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  • Service: Enterprise, Family business
  • Type: Business and industry issue
  • Date: 10/4/2013

The Impact Investment industry in creation 

The Impact Investment industry in creation
Many family businesses are showing a strong interest in the field of Impact Investing and are leading the creation of the Impact Investing Industry. Impact Investment is defined broadly as the application of capital to activities that can generate high societal return, and where traditional financial markets are failing to allocate enough capital.

If we think about Impact Investing as an industry in the making, we can summarize the broader insights from the conference around four themes:

  1. Allocating societal resources for increased impact;
  2. New industries need innovative business models;
  3. Scaling-up in a sustainable way; and
  4. Can the logic of impact investing become embedded in the fabric of society?

We previously covered the first two in The essence of Impact Investing, and we’ll deal with the second two here…


Scaling up in a sustainable way


There was talk at the conference of a bubble in impact investing and of a lot of “hype” surrounding the sector, with references to impact investments reaching US$1 trillion in a few years. Yet, conference participants said that they struggle to identify a strong pipeline of “investable” deals, while others mentioned that there is a dearth of financing in some countries, for example in Eastern Europe.


Clearly, supply is not yet meeting demand, and there’s a need to develop a host of intermediaries (incubators, exchanges, rating agencies, and impact metrics) that can help to establish the necessary infrastructure for the industry. Importantly, the models that work need to be up-scaled.


One of the risks in Impact Investing is that unproven investment models can receive too much funding and end up disappointing industry participants or, worse, distorting markets and creating inefficiencies, casting a shadow over the whole impact investing field.

The financing needs of social enterprises

In terms of addressing the financing needs along the life cycle of social enterprises, the seed stage financing is being well addressed by a combination of crowd-funding mechanisms, HUB-like networks of incubators, international competition, and global fellowship models, such as the ones built by the likes of Ashoka and Skoll, as well as venture philanthropy models at the early growth stages.


These replace the traditional role played by angel investors in the commercial sector. At the later venture growth stages, the “Private Equity in Emerging Markets” model pioneered by the likes of Bamboo Finance and Leapfrog Investments seems to be viable and is helping to build strong companies.

Early-mid-growth financing in impact investment

The real gap in impact investing at the moment seems to be the early-mid growth financing of for-profit social businesses, equivalent to the early stage venture capital models in the commercial world where funds in the order of US$500k to $1.5 million are allocated. This is already a difficult investment model to make viable in the commercial investing sector and it seems even more so in the Impact Investing sector.


To make early-mid growth financing work, there may need to be a change in the established models of venture capital investing. For example, the traditional venture capital model of a 7- years fund, 2% management fee, and 20% carried interest, may not make sense in Impact Investing. Longer funds, higher management fees, and lower carry may be required. Or, there may need to be a different conceptual model of how a fund operates – for example a focus on investment through debt as opposed to equity may be more aligned with the principles of impact investing in which the overall goal is maximizing the broader impact in society.


In essence, as innovators, there’s a need to draw from existing models to gain legitimacy, but at the same time there’s a need to have the courage to challenge conventional wisdom and innovate.


Can the logic of impact investing become embedded in the fabric of society?


This is the aspiration of any true social entrepreneur – that their organization becomes obsolete because their solution is now adopted by everyone else, thus addressing societal problems at a scale that was impossible to achieve through a single organization or fund. The best recent example of mainstreaming in the social sector space, leading to the creation of a new global industry, is micro-finance. But mainstreaming too early, with unproven models or unclear value propositions, may lead to Impact Investing becoming the latest bubble and losing its credibility in the process.


Mainstreaming Impact Investing will require systematically tapping into and efficiently allocating significant pools of funds from public budgets and international development, transforming the way foundations allocate grants, and changing the metrics and mindset of commercial investors. This is not a foolish dream.

Socially responsible investing: a sustainable solution

Socially Responsible Investing did not exist 20 years ago and has grown to become a mainstream criterion for commercial investments. As the sector becomes better at identifying and measuring impact, and aligning impact with sustainable solutions, the Impact Investing approach may gain dominance and help the financial sector truly fulfill its societal role of allocating scarce capital to where it’s most needed. Numerous family business leaders and next-generation members, many of whom already practice the “profit with purpose” approach, are at the forefront of these developments.

Filipe Santos

Filipe Santos
Filipe Santos is Associate Professor of Entrepreneurship at INSEAD. He is the director for the Maag International Centre for Entrepreneurship and the academic director of the INSEAD Social Entrepreneurship Initiative.
 

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