Impact investing: hype v substance, the importance of ownership and the role of aid

July 2, 2015

     By Duncan Green     

Oxfam’s Erinch Sahan tries to disentangle hype from substance and makes a pitch for a new approach to impact ErinchSahaninvesting.

Impact investment is the next black. It’s already worth about $46 billion, and rapidly growing. In 2010, when it was a mere $4 billion, JP Morgan predicted it would be between $400 billion to $1 trillion within a decade. Forbes has declared impact investing is going mainstream, and it’s certainly well on its way.

A big chunk of this money (70 per cent) goes to emerging/developing economies. While it’s still a fraction of global financial markets (estimated to be $210 trillion), this do-gooder money will soon dwarf aid flows, and might even suck up a good chunk of aid budgets.

Impact investing 3Impact investing channels money to companies, organisations or funds that have a positive social or environmental impact. What sets it apart from your ‘plain vanilla’ investment is that it requires (and measures) social and environmental impact, alongside a financial return. It is also different in that it accepts lower financial returns, so long as the investment does some social or environmental good. Its do-gooder nature combined with an expectation that it’ll give you a financial return means it’s growing in appeal among investors of all shapes and sizes.

A vision for nicer capitalism?

The size of impact investing is important but its symbolic power in shaping the economic narrative may be even more critical. Impact investing is seductive because it rides the promise of the entrepreneur. It feeds the narrative that business-people, not governments or NGOs, can heal the world. It takes the excitement of neo-liberalism (the entrepreneur as the hero) but sprinkles in enough good intentions to make it likeable. It doesn’t challenge the economic narrative, because the ethos of impact investing is that solving the world’s problems should be profitable. As explained by a prominent lawyer working on impact investing: “Increasingly, there has been the realisation that there does not need to be any trade-off between profit and purpose”. Impact investing puts the entrepreneurial super-hero at the forefront of fixing all manner of problems.

There’s a lot I love about impact investing. It won’t channel investment into companies who slash rainforests, enslaveImpact Investing 2) workers or burn coal. It acknowledges that business is not a single entity, that there are different classes of businesses that are materially different, intrinsically better for the world. It accepts the difference between a solar-energy company vs a coal-burning utility, an organic rice producer vs a fertilizer-dependent mono-crop plantation, or a company specialising in providing services to smallholders vs a large-scale agribusiness that drives communities off their land. Critically, it acknowledges that social impact is possible when we compromise on financial return. This is all good stuff and is a step ahead of development practitioners who are just trying to get more business investment in developing countries, regardless of the broader cost.

Inclusive ownership and the DNA of a business

But here’s my quibble: ownership and governance of a business determines its DNA, driving who reaps the rewards when the business succeeds. Impact investing mostly twists itself in sophisticated knots trying to measure the impact of an enterprise, putting impact metrics at the heart of its decisions. But why not start with the DNA of the business, asking whether it’s structured to be really pro-poor? If you have a choice, why not opt for companies that, if successful, will spread prosperity the furthest and widest?

Employee-owned companies distribute wealth among their employees. Farmer-owned businesses bring profits back to farmers. Community-owned fishing enterprises mean communities get the benefits (and incidentally are more likely to lead to sustainable fisheries management). And the right governance mechanisms, for example those that

Mmmm, tasty impact

Mmmm, tasty impact

put workers  (e.g. in Germany) or farmers (e.g. Divine Chocolate) on the board, give workers and farmers a real say over the direction of the company, and how key stakeholders are treated. Impact investors sometimes do channel funds into enterprises with inclusive ownership models. But it isn’t the key hurdle on whether an investment can qualify as “impactful”. It should be.

What should donors do?

Donors are being seduced by impact investing, as they search for private-sector development programmes that can show results. While the concept isn’t particularly new, with IFIs and enterprise development programmes having invested into ‘impactful’ businesses in developing countries for years, the interest is growing. USAID, DFID/CDC, DFAT (can I not still call it AusAID?) and others appear intrigued with the possibilities. Want further proof on the perceived trend among donors? Just look at the direction of the large development consultancies (who are the real experts on their clients’ direction of travel). Firms like GRM, who have build their business around delivering bilateral donor programmes, are putting impact investing ’front and centre of their private sector related service offering’ to their clients. In my view, as donors go deeper into impact investing, they should in turn put inclusive ownership ‘front and centre’.

Businesses that are truly different in their ownership and governance do exist. Many such businesses are thriving. Employee-owned companies in the UK alone represent £30 billion in GDP. And according to Cass Business School, their sales grew 18-times faster during the economic downturn than those of their competitors. Inclusively owned and governed companies have greater productivity and innovation, through more motivated staff. The economic case for alternatives to shareholder-owned corporations stacks-up. Impact investing could justifiably decide to give these materially different kinds of enterprises a ‘leg-up’.

It’s not too late to shape the 100s of billions of dollars that will go toward impact investing over the coming decade, including from donors. It’s a young field that is still grappling with what it means for a business to have social impact. It can be shaped so it gives a different breed of businesses a ‘leg-up’. The aid world can help make this happen.

July 2, 2015
Duncan Green