Can Impact Investors do Good and do Well
(as published in Education Investor October 2016)
Impact investment was a novelty a few years ago, an attempt to manage philanthropic intent within the context of commercial reality. It is viewed by some family investment offices as a means to nurture capital in a self-managed portfolio, enabling a philanthropic mission while avoiding more risk-orientated approaches. But as this class of investment has risen, so have the related challenges.
It would make sense to investigate some of the key themes that this type of capital relies on and/or imposes, based on differing viewpoints. Do impact investors follow traditional investment disciplines? At what stage of a company’s development should they invest? Is there a natural tension between return on investment and social impact?
First it is important to distinguish philanthropic investment from impact investment. In the philanthropic investment space, the likes of the Bill & Melinda Gates Foundation have led the way in deploying impact capital in charitable concerns as well as through grants to commercial entities. Their focus is more on outcomes, less on the measurable financial returns.
Over the years the Gates Foundation has invested over $28 billion (£21.3 billion) in socially beneficial ventures, while the Omidyar Network (founded by an E-bay founder) is following suit with its $976 million fund. In the context of education, some of the largest technology players have also entered the space aiming to ‘give back’ to the community.
I was in a meeting recently with the head of education at a truly global technology behemoth in Silicon Valley, discussing the challenges of deploying technology to support education globally. The organisation is not necessarily known for its participation in education or ed tech, but there was a genuine passion on his part about making a difference and having a direct impact on education. He set out a plan to roll out a learning management and content platform for schools, which I must admit sounded very well thought out and funded.
But as we chatted, it dawned on me that what was being proposed as a philanthropic gesture – to roll this platform out for free – would no doubt be a death knell for many ed tech businesses. The gesture of giving this platform to schools and educators would, based on brand name alone, ensure rapid take-up. Free on its own rarely appeals to educators but free from a brand they know, and probably have a personal relationship with, is an entirely different matter.
Noble though this intent may be, it is often to the detriment of smaller education innovators who will not survive the onslaught of ‘free’ products or services from global technology and media giants. The users (read ‘new users for the giants’) in turn will inevitably go through a term/curriculum year cycle and realise that the previously paid-for services had more pedagogical depth. By which stage the smaller companies providing that depth may well have gone under.
Impact investors on the other hand have to have a more balanced view about outcomes and returns. However, another set of issues tends to arise ahead of, and during the course of, the relationship with an investee company. Impact investors see the social outcomes from investments – be they educative, in terms of health or well-being, or community-based – as the key drivers for investing. If they cannot firmly justify that these outcomes can be achieved, they may decide not to invest.
If they do invest a key challenge is to uphold their impact intent while supporting the investee. This is a delicate balance, and I have seen few that have mastered it. Impact investors who set up funds a few years ago started with a deep sense of purpose and the teams reflected that. It was all about making a difference while ensuring the return on investment was good. They were neither hunting for unicorns nor out to be private equity junkies, racing to raise the next fund. That was reflected in a shared vision with investee companies.
But inevitably the deal flow and the commercial pressures have swayed the mix of requirements along with the structure of the teams. The drive for social impact started to play second fiddle to the desire to behave like traditional private equity firms; passionate teams slowly have been replaced by private equity teams mid-way through investments and without continuity of vision.
At the same time an inherent flaw began to surface among early-stage impact investors. Entrepreneurs are all about seeking opportunities and being adaptable. Having to change quickly to survive is the mantra. So when a company is driven by changing market circumstances to pivot, possibly away from the impact metrics, there is a natural conflict. The impact investor is left stranded. Unless they have a structure in place to easily allow for an exit – which is rare – they are left with a stake in a company that may now be driven more by commercial rather than outcome metrics. That leaves both sides in a pickle.
They would do well to solve that conundrum soon. It can mean that the investee company ends up with a capital structure that inevitably becomes a hurdle for other investors. Maybe the impact investors should consider keeping their powder dry until companies reach a more sustainable scale and earning base, with less likelihood of a pivot. That would probably be less traumatic for companies and more fulfilling for investors.
This situation could become quite untenable for a business that wants to seek corporate/strategic investment where the corporate’s relatively inflexible commercial objectives may contrast with the impact investor’s relatively inflexible social objectives. This would place unnecessary restrictions on sources of capital, a scenario that leaves an entrepreneur stranded.
What determines success?
Even if the above are all dealt with, one needs to have a clear and unambiguous view of what the impact metrics are. What determines success? This is where it gets quite tricky.
In the context, say, of an ed tech business that is looking to improve outcomes for primary school students, one can fairly easily create control groups and compare impact outcomes based on testing and assessment. There would be some subjectivity involved but one would expect mainly quantitative metrics. As soon as this starts to touch on more senior learners where outcomes are more nuanced and/or sophisticated, the impact investor needs to take a step back and look at more holistic impacts. Job outcomes rather than test scores, of course, best measure employability. The contribution towards vocational qualifications and the consequent ability for skilled workers to participate in the economy should be quite clear-cut. Alas, this simplicity seems to fail to impress investors who are looking for the ‘box’ to tick for investment committees.
So in summary, maybe companies in the sector should be more wary of the larger philanthropic investors. Though at a macro level they may be expanding the market and doing some real good, from an entrepreneur’s perspective, philanthropic foundations may inadvertently be one of their largest competitive threats. Impact investment funds equally need to be wary about when they invest in early stage businesses and how they retain the flexibility in the capital structure.
Finally, collectively both sides need to be very clear that it’s not about binary impact outcomes but a considered balance which delivers on the promise to investors, learners and the community.
Originally posted on Linked IN by:Dan Sandhu
Contact John Assunto for all of your Education Recruiting needs! Johna@worldbridgepartners.com or 860-387-0503
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