Impact Investing: Practices and Lessons Learnt from It

Dear readers, our 5th part of Funding Series speaks on a very important aspect of investment, i.e. Impact Investing.

Impact investing is gaining global attention from society, governments and businesses. It brings a new paradigm on the policy agenda of governments and international organizations, and private investors are searching for new investment opportunities to channel the liquidity available.

India is projected to see impact investments worth up to $40 billion by 2025 as the country is in a "sweet spot" with high potential to deliver solutions for various problems, according to global grouping GIIN. Financial inclusion and energy have been dominant areas in the impact investment portfolio in India.

Definition and Core Characteristics

Impact investments are investments made into companies, organizations, and funds with the intention to generate social and environmental impact alongside a financial return.With this core concept in mind, practice of impact investing could be capaciously defined as actively placing capital in enterprises that generate social or environmental goods, services, or ancillary benefits such as creating good jobs, with expected financial returns ranging from the highly concessionary to above market.

The practice of impact investing is further defined by the following four core characteristics:

• Intentionality: An investor’s intention to have a positive social or environmental impact through investments is essential to impact investing.
• Investment with return expectations: Impact investments are expected to generate a financial return on capital or, at minimum, a return of capital.
• Range of return expectations and asset classes: Impact investments target financial returns that range from below market (sometimes called concessionary) to risk-adjusted market rate, and can be made across asset classes, including but not limited to cash equivalents, fixed income, venture capital, and private equity.
• Impact Measurement: A hallmark of impact investing is the commitment of the investor to measure and report the social and environmental performance and progress of underlying investments, ensuring transparency and accountability while informing the practice of impact investing and building the field.

Who is making Impact Investments?

Impact investment has attracted a wide variety of investors, both individual and institutional like:

• Fund Managers, Development finance institutions, Diversified financial institutions/banks, Private foundations, Pension funds and insurance companies, Family Offices, Individual investors, NGOs and Religious institutions.
• Some of the big names include Omidyar Network, backed by eBay founder Pierre Omidyar’s personal resources, Bill and Melinda Gates Foundation, Lok Capital, Aavishkaar, Elevar Equity and Unitus Seed Fund, among others.

Globally, total assets under management by impact investors is estimated to be about $ 70 billion.

Why Impact Investing?

Impact investing challenges the long-held views that social and environmental issues should be addressed only by philanthropic donations, and that market investments should focus exclusively on achieving financial returns.

The impact investing market offers diverse and viable opportunities for investors to advance social and environmental solutions through investments that also produce financial returns.

Some Lessons from Impact Investing in India

• Execution comes first: Social enterprises typically have low margins as they cater to a market segment where prices are practically capped. This makes it critical for them to scale up and become sustainable. Janalakshmi Financial Services invested a significant part of its resources on strong processes and backend solutions and today they are amongst the leading microfinance institutions in the country within a span of a decade. So, while business concepts matter, execution capability comes first.
• Talent is important: Most start-up entrepreneurs begin with minimal financial resources and do not always attract the best talent. However, social ventures deal with some of the most complex challenges and good talent can help find viable solutions. That's why successful businesses invest in hiring the right team at the start.
• Technology is an enabler, not a solution in itself: Technology is important and can reduce the costs of delivery significantly. However, it is, at best, a facilitator. Take the example of a distance learning start-up, Edutel, that uses technology to offer high-quality education across government and private schools. Low cost technology, in this case, was only an enabler, led to significant improvements in learning outcomes.
• Know when to stop: Social entrepreneurs are trying to solve complex problems that do not have simple solutions. So, it is important to recognise when a solution is not working. Sometimes, it could just be that the timing or context for a business idea is misplaced. But it is necessary to accept failure and learn from it.
• Everything is a part of a larger ecosystem: Creating new market sub-segments or shifts isn't an easy task. Success requires alignment amongst different stakeholders. These include donors, investors, distribution channels and the government. In this environment, no individual or system can function in isolation. It is imperative to adopt a collaborative and participative approach to drive social change.

Investing in organisations that have the capacity to radically move the needle on social progress is at the core aim of impact investing. To be a good impact investor, one must constantly learn from both successes and mistakes.