Impact investment: Do we have the capacity to overcome the financing gap which exists in order to complete the SDGs?
21 Sep 2016 by Aymeric Jung
Why do you think Impact Investment is increasingly relevant in today’s economic setting as a method of deploying finance with double or triple bottom line objectives?
Investment must adopt a long-term vision and allow for solutions to bloom. We have lost the essential meaning of investment, which has become volatile and focused on the short-term through speculation. For instance, in the 19th Century, private investors financed the railroad network in the United Sated, responding to the need for transportation across the continent. Now, we must face the major challenges of feeding a rapidly expanding population, Climate change and large-scale migrations. Solutions exist, entrepreneurs reinvent goods and services to address the social and environmental needs of the future. Supporting these solutions lies at the heart of Impact Investing.
It is going to be increasingly difficult for a company not to operate in a sustainable way, either due to the demands of consumers, or the imposition of regulation. In the near future, business will need to be sustainable in order to be profitable; but sustainability also comes with profitability and the ability to attract private investors. These two notions - sustainability and profits - are closely interlinked and soon will be embedded in any form of investment.
Does impact investment have the capacity to overcome the financing gap which exists in order to complete the Sustainable Development Goals (SDGs)?
The development of Impact Investment puts forward solutions to the inadequate distribution of wealth and thus essentially supports the implementation of the SDGs globally.
If we look at the numbers, we have on one side approximately USD 70 billion invested through Impact Investment, microfinance included. On the other hand, USD 70 trillion are managed by fiduciaries, while the amount necessary for the realisation of the SDGs is approximately USD 3 trillion annually. If we were to invest 3% to 5% of the portfolios managed by fiduciaries in response to the great challenges of our time, we would quickly reach the allocation needed to realise the 2030 agenda.
Funds would then be available, what about the solutions’ pipeline in which to invest?
Indeed, we need professionals in investment and risk management able to propose solid pipelines to create the necessary comfort zone for investors. This is achieved through investment companies such as Quadia, with a strong network of field specialists who understand value chains such as the food production or energy efficiency; but also through the most reputable players in the industry. However, our competencies do not cover every sector and this is where public-private partnerships come into play. International Organisations can have an important role in Due Diligence processes, in widening the scope of available solutions and providing guarantees which facilitate investment.
How do you deal with the question of risk and return on investment with your investors?
The risk is linked to the portfolio. By diversifying and targeting the most interesting SMEs through diligent control mechanisms, we attenuate risks. Let’s not forget that by failing to measure and integrate sustainability in investment strategies, we dramatically increase the risk of a portfolio and weaken future returns on investment. Risk also lies in refusing to join the new circular economy which preserves natural resources and respects communities.
Quadia concentrates on bringing capital and technical assistance to developing SMEs that focus on social and environmental priorities. We are interested in different aspects of a company: its financial solidity, its team, but also its integration in the value chain and its impact, which we measure. For instance, a company that relies on international and complex sales and logistics has probably little resilience. Since we like integration in the value chain, we will probably not invest in a milk producer that does not own its distribution or transformation processes. We manage risks through a step-by-step approach and by working with stakeholders who know perfectly the local market. Of course, we also mitigate financial risk by taking collateral on the company as well as on their financial and commercial partners.
Another important aspect related to risk and return is the way in which we present the relation between the investor and the beneficiary. For instance, it is difficult to propose to a pension fund a EUR 5 million investment in a Senegal based cooperative which employs 2500 local producers of rice. However, if we offer a participation in a financial structure which provides loans to the cooperative and receives, upon sale of the rice, reimbursement of capital plus interest, then the investor is more interested.
As for returns on investment, these are similar to typical return rates of around 6% to 10% for equity and 3% to 6% for credit lines.
Do existing pipelines have sufficient absorption capacity? Is it best to bet on larger projects?
This is a sort of chicken and egg conundrum. When the funds are available, we have the pipeline and vice versa. If an investor tells us that he wishes to invest 100 million in 6 months, we can put in place additional resources (teams, research, etc.) that go beyond the management of our usual streams and we can guarantee to investees that the funds are available. We then have the elements to achieve the objectives of the investment.
It is wrong to believe that we should only bet on the bigger projects. We’re just talking about different players. Let’s imagine the case of a startup in need of 50,000 euros. Business angels, foundations or public programs provide the first 50,000 euros in order to calibrate a good or service and make it operational. Once the product exists and we know it provides a solution that is marketable, sales must be developed (which calls for working capital). It’s on the scaling of activities that Quadia intervenes. What is essential is to have public policies or foundations which provide seed capital in the research and development phase, when the product or service is not yet ready for the market.
I would like to conclude with a quote from George Bernard Shaw:
"You see things; and you say 'Why?' But I dream things that never were; and I say 'Why not?’”