Many of you will recall that there was a time, not long ago, before Wall Street was interested in microfinance. One of the many reasons was that the only way institutional investors can incorporate a given investment into a portfolio is by understanding how risky it is compared with the financial return it offers.
To make a long story short, some smart folks figured out that until there was an assessment of the credit worthiness of microfinance institutions, Wall Street couldn’t really engage. And the World Bank and other donors funded the Consultative Group to Assist the Poor (CGAP) to seek out a set of credit rating agencies whom it in turn hired to go out and assess the credit worthiness of microfinance institutions.
CGAP’s mandate to subsidize the cost of these credit ratings was seven years long. After that, CGAP made it known that it would no longer bankroll the credit rating effort. The market either would find value in knowing the credit worthiness of MFIs, or it wouldn’t. If it did, it would start to internalize the cost of getting the information. In a nutshell, it worked.
Something similar needs to happen in the world of impact assessment. Now that impact investors exist who are explicitly seeking investments that offer both financial returns and positive impact, it is clear there needs to be a way of determining what the impact is.
Making transparent what the social or environmental impact of a given enterprise is doable, but it takes skill and time. That costs money.
Many investors may choose to use GIIRS, HIP, or another rating system that gauges how socially responsible a given investment is overall, even when it’s a private equity deal. Others will want information about the particular type of social or environmental impact offered by a given enterprise. But no matter what information investors wish to use, getting it takes effort on the part of the enterprise and/or others. With that effort comes a cost. And the information it yields has a value. Somewhere between the cost and the value should be the price.
What is that price today? Currently, in too many instances, zero.
This situation has arisen as an ironic consequence of the fact that many of the promoters of the industry are philanthropic organizations. They have the resources to provide software and technical assistance for free, in hopes that the absence of any financial barrier will cause the solutions to be adopted widely. Then, information about impact will be available for everyone to make use of, and all the benefits of this (namely more effective problem solving and more efficient resource allocation) will ensue.
This seems like a fine plan, but it has a potentially tragic flaw.
CGAP didn’t provide credit ratings for MFIs for nothing- they paid credit rating agencies who charged a sustainable price for the service to CGAP. As such, the price for this information became known, a capacity to serve demand was built in the industry, potential buyers of it could determine whether it was worth paying for, and if so they could take over paying for it. But when the information is provided for free, its price (and for many, its value) is anchored at zero.
This may work in the world of millions of eyeballs and online advertising. But there is no advertising model I’ve seen yet capable of financing the cost of information about impact.
In the world of impact investing, it is understandable that any one investor may be reluctant to pay for impact information, since virtually nobody else is paying for it. The playing field needs to be leveled somehow.
One way would be for a leading entity or consortium to pool the funds to purchase the information from entities (selected via a competitive bid process) who can provide it at a price that would sustain the provider entities for the long haul. Then, after a period of time during which the information has been provided to the markets, and its value has been validated by players who have begun making use of the information to design new investment instruments or to better understand risks, the consortiun could exit the role of underwriter and let the market take over. Seven years seems like a reasonable timeline to get investors good and used to knowing what impact on poverty, health or the environment their deals have.
Perhaps they could start with environmental impact, using an approach like CalPERS has employed for the past five years to gauge the net environmental benefits of its $800MM Environmental Technology Investment Initiative. Based on what I’ve seen, five million dollars a year for seven years could potentially cover the assessment of as much as thirty, forty or fifty billion dollars worth of assets. If the impact information in aggregate (not revealing confidential information) were well-publicized, this could achieve a tipping point, as investors recognize that they’re better off with this information than without it.
Then they’d pay for it. And foundations and the government wouldn’t have to anymore.
So what do you say? Will you lead the way?