What did go wrong and what to do about it? I believe that the movement has started, the movement towards the questions HOW? WHY? and WHAT? instead of just HOW MUCH?! Let me get it straight. I believe, that investors and Finance practitioners ARE indeed a good people. Although, it might be tricky to see it at the first sight. It is the action – reaction, risk – return, cash is king attitude that makes them to be perceived as shadowy folk! Nevertheless, the times have changed.
19th – 20th – 21st Century investment appraisal
Good is where the money is. The invisible hand of market… I would love to go on but unfortunately this is as far into the times I was an eager economics student as one can reminisce. However, I can tell you something about the early 19th century. It was all about PROFIT! Industries were being formed around a simple-minded metric. Don’t get me wrong, I am not telling this was not a proper investment performance appraisal, but it lacked the HOW? WHY? and WHAT? dimension, alongside the risk assessment.
What is questionable about measuring the profitability of a project? Well, one can think of many issues, alongside the cash vs. accrual or short-term vs. long-term profitability there is a pressing question of variability of a profit. In the late 19th and early 20th century academia and practitioners turned towards an assessment of a risk adjusted returns as well as portfolio theory. You do not have to be an HBS graduate to grasp the idea that getting paid the money government owes you is a much easier task than getting back money you lended to a notorious gambler. Also, thinking about putting all your savings 50/50 into 2 asset classes which returns are uncorrelated, or better yet, perfectly negatively correlated is much more pleasant idea than putting your savings into a single asset class. If it is not, than please do me a favor, go check your Facebook, Instagram, Snapchat, get a coffee and think again!
Not to get sidetracked. Here we are, in the 21st century on a verge of a next big thing the IMPACT INVESTING. What has changed? To be honest, not much. We still measure profitability, we are still concerned about its variability, and Beta lovers still do research about the same damn ideas. However, we have supposedly grown enough to realize another dimension of return, namely the social and environmental impact of the engaged capital.
Impact Investing logic
First of all, Impact Ventures are still focused on making a buck, so much so, that it is just normal to see average or above market average IRRs achieved by Impact Investments. Second, the WHAT? HOW? and WHY? questions come into picture. Impact Investments are focused on areas underserved by traditional investments, namely you are likely to find Impact capital to be engaged in (1) impoverished geographical areas, I am not necessarily speaking about developing and third world countries, but rather neglected urban and suburban areas. (2) Unpromising industries, such as education and health of the lower income quintiles. Third, besides the financial return which constitutes a reward for employed capital, Impact Investors work with Social and Environmental Impact Metrics to assess a performance of a project and either focus on them solely to pursue the projects with the highest impact, or go as far as linking the social impact with additional financial return. It works like this, Impact Investors have to recognize and approach the third party positively influenced, financially, by the social or environmental impact. This influence creates either savings or additional source of income for the third party. Impact Investors are, therefore, in an ideal position to negotiate a financial participation on the positive impact.
The challenge is the metric
One question could arise from the above-mentioned. What metric is there to properly and comprehensively assess the Impact? It is on the investors resourcefulness to come up with one. And it better be sensible if they are about to link financial returns to it.
HardWood Capital Impact Investing HUB
Under the Impact Investment HUB initiative we will be on a watch for a potential Impact Capital engagement in the CEE region. In addition, we will be constructing new metrics, assessment methods and monetization plans for impact capital. Last but not least, our team provides pro-bono consulting to NGOs, foundations, non profits, municipalities and state in the fields where we see a big potential for a positive impact.