The Dash for Impact Cash
Mike Thompson, CEO
Recent announcements from BlackRock and Danone indicate the competition is on to attract ‘impact cash’ from mainstream investors and banks. Investment firms increasingly rely on social and environmental impact measures to identify long-term sustainable returns. This shift towards ‘impact cash’ presents new opportunities for impact-led innovation by companies and sustainability-related cost and risk mitigation strategies. Impact investment models from agro early-start ventures to global sector impact funds now offer new sources of competitive capital to companies but require the creation of new and nimble alternative funding vehicles.
Institutional investors are now moving quickly to diversify their portfolios and mitigate risk in light of volatile stock markets and the pressure to invest sustainably.
Much investment diversification is towards ‘impact cash’ – capital that is attracted by a company’s contribution to society measured by Environmental, Social & Governance (ESG) performance indicators. ESG sector benchmarking enable investors to identify companies that are above average in cost and risk and likely to offer sustainable long-term value. In a review of 51 empirical studies by the Oxford University Smith School of Enterprise and the Environment, 45 (88%) showed a positive correlation between sustainability and operational performance.1 According to a survey of 500 institutional investors by Natixis recently2, 59% say there is alpha3 to be found in ESG investing.
As Larry Fink, CEO of BlackRock, said in his startling letter of January 2018, “The time has come for a new model of shareholder engagement.”4 And, he makes clear, engagement means less proxy voting, more questioning of boardroom practices and its long-term strategy and more questioning of how a company makes a positive contribution to society.
The opportunity for cost and risk mitigation by integrating sustainability into corporate strategy and operational performance has been the most obvious gain for shareholders and stakeholders. But the ESG lens also presents opportunities for impact-led innovation to offset negative externalities and to create value in both financial and ESG terms: Total Value Creation (TVC).
From a CFO’s perspective, the reporting of ESG-related cost and risk management opportunities combined with the financial valuation of innovative impact-led goods and services presents new and competitive opportunities in attracting investors and reducing a company’s weighted average cost of capital (WACC).
We notice three new sources of competition for funds seeking ESG-related reporting:
- ESG-advocating Companies
- ESG-orientated Asset Management Firms
- Impact Investment Funds
1. ESG-advocating Companies
Companies with a strong focus on ESG performance can attract better credit terms.
In February 2018, Danone amended its €2 billion syndicated credit facility to include global environmental and social criteria directly impacting, upwards or downwards, the margin payable to its banks over the entire duration of the facility. Danone’s syndicated facility now includes an innovative mechanism of payable margin adjustment, reviewed at least once a year, on the basis of ESG criteria provided by third parties.
Danone’s banking partner, BNP Paribas, has agreed to directly link Danone’s ESG performance to the margin on its facility. Danone’s CFO, Cécile Cabanis, claims that Danone is “a pioneer in combining both traditional financial and ESG criteria as drivers of long-term sustainable performance, and for our banks to support this vision.”5
2. ESG-oriented Asset Management Firms
According to BofA Merrill Lynch Global Research, 80% of fund managers who incorporate ESG factors into their investment decisions cite better returns as the main reason.6 The survey result may be contested but Eoin Murray, head of Hermes Investment Management, notices that improvements in governance scores are a significant factor in producing superior returns and he says, “it is the change in ESG metrics that is the key”.7
Despite their recent setbacks, Standard Life Aberdeen is one of the world’s largest investment companies with around $550 billion assets under administration. The company believes that ESG factors adds value to investment performance of their funds and therefore integrate ESG across all their asset classes – equities, fixed income, real estate, quantitative investments, alternatives and multi-asset. By comparison, Deutsche Bank are reported to have €9.9 billion assets managed under ESG criteria.
3. Impact Investment Funds
Impact investment funds are wide and varied. From mainstream institutional ESG funds through to early growth and single-project impact funds.
Global mainstream level
The Pictet-Nutrition fund seeks capital growth in a sector in which companies participate in improving access, quality, and sustainability of food production necessary for health and growth. It invests in companies that are growing as a result of their involvement across the entire food production chain.
Country level
Standard Life Aberdeen launched the UK Equity Impact–Employment Opportunities Fund in 2018 in conjunction with Big Issue Invest. The aim of the Fund is to invest in companies which promote and implement good employment opportunities and practices. Of the Fund’s earnings, 20% will go to Big Issue Invest.
Agro early-stage level
Rabo Private Equity launched the Rabo Food & Agri Innovation Fund in 2017 to invest venture capital in high-potential, early-stage food and agri enterprises that address externalities all along the food and agri value chain.
Project level
The Acumen Fund invests in projects that bring sustainable solutions to problems of poverty. In 2015 Acumen invested in building the Gigante Central Wet-Mill in Colombia that offers a win-win solution for over 300 smallholder farmer households and coffee buyers.
Company level
Nestlé Nespresso established the Nespresso Sustainability Innovation Fund (NSIF) in 2015 to facilitate investment in innovative sustainability initiatives.8 One such project is Nespresso’s agro-forestry project which manages the planting of 5 million trees in agroforestry models by 2020 to achieve a reduction in its carbon footprint of 28% compared with its 2009 footprint. But the innovative dimension of the project is the aim of insetting beyond carbon sequestration to restore land fertility, bring back biodiversity, increase coffee crop resilience and mitigate the impacts of climatic events. According to Pur Projet, the agroforestry NGO, there is a potential value creation of $17.80 per tree planted per annum at a cost of about $5 per tree.
So What?
The growth in both mainstream and impact funded ESG investment streams supports strategies that integrate ESG proactivity and impact-led innovation to access lower cost credit facilities and value-creating innovations that address negative externalities that are adjacent to their value chain.
Leading companies are willing to invest in and catalyse impact-led innovations with stakeholder partners that mitigate negative externalities which threaten their supply chain and its adjacent ecosystems.
Reports to GoodBrand from impact investors say that there is now more capital available than there are well-managed impact opportunities. The impact pool has grown as mainstream investors see the potential to achieve returns equivalent to mainstream investments.
Corporate boards need entrepreneurial and agile talent to lead impact-led strategy and ventures to enable their companies to move into unfamiliar territory while mitigating the risks. As one of our clients told us,
‘The biggest challenge for us has been to make relevant a theory of social value creation within a traditional business culture that is predicated on process driven, consumer-tested approaches designed for risk mitigation.’
Successful impact-led innovation requires tight methodologies in research, design and coalition building that can mitigate the risks of corporate venturing to manage opportunities beyond risk to benefit from new sources of ESG value.
1 Clark, G., Feiner, A, and Viehs, M, 2015. From the Stockholder to the Stakeholder: How Sustainability Can Drive Financial Outperformance. Available at: https://ssrn.com/abstract=2508281
2 https://www.businesswire.com/news/home/20180222005852/en/Preparing-Market-Shift-Volatility-Returns-Institutional-Investors
3 Alpha: A measure of the difference between a portfolio’s actual returns and its expected performance, given its level of systematic market risk. A positive alpha indicates outperformance and negative alpha indicates underperformance relative to the portfolio’s level of systematic risk.
4 https://www.blackrock.com/corporate/en-no/investor-relations/larry-fink-ceo-letter
5 https://globenewswire.com/news-release/2018/02/16/1357294/0/en/DANONE-Strong-results-in-2017-with-solid-progress-on-growth-and-efficiency.html
6 BofA Merrill Lynch Global Research, 2016. ESG: good companies can make good stocks. Dec.18.
7 https://www.ft.com/content/08a3420e-05bf-11e8-9650-9c0ad2d7c5b5
8 https://www.nestle-nespresso.com/nespresso-sustainability/nespresso-sustainability-innovation-fund
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