By Avisheh Avini (formerly of Mintz Levin)
From the days of divesting assets from companies doing business in apartheid South Africa and withholding investments to protest big tobacco, values-based investing has come a long way. And it’s no longer just about hippie companies like Ben & Jerry’s ice cream, which pioneered the concept of corporate social responsibility. With impact investing, investors are now seeking to use the markets to solve the toughest challenges of our time, such as financial inclusion, climate change, access to health care, and affordable housing. So what exactly is impact investing?
Impact investing is a term that has different meanings for different people. The term “impact investing” itself reportedly was coined only in October 2007 at a gathering of the Rockefeller Foundation and, given that it is a relatively nascent sector that is ever evolving, there is not one standard definition. The Global Impact Investing Network (GIIN), a leading nonprofit organization dedicated to increasing the scale and effectiveness of impact investing, defines impact investments as those “made into companies, organizations and funds with the intention to generate a measurable social and environmental impact alongside a financial return.” What really differentiates the impact investor is its proactive nature: the impact investor seeks out investment opportunities that have an explicit focus on making a positive environmental, social, and/or governance (ESG) impact, as opposed to the socially responsible investor (SRI), who merely avoids investments in sectors that are inconsistent with its values. But how does the impact investor measure the ESG impact of an investment?
Using mainstream metrics is a challenge, especially given the longer term investment horizons and the varied and often complex nature of the ESG issues to be tackled. However, several organizations have attempted to quantify the ESG changes to be delivered by an impact investment. The Rockefeller Foundation, a leading player in the impact investment sector, has funded multiple measurement systems to assess, benchmark, and report ESG changes, the two leading metrics being the Impact Reporting and Investment Standards (IRIS) and the Global Impact Investing Rating System (GIIRS). IRIS is managed by GIIN, which measure things such as company clients (i.e., who are the recipients and beneficiaries of the company’s products and services), employment (including full-time employees versus part-time employees, employees residing in low-income areas, gender and minority break-downs, and wage payments), environmental performance, financial performance, governance and social policies, and product information. B Lab, a nonprofit organization that seeks to use business to address social and environmental problems, developed GIIRS, a ratings and analytics approach analogous to Morningstar investment rankings and Capital IQ financial analytics that uses a company’s IRIS-based metrics (along with additional criteria) to determine a company’s overall impact rating. Although many other organizations have also developed proprietary processes to assign social responsibility scores in different market sectors, IRIS metrics and GIIRS ratings currently appear to be emerging as the gold standards in the impact investment sector.
The private sector, however, is only one side of the story when it comes to impact investing, and to move impact investing to the next level requires legal and regulatory alignment. So far, over 30 states and the District of Columbia have adopted legislation to enable the establishment of for-benefit corporations, or B Corps. B Corps are a form of for-profit corporate entity that includes positive impact on ESG issues in addition to profit as its legally defined goals. B Corps differ from traditional C corporations in purpose, accountability, and transparency, but not in taxation. Some of these state laws require certification of B Corps by third parties, such as B Lab. One well-known B Corp is Warby Parker, a high-fashion eyeglass maker that “was founded with a rebellious spirit and a lofty objective: to offer designer eyewear at a revolutionary price, while leading the way for socially conscious businesses.” For every pair of glasses sold, Warby Parker donates a pair of glasses.
The federal government has also stepped up to the plate: in June 2014, the US National Advisory Board on Impact Investing (NAB) released its first report, “Private Capital, Public Good: How Smart Federal Policy Can Galvanize Impact Investing – and Why it’s Urgent,” to provide a framework for federal policy action in support of impact financing. This report was also presented at the White House and to members of Congress and highlights the strategies for how the government can partner with impact investors to help this sector reach its potential. Specific recommendations include removing regulatory barriers, increasing the effectiveness of government programs, providing financial incentives for more private sector investments, supporting innovative impact enterprises and investment opportunities, and improving metrics and data access. After the meeting at the White House, more than 20 foundations and financial firms committed to invest more than $1.5 billion in new impact investments, including Prudential, Capricorn Investment Group, and the Omidyar Network.
Across the pond, under the auspices of the UK presidency, the G8 established The Social Impact Investment Taskforce in June 2013, which issued a report in September 2014 entitled, “Impact Investment: The Invisible Heart of the Markets,” recommending similar changes as the NAB. Member countries, such as France, have their own initiatives as well, where legislation now requires that all corporate employee pension plans offer at least one “solidarity fund,” which invests 5-10% in eligible ESG enterprises, and typically invest the rest according to SRI principles. And the UK government itself now provides a 30% tax relief for social investments.
Canada has gone one step further and launched the Social Venture Connexion (SVX), the first investment platform of its kind in North America. SVX was built to connect impact ventures, funds, and investors and provide a platform for fundraising for impact ventures. SVX is registered with the Ontario Securities Commission, and has raised several million Canadian dollars to date.
The United Nations–supported Principles for Responsible Investment (PRI) Initiative, an international network of investors working together to put the initiative’s six aspirational and voluntary principles into practice, has also quickly become a leading global network for investors to publicly demonstrate their commitment to impact investing across various asset classes. The principles are designed to be compatible with the investment styles of large, diversified, institutional investors that operate within a traditional fiduciary framework. The PRI Initiative’s goal is to understand the implications of sustainability for investors and support signatories to incorporate these issues into their investment decision making and ownership practices. Assets under management by PRI signatories now stand at more than $59 trillion, and 94% of signatories now have a responsible investment policy in place, covering an increasing range of asset classes.
And Wall Street is not one to be left behind: Credit Suisse, JP Morgan, Bank of America, and Morgan Stanley, among others, offer ESG-based financial products in response to their clients’ demands. Last year, Bain Capital hired former Massachusetts Governor Deval Patrick to build the firm’s social impact investing business; Goldman Sachs acquired Imprint Capital, an institutional impact investing firm based in San Francisco; and BlackRock announced its own new initiative, BlackRock Impact.
While the impact investment sector is still evolving and highly fragmented, it is fast developing into a formidable market force, which can only become stronger with increased scale and efficiency in the future. Even if impact investment accounted for just 1% of global financial assets, that would be an estimated $2 trillion, according to GIIN. Now that’s impact.