Private equity finds road to returns paved with good intentions

There’s plenty of money raised for impact investing but firms are struggling to find deals

Buyout groups have bought into impact investing in a big way.

Globally, the industry more than doubled the amount it raised for impact investing in 2019, reaching £5.4bn, according to data provider PitchBook. Major firms including KKR, Bain Capital and TPG have backed the trend.

But spending all that money hasn’t been so easy.

Despite the flurry of capital raising, the number of impact investments from private equity funds has been falling since 2017. Impact investing funds spent £1.3bn on 29 deals in 2019, a drop from the previous year of 47% in terms of value and a fall of 43% in terms of the number of deals. In Europe, private equity groups spent just £65.5m on six impact investing deals last year, compared with £938m and 16 deals in 2017.

Challenge

Why is investing impact funds proving to be such a challenge? One problem is the difficulty of finding the right targets.

Jonathan Dean, head of impact investing at Axa Investment Managers, says although he has seen hundreds of opportunities during the past seven years – when his company launched its impact dedicated strategy – this is not an easy task.

“Essentially what we are asking ourselves to do here is complex: delivering financial returns and an intentional impact. We are doing two things at the same time,” he argues.

Dean manages three of Axa’s impact funds, overseeing $600m in assets, and expects the market to continue growing globally.

In addition to the challenge of finding businesses that deliver both financial and social returns, finding them in developed markets like the US and Europe has proven to be difficult.

“There tends to be more opportunities for impact investments in developing and emerging markets, rather than developed markets,” notes Emily Woodland, co-head of sustainable investment at AMP Capital. “This is because far more capital is required in developed markets to achieve a real social impact, compared to developing markets.”

The size of a strategy can also affect its deployment.

Switzerland-based Partners Group’s Carmela Mondino, who leads the firm’s ESG and impact efforts in Europe, says: “Other investors don’t have the platform that we do behind us. We have a dedicated impact committee that reviews the opportunities and the impact, which runs in parallel to our traditional investment committee process.”

The firm also attached key performance indicators and targets to investments as Mondino says it’s important “to have metrics and a robust methodology behind a process”.
Another issue is the lack of awareness that still exists in the industry.

The non-profit advocacy group Global Impact Investor Network has seen its membership grow from 20 in 2009 to 30,000 last year, including private equity firms and limited partners. Still, co-founder and CEO of GIIN Amit Bouri says it could grow further.

“It’s an exciting time, when the interest in impact investing is booming all around the world, but still there are so many investors who are not even aware of impact investing as an opportunity,” he says.

A survey conducted by GIIN last year showed that 90% of impact investors claimed their deals met or exceeded their expected financial and impact performance. The study featured 39 emerging markets private equity managers who averaged 16.9% gross returns since inception and 17 others that delivered similar results who were targeting market rate performance in developed markets.

Jim Roth, co-founder of impact-focused private equity firm LeapFrog, set up Zamo Capital last year to take stakes in impact investment firms, to provide them with capital to scale and support to accelerate their growth.

He says some investment managers have been reluctant to embrace impact investing because of a perception that using this approach means accepting lower financial returns than those produced by conventional strategies. But now, things are changing.

“This idea of profit with purpose is quite new and still gets a bit of dissonance. I think what’s happening is that you’re getting more and more impact managers that are making the same returns as anyone else.”

Bain Capital, which raised $390m in 2017 for its US-focused Double Impact fund, is an example. The firm last year exited Impact Fitness, a low-cost gym focused on underserved communities, and delivered a 3.1x return, a person familiar with the firm told Private Equity News. The fund is now three quarters committed and Bain is on the market fundraising again, according to a report last year from Buyouts. Bain declined to comment.

Measurement

For many firms, it is difficult to figure out what actually counts as impact investing.

The term itself was formally coined in 2007, by The Rockefeller Foundation, putting a name to investments made with the intention of generating both financial returns and social and/or environmental impact. Since then, the industry has grown significantly but a universal benchmark was only recently established. The International Finance Corporation, an arm of the World Bank, published the framework in April 2019, but the uptake has been slow.

The initiative, called Operating Principles for Impact Management requires asset managers to document the expected and actual impact of investment projects. It also suggests that they should consider the achievement of impact investment targets along with financial performance metrics when awarding incentive payments to staff. Nearly 60 investors, including Axa and Partners Group, who helped craft the IFC principles, invest accordingly.

“We think it is essential that investors speak the same language when it comes to impact,” says Bouri, to avoid accusations of greenwashing – when companies make unsubstantiated claims that their products are sustainable or responsible.

Still, private equity makes up only a small fraction of the overall assets that are allocated to impact. According to figures from GIIN, the industry accounts for approximately 22% of the estimated $502bn in impact investing assets worldwide.

“If we are going to face the world’s issues, such as climate change and inequality, we have to have a much greater scale,” Bouri says.

Source: Financial News

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