The Challenge

 

Society often rewards philanthropists for giving away their money—think about The Giving Pledge—while scorning those, like hedge funds, who can generate overwhelming financial returns. Turning this equation on its head, and lauding those that take risks to support young but high impact generating businesses will mean changing the nature of how we view capital markets and philanthropy. And this, perhaps, would at last unlock capital for impact investing. Philanthropic capital could be potentially more impactfully spent by providing guarantees against first loss capital to support social enterprises, or through venture debt targeting these businesses. To date, this model barely exists.

Perhaps the problem is still definitional. The concepts of impact investing, philanthropy and CSR and sustainability, while all related are not the same but contribute to misconceptions of what impact investing is. Coupled with development finance, which is not a new phenomenon, and is in fact a subset of impact investing, it perhaps comes as no surprise that potential market participants are discouraged from entering the sector.

Certainly impact investing has generated significant discussion, if not yet AUM, since its inception. What is hindering investors’ from embracing the sector, and how do we create an enabling infrastructure for impact investing to take off?

Of course there are many possibilities—one is limited monitoring and evaluation, and little or no track records. The mutual fund industry employs over 150,000 people to rate and evaluate for-profit firms. Nothing comparable exists in the impact investing world, perpetuating the lack of confidence investors often feel when it comes to impact funds or social enterprises.

Another is low returns or questionable performance: private corporations respond to market signals and go out of business when they fail, but social enterprises and impact funds expect investors to be more forgiving.

So what remedies exist? One option is to encourage policies to change, such as that of the US, where tax-free status is only awarded to charities who spend 5% of their endowment per year. For large private foundations this can be difficult to do effectively—and adjusting this figure to perhaps 4% while allowing 1% to be spent on missions related investments—risk capital in social enterprises or impact funds—would unlock literally billions for impact.

Another approach is to examine cross-sector collaboration efforts: bringing together the major donors or private foundations with public organizations and implementing private organizations to effect change, and generate revenue.

But perhaps, at the end of the analysis, the issue is the alignment of expectations and incentives between investors and social business managers and operators. If this remains a case-by-case basis rather than a sector-wide-understood definition, then the impact market will struggle to take off.