Posted on January 10th, 2013 by Anne Fleur Goedegebuure
What is impact investing?
The concept of ‘impact investing’ emerged around five years ago, and over that time has become subject of sustained interest. In short, it means finding and investment in enterprises with the implicit intention to generate positive social impact with a return on capital. While achieving social and environmental progress used to be regarded as a goal of charity or aid, impact investing shows us that business has the power to tackle societal challenges. Thus, business is no longer a simply driven by the profit motive, as for-profit investment capital is combined with philanthropy to address societal challenges. There are inspiring examples of impact ventures in the cohort of the first Village Capital NL program (which is founded by Outside Inc., Impact Hub Amsterdam en the DOEN Foundation.
Company-level vs sector-level impact investments
Understandably, impact investors tend to invest in individual firms that would deliver the greatest financial and social returns. While we all love to see direct results of our investments, other – more strategic – investments elsewhere are consequently often overlooked. It is especially these types of impact investments that provide the foundation in which entire new sectors can emerge and rapidly up-scale. This means investments in early-stage, high-risk innovative firms. These investments will ultimately generate a flow of investable, high-return investments. How could we make these strategic – but often uncertain and riskier – investments more attractive?
One way to do this is to focus less on the social impact of individual firms and more on sector development. In the article “Priming the Pump: the case for a sector based approach to impact investing” by Matt Bannick and Paula Goldman it is argued that we should look more at what is required to spark, nurture and ultimately scale entire sectors for social change. As Alvaro Rodriguez of the impact investing fund Ignia stated: “Single firms are born, they mature, get lazy and they die. But industries prosper over time and reach scale as competition fosters the delivery of better products at lower costs”.
Thus, we should look less at the social impact of the firm and more at the sector level social impact that it has. While individual firms remain the essential innovators and building blocks of social change, investments in an individual firm may also create positive externalities for the sector as a whole. In other words, we can regard an investment in an individual firm as a mean to a broader end – namely the creation of innovations that can touch the lives of hundreds of millions. For example, if your company is the first entrant in a market, customers may still be wary of the efficacy and safety of your services. As a result, you may not be able to reach a large group of customers on your own, but over time your efforts (and errors) may lower the risks and help other new companies that want to enter the market. Take the solar lighting sector for example: It started around 2007, with investments in innovative firms which produced low-cost, environmentally friendly lanterns for people in developing countries without access to grid electricity. Over the years, a number of competitors have entered this market and as a result the prices went down and the quality of the products improved. This development enabled more and more of people in developing countries to afford the lanterns.
Identify the actors
Before we can tap capital markets to enable sector lift off, we need to identify the different players in the sector and their returns profiles. In “Priming the Pump” they distinguish three different organizations/firms: the market innovators (the entrepreneurs that believe in products or services before it has shown its profit potential), the market scalers (they enter the sector after a generic model has been de-risked) and the market infrastructure (they build a supportive ecosystem in which entrepreneurial innovation can thrive).
To be able to move a sector we need to stimulate and invest in all of these three leverage points. But this is also where the problem comes along, because capital is not evenly available for all these types of organizations. You won’t be surprised to hear that most impact investing capital is available primarily to scalers and in a lesser extent to innovators and industry-specific infrastructure firms. The latter group often struggles to find the funds and the human capital support they need to be successful. Capital appears to be thinnest where it appears to be needed the most. There is a need for impact investors willing to assume the high risks and uncertainty of low returns associated with investing in socially impactful early-state businesses.
Let’s kick-start sector development!
Thus, we ourselves need to prime the pump to encourage the birth and growth of new industry sectors. This entails not cherry-picking investments in individual enterprises that will yield strong financial return and high social impact. To be able to get early-stage innovators off the ground and support the infrastructure that accelerates their success, we need to take more diverse risks and deploy a wider variety of capital types. To kick-start sector development we have to collaborate, especially those who believe that the power of markets and the inspiration of entrepreneurs can be used to create opportunities and a brighter future for billions. This is also the starting point for the Cross-company Bootcamp organized by Outside Inc. and Ideedropper. The aim is to force a breakthrough in the traditional domain of personal finance, living, care and pension through entrepreneurship. The Cross-Company Bootcamp provides 5 traditional corporations (potential market scalers) the opportunity to extend their eco-system and to discover how they can reinforce each other with the goal to create new business opportunities and solve social issues at the same time. Together with these five companies we challenge the sectors’ status quo and ultimately deliver five new joint impact ventures with a sustainable earning model. It will show that success often does not require a perfect plan, but a collaborative effort by those who believe in it.
Please check our webpage for more info about the Cross-company Bootcamp concept.