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Social impact investors have a desire to achieve positive social and environmental outcomes without sacrificing profit. In the last decade, Social Impact Investing (SII), a concept that only arose in 2007, has grown into a $715 billion industry, with ethical funds last year outperforming their traditional counterparts.
In this article exploring the S in ESG, we look back to the roots of SII, analyse how social impact investing is making a difference to society and discuss ways to measure the success of SII.
SII: Social Impact Investing fuses financial return with positive social action.
SE: A Social Enterprise is a business with a social mission whose profits are solely for the purpose of facilitating this mission.
GSIA: The Global Sustainable Investment Alliance is a collaboration of membership-based sustainable investment organisations around the world
SRI: Socially Responsible Investing is a concept that incorporates ESG considerations and criteria into investment decisions.
GIIN: The Global Impact Investing Network is a non-profit established in 2009 seeking to increase the scale and efficacy of impact investing.
An introduction into social impact investing
The GSIA defines impact investing as ‘targeted investments’ with the purpose of alleviating social or environmental issues – this means investing in companies with defined social goals or purposes beyond simply adhering to ESG considerations. Still, social impact investors hope to also achieve financial return alongside positive social outcomes, challenging the long-held belief that profitability and social or environmental solutions are mutually exclusive.
The Global Impact Investing Network (GIIN) lists four characteristics of impact investing:
- An investor’s intention to have a positive social or environmental impact through investments is essential to impact investing.
- Impact investments are expected to generate a financial return on capital or, as a minimum, a return of capital.
- 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.
- 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.
Areas where impact investing has particularly arisen include sustainable agriculture, conservation, and essential services such as housing, healthcare and education.
The origins of SII and the investors behind it
Social impact investing started with the rise of the corporate responsibility concept some 200 years ago. Fast forward to the 1980s, when several mutual funds were founded to cater to the concerns of socially responsible investors. These funds applied positive and negative screens to their stock selections. The filters included the basic concerns of the Methodists—weapons, alcohol, tobacco, and gambling—but also more modern issues, such as nuclear energy, environmental pollution, the treatment of workers.
In 1990, SRI mutual funds in the US had grown so much in popularity as an investing approach to warrant an index, the Domini Social Index, which was launched in 1990. The 400 companies for the index were selected based on a wide range of social and environmental criteria and provided investors with a benchmark to measure the performance of screened investments versus their unscreened counterparts.
Two investors through their ideas shaped impact investing for generations to come: Sir Ronald Cohen, a former venture capitalist who turned to impact investing 20 years ago, played a huge part in getting the UK’s first social impact bond off the ground. The bond, sometimes referred to as the “prison bond” or “Peterborough bond”, created a return for investors based on the number of former prisoners who didn’t reoffend as a result of private capital being used for re-training or education purposes.
Recipient of the 2006 Nobel Peace Prize, Professor Muhammad Yunus created the Grameen Bank, a microcredit institution committed to providing small amounts of working capital to the poor for self-employment. From its origins as an action-research project in 1976, Grameen Bank has grown to provide collateral-free loans to 7.5 million clients in more than 82,072 villages in Bangladesh and 97% of whom are women. Over the last two decades, Grameen Bank has loaned out over 6.5 billion dollars to the poorest of the poor, while maintaining a repayment rate consistently above 98%.
From small loans being given via microcredit schemes to help people out of poverty or large investors providing significant funds for social projects, social impact investing has seen many forms. The concept of micro credits, which is base on the idea to give a small loan to someone living in poverty to help them expanding a small business, has conquered the investment world - the International Finance Corporation (IFC), part of the World Bank Group, estimates that, as of 2014, more than 130 million people have directly benefited from microfinance-related operations.
At the other end of the spectrum, large impact investors drive the market: Today, the top 5 impact funds in the UK include Ascension Ventures, a venture capital firm which invests some of its money in companies developing products and services beneficial to low-income families; Nesta Impact Investments, with a focus on education, health and government innovation; and Clearly So Angels, the UK’s leading group of high-net-worth individuals and families focused on responsible investment.
Globally, the World Bank is the single largest provider of financing of projects and programs across a range of sectors that deliver social impact worldwide with an average of $22 billion committed annually to more than 100 new projects each year and is the single largest financier of environmental projects worldwide with a portfolio of $12 billion in projects.
The SII market in numbers
Financial return for SII has shown to range from below-market-rate returns to market-competitive returns. The GIIN found that 67% of investors in their 2020 survey target risk-adjusted, market-rate returns, with 99% of investors stating that their impact expectations were exceeded and 88% saying their financial performance expectations were exceeded.
A survey found, that in 2019 ethical funds performed better than their traditional counterparts, posting an average growth of 16.8% compared with 15.2% from the average non-ethical fund. The average ethical fund (30.4%) also eclipsed the average non-ethical fund (29.1%) over three years, but it’s over five years that ethical funds have really performed well, with the average ethical fund returning 76.1%, compared to an average non-ethical fund return of 64.1%.
While market observers speak about Social Impact Investing entering a third phase, characterised by growing momentum among the owners of wealth, who want their fund managers and wealth advisors to find suitable impact investing products, SII is facing challenges. SII needs to avoid the tarnishing of genuine SII from ‘impact washing’, whereby a company claims the term ‘impact’ without the requisite credentials. Adhering to initiatives such as the GIIN guidelines, for instance, can help mitigate these concerns.
In the UK, the private SII market peaked in 2019 with 51 deals at a value of £86.4 million. However, the pandemic has hit the SII market harder than the rest of the equity investment market, with a 25% drop in the number of announced equity deals completed by UK funders into UK companies between January to mid-June this year, compared to the same period last year. Despite the slowdown, the impact investing market is expected to show increased activity in the second half of the year with investors mobilising cash to help the economic recovery post pandemic.
Measuring the success of social impact investing
An independent research project at the Harvard Business School, based on interviews with more than 20 leading impact investors and practitioners showed that investors use impact measurements for different objectives in different parts of the investment cycle, and that methods for measuring impact vary based on the objective:
- Expected return methods weigh the anticipated benefits of an investment against its costs in order to determine which grants would yield high impact.
- Theory of change methods outline the intended process for achieving social impact, often using a logic model, a tool that maps the linkages between input, activities, output, outcomes, and ultimately impact.
- Mission alignment methods measure the execution of strategy against the project’s mission and end goals over time, using scorecards to monitor and manage key performance metrics on operational performance, organizational effectiveness, finances, and social value
- Experimental and quasi-experimental methods are after-the-fact evaluations that use randomized control trials or other counterfactual approaches to determine the impact of an intervention compared to the situation if the intervention had not taken place.
In the UK, Columbia Threadneedle Investments has formed a partnership with Big Issue Invest, which acts as a social adviser to the investment company’s UK Social Bond Fund. The asset manager uses an outcomes-focused approach to deliver both social and financial returns by first identifying bonds that conform to eight key social fields set by Big Issue Invest to form a social universe of 350-400 securities. Eligible investments are then ranked by its Responsible Investment team to evaluate the ‘social intensity’ of qualifying bonds, with each security is ranked as high, medium or low social intensity. Big Issue Invest then reviews and challenges the Fund’s investments from a social performance perspective.
Read the other articles in the series:
The S in ESG
The “S” in the Pandemic
Social Enterprises – making a difference while leading by good example
Corporate clients who would like to discuss this topic further should contact:
Dr Arthur Krebbers, Head of Sustainable Finance, Corporates or
Varun Sarda, Head of ESG Advisory