UP FOR DEBATE: IMPACT INVESTING ... Last Word: Paul Brest and Kelly Born respond to the 18 people who commented on their article.

Burgess COMMENTARY

Peter Burgess

UP FOR DEBATE: IMPACT INVESTING Last Word: Paul Brest and Kelly Born respond to the 18 people who commented on their article.

First, we want to thank the commentators for their thoughtful responses. We learned from every one of them and, with only a few exceptions, any differences we may have are matters of nuance. But nuances matter in this nascent field, and we will touch on a few common themes. If we have made a contribution to the field, it is in teasing out the three major parameters of impact, and we’ll organize our response around them. (We invite readers who would like more detail as well as more examples to read the longer, somewhat academic version of the article.)

Enterprise Impact. With one possible exception, all the commentators who addressed enterprise impact agree that the issue is of central importance. Nancy Pfund (DBL Investors) says that it is necessary to “track the efforts, count the jobs, detail the carbon saved, or whatever your social-mission priorities happen to be.” Amit Bouri (GINN) describes the IRIS metrics for both operations and products as an “invaluable resource to clearly define social impact goals, track performance, and differentiate impact investors from socially neutral investors.” Rightly observing that “the perfect should not become the enemy of the good in impact measurement,” Beth Richardson (B Lab) notes that IRIS and GIIRS/B Analytics are “standardizing the process of data collection and analysis of social impact data.” We agree, with the caveat that they still have a long way to go.

In contrast, Alvaro Rodriguez Arregui and Michael Chu (IGNIA and Harvard Business School) assert that there is no value in further measurement of enterprise impact: “we have spent too much time and too many resources discussing impact measurement and trying to measure outcomes. …. So let’s move on and not overburden those initiatives focused on underserved communities with academic questions.” They proffer the relatively easy example of restoring someone’s eyesight by giving him a pair of eyeglasses. But the success of many interventions to improve the lives of the world’s poorest—even microfinance, the poster child of impact investing—is not so obvious. Just peruse the website of the MIT Poverty Action Lab to get a sense of how often seemingly obvious initiatives fall short of, or even subvert, their social goals.

Brian Trelstad (Bridges Ventures) adds nuance to our analysis of enterprise impact. Two of his categories, process and product, map onto our own categories of operational and product impact. To these, Trelstad adds place, where investors intentionally bring economic activity to underserved geographic areas, and paradigm-shifting impact investments that “strive to change the system in which that product is delivered.” We agree with the importance of place as long as place-based investments don’t rob Peter to pay Paul, for example luring a manufacturer from one poor community to another.

Along the lines of paradigm-shifting impact, Matt Bannick and Paula Goldman (Omidyar Network) discuss sector-level impact—“the ability to prototype a generic business model that, if successful, can propel the development of an entirely new sector” with the objective of “spurring the growth of more mature business models and a robust competitive market, which in turn creates impact for millions of customers.” We agree, and allude to this briefly in our section on improving the enabling environment. Readers can find a much richer discussion in Bannick and Goldman’s Stanford Social Innovation Review article, “Priming the Pump.”

Non-Monetary Impact. We saw no disagreement with our analysis of non-monetary impact. Harold Rosen (Grassroots Business Fund) describes the importance of business advisory services in helping build strong social enterprises, and this is an important activity for Catherine Gill and Mike McCreless’s Root Capital as well. Nancy Pfund describes DBL Investors’ nonmonetary assistance to Tesla Motors.

Investment Impact. The most novel aspect of our article was the identification of investment impact. Not surprisingly, this parameter, and particularly the criterion of additionality, stimulated the most discussion. Additionality requires asking whether an impact investment increases the socially beneficial outputs of an enterprise beyond what would occur through ordinary commercial investments by socially neutral investors. This comparison is relevant mainly for non-concessionary investments (since, by hypothesis, socially neutral investors wouldn’t make a concession). Addressing the comparison, Nick O’Donohoe (Big Society Capital) and Rosen argue that there may be fewer actual non-concessionary investments than one might think. O’Donohoe suggests that many impact investors overstate their returns, and Rosen notes that the returns of non-concessionary private equity funds aren’t as great as is claimed.

Drawing on their experience at Root Capital, Gill and McCreless note that “it is not difficult to evaluate additionality prospectively when considering a loan.” However, Bouri observes that “demonstrating additionality for every impact investment is often impractical; at the very least, managing and standardizing the measurement of additionality is costly, difficult, and time-consuming.” We agree. Our point is simply that additionality, to whatever extent it is estimated, is an essential criterion for impact. But even here we encountered some pushback.

Audrey Choi (Morgan Stanley) seems to dismiss the concept of additionality entirely. Rather than ask “How can I be certain that my impact investment is creating an impact that otherwise would not have occurred?”, she says that the real question for impact investors is “How can we drive positive change to address the world’s problems as broadly, as rapidly, and as effectively as possible?” But in our view, these are just two sides of the same coin. An impact investor whose investment does not meet the additionality criterion is not addressing the world’s problems as effectively as possible: By definition, socially neutral investors will make that investment in any event, and the impact investor’s investment would have more impact if directed towards enterprises not already adequately capitalized by ordinary commercial markets.

David Wood (Initiative for Responsible Investment), John Goldstein (Imprint Capital), and Choi make the more nuanced argument that a sufficient number of impact investors, even if each one is marginal, can affect even large cap markets. In Choi’s words, “one cannot say that no positive benefits accrue from decisions by mainstream investors to direct their funds away from investments that have negative or neutral social impact and toward ones that have positive impact.” Our own belief is that only a massive movement to invest or divest, coupled with an advocacy campaign, can make a difference in these markets, but we would be pleased to be proven wrong.

Bouri makes a somewhat different point—that “requiring additionality as a defining criterion … inherently marginalizes the impact investment market, implying that it will never be robust with competing investors vying for good deals and bringing with them all the benefits of a healthy investment market.” Sasha Dichter (Acumen Fund) agrees. But our point is that such a robust market is the ideal end state of impact investing: “Here, impact investors have played their part in bringing the enterprise to market, the impact investing story is over, and the enterprise is now supported by customers and ordinary market investors.” Impact investments are the rockets that get an enterprise or sector into orbit. So much the better when the velocity is increased by the “tailwinds of market forces” (to use Choi’s words).

Trelstad asks how concessionary investors can afford to maintain a portfolio of below market investments and make costly non-monetary contributions over time: “Simply put, who pays for it all?” One answer lies in what Dichter and his colleagues have termed “enterprise philanthropists,” who aren’t necessarily trying to assemble a portfolio with positive returns. In support of their philanthropic goals, they are willing to subsidize early stage ventures for some period of time. Contrary to Arregui and Chu, their market-building concessionary investments have the potential to be at least as transformative as non-concessionary investments.

And this brings us to the question of whether and when non-concessionary investments can meet the criterion of additionality. Arregui and Chu assert that our article “perpetuates the idea that financial returns and social impact are a zero-sum game and that you cannot maximize both.” On the contrary, we devote a major section of the article to explaining how, by exploiting market frictions, one might achieve both market returns and social impact. Indeed, we first heard the term “additionality” applied to impact investing by David Chen, whose Equilibrium Capital fund offers “alpha producing, sustainability driven investment products.”

In short, we agree with Bannick and Goldman’s view that “investors can have impact at all points of the return spectrum,” and are intrigued by Antony Bugg-Levine’s description of his Nonprofit Finance Fund’s concept of “Complete Capital.” Following contemporary finance theory, our article often refers to risk-adjusted returns, but as these and several other commentators note, some investors are willing to tolerate lower returns and some higher risks. Dichter elaborates this point nicely in a recent blog post.

Finally, Sterling Speirn (W. K. Kellogg Foundation) and Goldstein would add a fourth value to our three parameters of impact. What they call the “learning return” of impact investments is especially valuable in expanding the knowledge of impact investors and philanthropists, including foundation program officers, whose grantmaking can be improved by understanding the markets in which nonprofit organizations operate. We agree and, indeed, think they add one more dimension to the case for foundations being open to program-related investments.

If our article and the responses stimulate a broader discussion of these issues, then we will have had as much impact as we could have possibility hoped for.