Impact Investing has become very popular over the last decade, attracting several classes of investors ranging from socially motivated individuals to governments wanting to promote impact investing by demonstration and the entire spectrum in between. Total Assets Under Management for Impact Investing are estimated to be in the region of USD 60 billion. Even if this estimate is taken with a pinch of salt, it is easy to see why this asset class is becoming so popular. It aims to provide investors with opportunities that generate a positive social and/or environmental impact alongside a financial return. It’s the perfect solution for individuals looking to deploy a part of their portfolios towards social causes that are likely to generate a financial return or at least provide capital protection. And it is very attractive to governments and philanthropic foundations looking to bring in private enterprise, innovation and capital to solve complex social problems.
It is easy to get carried away with this offer but important not to lose sight of the challenges. I would like to focus on one of the key challenges in impact investing: understanding how long it takes to see impact and then, how much longer before you can exit your investment. Managing these expectations are critical to investor satisfaction and growth of the sector.
Let’s take the case of Microfinance, which today is a multi-billion dollar industry. One of the earlier forms of impact investing, it took decades of subsidy for the sector to evolve sufficiently to attract commercial capital and then several more for investors to exit their investments. I could not find any systematic, well -researched data on average exit times in impact investing. This is likely due to the relative newness of the sector in its current form and definition. We have not seen that many exits so far.
However, I think it is helpful to look at the mainstream venture capital investing space to make a comparison. In the mainstream venture capital sector, median exit times have steadily climbed to where they are now, at seven years.
If you were to add the complexity of meeting a social objective alongside generating financial returns, often working with untested innovative business models, it seems very unlikely that investors can realistically exit in a shorter time frame than 7 years. In reality, it is likely to be longer. This is a sobering thought and one that potential impact investors should be mindful of in their quest for social impact. Never mind the amount of time you have to spend vetting and rejecting companies and entrepreneurs!
In my next blog post I will focus on how do we address this challenge and the role of patient and highly risk tolerant capital in impact investing.