Measuring the “Green Impact” in Impact Investment

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  After our articles were put on the shelves, some people privately debated with us whether green enterprises really have green impact. For example, industries with high pollution of solar energy, and relying on government subsidies to survive, they obviously feel much entangled.

  This kind of entanglement is not unusual. Even those who have been identified as working in the green industry by the United Nations are full of self-doubt about what is called a green enterprise. More people are entangled in its definition "green".

  This kind of entanglement can make quite a lot of achievements for the academia, but if you are an entrepreneur or an investor and think that way, we suggest that you should change your job!

  When you understand the essence of green business, you will know to maintain an openness, and never compete with evolution. We two act as pro bono consulting for a social enterprise investor in Taiwan, assisting in the evaluation of startup proposals in terms of technology and green impact. I recalled a meeting with the founding partner, he told us, “I am not sure whether social enterprises will become mainstream or not, I just know chips on the table are mine! If that does not mean I support social enterprise, I do not know who else would.“

  This is the right mentality to have! The same can be said for green businesses. The boundary we presume we understand something is changing all the time. Today, you feel that an industry is very environmentally unfriendly. Tomorrow, a new technology or new idea will overturn our established understanding. People who work in the green industry are destined to get along with insecurities. Definitions can provide you with road signs, but you should not pre-determined your destination because you may be able to go further.  

  I have been involved in a number of impact investment projects and worked with a number of highly motivated professionals dedicating their career to doing good and doing well. Most impact businesses tend to be small and unprofitable (therefore more similar to VC-backed businesses) but our approach towards our evaluation of these businesses is no different from our approach towards traditional more mature businesses. We break apart the business case and figure out the market dynamics of the sector and the competitive advantages and KPIs of the company. We develop financial model to assess the financial viability and test the reasonableness of the management team assumptions. The difference come from the additional step of identifying impact, setting impact goals and introducing impact measuring KPIs.  For example, I recently reviewed a small solar system kit retailer active in the African continent - the business is a relatively straight forward retailing business selling solar system kit. The more difficult bit is how you balance between profitability (profit margin per kit) and customer penetration (the number of kits you sell) - to have greater impact we should aim to sell more kit and perhaps we should reduce our profit margin but how low should we go to be sustainable and continue to motivate the staff? There is no right answer to this question and a lot depends on the situation and the motivation behind the founders and the management team. Ultimately, we want to maximise our impact while staying sustainable in the long run.

  As a “traditional” PE professional, I struggled to put on the ‘impact investment’ hat at the beginning. It is easier to evaluate investment opportunities to maximize returns or assess philanthropic efforts to maximize social benefits but putting them together it is tough. Perhaps the most difficult consideration is evaluating actions that have negative short term environmental and social impact but positive (more than offset the negative) long term environmental and social impact. In the long run we are all dead!

It is not about winning every match but winning the all-important final

  Impact investment requires a change in mentality but not a change in approach. Instead of focusing on maximizing profitability while ensuring the business does not breach environmental and social obligations, we should focus on maximizing environmental and social impact while ensuring the business remain break-even or better. Similar to ‘regular’ businesses which have to think about investing in projects or people to make longer term profit, impact businesses have to think about actions that may have negative environmental and social impact but positive longer term environmental and social impact. Using competitive sport as an analogy, it is not about winning every match but winning the all-important final and accepting sometimes that you need to lose in order to win. The last part is slightly more controversial in impact investment that is still trying to adjust its “goody good scholarly” image to a “rational working professional” image and making short term environmental and social impact may not be so palatable.

  For example, how many people are willing to force the displacement of a small group of local villagers in order to avoid a landslide possibly to come back again? We dealt with this dilemma when we led Typhoon Morakot rebuilt projects. Or, how many people are willing to force the displacement of a small group of local villagers in order to build renewable projects? If the project is profitable, traditional investors would do it in the name of profits. However, are impact investors willing to do the same in the name of long-term environmental sustainability? This is the dilemma of many impact investors. Dollars and cents are easy to compare but short term social impact and long term environmental impact is difficult to compare. The recent Taitung Chi Ben solar development project is a good example of this dilemma. How could we balance between indigenous land rights, ecological impact and climate change? For Chi Ben, it will ultimately be a dollars and cents discussion. If it is not a dollars and cents discussion, can impact investors evaluate and come out with a rationale decision? I believe the day where impact investors can come out with a rationale decision is soon and will be the key in pushing impact investment further into the mainstream.

  At the beginning, we told you Milton Friedman’s doctrine is flawed. Perhaps it is not the case but rather the definition of ‘profits’ are expanding beyond dollar and cents and incorporating social and environmental ‘profits’ as well. 

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