Buying social

In September, the G8 Social Impact Investment Taskforce – established by UK prime minister David Cameron during his country’s G8 presidency last year with the ambitious mission of ‘catalysing a global market in impact investment’, and led by private equity grandee Sir Ronald Cohen – delivered its first report.

The development of impact investing – which aims to achieve positive social outcomes at the same time as strong financial returns – is more than just a curiosity as far as private equity is concerned, and not just because the former can benefit from the latter’s investment skills and operating techniques. It also seems likely that the kind of considerations impact investors have when looking at deals will increasingly inform the decisions of mainstream private equity investors, too. And the G8 report points to a particular way in which that might happen.

Although it’s explicitly intended to speak to all of the parties involved in impact investing – viz. “government, business, the social sector and foundations, institutional and private investors, and most importantly impact entrepreneurs” – much of the report seems particularly directed at policy-makers. That’s a reflection of how important governments are to the development of this area, just as they were to the growth of private equity and venture capital a few decades ago.

The government, the report says, has “a number of important enabling roles: as a market-builder, by upgrading its ecosystem to better support impact investment; as a large purchaser of social outcomes that can drive pay-for-success; and as a market steward, to remove legal and other barriers to impact investing and ensure that the positive intentions of impact investment are sustained over time.”

One of the most significant ways to do this, the report suggests, would be to revisit the current concept of fiduciary duty, insofar as it applies to the trustees of pension funds and charitable foundations. At the moment, trustees often feel they have to prioritise financial return above all else. But by changing or clarifying the rules to make it clear that trustees can factor impact into their investment decisions – which in many cases will chime with their overall mission and the wishes of their beneficiaries anyway – policy-makers could potentially open up a massive new pool of impact capital. And with the worldwide shift towards defined contribution schemes, there’s also a possibility of attracting more retail money into the space, it adds.

Interestingly, there’s an obvious parallel from the history of private equity: a change made in 1978 to the ‘prudent man’ section of the ERISA regulations (which govern how pension funds invest in the US) prompted a surge of interest in what had previously been a niche asset class.

Some pension funds are already taking an active interest in impact investing. Recently in the UK, five local authority pension funds committed £152 million to a joint fund called ‘Investing 4 Growth’, which is intended for impact investment. At the moment, however, this sort of activity is very much on the margin. The report’s argument is that an explicit signal from policy-makers that impact factors should be taken into account could prompt a lot more to follow suit.

It might also compel some to think differently about how they assess their private equity investments. After all, as the report points out, over 1,200 asset managers have already signed up to the United Nations Principles for Responsible Investment, which has fundamentally changed the way many of them think about environmental, social and governance factors when making investment decisions. So the idea of them factoring impact into this process in a more structured manner is hardly far-fetched.