What Does the Growth of Impact Investing Mean?

Michael J. Preston is a partner and Michael James is an associate at Cleary Gottlieb Steen & Hamilton LLP. This post is based on their Cleary memorandum.

The amount of money being committed to impact investing strategies around the world has grown to $502 billion, managed by 1,340 organisations based in every continent and investing globally on behalf of family offices, banks, foundations and pension funds, according to analysis by the Global Impact Investing Network (GIIN).

In a white paper published in April 2019, the GIIN estimated that over 800 asset managers now account for about 50% of assets focused on impact investing, while 31 development finance institutions manage just over a quarter of industry assets and several large investment firms manage over $1 billion each.

Impact investing is a nascent strategy and continues to rapidly develop and define itself, but it generally refers to investments made with the intention of generating positive, measurable social and environmental impacts, often with the aid of active involvement from the investor. Unlike philanthropic investing, impact investment also seeks to generate a competitive financial return. It can also be distinguished from so-called ESG (environmental, social and governance) or SRI (socially responsible investing) strategies, which typically sit within a broader investment decision-making framework and provide negative screens based on ethical or other values-based considerations.

The impact investing landscape naturally aligns with the United Nations’ Sustainable Development Goals, but these are a broad and far-reaching set of aims; impact investing spans many sectors familiar with traditional private equity and growth investing, including education, energy, financial services, food and agriculture, health care, communications technology and growth infrastructure.

Impact investment funds receive high profile backing

We have witnessed a marked growth in the amount of capital flowing into social impact funds in recent years. Dedicated impact pools of capital have been raised by many of the largest alternative asset management groups, including The Rise Fund managed by TPG’s Growth platform, which counts U2 star Bono and the UK’s Richard Branson among its founder board members, and KKR Global Impact, which launched in 2018 to invest in businesses delivering solutions to significant societal challenges. Bain Capital also launched its Double Impact business in 2015.

As this dramatic rise in social impact strategies has taken shape, the focus has remained skewed towards investment opportunities in developing regions, particularly in Africa, Latin America and sub-continental Asia, which are perceived to provide opportunities for the highest potential impact return on capital deployed. There has nevertheless been growing activity in Europe and the U.S., particularly around tech or data-focused businesses that are able to deploy products or techniques towards sustainable development objectives in developing economies or regions.

What does the future hold?

Impact investments themselves adopt forms and structures familiar to private and growth equity and venture capital investing, with the most common being early-stage minority investment focused on providing a flexible and long-term funding base that can be used by investees to develop and drive their impact strategies.

However, as more and more capital floods into social impact, it is perhaps inevitable that the need to maintain deployment pace will drive bigger and bigger deals. We may witness something of a paradigm shift, with investors turning to larger buy-out or control deals, or taking positions in much larger, more established companies and looking to drive impact through activist strategies.

Perhaps the most critical issue for social impact strategies, however, is the measurement and reporting of impact. Managers and investors alike need to give careful thought to the impact outcomes that they will seek from their capital, and to how they will define social impact in order to measure their success.

To date, no single measure or methodology has been widely adopted to represent an industry-wide benchmark or standard in the same way that IRR and MoM measurements are ubiquitous across the alternative asset management industry.

The difficulty in both reliably gathering and then measuring qualitative data and calculating the economic value of societal outcomes makes it hard for any methodology, however rigorous, to provide a definitive and objective measure. However, there is a growing body of expertise among third-party advisory firms that have chosen to dedicate significant resources and focus to the challenge, including KPMG’s Global Impact Investing Institute and The Bridgespan Group. In January 2019, TPG also helped launch a new organisation, Y Analytics, focused entirely on measuring the social and environmental returns of investments.

What is clear is that, despite these measurement challenges, the appetite for impact investment strategies continues to grow. We increasingly see a landscape developing where large alternative investment managers will routinely establish their own social impact vehicles and commit considerable resources to creating positive societal outcomes.

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