Impact investing 2.0 – time for a new approach!

Impact investing is a hot topic, but could version 2.0 take us back to the future…

“Impact Investing” is generating an enormous amount of “buzz” these days – even if it is talked about much more than it is practised. It has become particularly popular among foundations, endowments, and high net worth individual investors. While the precise meaning of the term is still being defined and debated, in essence impact investing is a style which explicitly pursues social and environmental objectives as well as purely financial ones. In many cases, investors are willing to sacrifice some of the latter to achieve the former. Typically, impact investing occurs in the emerging markets, in private transactions, and at a small scale: to date the average investment has been in the USD 1 million range. Typical projects might include the purchase and distribution of cleaner-burner cooking stoves or solar-powered lamps, to rural villages in Africa, Asia, or Latin America. All very good stuff, but …..
I recently attended a session on impact investing at a Clinton Global Initiative meeting in New York City. The two most common laments from impact investing devotees were the enormous difficulty of generating positive impact at the necessary scale, and the related fear that there simply weren’t enough investable projects to absorb the level of capital potentially interested in investing in them. I would like to respectfully propose a complementary (not replacement) strategy which could resolve both of these serious problems. I call it “Impact Investing 2.0”, and we have been practising it in one way or another for well over a decade. Simply put, Version 2.0 focuses instead on large and mid-sized companies in the public markets. Our thesis is quite straight forward: we seek to leverage the enormous power of the global capital markets to drive significant improvement in the social and environment performance – ie. impacts – of major companies.We attempt to do so by being explicit that those impacts are consciously being used as partial proxies for the overall management quality and, ultimately, the financial performance of public companies being considered for investment. Over and above good old-fashioned investment skills (including, of course, robust sustainability analysis), the key to the success of Impact Investing 2.0 is two-fold:
• Investors must communicate their logic and thought processes widely and clearly to both companies and other stakeholders. Companies must know what is motivating and animating their investors.
• The impacts must be measured —- and communicated to clients and others. Admittedly, this is a daunting challenge, but it simply must be met if Version 2.0 is to achieve the necessary credibility, scale, and impact. The lack of this measurement and reporting function has seriously compromised the veracity of the (unsubstantiated) claims made by many of our current commercial fund providers. Fortunately, it is actually easier to do this sort of analysis on a large universe of public companies than on the bewildering diversity of difficult-to-compare, apples-and oranges projects pursued under Version 1.0.
If this approach could be adopted by a large enough critical mass of investors (say, a significant portion of the $25 trillion behind the UN Principles for Responsible Investment), and if this could be backed up by market-beating returns, corporate boards and executives will be unequivocally put on notice that their social and environmental performance is being carefully scrutinized. Leaders will be rewarded with more plentiful and affordable investment capital, while laggards are denied it. This, in theory, creates a powerful incentive for substantial improvements, and a virtuous circle.

Given that with Impact Investing 2.0, we are by definition talking about huge multinational companies, the potential for positive impact is huge – and infinitely larger than is the case for Version 1.0. Think, for example, of the positive environmental impact which WalMart’s celebrated campaign to drive environmental and energy efficiency improvements throughout both its own operations and those of its 100,000 supplies has already achieved. Most experts expect that WalMart will have removed over 20 million metric tons of greenhouse gases from its supply chain by 2015 – the equivalent of taking nearly 4 million cars off the road for an entire year. And we won’t have to take WalMart’s word about thisimpact: the respected U.S. NGO Environmental Defence will be monitoring its progress and reporting publicly. Now imagine an entire series of funds consciously designed to produce social and environmental benefits – at scale – and combine them with superior financial performance. Imagine further that those positive impacts are actually measured, and compared against benchmarks or business-as-usual outcomes. Finally, imagine that even 5% of the investment capital currently supporting the UN PRI were to invest in such funds. That would put over one trillion dollars to work in the service of social and environmental improvement – and superior financial returns. Now that, folks, is impact investing!
Matthew Kiernan is founder and chief executive of Inflection Point Capital Partners