Investing for impact

SOURCE: The Economist

The latest episode of Sense and Sustainability, featuring Garikai Nyaruwata on private equity in Africa, comes at a time when interest in both traditional private equity and “impact investing” in Africa is escalating at a rapid pace. A recent Ernst & Young report highlighted a surge in equity exit activity in Europe and North America that signals a potential rise in investing activity in Africa. As reported by the WSJ, Helios investment Partners broke records when it closed the continent’s largest-ever buyout fund at USD 900 million in June of this year .

High rates of economic growth and low competition for buyouts means that firms are making impressive returns – Helios reportedly made a gross 35% return on its last fund. However, returns on investments remain lower than in Asian and Latin American markets, and growth in this space is constrained by the lack of a robust legal environment and liquid public markets. Helios, for example, is capping its maximum target investment at USD 250 million. Until the high degree of operational risk that permeates markets in this region is reduced, the full potential of private equity to drive growth will remain unrealized.

Despite the heightened business activity and innovation that this influx of capital both signals and promises, there remain gaps in the availability of financing for projects with less traditional business models or broader social/environmental objectives. These firms are (usually) conducting single dimensional valuations based on financial performance to assess returns on investment – whereas, of course, economic growth can have far more significant positive externality effects in the region. They do not seek to capture social performance or gains when considering investments, leaving a gap for financing for projects that focus on their “triple bottom line” (social, economic, environmental ends). Therefore, although Helios’s target investments have a floor as low as USD 25, it is difficult to classify such a loan along with microfinance and social venture capital.

An emerging model that could provide a bridge is “impact investing” (see our episode with David Imbert of OnValues). The Economist reports this week on LeapFrog Investment, a “profit with purpose” private-equity firm. In April, Paul Sullivan of the NYT highlighted the emerging “impact investing” trend, and drew an important distinction between this and “socially responsible investing” – it requires active selection of profitable and high (social) impact projects, as opposed to just screening out unethical investments (tobacco, alcohol, etc). JP Morgan, George Soros, and Pierre Omidyar, among others, are optimistic about the future of these funds as high-return asset classes.

These hybrid models of profits and philanthropy have the potential to attract investment to the continent that is channeled toward projects with high degrees of social impact. Their method of valuation would also identify high-impact but small(er)-scale technology innovations – donkey ambulances, anyone? – that might escape the radar of traditional private equity.