By: Arjun Goyal
Many assume that the financial industry operates purely for profit but a recent rise in impact investing may prove otherwise.
We’ve all come across that person who cries: “The bankers are a bunch of crooks! They only want to make money, and are out to get your money and run away with it. Finance is a dirty game.” Regardless of the validity of this normative and generalized statement, we continue and most times need to, engage extensively with the financial world by using banking facilities, putting money into investment and mutual funds to save for retirement or earn a return on idle cash, receiving funds for loans and much more. But there is good reason that such an outlook on financial services exists today. The Global Financial Crisis in 2008 exposed the profit hungry dealings of financial institutions that pushed the economy to the brink and then over the tipping point into a rampant recession.
But the industry is trying to make amends, and is becoming more conscious of the impact of its decisions on society and the environment; not only is this a form of an apology, it is also a marked shift in the activities that firms are undertaking to benefit financially. This change has been highlighted by the rise of firms that are undertaking socially conscious investment, or “Impact Investing”
What is Impact Investing?
Most investments are made in order to receive a future financial return on the funds being invested; the idea is buy something that appreciates in value to eventually sell it for a profit. Impact investing takes this return one step further. As the Global Impact Investing Network (GIIN) puts it, “[Impact Investors] are investors who are determined to generate social and environmental impact as well as financial returns”.
Not only does this mean that these investors avoid investing in any company or project that could have an adverse effect on the environment or society, but also that they seek to invest in assets that engage in activities that benefit the environment and society. At the same time, they differ radically from any form of charity since they demand certain financial returns from their investments. It aims at creating mutual benefit for society and firm, and creates a double bottom line: profit and positive externality.
It is important to note that there is a wide breadth of activities that firms in this segment undertake. They can range all the way from only providing credit and equity for these firms to full scale venture capitalism and private equity. A snapshot of this breadth can be seen in this scale from GIIN.
Why it works?
When I first came across this space, I was quite convinced that it would be a space where returns would be minimal, and much of the investment funds would end up becoming grants with no return in sight. But there are intrinsic properties in impact investing that make it resistant to such outcomes.
The fact that profitability is part of the investors’ bottom line means that investments into entities will be made with in-depth financial analysis and forecasting to ensure future project strength and longevity. Needless to say, not all companies can receive this kind of capital, implying that there is a pool of high-potential firms receiving capital from which a large number have a high probability of succeeding and creating a lasting impact in the world.
Because the investments are made with the intention of creating profit (in addition to social impact), there is a creation of accountability in the investee companies. With targets of expansion and return being set by their investors, companies need to do all that they can to meet these targets. If they do not, there is a threat of divestment. In turn, they start to work at increased efficiency without the lax that many socially conscious firms suffer from in the status quo.
Here’s another question: Why would anyone invest in this when there are opportunities to receive far higher returns with less risk? It seems to be the opposite of what logic and portfolio theory state.
The fact of the matter is that we live in a time when being socially and environmentally conscious creates a great impression on others; it’s part of the reason why CSR (Corporate Social Responsibility) has become such a massive part of the undertakings of large firms. It’s also part of the reason why wealthy individuals engage in philanthropic activities. Socially conscious investing may not create a high return on paper but it creates a far higher abstract return than most other investments. In addition to creating impressions, it also has a very high ‘feel good’ value. Impact investing allows for investors to not only make money but also feel like they are contributing to making a difference in the world. This positive emotion is a key driving factor for investors today.
Current State and Real-Life Successes
A Financial Times article on the topic of impact investing notes that it has become extremely popular amongst clients of financial services firms; an executive from Credit Suisse stated that clients say, “if I was otherwise going to give my money away, I can take that bucket of money and use it in impact investing’.” Socially impactful business really has become a buzzword in the current market.
Successful firms that currently operate in the market include Arborview Capital, Bamboo Capital Partners, Omidyar Network and Impact America Fund. These firms have enabled and jump-started numerous businesses in the world who are trying to make a difference. For example, Omidyar Network has been able to invest in companies like Khan Academy, a free online education platform that promotes learning, and Project Isizwe, which helps to provide wi-fi to low income communities in South Africa.
Large scale banks have also recognized the allure of combining social responsibility and profit generation: firms like Bain, Deutsche Bank and Barclays have all started to form representations of impact investing funds of their own. All of this commitment to sustainable investing has led to the management of more than $100 billion in impact assets, as of 2017. And that number only seems to be growing.
However, a key question to answer is why the industry is moving towards this trend. Is it all just for appearances, to change the image of the industry (as stated before, impressions are crucial), or has the industry really embraced the idea of being profitable while still bettering the world? I think it’s a bit of both. Every form of giving (most prominently charity) has a selfish element to it, where we aim to enhance our image to society by showing our sacrifice. At the same time, giving also stems from a deep rooted feeling of compassion. Impact investing and socially conscious finance is no different. My view is that even if it may be just for appearances, businesses trying to make an impact are getting the capital they need to continue bettering the world; in the end, that’s all that should matter.
Will it last?
Even with its success, impact investing still has its critics. For example, Forbes writer Jean Case quotes a venture capitalist who stated that “impact investing is like a houseboat; it’s not a good house and it’s not a good boat.” But the truth is that all new ideas have opposer and critics and the ones that survive are the ones that block these out and continue. Impact investing, in my opinion, seems to be a winner.
There are signs backing me up on this. A few months ago, Larry Fink wrote a letter to the CEOs of firms in the financial services industry, addressing to them that while their practices in creating value for their clients have been great for them, they need to start looking at the implications of their investments. He stated that what the industry needed was investments in companies that promoted social and environmental well being, in addition to creating financial return. This is exactly what impact investing hopes to achieve. I also, attended a talk at NYU Stern during Social Impact week where Brace Young of Arabesque stated how there seems to be a strong correlation between long-term financial success and adherence to certain moral and ethical standards; an example of this could be United Airlines, which runs a successful airline business but who’s unethical treatment of customers has recently caught headlines and caused widespread dismay in goodwill for the company.
It seems that the view of the financial world being out to get you and destroy the world for their benefit may be getting outdated. I hope that the new trend can help amplify the impact people in the world are trying to make by giving them the capital they deserve.
Image source: Bank, David. (2017, November 16). Forbes joins the impact investing parade with boldface-name reception. Retrieved: https://impactalpha.com/forbes-joins-the-impact-investing-parade-with-boldface-name-reception-d560c4382ca3/
Impact Investing. Global Impact Investing Network. Retrieved from https://thegiin.org/impact-investing/
Gilbert, J. C. (2017, October 10). Putting The Impact In Impact Investing: 28 Funds Building A Credible, Transparent Marketplace. Retrieved from https://www.forbes.com/sites/jaycoengilbert/2017/10/09/putting-the-impact-in-impact-investing-28-funds-building-a-credible-transparent-marketplace/#578e61a3e5fa
Ross, A. (2018, April 14). Give your money real clout with impact investing. Retrieved from https://www.ft.com/content/195598c8-334f-11e8-ac48-10c6fdc22f03
Annual Impact Investor Survey (Rep.). Global Impact Investing Network. Retrieved https://thegiin.org/assets/GIIN_AnnualImpactInvestorSurvey_2017_Web_Final.pdf
Larry Fink’s Letter to CEOs. Retrieved from https://www.blackrock.com/corporate/investor-relations/larry-fink-ceo-letter