Like many other industries, the investment world is experiencing a rapid shift in focus to mitigate climate change and general inequality for people and the planet.
Being an investment professional at Design to Improve Life Funds, I celebrate the change in perspective and increased focus on sustainability through capital allocation. We’re seeing investors' ‘assets under management' earmarked impact investing was estimated at USD 2.3 trillion in 2020 and, when broadening the scope to ESG, is trending toward UDS 150 trillion by 2025.
Numbers are positive and very clear – more investors and more capital, adding to overall improved professionalism around sustainable investing, oftentimes inspired by classic capital allocation methodologies.
However, this development sometimes causes friction between the worlds of return versus impact and presents a risk of missed opportunities.
Missing impact and missed opportunities
A general consensus is that impact investing needs to be accounted for in the same way we assess financial returns and business metrics by key KPIs, e.g. lives saved or CO2 captured. Accountability by impact metrics, like the Impact Management Project, is positive and supports alignment between the impact company and investors, all the way up to ultimate fund owners being able to assess and benchmark different investment funds.
However, when investing in the very early stages of frontier technologies and backing pioneers of tomorrow, the realised impact is hard to report on an ongoing basis, as the change will happen years in the future. As a result, expected future impact or binary milestones on product development are logical alternatives, but will not perform as well as ongoing reporting metrics. The former rarely changes for years at the early development phase of a company and the latter does not provide the impact metrics oftentimes used to assess case performance.
My personal conflict is the risk of missed opportunities – if the impact cannot be reported and investments are skipped on that account, it's a shame. The best companies can be the ones providing zero measurable impact in the short- or middle-term, but with the potential to positively change the course of history in the long term. We need the courage and flexibility to support them as well.
Investing in impact
A key point when doing so is to ensure that companies have impact as their core technology or business model so that the derived effect of commercial success brings the impact needed. We apply traditional business metrics as a proxy for impact or enabled impact while encouraging founders to stay mission-focused. By doing so, we optimise for a positive financial return profile, with a positive effect on people and the planet and ironically move closer to traditional early-stage investment methodologies.
As a result, we monitor and report on impact whenever possible, but also target investments in future winners, without short-term impact metrics available. In the end, we use the overall term ‘purposeful capital’.
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