For the first time, across both public and private markets, we are seeing impact investment being implemented at large. In fact, in 2019 impact investing reached a staggering market size of over £400bn ($502bn).
These investments are being made into startups and companies that have the intention to generate a positive, social or environmental impact alongside financial return.
What’s more, the worlds of venture capital and startups are quickly catching up. Industry trailblazers such as DBL Partners, Ananda and Social Impact Capital, as well as new venture capital firms, such as Future Positive Capital and Fifty Years VC, prove there is a new wave of entrepreneurs and investors interested in generating returns beyond typical financial profits.
However, startups need to remember that impact investing brings just as many challenges as it does opportunities. Failing to define impact and not setting a transparent reporting system upfront can create space for abuse and greenwashing. For firms just starting out, it’s all too easy for the popular term to become a PR stunt that’s used only as leverage to attract investors and users.
Here’s how to lay good foundations for your impact startup:
There are two pillars of impact investing according to GIIN (Global Impact Investing Network), the industry’s leading think tank. The first is intentionality of actions. The second is regular reporting. In short, defining impact and goals + reporting progress = success in the impact space.
“Defining impact and goals + reporting progress = success in the impact space”
As well as defining a product, entrepreneurs need to thoroughly define their impact. But it’s not as easy as it sounds.
What is the problem you’re trying to solve and what are your solutions? That might not always be the same as your product definition. For example, Dutch startup Meatable makes “real meat produced without causing harm to animals”. The problems it is trying to solve are animal cruelty, wasting water, cutting down trees and damaging the planet.
Who experiences changes as a result of your impact? Is it one specific group, like how femtech startup Nurx targets women, or is it billions of people all over the world? Space tech startup Astranis, for instance, is aiming to provide internet connectivity to the 4bn individuals worldwide who don’t have it.
What are your desired deliverables? And, what is the timeframe for your them? If your company wants to diversify and democratise investment opportunities, your deliverable will be holding and closing an offering on your platform. This takes time. You have to find a startup which wants to raise funding though you, generate interest from investors, perfect the technology and then regulate it, so be realistic with your goals.
Another thing to remember is that, even though the world is feeling the ‘Greta effect’, impact is not limited to the environment and sustainability. Social entrepreneurship covers a whole range of impact; for example, the microfinance institution, Pro Mujer is dedicated to improving the lives of women in Bolivia. And impact investing has helped entrepreneur Carla Cabiya open a bilingual childcare centre in the US.
“Defining impact at the beginning is crucial”
Defining impact at the beginning is crucial — it prevents the possibility of greenwashing and sets clear, organisation-wide expectations for investors and all employees. Properly defining impact means it will be taken into account when making business decisions. If you fail to do so, the impact element of the business won’t be integral to the company’s mission and risks becoming just a side project.
Desired impact varies between companies which makes it especially hard to measure or even benchmark the ongoing progress. Companies tackling the issue of climate change will be reporting a different set of parameters to a startup contributing to financial inclusion. It is therefore crucial for startups and investors to agree what exactly the object of their impact reporting is.
Furthermore, environmental and social objectives are sometimes hard to align or balance with financial targets. As such, startups might find it useful to include special clauses protecting their right to make decisions in critical moments within investment agreements.
Depending on the terms agreed between investors and companies reaching impact goals can trigger different scenarios; for example, enabling additional financing rounds when the company reaches set impact deliverables or increasing interest rate when a company fails to do so.
Though there is no formal reporting process for ESG (Environmental, Social, and Governance) investments, GIIN advises that “reports should be made available to investors in a timely fashion… financial statements, regular portfolio reviews, and valuation reports”.
You don’t have to be a unicorn
Navigating impact investing within venture capital investments is particularly tricky. Many venture capital firms are focused on high return over a short period of time, so it’s challenging for investors and entrepreneurs to find the balance between reaching impact deliverables and business milestones.
While companies are required by law to report their finances and are given specific details on how to do so, there is no such framework when it comes to impact. And, as these needed regulations are not yet on the horizon, market players must take a different approach to accommodate this new wave of investors.
In 2018, we all read the Cambridge Analytica headlines where Facebook failed to protect the most intimate data of its users. This incident and many others that followed were an outcome of the culture that created these companies in the first place: build and scale, without much respect for the real cost. Facebook’s example is just one of many, where — driven by creating more value for the shareholders — companies forget about their social or environmental impact.
This is not to say that all venture capitalists harbour this ‘growth at all costs’ mindset. New companies like Future Positive Capital and Fifty Years VC are tweaking the traditional venture capital model so companies focused on problem solving are the ones getting funding.
Charismatic leaders who promise to do ‘whatever it takes’ no longer make a company stand out, stakeholders who put profit before product are no longer desirable and startups that are diverse and outside of tech hubs are given a chance. It’s a lean, bottom-up approach. Being a unicorn isn’t the only thing that defines your success. Society is becoming increasingly concerned with cultural issues; the same generation that attended last year’s climate strikes in their millions are now founding startups. These issues are becoming business priorities.
Ultimately, intentions drive actions. If an agreement between investors and startups is solely focused on financial milestones, that’s the only thing that will drive decisions. Adding a layer of impact-orientated initiatives means that social goals will be incentivised and then actions have to be accountable for. Social entrepreneurship if not defined, measured and reported properly, could be the next bubble in the tech ecosystem to burst.
Jeremi Jak is head of impact at Neufund, a blockchain-enabled challenger investment platform.