This article is sponsored by Nuveen.
Backed by TIAA, Nuveen has been investing in impact private equity – driving both commercial and social returns – for more than a decade.
Private Equity International caught up with Rekha Unnithan and David Haddad, co-heads of private equity impact investing, and Radhika Shroff, a managing director on the alternative investment manager’s private equity impact team, to discuss two of the most pressing issues impact investing is working to address: climate change and inequality.
They explain how these challenges are exacerbated during periods of market disruption and why the two issues are closely interlinked.
Clearly these are tumultuous times, but what do you see as the most pressing challenges facing the world today?
Rekha Unnithan: We believe that the two defining challenges of our day, from an investment opportunity standpoint, are climate change and inequality.
There is broad consensus, supported by scientific evidence, that there is an urgent need to address climate change. But we also know, particularly in the aftermath of the pandemic, that inequality is growing, and economic development has not been uniform across populations. This is less universally understood.
There is a real issue with access to quality products and services for low-income individuals, which leads to a vicious cycle of inequity. We know that low-income communities do not have access to responsible financial services, or the proverbial safety net in place when a climate shock disrupts their ability to access safe housing, food or education.
As a result, they are differentially vulnerable to the physical impacts of climate change.
Could a downturn slow the momentum that has been building in impact investment?
David Haddad: Any prolonged market disruption can cause periods of uncertainty, or a flight to safety. But private equity, in general, has performed well through various market shocks over the years due to its patient capital, flexibility and active engagement with private companies through times of stress.
Meanwhile, the challenges that Rekha outlines concerning climate change and inequality, can be exacerbated during times of market disruption, which makes impact investment even more relevant, resilient and investable today. Having just experienced a global pandemic, we have seen the resilience of companies that provide basic services to underserved populations, and the continued growth of those that provide tangible solutions to climate change.
As the impact industry has matured, is it adequately taking the interconnectedness of climate change and inequality into account?
Radhika Shroff: There is no doubt that climate change and inequality are inextricably linked and, as impact investors, we cannot address one without the other. We do not believe that enough capital is flowing towards investments that address both, on a global basis. For every dollar that a development finance institution has to invest, institutional investors have around $900. As global impact PE investors, we look to catalyse at least a portion of that $900 to companies providing commercial solutions to these problems.
To give you an example, we recently invested in a microfinance company in India called Annapurna Finance. Annapurna provides more than 1.8 million female entrepreneurs living in rural areas with working capital loans and other products and services to grow their businesses, ultimately helping send their children to school and bring themselves and their families out of poverty. It is a profitable company – one of the best performing non-bank financial institutions in the country. We invested $30 million during the pandemic, while helping to bring in an additional $70 million that might not have been invested had we not done so ourselves.
With our support and engagement, this company is addressing the climate vulnerability of these female entrepreneurs by using physical climate risk data to build an early warning system for clients about cyclones and other weather-related events that could impact their businesses. It is also launching new products and services, such as rooftop solar financing, to bridge a critical financing gap to drive climate mitigation, and provide access to affordable, reliable clean energy for small businesses.
As strategic investors in Annapurna, we plan to work with the company to integrate the climate data and expertise that we have access to as a large global asset manager into Annapurna’s analytics. Eventually, we hope to drive their use of this data to serve more customers through risk-based pricing. This is an example of how, as investors, we can help tackle both social inequality and climate vulnerability in a commercially viable way by leveraging our institutional knowledge and bringing it to our portfolio companies.
Are there other examples in your portfolio of this?
DH: In addition to investing in growth markets, we invest in our own backyard in the US. For example, we recently invested in a circular economy business called America’s Thrift Stores. This company partners with local charities to collect used clothing and household goods, and enable their resale and recycling through retail locations, a wholesale business, and online. It will collect more than 55 million pounds of items this year, diverting the majority of that from landfills, with a consequent reduction in methane emissions, water usage and local pollution. Its customers find great value in the product offerings, including a growing population of younger clients who are attracted to thrifting for its environmental and social good.
This is a company that has not previously received impact investment, nor had it considered itself to be an ‘impact company’. Part of our value-add has been helping it capture impact data and report that data to its constituent groups. We’ve already seen the early results – helping employees feel more connected, improving retention and attracting more customers to the business. By telling the story more effectively, we are helping the business grow.
RU: One area we find interesting is companies that focus on climate-smart agri-solutions. In much of the developing world, agriculture represents a major component of GDP, driven largely by the smallholder farmer segment. Smallholder-owned parcels are fragmented, resulting in myriad challenges to these farmers participating in the formal economy. This reduces their bargaining power and access to high-quality, fit-for-purpose technology, like irrigation and cooling.
One company we are backing develops agtech solutions that use solar energy to address irrigation as well as other supply chain issues related to perishables. Many farms are not connected to the grid and so depend heavily on access to distributed power. Innovation is critical, not just to provide access to solar energy, but also to harness and store it, so that it can be used to drive modern technology that efficiently irrigates the land. The company also provides solar powered cold storage for perishable items.
What is really exciting is the opportunity to license and export these solutions in other regions, and the company is already working in Africa. The end goal is the same: to increase farmer productivity and incomes, while providing renewable energy to power off-grid solutions.
How strong is the link between financial and non-financial performance?
RU: The two go hand in hand when you are investing in a business that was created for the purpose of solving a social or environmental problem. When our companies do well in terms of top-line growth and profitability, they also have positive trend lines when it comes to impact. They are mutually reinforcing because we invest in companies whose core product or service is the way in which they generate outcomes.
How are investor attitudes towards impact evolving?
DH: There is clear and growing interest from all types of investors, from public pension funds, insurance companies and foundations, to family offices and high-net-worth individuals. We do see geographical differences. Europe is ahead in terms of embracing impact, but the rest of the world is catching up. We are also seeing large, traditional private equity managers come into the sector and raise substantial funds, which is helping drive investor appetite. As impact managers continue to prove their ability to deliver both impact and attractive financial returns, that will reinforce the appeal and continue to attract more capital as the industry matures.
What is your approach to measuring impact and what are the challenges involved?
RU: We have been measuring impact for the past decade, and while investor interest in impact has increased in recent years, we have believed in its importance from the beginning. In the last decade, we have seen a great deal of progress in the wider industry in terms of frameworks for determining how and what people should be measuring. We’ve also seen the leading players do more than just produce a pretty annual report – taking concrete actions to integrate social and environmental considerations into every phase of the investment process.
We have been early in beating the impact measurement and accountability drum. We helped create the Operating Principles for Impact Management with the International Finance Corporation, and this is now the gold standard with more than 150 impact investor signatories. Most recently, we were ranked as ‘Practice Leaders’ reflecting our spot in the top decile of impact funds by BlueMark, an independent provider of impact verification services. ESG and impact are integrated into our investment, portfolio management and exit processes.
In terms of challenges, there are many. People want to see uniform IRR-style data for impact. We are a long way from that and we may never get there – topics such as climate change mitigation and inequality are complex and we cannot distill them to a common unit of value without losing necessary nuance.
However, we are highly focused on trends. Because we have been measuring impact for some time, we are now able to evaluate the direction of travel within different investment themes and we use this information to hold our companies accountable for their metrics. For example, we measure gender representation at all levels in our portfolio companies. We recently drove a discussion of compensation equity and action planning at the board level of a portfolio company when our trend impact data showed discrepancies in compensation between men and women in similar roles. For each of our investments, we set clear and accountable KPIs to measure progress and to drive important discussions at the board level.