & SRI do as well or nearly so as more traditional investing, financially speaking. To the extent that one can expect an equivalent return from SRI, it makes all the sense in the world.
Remember, when one embarks upon SRI one is embarking upon a path that looks at three different goals – improving the planet, helping people, and creating profit. When I want a specific outcome, I focus on the things that produce that outcome. If I want 3 outcomes, I lose the benefit of the singular focus. Importantly, if I succeed in attaining those three outcomes, but have not optimized any of them by themselves I am still successful. I may not be as successful in any one of the areas as my neighbor was, but this is a choice I made at the outset.”