President Cyril Ramaphosa’s ambition to attract R1.2-trillion in new investment into the country recognises the central role finance can play in stimulating growth and kick-starting the economy. But intentionally directed, it can do so much more than that.
Earlier in 2018 Ramaphosa told parliament his investment dream team is spreading the message that SA is open for business and that it will be prioritising inclusive growth and transformation of the economy.
To achieve this, more investments must be channelled towards initiatives that offer social or environmental impact.
Directing more capital towards impact investment would also satisfy a growing demand from consumers for more socially responsible outcomes. According to an international 2017 study from Deloitte, 76% of millennials regard business as a force for social impact, and Bank of America reports that 85% of US millennials are interested in, or actively engaging in, impact investing.
Difficult to assess
As an early-stage ecosystem, impact investing is not without its challenges, as the World Economic Forum points out. The perception in the market is that impact requires a trade-off in terms of financial return.
Impact investments are more difficult to assess than mainstream investments; financial analysis relies on standardised measures and ratios, but there are few widely accepted measures to compare impact deals. To achieve impact, fund managers also need to be comfortable with smaller average deal sizes, which drive up costs and have longer time frames, which may not fit into their investment approach. How then can more mainstream investors be enticed to dip their toe into the impact investing space?
One unique, market-based solution that is emerging is to monetise impact, that is to incentivise investors to focus on impact deals in exchange for remuneration, which can be used to increase the pool of capital assigned to impact.
Sound theory
Practitioners are working on finding mechanisms to incentivise investors to focus on impact deals, for example by offering grant payments or tying the cost of capital to achieved impact, which would help offset some of the costs, risks and challenges identified in allocating capital to impact deals.
The concept of compensating investors to direct capital to impact may be nascent but it is based on sound economic theory: improving social and environmental outcomes to create positive benefits for society.
Monetising impact can work, as can be seen in the example of the Green Outcomes Fund, a first-of-its-kind structure that has been created by the World Bank’s Climate Technology Programme in partnership with GreenCape, the Bertha Centre and WWF SA. The Green Outcomes Fund incentivises local fund managers to increase investment in green, small and growing businesses by providing grant payments tied to pre-agreed green outcomes achieved by these investees.
The specific metrics created for this fund include new access to clean energy connections, the number of new green jobs created, the tons of carbon dioxide emissions sequestered and the tons of waste diverted from landfills into productive uses.
These outcome payments primarily help cover the costs associated with originating and investing in small green businesses and providing them with the support they need to grow, ultimately linking the access to, and cost of, capital to a business’s social and environmental impact. It is a win-win.
The Brazilian impact fund manager Vox Capital, which has developed an innovative compensation mechanism, is another example.
The structure aligns the interests of investors and Vox Capital by including both financial and impact targets that must be met through the fund’s investments. If only the financial target is met, Vox Capital receives 10% of carry (compensation). If the financial and impact targets are met, the fund manager receives 20% of the carry, incentivising the delivery of the intended impact. This method has resulted in Vox Capital serving 19-million people in the sectors of health, education and financial services.
Rewarding for impact does have its detractors.
Some critics argue that investors should not have to be rewarded for doing the right thing, while others maintain that it is still too challenging to measure the outcomes.
However, these examples show that it is possible to establish an investment structure and framework that works for both investors and investees — as well as for society.
In SA there are many young entrepreneurs with strong ideas, viable models and lots of passion and drive who lack the collateral and track record and do not have an advanced business degree or the ability to bootstrap their idea.
They might be ready to combat climate change, create an empire of jobs and empower individuals and communities along the way yet they are constrained by lack of finance.
Monetisation of impact could unlock capital to invest in these businesses and catalyse significant impact for society, creating a new generation of investors along the way, and ultimately creating a more inclusive SA.
• Suchecki is a project manager for impact investing at the Bertha Centre for Social Innovation and Entrepreneurship, a specialised centre at the UCT Graduate School of Business.
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