We hear a lot about impact investing these days, but what is it and how does it relate to responsible investing? As we know, responsible investing takes environmental, social and governance factors into consideration in investment decision making. Impact investing is a sub-set of responsible investing. Here the investor intentionally invests to achieve positive social and/or environmental impact in addition to financial return.
Often institutional investors (both asset owners and asset managers) believe that impact investing simply refers to micro-finance (another area that has recently dominated the news).
While impact investing includes micro-finance opportunities, it is much more than providing small loans to individuals in developing countries (Yunus and Weber 2007). Impact investing occurs any time there is a deliberate decision to achieve both a financial return and an ancillary social and/or environmental benefit from the investment opportunity. It spans multiple asset classes that include real estate, private equity, infrastructure, public equities and fixed income. Some go so far as to suggest that impact investing is an emerging asset class in itself (O’Donohoe et al. 2010).
Impact investing goes by many names. These include double and triple bottom line, mission-related investing, program-related investment, blended-value, economically targeted investing and social finance (Emerson and Bonini 2003; Godeke and Pmares 2009; Monitor Report 2009). Regardless of terminology, this new approach is seen as an important step in creating innovative ways to address social needs while at the same time generating financial return.
Currently, the market for impact investing is estimated at anywhere from $1 trillion to $14 trillion (O’Donohoe et al. 2010) when global infrastructure investments are included. Such investments can be made in affordable housing, clean technology, water systems, transportation systems and yes, micro-finance just to name a few.
The conceptual framework that underpins impact investing is best captured by the ‘Blended Value Proposition’ first articulated by Jed Emerson in the early 2000s. This proposition states ‘that all organizations, whether for-profit or not, create value that consists of economic, social and environmental value components – and that investors (whether market-rate, charitable or some mix of the two) simultaneously generate all three forms of value through providing capital to organizations’ (Emerson and Bonini 2003). Understanding the concept of blended value is the key to understanding the implications of impact investing for both the providers of capital and its recipients.
Those who seek social and environmental impact above financial return are called ‘impact first’ investors (Monitor Report 2009). They are prepared to take lower returns on their capital to achieve the social and environmental impacts they seek. Such investors are generally found in the philanthropic community. In contrast, a ‘finance first’ impact investor (ibid) is seeking a market rate risk-adjusted return on investment and is willing to take less social and environmental return to achieve this financial outcome. Institutional investors with fiduciary duty are not allowed to give up financial return for corollary benefit. These ‘finance first’ impact investors must first judge their investments on financial merits and only then can they consider additional social and/or environmental returns. However, this does not mean that they are unable to find such deals, but rather that financial returns cannot be sacrificed to achieve positive social and environmental outcomes. A good example of ‘finance first’ impact investing is market-rate mortgages that enable affordable housing projects to be built, or clean technology firms that encourage a shift to renew-able energy sources, or investment in infrastructure that provides communities with clean water, sewage systems and sustainable transportation. These investments are first judged on their financial return and appropriate asset class and only when these are deemed acceptable are the additional social and/or environmental outcome factored into the investment selection (Hagerman and Hebb 2009). Because impact investments generate positive externalities, they are often encouraged by governments who may also be active partners in the investment and are able to structure these opportunities, mitigate risk and provide solid financial returns.
The first article in this collection ‘Blended Value Proposition: Practice and Policy’ takes an in-depth look at the relationship between public policy and the development of the impact investing marketplace. David Wood (IRI, Harvard University), Ben Thornley (InSight, PCV) and Katie Grace (IRI, Harvard University) built on a major report they undertook for the Rockefeller Foundation Impact at Scale detailing the role public policy plays to enable the impact investment market to develop beyond its current niche. They suggest that careful co-ordination will be needed between policy makers and institutional investors if this market is to grow and flourish.
Another critical dimension of the impact investment ecosystem is the way to measure the impact created by the investment. While we can effectively measure the financial performance of these investments, it is much more difficult to quantify the social and/or environmental impact(s) they may have. Edward Jackson (Carleton University) takes this issue head on in his article ‘Interrogating the Theory of Change: Evaluating Impact Investing Where It Matters Most’. He argues that linking the ‘theory of change’ (a key concept in program evaluation) to other tools used to evaluate impact could help move the yard stick beyond individual case studies into a more robust set of metrics for impact measurement. He suggests several new approaches to measuring impact at the individual, enterprise and community levels, where most impacts are generated.
Marguerite Mendell and Erica Barbosa (Concordia University) take up another facet in the development of a fully co-ordinated impact investing marketplace. In their article ‘Impact Investing: a Preliminary Analysis of Emergent Primary and Secondary Exchange Platforms’ they suggest that without the ability to exit from investments in a systematic way, impact investing will not be attractive to large institutional investors. They suggest that secondary markets that allow for liquidity are essential for these investments to flourish. Mendell and Barbosa examine a range of new and emerging exchange platforms around the world designed to connect investors with impact investing opportunities.
The fourth article in this journal looks at a specific impact investing case, that of Vancity Credit Union, based in Vancouver, Canada. Geobey and Weber in their article: ‘Lessons in Oper-ationalizing Social Finance: The Case Of Vancouver City Savings Credit Union’ find that Vancity provides a model for social finance institutions around the world. As a member of the Global Alliance on Banking and Values, Vancity has made impact investing (termed social finance) a core aspect of its mission. This article takes us through the historical underpinnings of Vancity’s approach to social finance and impact investing. It then goes on to examine the financial statements of Vancity from 2000 to 2011 to see if their products do indeed provide opportunities for investment with positive social and environmental impact. They also look to see if such product offering has cost something to Vancity when measured against its peers.
Madeleine Evans’ article ‘Meeting the Challenge of Impact Investing: How can Contracting Practices Secure Social Impact without Sacrificing Performance?’ provides a quantitative exploration of the framework by which impact investors can achieve their desired results without a trade-off between the social and environmental impacts they seek and the financial return they require. This article draws on the contract theory and the analysis of incentives in multitask principal–agent relationships in an attempt to answer this question.
This special issue on Impact Investing concludes with an article from Nicholas Florek, ‘Enabling Social Enterprise Through Regulatory Innovation: A Case Study From The United Kingdom’. This article explores the new hybrid legal structures developed in the U.K. and U.S. to encourage impact investment is social enterprise. Florek argues that the U.K.’s Community Interest Company (CIC) model has been effective in assisting social enterprises to diversify their funding streams, leading to greater sustainability in the sector. He analyzes data from the U.K.’s National Survey of Third Sector Organisations in 2009 to provide evidence of the success of CICs as a new legal form that achieves the goals policy makers intended to foster when drafting the new legislation.
To date there has been limited academic work on impact investing. Most of the available literature comes from industry-based reports. This special issue of the Journal of Sustainable Finance and Investment provides six academic articles that address key issues in developing impact investing from a niche market activity to one adopted by large institutional investors.
We frame impact investing in its broadest terms, from investment in micro-finance and social enterprise development at one end of the spectrum to global infrastructure at the other. We argue that seeking positive social and/or environmental returns in addition to financial returns is a viable option for investors large and small.
Impact investing is a key aspect of responsible investing and positive environmental, social and governance (ESG) considerations, but to grow beyond the current characterization of micro-finance, a fully coordinated marketplace will be required. In partnership with government, impact investing is unlocking new and innovative ways to solve some of the world’s most pressing problems while simultaneously providing the financial returns required by investors.
This article first appeared in the Journal of Sustainable Finance and Investment.
Dr. Hebb is the Director of the Carleton Centre for Community Innovation, Carleton University, Canada. Her research focuses on the financial and extra-financial impact of pension fund investment in Canada and internationally with particular emphasis on Responsible Investment and Corporate Engagement and is funded by the Social Sciences and Humanities Research Council, Government of Canada.