I by IMD magazine - Impact Economy by IbyIMD

#12 December 2023

20 CHF

IMPACT ECONOMY HOW TO MAKE A POSITIVE DIFFERENCE

BLENDED FINANCE DRIVES PROGRESS BIODIVERSITY AND eDNA

EMPOWERING NEURODIVERSE TALENT

LESSONS IN LAUGHTER REBUILDING COMMUNITIES THE RISE OF STEWARD-OWNERSHIP ibyimd.org

21052 Dubai

21323 Grand Piano

10280 Flower Bouquet

LESS ACTION. M O R E S AT I S FA C T I O N . A D U LT S W E L C O M E

Experience LEGO ® Sets for Adults – rewarding and creatively challenging sets to suit all interests. LEGO.com/Adults

2 I by IMD • December 2023

[ Foreword ]

The impact economy offers a positively different approach

e are inundated with signals indicating that our business practices are unsustainable. Investor activists, as reported by Kristin Hull in this edition of I by IMD, are actively urging companies to address issues that are often ignored. How can we transition to a business model that aims to produce positive social and environmental outcomes alongside financial returns? As you will discover in our in-depth coverage, the impact economy could be the answer. Several factors are converging to position impact investing as an appealing alternative to conventional business practices. These include a clearer understanding of impact business models, innovative financing schemes, supportive governance structures, enhanced impact assessment methodologies, and the emergence of successful case studies. Participants in the impact economy are becoming more explicit about their intentionality, defined as their “Theory of Change,” as highlighted by Vanina Farber and Patrick Reichert. Frameworks like “civic wealth creation,” proposed by Sophie Bacq and Tom Lumpkin, are paving the way toward inclusive business models established through collaborative efforts between corporations and communities.

Illustration: Jörn Kaspuhl

Financing models for the impact economy are falling into place, as noted by Maximillian Martin, enabling private investors to make a positive impact without taking on undue risks. Maryanne Ochola advocates for increased inclusion of Africans in the impact ecosystem, emphasizing the significant value-creating opportunities that persist in doing business in Africa. Innovative governance structures that challenge traditional concepts are being pioneered by companies such as Patagonia. In an interview with Bryony Jansen-van Tuyll, Adrian Hensen illustrates how steward-ownership, a governance model that separates control and voting rights, can empower the impact imperative.

Impact measurement, as argued by Sonja Haut, enables companies to grasp opportunities for maximizing value, not only financially but also in market and talent management. Adrian Dellecker further explains that technology is playing an increasing role in facilitating access to novel forms of data, allowing us to measure aspects that were once considered unmeasurable such as biodiversity impact. Impact investing acts as a catalyst for fostering a more inclusive, sustainable, and socially responsible global economy. Funds with a focus on impact are starting to demonstrate the viability of this new model. In his article, Adrian Ackeret, the Chief Investment Officer of elea, an early-stage philanthropic investor, shares success stories that suggest a potential shift in the ecosystem. Another focal point in this issue addresses a dimension of diversity and inclusion often overlooked by many companies – harnessing the talents of people with disability and neurodiversity. Nancy Doyle and Heather Cairns-Lee illustrate that organizations can learn to accommodate and enable neurodiverse talent. Additionally, Tania Lennon shares a framework for leveraging the contributions of people with disability, who arguably make up the world's largest minority group. As in every issue, you'll discover compelling insights in our regular columns by Shelley Zalis (focusing on intentional investment in women), Jerry Davis (questioning the value of venture capital), George Kohlrieser (discussing authenticity), and Howard Yu (exploring future readiness). And don't miss Jessica Sibley's “CEO Dialogue” with IMD President Jean-François Manzoni as they discuss the reboot of TIME magazine. ■ Treat yourself to this high-impact issue!

Anand Narasimhan, Dean of Research December 2023 • I by IMD 1

[ CONTENTS ] 36

04 [ In good company ]

The venture capital model has failed far too many smaller firms seeking the funds to grow. A fresh approach is needed, argues Jerry Davis.

20 CHF

[ IMPACT ECONOMY ] What is the impact economy and why should it matter? And how do you know if your actions are making a positive difference? Our 40-page report provides the answers.

Cover picture: Created using Microsoft Image Creator

IMPACT ECONOMY HOW TO MAKE A POSITIVE DIFFERENCE

BLENDED FINANCE DRIVES PROGRESS BIODIVERSITY AND eDNA

EMPOWERING NEURODIVERSE TALENT

LESSONS IN LAUGHTER REBUILDING COMMUNITIES THE RISE OF STEWARD-OWNERSHIP ibyimd.org 11_IMD_2023_Edition_12_Dezember_2023_COVER_Final.indd 29

05.12.23 11:20

07 Vanina Farber and Patrick Reichert

propose using the ‘Theory of Change’ as a model to measure if your actions are achieving the results you seek.

10 Economies across Africa are being

transformed by targeted investment, but more needs to be done. Maryanne Ochola offers six ways to accelerate the pace of change.

12 ‘Civic wealth creation’ is strengthening local communities through commerce and collaboration. Sophie Bacq and Tom Lumpkin explain how such initiatives can help to solve complex local problems. 17 By taking a lead in the impact

economy, women can transform the way business operates and change lives, writes Shelley Zalis.

18 Impact metrics are about more than just

keeping regulators and investors happy, argues Sonja Haut, they can also help to unearth new pockets of value for companies. 2 I by IMD • December 2023

22 Blended finance has the power to unleash the capital needed to drive progress toward the UN Sustainable Development Goals. Maximilian Martin explores the options. 26 The responsibility to maximize

profits guides how institutional investors invest on behalf of others. But that does not mean investing in climate change is off the table, explain Emil Moldovan, Todd Cort, Matthew Goldberg, Jennifer Marlon, and Anthony Leiserowitz.

18 39 Be inspired by some wise words on making an impact from a book of quotations compiled by IMD’s Dominique Turpin.

40 Ventures that change ecosystems will help to develop the impact economy, writes Adrian Ackeret. He offers three ‘levers’ to add value and support innovation.

30 Adrian Hensen, Co-founder of the Purpose Foundation, explains to

Bryony Jansen-van Tuyll how the model

of steward-ownership equips businesses to deliver positive change.

34 Activist investors have the power

to direct the corporate world to embrace positive change. Kristin Hull offers a four-step guide to effective engagement.

36 With over two-thirds of species lost in the past 60 years, regulators want businesses to be accountable for their biodiversity impact. Adrian Dellecker explores the rise of biodiversity data startups seeking to help companies to adjust.

22 43 Impact venture capital in Europe is generating lower financial returns than its traditional counterpart. Valentina Masseretti, Anita Quas, Stefano Romito, and Clodia Vurro offer possible reasons why.

Photos: UNICEF/Mojtba Moawia Mahmoud, David Clode via Unsplash, © Volvo Bus Corporation

#12 December 2023

46 [ The human factor ]

Learning how to effectively accommodate and enable neurodiverse talent unlocks benefits for business and the wider workforce, explain Nancy Doyle and Heather Cairns-Lee.

51 Executives are often oblivious to the seven

psychological factors that shape human behavior. Understanding and recognizing these needs opens the door to better leadership, writes Michael Yaziji.

55 A multi-step approach can help to attract and

develop the largely untapped talents of people with disability, suggests Tania Lennon.

58 [ In the mind’s eye ]

Striking a balance between being approachable and authoritative can be difficult. George Kohlrieser explains in seven steps how to become an authentic and effective leader.

60 [ Leadership skills ]

Humor makes for better leadership, but not everyone is a natural comedian. However, through training and practice, executives can acquire the essential skills they need, writes Emilia Bunea.

63 [ I reader ]

Photos: Michael Steele/Getty Images, BBC, Purpose, Courtesy of TIME, Beyond Good

IMD professors recommend books that will make ideal gifts for the festive season.

64 [ Technology ]

From drug development to finance, the potential of AI for business is huge, but effective safeguards are needed, write Sarah Toms and Amit Joshi.

55 70 [ Sustainability ]

The telecoms group Telenor worked with UNICEF to increase digital birth registrations in Pakistan. It’s a powerful example of how firms can experiment with sustainable business models to empower societies, writes Zainab Hussain Siddiqui.

74 [ Finance ]

Companies responding to the shock of higher borrowing costs must beware of three common misconceptions, argue Salvatore Cantale and Marc Woodfield.

66 [ Coaching corner ]

Understanding what motivates you can help to build habits to sustain yourself when faced with uncertainty, explains Francesca Giulia Mereu.

68 [ CEO dialogue ]

Jessica Sibley, CEO of TIME, tells Jean-François Manzoni how she is transforming the 100-year-

old media brand.

78 [ The forecaster ]

In the tech, pharma, and fashion sectors, Microsoft, Pfizer, and Nike have the knowhow and agility to make the most of the fast-shifting business landscape. Howard Yu has the details.

80 [ Preview ]

Join us in March when I by IMD will cast light on the opportunities and dangers for business in a world increasingly dominated by artificial intelligence. December 2023 • I by IMD 3

[ In good company ]

A fresh start is needed after the misadventures of venture capital The venture capital model has failed far too many smaller firms seeking the funds to grow but, argues Jerry Davis, there is a better way

It’s not just WeWork that has disappointed retail investors. The American stock market is home to hundreds of tiny money-losing companies whose valuations drop after they go public. What gives? Now is a good time to re-evaluate the role of venture capital in the economy. VCs have fundamentally distorted our capital markets and our system of business creation, sanctifying “going public” as the crowning achievement for young companies. But a public listing is only suited to a tiny minority of businesses. If our goal is to create sustainable companies, generate jobs, and provide investment opportunities for families outside the top 1%, perhaps we should re-think how we fund our enterprises, and what role the stock market plays in this system. Taking stock of the market

American capital markets are vast and deep. A recent report notes that “with a combined market value of nearly $50tn, the US stock market is nearly five times larger than the second biggest“ in China. And yet almost all the real action is concentrated in a small number of companies. Stock markets in the US list roughly 4,000 domestic companies, but 80% of the market’s value resides in firms that make up the S&P 500 index. 4 I by IMD • December 2023

And one-quarter to one-third of the value of the S&P 500 at any given time is made up of just seven tech companies: Google, Apple, Facebook, Amazon, Microsoft, Tesla, and Nvidia – “The Magnificent Seven”. Moreover, 10 stocks accounted for 89% of the index’s gain in 2023. It has always been true that a small number of companies account for most of the market’s gains, but this level of concentration is something new. A tiny group of tech conglomerates is uniquely responsible for how the world’s largest stock market performs (See table). Like other S&P 500 companies, the tech conglomerates are devoted to shareholder value. Among the S&P 500, there is a rigorously enforced set of rules around corporate governance: no “poison pills”, no classified boards, and no dual-class voting shares for new admissions. Activists enforcing conformity to their codes of conduct almost inevitably target members of the S&P 500 and not the smaller companies outside the index. Thus, with few exceptions, companies in this index follow a rigid set of standards aimed at ensuring their commitment to creating shareholder value. The ownership of companies in this index is also highly concentrated: nearly 25% of the average S&P 500 company’s share is held by just three giant fund families, invested on behalf of the 58% of American families who own shares. Outside the S&P 500, things are very different. Far more companies have poison pills (a defensive strategy whereby directors buy up large chunks of shares) and classified boards, aimed at thwarting activist shareholders. They may also have dual-class shares that give the founders absolute voting control. And index funds mostly ignore them. In short, the US stock market today consists of a handful of giant tech conglomerates with vast valuations, the rest of the S&P 500, which are

Illustration: Jörn Kaspuhl

eWork’s declaration of bankruptcy in November closed a revealing chapter in Wall Street history. The company’s failed IPO in 2019 became a cautionary tale of the wild excesses enabled by the venture capital (VC) funding model – in particular, VC’s ability to fund audacious bets, turn visionary founders into overnight billionaires, and burn investor cash by the barrel-load. A chastened WeWork ended up listed through a different, less demanding route, but its sketchy business model – taking out long-term leases on acres of office space and retailing access by the month – ran headlong into the COVID-19 pandemic, leading to a disastrous collapse in its share price.

largely owned by three index funds, and 3,500 or so firms that are often small, loss-prone, and invisible to most activist investors. This last territory is where most IPOs dwell. The world made by venture capital

Venture capital plays an exalted role in American capitalism. Most prominently, Silicon Valley was built on venture capital. Its high-growth model is widely emulated: during the 1990s and 2000s, economic developers around the world sought to launch some variant of the Silicon Valley model in “Silicon Prairie” or “Silicon Glen” or “Silicon Gulch,” in the hope of germinating world-beating businesses that bring jobs and prosperity to the local economy. The leading VC practitioners are regarded as intellectuals whose wealth certifies their genius. Sometimes they even pen lengthy manifestos to guide lesser mortals. But there is a bug built into the venture capital model. VCs are oriented toward maximizing financial returns for their partners, who typically get their payday when portfolio companies exit, either through an IPO or acquisition. Their ideal outcome is going public at the highest valuation possible and cashing in for the next round. On the other hand, retail investors who buy shares in a public company aim to realize returns over time – and yet for many venture-backed enterprises, the IPO is the peak of the bubble in terms of valuation. (A skeptic might even compare this model to infamous pump-and-dump operations, as in The Wolf of Wall Street film based on the memoirs of a convicted trader.) As my analysis of recent data on IPO firms demonstrates, this may not be a situation conducive to jobs and prosperity. Let’s start with jobs. Among the roughly 1,800 American companies that have gone public since the 2008 crisis, the median company created just 32 jobs per year – about the size of a typical McDonald’s outlet. That’s hardly a jobs boom. And 57% of these companies were concentrated in just four states: California, Massachusetts, Texas, and New York. A glance at the industries of IPO companies helps to explain why they are not major job creators. About one-third are in biotech (broadly), where the median company employs just 39 people at IPO. These firms grew by 10 employees per year on average. And the biggest employers among IPO companies tend to be seasoned enterprises that had previously gone private, such as grocery giant Albertsons.

Evidently venture capital is not the most reliable pathway to creating jobs. But are VC-backed firms at least creating wealth for their shareholders? Here too the story is not encouraging. The Wall Street Journal reported that 87% of companies that went public in 2021 were trading below their IPO price by the fall of the following year, and Crunchbase found that the biggest IPOs of 2021 had lost 60% of their value by October 2023. Of the 26 companies that debuted with a $10bn or higher valuation, only one was not trading well below its IPO price. Retail investors who jumped on these new IPOs on the day they listed would have learned a hard lesson in American capitalism.

‘Among the roughly 1,800 American companies that have gone public since the 2008 crisis, the median company created just 32 jobs per year – about the size of a typical McDonald’s outlet’ This should not be too surprising. Four in five companies that have gone public since 2019 reported a loss last year. Even among seasoned firms, losses are common: half of all listed firms in the US had negative net income in 2022, continuing a trend that dates back two decades. To be clear, there were some notable exceptions to this grim picture – two, to be precise. Tesla grew from roughly 250 employees in 2008 to 130,000 today, and Facebook grew from 2,000 to 86,000. Both have made their early investors rich. But should we premise our system of funding enterprises on a tiny handful of extreme cases? Judging by the numbers, WeWork is more representative of the market than Facebook or Tesla. There is some evidence that retail investors are catching on. Professor Jay Ritter reports that there were only 38 IPOs in 2022. This is the smallest number since the financial crisis of 2008, and the second-smallest number in over four decades – at a time when, by many indicators, the economy is booming. Perhaps it’s now twilight for the VC model. There is an alternative, maybe more than one

If the stock market is broken as a method of funding enterprise, then »

TOP S&P 500 COMPANIES BY MARKET CAP 1998

2003

2008

2013

2018

2023

COCA-COLA MICROSOFT EXXONMOBIL MERCK INTEL

MICROSOFT GENERAL ELECTRIC EXXONMOBIL WALMART CITIGROUP

EXXONMOBIL GENERAL ELECTRIC MICROSOFT AT&T PROCTER & GAMBLE

APPLE EXXONMOBIL ALPHABET WALMART MICROSOFT

APPLE ALPHABET MICROSOFT AMAZON FACEBOOK

APPLE MICROSOFT ALPHABET AMAZON BERKSHIRE HATHAWAY

December 2023 • I by IMD 5

[ In good company ]

how can we foster new businesses that create jobs and benefit local economies? Fortunately, two major trends are enabling growing enterprises that need never set foot near the stock market. First, the costs of launching a startup have never been lower. It is now possible to “rent” all the inputs to an enterprise, from turnkey manufacturing services and distribution channels to a work-from-home labor force. The capital needs today can be much lighter than in the past, bypassing the need to go public.

‘Four in five companies that have gone public since 2019 reported a loss last year’ Second, there are now emerging alternative methods of funding more congruent with creating enterprises built to last. In particular, the Jumpstart Our Business Startups Act (JOBS Act) of 2012 included provisions to enable online crowdfunding for enterprises of all sizes, from barber shops to tech startups. It took several years to work out the details, but founders today can raise capital from investors around the world – including their own customers, who no longer have to document their wealth to put a few dollars into local businesses. Platforms like StartEngine, WeFunder, Mainvest, Small Change, Honeycomb Credit, and dozens of others have expanded not just the kind of companies that can raise funding but also the format of investing – beyond plain-vanilla debt and equity, including revenue-share loan agreements that enable founders to own a greater share of the businesses they create while enabling retail investors options beyond the S&P 500 for their savings. There are also innovative firms like Builders + Backers and its philanthropy-supported “Pebble Fund” that offer an alternative to the traditional incubator/VC model and fill critical funding gaps across the country. Others provide matching funds for crowdfunded capital raises. And there are alternatives to traditional equity such as “redeemable equity” that lowers the need for founders to head toward an IPO or other exit. The stock market had a good run. Perhaps now we are ready for something different. ■

Jerry Davis is the Gilbert and Ruth Whitaker Professor of Business Administration and Professor of Sociology at the University of Michigan’s Ross School of Business. He has published widely on management, sociology, and finance. His latest book is Taming Corporate Power in the 21st Century (Cambridge University Press, 2022), part of the Cambridge Elements Series on Reinventing Capitalism.

6 I by IMD • December 2023

[ Impact economy ]

The theory of change: intentionality and how to measure impact What is the impact economy and why should it matter? And how do you know if your actions are making a positive difference? To kick off our 40-page exploration of the subject, Vanina Farber and Patrick Reichert propose using the ‘Theory of Change’ as a model to embrace an impact-oriented mindset

mpact is a term that has rapidly gained prominence in the business world in recent years. It is typically used to describe the positive social or environmental effects of an organization’s activities, products, or services. Impact is also associated with new forms of investing and venture creation, such as impact investing or social entrepreneurship that aim to generate social or environmental benefits alongside financial returns. But what does impact really mean? And why should it matter to corporate managers, boards of directors, and business leaders? Here we explore these questions and argue that impact considerations deserve to be on an equal footing with financial and strategic decision-making. We start with a simple observation: all organizations have economic, social, and environmental impacts. However, this alone is not enough to justify the creation of new categories such as impact investing or social entrepreneurship. The central question facing the impact economy is one of intentionality: that is, how do we know how much of the future impact is attributable to their investments or market solutions? How can we know whether the impacts are due to their actions or whether it is attributable to other factors? These difficult questions arise because we lack the counterfactual – that is, what would have happened without the funding of an impact investor or the social innovation of an entrepreneur? This question has perplexed some of the best minds across economics and management for decades. One potential solution to measure impact proposed by development economists Esther Duflo, Abhijit Banerjee, and Michael Kremer involves the use of randomized controlled trials (RCTs) to study the effects of various interventions on poverty alleviation in developing countries. Their groundbreaking work, for which they were awarded the 2019 Nobel » December 2023 • I by IMD 7

[ Impact economy ]

Prize in Economics, used hundreds of RCT experiments across areas such as education, health, microfinance, agriculture, and governance to test the impact of different policies and programs on the well-being of the poor. Impact in this context is a technical term that requires comparison with a counterfactual: that is, what would have happened in the absence of the intervention? Despite being hailed as the gold standard for impact evaluation, RCTs require time and money to demonstrate the impact of a particular intervention – a luxury that most of the business world does not have. An additional and more accessible model to help managers and investors effectively use an impact-oriented mindset is the Theory of Change. Put simply, the theory is a methodology that explains how and why a desired change is expected to happen in a particular context. It requires impact to be (1) intentional, (2) additional, and (3) measurable and encourages actors in the impact economy to focus on mapping the causal linkages and preconditions between what an intervention does and how it leads to the desired long-term goals. Intentionality requires actors in the impact economy to not only explain the “what, how, and why” but also to go one step further by addressing “to whom” and “how many”. What is impact?

Impact can be defined as the difference an organization makes in the world compared with what would have happened otherwise. It is important to distinguish impact from related concepts like output or outcome. Output refers to the quantity or quality of what an organization produces or delivers, such as the number of products sold or the number of people served. Outcome refers to the immediate or short-term effects of

Free bed nets to fight malaria The problem: Despite a large reduction in the global malaria burden over the past two decades, malaria still claims hundreds of thousands of lives a year. The intervention: Public health experts and officials have long agreed that prevention through widespread use of insecticide-treated nets (ITNs or bed nets) is a highly effective method of preventing malaria transmission. The RCT research: J-PAL-affiliated researchers conducted more than a dozen randomized evaluations in eight countries to evaluate how pricing affected the take-up and use of various preventive health products. In 16 randomly selected health clinics, ITNs were offered at a subsidized rate with the discount varying between 90% and 100% of the market price. The 90% discount formed the control group while the 100% discount served as the treatment group. The results: Researchers found that ITN take-up was 60 percentage points lower when the price was $0.60 than when it was $0 (i.e., at a subsidy of 90% instead of 100%). By demonstrating that providing preventive health products for free increased take-up, this research helped organizations rethink their approach to user fees to increase their reach.

8 I by IMD • December 2023

an organization’s output on its beneficiaries or stakeholders, such as the satisfaction, income, or health of its customers or employees. Impact, on the other hand, refers to the long-term and lasting effects of an organization’s output and outcome on its beneficiaries or stakeholders, as well as on society and the environment at large. Impact also takes into account the counterfactual scenario – that is, what would have happened if the organization did not exist or did something differently. For example, an impact investor may ask: How much did my investment in a clean energy company reduce greenhouse gas emissions compared to what would have happened if I’d invested in a fossil fuel company instead? In this context, outputs may refer to the number of solar panels installed, the total megawatts of solar energy produced, or the number of green jobs created. Outcomes are linked to the reduction in use (dependence) on fossil fuels or the corresponding decrease in electricity costs. Impact, meanwhile, could be captured by the ultimate reduction in greenhouse emissions that contribute to efforts against climate change or the associated boost to energy security independence. Another example from the social arena may focus on gender equity. Here, outputs might refer to the number of gender sensitivity training sessions conducted within the workplace, the development and distribution of educational materials on gender equality, or the implementation of new workplace policies that promote gender equality, such as equal pay for equal work. Outcomes in the context of this gender equality program might include items such as increased awareness and understanding of gender issues among employees and management, measurable improvements in hiring and promotion rates of women and other gender minorities, and positive changes in workplace culture, as indicated by employee surveys and greater compliance with gender equality policies. Long-term impact will materialize through the achievement of a more balanced gender representation at various levels of management and senior roles, an improvement in workplace productivity and innovation contributing to societal change by challenging and reducing gender stereotypes and biases, and the economic empowerment of women and gender minorities. How can we use the Theory of Change to achieve impact?

The Theory of Change is a logical framework that describes how an organization intends to achieve its desired impact by linking its inputs, activities, outputs, outcomes, and impact in a causal chain. It identifies the assumptions and risks that underlie each link in the chain, as well as the indicators and methods that can be used to measure and verify each link. Actors in the impact economy start with a requirement to be intentional about the change they want to create, encouraging them to use evidence and data to design, manage, and evaluate their impact performance. As a result, the Theory of Change also facilitates collaboration and coordination among actors in the impact economy and other stakeholders, such as investees, intermediaries, beneficiaries, and policymakers. By sharing and comparing their Theories of Change, organizations can identify common goals, outcomes, and indicators, and align their efforts

THE THEORY OF CHANGE INPUTS

What resources are required to make your activities possible? People, tools, funding,etc.

ACTIVITIES

What are the key actions required to create your offering or sell your product/ service?

OUTPUTS

How will you measure the tangible success of your project/initiative? Number of people reached or products sold.

and resources to achieve greater impact. They can also learn from each other's experiences and best practices. How is impact changing the risk-return frontier for investors?

The risk-return frontier is a concept that depicts the trade-off between risk and return for different investment options. Traditionally, investors are assumed to seek higher returns by taking higher risks. However, this paradigm is rapidly starting to introduce a third dimension: impact. Impact risk is an additional concept that refers to the uncertainty or variability of achieving the desired impact. Impact return is the value or benefit of achieving the desired impact. As a result, some investors may look to achieve impact by assuming a higher risk profile, while others may focus more explicitly on the impact accruing to society or the environment. We believe that the impact-risk-return frontier creates a more diverse investing landscape. Investors can now choose from a range of investment options that offer different combinations of risk-return-impact profiles. Adding impact to the investment equation can even allow some actors to assume higher risk with the expectation of lower returns to crowd-in market-rate funders or investors that are indifferent to impact considerations. In this vein, blended finance is a promising financial innovation that can help companies to de-risk their transitions towards sustainability or increase the availability (and duration) of funding for humanitarian organizations. By collaborating across different profiles, blended finance transactions help align incentives in a way that reduces risk or enhances returns to make viable social innovations that otherwise wouldn’t have happened. Effective stakeholder engagement is key to aligning the interests of those with shared impact goals but different risk-return profiles. Clear communication is essential but also challenging. For investors focused on returns, it’s important to highlight how impact strategies can lead to long-term financial benefits and reduce risks. For those more interested in social or environmental impacts, the emphasis should be on the real-world positive outcomes at scale. Understanding what drives each stakeholder and maintaining open, ongoing dialogue helps ensure that everyone's interests are considered and valued. This approach builds trust, which is crucial for the success of any impact collaborative initiative.

OUTCOMES

How will you see signs that the project/ initiative has been effective? Survey of customers, beneficiaries, etc.

IMPACT

What is the ultimate impact achieved? Adjusting for the results that would likely have happened without your activities.

In short, blended finance plays to the strengths of each type of actor: private companies realize entrepreneurial opportunities for impact value creation and civil society organizations monitor the social and/ or environmental impact while public actors step in to offer financial guarantees. Such ecosystems can lead to effective impact creation while enjoying high levels of trust from society and stakeholders. Impact matters: a call for action

No significant social innovation will happen without the courage to do things differently and the pursuit of intentional positive impact. No significant social innovation will happen without dedicated resources. To this end, the Theory of Change can help guide organizations toward these objectives. This includes setting transparent financial and impact goals and implementing strategies to achieve both while at the same time managing risk. The theory also obliges organizations to dedicate sufficient attention to understanding the impact they generate. This may include value-chain tracing to assess labor practices and conditions in product sourcing or the environmental impact of raw material production. Measuring impact often requires substantial resources since organizations may need to leverage the expertise of other stakeholders to demonstrate credibility on their stated social and environmental objectives. Despite these challenges, we still need to measure and manage it to move beyond intention to tangible impact. ■

Vanina Farber is elea Professor of Social Innovation and Dean of the IMD EMBA program. She is an award-winning economist and political scientist who specializes in social innovation and the mobilization of private capital for impact investing. Patrick Reichert is a Term Research Professor at the IMD elea Center for Social Innovation. His research primarily focuses on how financial innovation can accelerate the speed, scale, and effectiveness of promising social innovations.

December 2023 • I by IMD 9

[ Impact economy ]

Six ways to grow Africa’s impact ecosystem Economies across the continent are being transformed by targeted investment, but much more needs to be done, argues Maryanne Ochola

-PESA, the mobile money service, hosts transactions worth more than 50% of Kenya’s GDP and serves more than 50 million customers in seven African countries. This runaway success story, credited with lifting 2% of Kenyan households out of poverty, was catalyzed by a £1m UK government grant 15 years ago. It’s just one example of the power of impact investing to transform economies across Africa. Early on, the UK grant de-risked M-PESA enabling follow-on commercial capital to come in and support its growth, helping to create a financial inclusion ecosystem that now fuels scalable innovation in Kenya and beyond. Without that grant, it would have been near impossible for the company’s leadership (then the multinational Vodafone) to invest its own money in what was then a high-risk and low-return pursuit in a non-core market. This kind of blending of impact and commercial finance has spurred innovation and opened African markets in crucial sectors such as financial services, renewable energy, and agriculture. Without it, and despite the growth of venture capital in countries such as Nigeria, Egypt, Kenya, and South Africa, entrepreneurs face challenges in accessing capital to scale their businesses. They are considered too risky by commercial banks, with considerable risk premia and collateral requirements, while public markets remain illiquid and out of reach for most. Over the last decade, impact investing has stepped in to fill that gap. We are now seeing those initial target investments transitioning to commercial capital so that businesses can scale. Here are six ways to accelerate this movement, based on learnings from Africa’s emerging impact ecosystem (and mindful of regional nuances). 1. All African business is ‘impact’

The biggest catalyst for Africa’s growth will continue to be youth job creation at scale, as the multiplier effect will be felt across the board. 10 I by IMD • December 2023

Therefore, all African businesses creating jobs are arguably impactful (excluding sectors causing harm). While different investors have specific mandates, a wider recognition of this reality will expand opportunities: a narrow definition of impact has constrained mostly local entrepreneurs from accessing capital and support. For example, Aoko owns a restaurant chain which caters to city workers. The majority of her staff is female, and she sources traditional ingredients such as cassava leaves and edible insects from rural smallholders. A key obstacle to expanding her business is accessing a bank loan because she lacks the requisite collateral. Aoko is likely to be unaware that she can access alternative capital as an underrepresented founder (a female entrepreneur) or for supporting rural development by sourcing from smallholders. 2. Build relationships between external and local financiers

External investors can improve their knowledge of target entrepreneurs by working more closely with local financiers. On-the-ground experts understand the context and offer support with the assessment of business models, sourcing diverse pools of entrepreneurs, and understanding growth rates or risk to identify, appraise, and manage possible funding facilities. Some development finance institutions (DFIs) have established partnerships with Kenyan banks, de-risking lending to clients (such as Aoko) by bundling capacity-building, sourcing alternative collateral, and offering proximity: her bank is just a walk away. We need more of this across Africa, especially in secondary markets and fragile states. 3. Focus on market building

Just as M-PESA demonstrated with financial inclusion, we need more breakthrough innovation across other sectors such as healthcare, education, and agriculture. It is imperative that impact investing continues to take a market-building approach. Take workforce training, which is constrained by limited access to funds: The African Management Institute has leveraged philanthropic and concessional capital to build the workplace-learning market, demonstrating value to businesses and moving users from subsidized to commercial terms over time. It is important to align impact investors, entrepreneurs, and commercial capital so this kind of value-added and transition-to-scale can be achieved more widely. 4. Develop local funding

There is a need to close gaps in the impact investment landscape. Most impact capital is foreign, so we need to integrate frameworks and aspirations for local capital into local policy to enable entrepreneurs to tap into a wider scope of funding. The convening power of DFIs can help to bring different actors to the table and encourage long-term policy change. The Global Steering Group for Impact Investment has catalyzed local advisory boards in markets such as Ghana, Zambia, and South Africa. The goal of similar initiatives should be to create a continuum of capital that is additive and spans the entrepreneurial journey. 5. Change the narrative

The biggest win may come when perceptions of impact investing shift from “charity”, “market-distorting”, “narrowly focused”, or “foreign”. These definitions emerged as the market moved from NGO interventions in the

The impact economy has introduced a confusing array of organizations, regulations, and protocols. Here’s a quick guide to some of the most important terms:

‘More Africans should be appointed as general partners, not just employees, of impact funds’

6. Amplify Africa’s voice

Equally important is building the thought-leadership, data, and research ecosystem. With a decade’s worth of activity, case studies on the de-risking of investments, capital, social and environmental impact, policy, and regulatory successes as well as exits could help cement impact investing at the heart of economic development. A cursory glance at impact-related content reveals that there aren’t many Africans sharing their experiences. Every so often, a panel speaker cannot attend an impact conference in London or Washington, for example, due to difficulties obtaining a visa. This points to the imbalance of power in the impact economy and, without skin in the game, there’s a sense of limited local ownership. More Africans should be appointed as general partners, not just employees, of impact funds. DFIs could lead the way by building the capacity of those with local knowledge and proximity. We can achieve both profit and impact, but the ecosystem that will support this revolution in Africa needs strengthening. Impact investors should continue to play a catalytic market-building role that unlocks opportunities and attracts commercial capital. Investors should consider broader definitions of impact, as job creation remains the most critical challenge in Africa. This will also widen the deal flow for investors. Finally, it's noteworthy that the ownership of M-PESA is now fully African. Impact investing, as a sector, will benefit from more Africans driving the movement, de-risking opportunities through proximity, and sharing success stories. ■ Maryanne Ochola is passionate about entrepreneurship and its impact on job creation in Africa. She has worked in commercial banking, impact investing, and venture capital and has a deep understanding of the evolving ecosystem. Ochola holds an MBA from IE Business School and is Managing Director of Endeavor Kenya.

The OECD defines blended finance as the “strategic use of development finance for the mobilization of additional finance towards sustainable development in developing countries” to address the SDG funding gap. Practically, blended finance refers to the combination of capital that has commercial risk-return expectations with funding that is concessionary in some form (typically from a public funder) to generate additional and measurable impact.

Additionality

Information station

1980s and 90s to the VC heyday of 2020-2021. A key step requires aligning local conditions and needs with the demands of the sources of capital. Africans should sit at the decision-making table when interventions are designed and a consensus is built. For example, Africa will play a key role in energy transition, and we’ve seen a flurry of new climate-focused funds as DFIs – the largest source of impact finance in Africa – shift their spotlight to climate. It’s critical that Africa determines what interventions are prioritized, based on local context.

Blended finance

According to the “additionality” principle, impact investors – including public funders such as the International Finance Corporation (IFC), the World Bank Group’s private sector arm – should make a contribution beyond what is available in the market (either financial, non-financial, or both) while avoiding crowding out market-rate players in the private sector.

GIIN

The Global Impact Investing Network is a leading data hub and facilitator of impact investing, dedicated to increasing its scale and effectiveness around the world. Impact investments are made with the intention of generating positive, measurable social and environmental impact as well as a financial return.

IRIS+

An impact measurement and management system created by GIIN to support impact measurement and inform management decisions. IRIS metrics are designed to measure the social, environmental, and financial performance of an investment.

SFDR

The EU Sustainable Finance Disclosure Regulation is a set of EU rules that aim to make the sustainability profile of funds more comparable and better understood by end investors.

ESRS

European Sustainability Reporting Standards. Adopted by the EU this year, the law requires all large companies and all listed companies (except listed micro-enterprises) to disclose information on the risks and opportunities arising from social and environmental issues and on the impact of their activities on people and the environment. December 2023 • I by IMD 11

[ Impact economy ]

Beyond Good produces its chocolate bars in Madagascar, next to where the cocoa is grown and processed

How ‘civic wealth creation’ is strengthening local communities through commerce and collaboration 12 I by IMD • December 2023

n a rural Latin American region, demand for local crops had dramatically decreased due to competition from cheap imports, leaving already low-income farmers facing severe unemployment, and putting communities at risk of health complications. When the social innovation unit of a global food company, with a strong track record in the region, found out about the issue, they sought to further develop relations by assisting the farmers and community to find a solution. To help, the company identified a local innovative enterprise and decided to provide initial seed funding and business expertise to develop new

Photo: Beyond Good

Building bridges and restoring hope

When diverse stakeholders and regular citizens collaborate and coalesce around positive societal change initiatives, they can develop viable solutions to the complex problems that can impede local economies, write Sophie Bacq and Tom Lumpkin

crops. Together, the stakeholders identified new agricultural products that would appeal to the community, assisted the farmers in implementing updated growing techniques, and formed a cooperative to provide a market for their produce. The new crops were successful, reinvigorating demand for local produce as well as increasing incomes. However, the venture’s increased farming activity had created an environmental strain on the region. The situation prompted the collaborators – the global company, the local enterprise, the farmers, and cooperative members – alongside the input of an environmental NGO focused on the region, to implement sustainable farming practices. The result: increased employment opportunities for farmers and better prices through the cooperative, better health for the region thanks to new farming opportunities using environmentally sensitive practices and, simultaneously, more effective and authentic social engagement with the local community for the company. And, for all involved, a renewed sense of hope. This collaborative initiative serves as a notable example of what we call “civic wealth creation”, or CWC. This concept, detailed in our award-winning research published in Academy of Management Perspectives in 2019, shows the positive benefits and transformative changes that occur when communities, enterprises, and their supporters come together to improve their well-being and vitality through cooperation, kinship, and commerce. For corporations, entrepreneurs, NGOs, philanthropic organizations, local leaders, government agencies, and others, civic wealth creation is the new standard for societal impact. When diverse stakeholders and regular citizens participate, negotiate, collaborate, and coalesce around positive societal change initiatives, they can develop viable remedies and new approaches to the complex problems that have impeded local economies. By being willing to confront differences and overcome challenges rather than blame intractable problems on market failures or government failures, champions of CWC are bringing together the forces needed to restore and empower local communities.

can include corporations, government agencies, philanthropic organizations, impact investing funds, universities, and more. In situations where civic wealth is being created, representatives of these three stakeholder groups are present and engaged. Think of wealth as beyond money and material possessions

By definition, the term “civic wealth” draws attention to a conception of wealth that extends beyond money and material possessions. Civic wealth captures the “intellectual, affective, and material resources, capacities, and capabilities” of a segment of society that are created when representatives of the three stakeholder groups collaborate to strengthen and uplift communities, as the opening example illustrates. Wealth is also created when two of the stakeholder groups interact, producing new benefits for the local community. We categorize types of wealth as economic, social, and communal. Together, they build civic wealth. The most well-known and widespread type of wealth in the business sphere is economic wealth. It is created when those with an entrepreneurial mindset partner with supporters, who provide advice, experience, and, most likely, funding. Economic wealth takes the form of new sources of livelihoods, greater investments, or enhanced infrastructure in a community, fostering a more robust and sustainable local economy. Lidl, the leading German discount supermarket chain, for example, creates economic value for its stakeholders, including financial investors and family shareholders, customers who benefit from low prices, employees from corporate discounts, and the government from taxes and infrastructure investments. Despite this clear focus on economic wealth creation, the communities where Lidl is present are further enhanced through its support for local causes, community gardens, food banks, and art projects. Taken together, Lidl’s commitment to being “a good neighbor by positively contributing to the communities” improves local economies and reduces environmental footprint. »

Three key actors in civic wealth creation

CWC happens when actors from three major stakeholder categories coalesce: community, enterprise, and regimes of support (See graphic). The community usually revolves around a locality and refers to an aggregation of individuals within a specific geographical territory who are connected by a shared interest or bond. These places where changes happen can be small in size such as a neighborhood or a village, or larger such as a city. The largest community in which CWC applies is a region.

Fogo Island Inn: all profits from the hotel are reinvested in the island and an artist residency program

Photo: fogoislandinn.ca

The enterprise refers to the entrepreneurial energy and the stakeholders and entities that help make the changes financially feasible and lasting. Examples include for-profit entrepreneurial firms, non-profit ventures, community enterprises, and cooperatives. The regimes of support encompass various types of supporters and networks of supporters. They bring resources, including tangible assets such as money, and intangible benefits such as expertise and guidance to support change initiatives. Depending on the issue or context, they December 2023 • I by IMD 13

[ Impact economy ]

The Brixton Pound: the local currency was introduced to encourage local trade, support independent businesses, and build a human-scale circular economy

Communal wealth is created out of a community’s own entrepreneurial efforts to enhance its lot with limited influence from the regimes of support. It manifests as capacity building, enriched culture, and enhanced self-sufficiency. Consider the Brixton Pound, a local currency launched in 2009 by activists who wanted to support the local economy in the London borough of Brixton and promote social justice. The Brixton Pound 14 I by IMD • December 2023

can only be spent at participating local businesses, which encourages people to shop locally and keep money within the community. It’s an example of how communities use creative problem-solving – in this case, a unique local money system – to highlight their values and boost their communal prosperity.

‘Lidl’s commitment to being ‘a good neighbor by positively contributing to the communities’ improves local economies and reduces environmental footprint’ It is important to note that the model presented in the graphic is dynamic: civic wealth can also be created in moderate forms when one stakeholder group is less engaged than the other two. For instance, a non-profit that combines community leadership with corporate donations and volunteers to build local infrastructure and enhance local well-being generates both communal and social wealth. The community developing an entrepreneurial spirit and a sense of responsibility contributes to the creation of communal wealth. The community also benefits from the creation of social wealth through enhanced facilities, leading to various advantages such as a healthier and more active population. However, such an initiative does little to create economic self-sufficiency and thus would have a limited impact on economic wealth, resulting in a moderate level of civic wealth creation.

Photo: Charlie Waterhouse via Flickr

Social wealth is created when regimes of support directly assist and collaborate with a local community. They can provide business experience (corporations), administrative support (non-profits), funding and advice (philanthropic organizations), knowledge (universities), and more. Social wealth reflects the benefits accruing to the well-being of a community that embraces the contributions of its supporters, such as improved access to healthcare, education, and justice, among others. For example, Bush Brothers & Co, the leading provider of baked beans in the US, led the effort to convert an old school building into a primary healthcare clinic serving the rural community of eastern Tennessee where most of its employees live. The company wanted to provide better access to healthcare for its employees and their families as well as for the residents of the surrounding area, who had to travel long distances to see a doctor or a dentist. The company also wanted to preserve a local historic building, which was built in 1925 and had been vacant for years. The company, with strong connections to the school as many of its employees and their relatives had attended it, wanted to honor its legacy as a center of education and community for generations. Finally, as any sound business caring about its viability would do, Bush Brothers also wanted to reduce its healthcare costs, which were rising due to the lack of preventive care and chronic conditions among its workforce.

The five principles of civic wealth creation

Five clear principles indicate that CWC is strengthening communities through commerce and collaboration. Taken together these principles are what distinguishes CWC from other forms of social helping such as philanthropy, corporate social responsibility (CSR), and social work. 1. Shared purpose. Stakeholders are engaged in community life, have a sense of responsibility for others, and contribute in ways that bring about positive change. This principle more than any other explains why we use the term “civic” to characterize the phenomenon: it emphasizes the importance of involving local people, and of caring for others beyond just economic matters. Example: There are few better examples of this than Mondragon, a federation of worker cooperatives that began in Spain’s Basque region in the wake of two wars. It was a desperate time for workers and their families, but through thoughtful collaboration and the determination to focus on both fairness and practicality, they were able to develop very forward-thinking practices. Today, cooperative members, who ascribe to four core principles – cooperation, participation, social responsibility, and innovation – work directly alongside each other to develop and support the civic wealth of the region. Their purpose stems from mutual involvement in both work and community life, which helps build a sense of solidarity and collegiality. 2. Prosperity. Many of the problems that communities face cannot be solved with simple fixes or one-dimensional solutions. For systemic change to take place, a wide array of resources – including physical, cultural, intellectual, political, financial, and natural resources – needs to be mobilized and organized.

Source: Adapted from Lumpkin & Bacq (2019)

Example: Fogo Island is a small island off the coast of Newfoundland and Labrador, Canada, that has faced many challenges, such as the decline of the fishing industry, the out-migration of youth, and the loss of cultural identity. However, the community has mobilized a broad array of assets and partners to support its change efforts and revitalize its economy. In particular, a native who became a Silicon Valley executive helped position Fogo Island as a tourist destination. These efforts not only brought residents back but also boosted economic prosperity and strengthened community resilience in the face of future shocks. 3. Vitality. Business activity and entrepreneurship are employed to build solutions that are economically viable and sustainable, and that foster independence. One of the key distinguishing features of CWC stems from the role of entrepreneurial venturing and commerce. Compared to some community development efforts that strengthen economies by relying on grants and donations, CWC promotes self-sufficiency through lasting co-created solutions. Example: Take Beyond Good, a chocolate company that empowers farmers and strengthens the local economy by making its end products – “heirloom” natural chocolate bars – in Madagascar next to where the cocoa is grown. Through its entrepreneurial and innovative approach,

COMMUNITY Neighborhood Village City Region

Communal wealth creation ENTERPRISE Entrepreneurial firm Nonprofit Community enterprise Cooperative

CIVIC WEALTH CREATION Economic wealth creation

Social wealth creation REGIMES OF SUPPORT

Corporations Government agencies Philanthropic organizations Impact investing funds Universities

Beyond Good has created work opportunities for community members rather than shipping cocoa beans overseas and improved education and skills training for employees. It also promotes sustainable farming practices and the environmental protection of fragile cocoa trees. 4. Diversity. Stakeholders with a wide variety of capabilities, motives, and aspirations combine their talents and work together to make things happen. Civic wealth is created when diverse sets of people and organizational actors form coalitions with a common purpose: to solve problems and improve living conditions. Example: In Central America, Water for People supports impoverished villagers in developing their own sustainable water and sanitation systems. The effort involves drawing together village elders and community leaders, teachers and parent associations, local entrepreneurs and local government, specialized engineers, and international aid organizations. In other words, the whole community, with the help of outside support, is engaged in improving its well-being and takes ownership of the solution to ensure that it thrives in the long run. 5. Engagement. Another idea that is fundamental to CWC is engaged participation by all those affected. Among the many stakeholders who are involved in CWC initiatives, the people who are being helped or benefit from the positive change are an essential part of the conversation and are closely involved with designing and implementing the solution. Example: Housing Works operates a bookstore café in New York City that generates income by helping the homeless and those who are living with HIV/AIDS. The homeless and low-income citizens are trained to work in the café which has become a gathering place for the arts » December 2023 • I by IMD 15

[ Impact economy ]

As these five principles indicate, CWC is a promising new way to bring about societal change. It reflects the sense of caring and responsibility that people feel for those they share a bond with, either because they are neighbors living near each other or because they share things in common, like common interests or common experiences. Five steps to apply the civic wealth creation framework

Whatever your role, experience, or aspiration in the impact economy and sustainability space, here are key steps to consider when applying the CWC framework: 1. Draw a map of all current and potential stakeholders involved in the initiative and identify to which of the three stakeholder groups they belong. Is there any person or group who has been left out? In the case of Housing Works, initiators of the project first had to map out the different stakeholders: the main beneficiaries – the community of homeless and low-income people living with or at risk of HIV/AIDS – but also the community of New Yorkers who would come to the café as patrons and other supporters of the bookstore. Once identified, it was then critical to balance the needs and preferences of low-income households with the requirements and standards of the relevant government agencies and construction companies. Housing Works also engaged with the media to gauge public opinion and gain trust and support for the initiative.

‘By building on traditional knowledge, Beyond Good not only created a sustainable and ethical chocolate business but is also helping to preserve and amplify the cultural heritage and diversity of the communities it works with’ 2. Identify and formulate a shared purpose that will determine the intentionality common to all actors involved. Is everybody on the same page? In the case of the Brixton Pound, the shared purpose that led to the creation of the currency was to support the local community and economy in that area of south London, in response to the financial crisis. Stakeholders had united behind the idea that the currency would encourage local trade, support independent businesses, and build a human-scale circular economy. The currency further contributed to creating a sense of community and pride among local residents. 3. Take stock of the available resources as well as those available from, or made available by, the enterprise and regimes of support. What else is needed to pursue the initiative? In the case of Beyond Good, the natural 16 I by IMD • December 2023

resources (cocoa beans) were being taken away from the community as soon as they were harvested; the processing of the raw material – value-creating activities – was happening far from Madagascar, in Europe and North America. Beyond Good redirected the supply chain in favor of leveraging local resources. It learns from the local knowledge of the farmers about the best varieties, planting methods, harvesting techniques, and post-harvest processing of cocoa beans; it protects biodiversity and uses endemic trees in its pest management; it acknowledges and rewards the contributions of the communities to its innovations and products by sharing the benefits equitably and transparently. By building on traditional knowledge, Beyond Good not only created a sustainable and ethical chocolate business but is also helping to preserve and amplify the cultural heritage and diversity of the communities it works with. 4. Identify opportunities for commerce and trade that could generate revenue. How might a viable business model be developed? Most notable in the case of Fogo Island is the building of the Fogo Island Inn, a luxury hotel opened in 2013 that offers stunning views, local cuisine, and contemporary design. All profits from the inn are reinvested in the island and an artist residency program. As a result, the number of visitors interested in the island’s natural beauty, cultural heritage, and artistic innovation has increased significantly. The rise of sustainable tourism on the island was responsible for the creation of more than 100 jobs. 5. Convene relevant stakeholders from each group identified in the first step; make sure to include community members most affected by the design of the CWC solution. Are everybody’s interests accounted for? In the case of water and sanitation issues, the issue is not so much the provision of wells and latrines as it is ensuring that the community preserves them for use in the long run. Water For People did exactly that: it directly engaged with the beneficiaries and realized that the biggest need lay in the maintenance of the water supply. As a result, it implemented a plumber training program that not only created jobs but also ensured the community was equipped with water supplies over the long run. ■

Sophie Bacq is Professor of Social Entrepreneurship at IMD. She is a globally recognized thought leader on social entrepreneurship and change. She investigates and theorizes about entrepreneurial action aiming to solve intractable social and environmental problems, at the individual, organizational, and civic levels of analysis. Tom Lumpkin is Visiting Senior Research Associate at the University of Tennessee and Professor Emeritus of Entrepreneurship at the University of Oklahoma. His research interests include civic wealth creation, entrepreneurial orientation, and family business. He is a globally recognized scholar whose research is published in leading journals. Tom was Co-Editor of Strategic Entrepreneurship Journal for six years (2012-2017).

Photo: beyondgood.com

community and others struck especially hard by HIV/AIDS. Housing Works also engages the community in providing services including legal help, job training, and primary care.

[ Impact economy ]

An empowering way for women to invest in a change for the better

By Shelley Zalis

he investment landscape has experienced a noteworthy evolution over recent years, as we’ve witnessed the integration of profit-making with purpose-driven initiatives. Impact investing centers on generating positive, measurable social and environmental impact alongside financial returns. The belief is that one can “do good” for society and “do well” financially. Recognizing the multidimensional nature of social issues, Jane Fraser, CEO of Citi, introduces a new “S” in ESG: security. This encompasses food security, energy security, defense, and financial stability. According to Fraser, security is not just a social issue but also vital for good governance, highlighting the interconnectedness of social, economic, and environmental challenges and underscoring the need for comprehensive, impactful solutions. Other examples include: • Clara Miller, President Emerita of the Heron Foundation, emphasizes the dynamic nature of money, asserting that capital has the power to address complex issues, making investments not just financially sound but also socially and environmentally responsible. • Jacqueline Novogratz, Founder of Acumen, advocates a forward-thinking perspective, noting that "patient capital" is about looking at the world optimistically and stating: “We can make a difference.” Impact investors envision a world where financial prosperity coexists with social progress and environmental sustainability.

Illustration: Jörn Kaspuhl

• Jean Case, CEO of the Case Foundation, underlines the importance of impactful leadership, stating that the future of innovation will be shaped by leaders driven not just by financial returns but by the impact they can make in the world. Women investors, prioritizing the “S” in ESG, focus on social impact and community development, fostering a more inclusive and socially responsible business environment. • Nancy Pfund, Founder and Managing Partner of DBL Partners, reinforces the idea that investing in companies solving global challenges can be both financially rewarding and incredibly impactful. For women, the impact economy is not just a trend – it's a powerful tool for empowerment and change. Impact investing for women is not only about profit margins but also leaving a positive legacy, fostering inclusive business-

es, and championing social justice. The implications of women's active participation in the impact economy are profound, challenging traditional investment norms and urging a shift towards a more compassionate and holistic approach. It encourages businesses to be more socially responsible, addressing critical issues such as gender equality, education, and healthcare. This shift in focus has ripple effects, prompting corporations to align their goals strategically with societal needs. The impact economy paves the way for a more equitable future, and women investors, including those in Fortune 500 companies, play a pivotal role in breaking down barriers and fostering inclusivity. This movement empowers women not just as investors but as changemakers, propelling them into leadership roles where their voices can be strategically heard, valued, and acted upon. As my friend Ruma Bose, entrepreneur and Board Member of Calvert Impact Capital, says: "Investing intentionally in what I call FI, Female Intelligence, can be a far bigger deal in the next decade even than AI, both in financial returns and in positive social impact." The active participation of women in the impact economy isn't just pivotal, it's revolutionary. It heralds a future where investments serve a dual purpose — ensuring financial growth while making meaningful contributions to society. This movement holds the promise of a more compassionate, inclusive, and sustainable world, demonstrating that when women invest strategically, they not only shape the economy but also transform lives and inspire generations to come. The “I” in ROI gives you both a return on impact and a return on investment, making it a compelling strategic deal. ■

Shelley Zalis is a trailblazer for women in the workplace. She is an internationally renowned entrepreneur, a pioneer for online research, a sought-after speaker, a well-known thought leader, and a devoted mentor. As founder and CEO of The Female Quotient, Zalis is in the business of equality®. Together with a growing global community of more than a million conscious leaders, she is on a mission to change the equation and close the gender gap.

December 2023 • I by IMD 17

[ Impact economy ]

Measuring impact wins public trust and is good for the bottom line

Impact metrics are not just about keeping regulators and investors happy, writes Sonja Haut, they can help unearth new pockets of value for companies, from talent and brand appeal to efficiency and innovation

he world is witnessing a significant shift in public perceptions. Multinational companies are no longer just expected to be profitable but also socially and environmentally responsible. According to the 2023 Edelman Trust Barometer, among governments, NGOs, media, and business, only the latter is perceived as competent and ethical across 23 countries globally. Corporate leaders have a lot to live up to. Almost two-thirds of the barometer’s respondents said they based buying decisions on their beliefs and values, and nearly seven in 10 wanted their employer to share their values. However, hopes placed in business go beyond individual preferences. Across 27 countries globally, around half of respondents asked for more engagement from business in the areas of climate change, economic inequality, energy shortages, healthcare access, workforce reskilling, and, notably, trustworthy information. The call for accountability in the business world has never been louder and along with it the call for transparency. Against this backdrop, measuring and valuing the impact of a company’s activities on society, the environment, and the economy have become essential to stay relevant and competitive. But this is not just about meeting evolving expectations – it also makes good business sense to embrace robust impact metrics.

In this article, I explore the reasons behind this new imperative and how companies can effectively engage in impact measurement and valuation to create the positive social and environmental impact that is a prerequisite for staying successful while also unlocking additional business value. Measuring impact makes good business sense

Companies from diverse sectors such as luxury goods, chemicals, automotive, and banking are already using impact measurement and valuation to support their operational performance and top- and bottom-line objectives. This approach has been used to identify new markets and address them effectively, unlock new revenue streams, improve efficiency, reduce waste, and find other ways to cut costs. A well-documented example is the multinational chemicals company Solvay. Its strategic tool, re18 I by IMD • December 2023

ferred to as Sustainable Portfolio Management, jointly considers the environmental impact of its products and their profitability. This allows the firm to segment its portfolio through a new lens and identify products that are vulnerable to the threat of replacement by more ecologically favorable alternatives. In turn, this sharpens the focus of its research and development efforts to bring about the required innovation. Solvay’s approach ticks several boxes: protecting the top line, spurring innovation, assessing strategic risk, and driving opportunity management, along with engaging internal and external stakeholders on the validity of any chosen strategic direction. The French luxury goods corporation Kering positions its impact valuation approach – called Environmental Profit and Loss – as an operational efficiency tool, supporting day-to-day business decisions with impact transparency, supplier engagement for sustainability, and the implementation of improvement projects. Some companies have also gone beyond operational objectives: targeting market value through impact measurement. Sandoz, for example, made its appearance on the stock market as an independent generics company by also articulating the impact of its portfolio of medicines on society. In my book The Case for Impact, I demonstrate with real business examples seven levers for driving business value through insights on a company’s impact: 1. Brand differentiation. Consumer choices are increasingly influenced by evidence of the positive impact of a company, a product, or a service. Impact valuation can set a brand apart and foster a deeper connection with socially conscious consumers or B2B customers, strengthening customer loyalty. 2. Talent attraction and retention. Employees increasingly want to work for companies that positively impact the world. As the Edelman Trust Barometer shows, measuring and valuing impact can not only bolster talent attraction and retention but also align a company's mission »

Photo: © Volvo Bus Corporation, naturabrasil.com, Dima Pechurin via Unsplash

Valuing impact: the luxury goods firm Kering, which includes the heritage brand Gucci, above, is looking for operational efficiency; Volvo is supplying a fleet of electric buses in Gothenburg, Sweden. Marie Carlsson, below, is leading the project; Natura, the Brazilian cosmetics brand, right, uses tools to assess its impact all along its supply chain.

December 2023 • I by IMD 19

[ Impact economy ]

with the aspirations of its workforce, building a purpose-driven and engaged team. 3. Innovation. Improving environmental and social footprints can spark engineering creativity, for example, and transparency about the impact of a product or a service can support effective market launches. Innovative approaches are required today even from business fields that may not be considered traditionally research-intensive. The case of Volvo seeking to introduce electric buses in the city of Gothenburg illustrates this point. 4. Operational efficiency. Decreasing the impact of energy usage, waste, water consumption, and pollution, for instance, directly translates to cost savings (see the example of Kering above). 5. Risk mitigation. Transparency on exposure to social and environmental risks is an operational necessity. Carbon border adjustment mechanisms have led to such materializing of risk in many a P&L, while the disclosure of exposure to human rights violations along the supply chain will soon become a regulatory requirement in Europe. 6. Capital access and market valuation. Effective impact management provides the link to sources of impact investment. Take Infosys, which needed investor buy-in for additional investments in skills training. It addressed this by showing a time series about the impact of its human capital investment. 7. Theme alignment. Impact valuation can help companies build trust with stakeholders, which is essential for long-term success. The driver of theme alignment is the most multifaceted and, at first glance, the most abstract. However, it is essential for all of a company's external contacts and forms the overarching frame for dealing with a changing business environment. Grappling with intricate business challenges, each of the companies mentioned – and others I examine in my book – found innovative routes to success by applying non-conventional metrics. Intriguingly, their successes were classical and financial, but also about more than money. Since the metrics brought to light the intended and unintended, positive and negative effects of business activity on the environment and society, the achievements could also be framed in sustainability terms. Considering social, environmental, and economic themes jointly with financial objectives is the essence of sustainability in business. These examples squared the sustainability circle, so to speak. How did this come about? They were each looking for answers to everyday business questions (competitive threats, innovation management, operational efficiency, and company value) and used impact measurement to venture into new territories. Thanks to their pioneering work, others can learn from their examples and follow suit. We do ESG – why do we still need impact?

Many companies are considering how to integrate impact measurement and valuation in preparation for upcoming regulatory requirements 20 I by IMD • December 2023

on ESG-related disclosures. The resource intensity of this activity may lead one to believe that there can be but one priority for sustainability: compliance. And, by extension, that becoming compliant addresses the sustainability question once and for all, removing any need to find your own responses beyond these disclosures. The reality couldn’t be further away from this assumption. Certainly, the transparency brought by ESG compliance requirements is a prerequisite for scaling sustainability in business, and governments and investors need a level playing field. However, compliance does not mean your stakeholders will think you are meeting their expectations, nor that they will continue to back your business. Far from it. They will only react to how your actions, decisions, and business activities affect them and their causes. Hence, you need data on how you touch your stakeholders, and that comes from effective impact measurement. Business leaders are bound to discover, eventually, that ESG compliance is necessary as a license to operate in the short-term, but not sufficient to meet the expectations of stakeholders on sustainable products, equal opportunity job creation, climate change, economic resilience, and other related areas. Compliance is an important step to build the operational capabilities required in the future, and experience shows that it will take a moment to develop and embed such capabilities. It is, therefore, better to utilize these compliance pressures to steer efforts synergistically to create long-term value for the company and its stakeholders. Accordingly, it makes sense to look at ESG and impact as complementary objectives, and CEOs are well-advised to prioritize both. Then, they can emerge from the current compliance game with a head start, ready to find differentiation and competitive advantage on the new playing field. Failing to look at both ESG and impact simultaneously leaves you with just the burden of compliance without any further business benefit. Strategy needs impact

Systematically measuring impact empowers organizations to look beyond the immediate horizon and adopt a forward-thinking approach by gaining invaluable insights into the long-term implications of their decisions. Impact measurement serves as a radar beyond the one-businessyear horizon, allowing executives to anticipate risks, identify opportunities, and adapt strategies to remain resilient and relevant. This approach also equips leaders to proactively shape a future where business success aligns seamlessly with positive societal outcomes. In essence, impact measurement extends the strategy tool set – it's a compass that guides organizations toward a more purpose-driven and responsible future. For example, take the cosmetics company Natura, which has adopted impact valuation – referred to as Integrated Profit and Loss or IP&L – as a key strategic management and decision-making instrument. Its approach encompasses the effects of its business operations throughout the entire value chain, spanning from the supplier network and extractive communities in the Amazon region, through direct activities and engagement with beauty consultants, to product usage and product life cycle. The valued impacts of the IP&L results can be directly juxtaposed with the company's financial performance, aiding in risk mitigation, inves-

tor reporting, and the operational realization of stakeholder capitalism. Companies that are intrinsically motivated to operate sustainably also benefit from impact metrics. Two particularly interesting examples are the Michelin one-star restaurants RIJKS and Wils in Amsterdam. In their quest for more sustainable products, their holistic impact assessment brought new insights about hotspots and thus areas requiring attention. Over 6,000 ingredients within eight key categories of meat, seafood, other protein, fruit, vegetable, dairy, carbohydrate, oil, and others were examined for impact. In addition to CO2 emissions, other air emissions were taken into account as well as land use, water consumption, and water pollution. Each of these environmental impacts was quantified in monetary terms for comparability. The results were then used to compare the impact between restaurants, and also to express the environmental cost per customer.

‘Innovative approaches are required today even from business fields that may not be considered traditionally research-intensive’ So, how can business leaders embrace impact measurement as part of their own strategic considerations? One useful tool is the open-source framework on long-term value creation developed by the Embankment Project for Inclusive Capitalism. It offers a step-by-step guide to derive impact metrics for value creation and value protection, from the business model onward. This tool can form the basis for assessing impact across the scope of a business to inform decision-making through a longerterm, sustainable lens. While still not part of the mainstream curriculum in many business schools, managerial practice is also emerging around impact measurement and valuation. Supported by the Big Four, the company-led Value Balancing Alliance (VBA) has issued methodology papers that can serve as practical guidance for interested executives. These efforts are recognized, for example, by the WEF, which issued a joint statement with the VBA on the complementarity of their respective metrics work, and by the International Foundation for Valuing Impacts, which aims to elevate these methods to an impact accounting framework, supporting decision-making based on risk, return, and impact. Inevitably, this also leads to the question of corporate purpose. For companies who have already answered that question, or are about to, it is worth referring to the approach articulated in “Measuring Purpose – An Integrated Framework”, a research paper co-authored by leading experts, which explains how to link corporate purpose to impact metrics. Your investors aren’t interested in impact? Think again!

While impact measurement and valuation are currently primarily relevant for impact investors, there is a trend for impact to become the norm. Mainstream investors are taking notice of these shifts in expectations as more people become aware of the impact of businesses on society and the environment. In fact, some of the biggest investors are building im-

pact practices and beginning to incorporate impact considerations into their investment decisions. UBS, in a recent white paper, has positioned impact investing as a crucial part of the next phase of growth in the impact economy. The trend towards impact was even cited by the EU Commission in its launch of European Sustainability Reporting Standards (ESRS), where it articulated the intention of its disclosure requirements as not only generating greater clarity about the risks and opportunities for companies and investors regarding environmental and social issues but also the “impact of their activities on people and the environment”. So, investors are increasingly screening for companies that are not only financially successful and do not constitute a risk in ESG terms, but also contribute to solving the complex challenges of today’s world. This presents an opportunity for businesses to differentiate positively on capital markets. The implication is clear: you need to get started now. Businesses that don’t engage in impact measurement and valuation risk being left behind by investors when impact becomes mainstream. Looking ahead

With the mainstreaming of impact metrics, market-led de facto standards or even regulation will emerge covering impact disclosures. With that, some of the competitive edge that early adopters experience will evaporate but established operational capabilities will remain. Along the way, questions will be answered about what good impact performance looks like. Expected contexts, thresholds, and benchmarks will arise, providing nuance to a company’s impact performance. As a result, companies will compete based on their impact performance. This journey ahead is very similar to the harmonized approaches in finance and accounting that have enabled enhanced comparability of company performance without removing differentiation. Impact measurement enables companies to look beyond the immediate horizon, extending their vision toward a future where profit and purpose coexist harmoniously. This is now imperative for businesses, irrespective of whether they even consider themselves to be purpose-led or sustainability-oriented enterprises already. Increased regulatory disclosure requirements and investor demands will further translate the mega-trends of our times into the necessity for companies to better understand and manage their impact. When that moment arrives, the impact economy will truly have taken root. ■ Sonja Haut is the author of The Case for Impact, published in 2022. Her opinion pieces, articles, and podcasts are available on www.sonjahaut.com. Sonja is head of Impact Valuation at Novartis. She also leads the Novartis Value Balancing Alliance (VBA) engagement. Haut is a member of the Capitals Coalition Advisory Panel and Value Commission and the WEF Global Future Council “Future of Growth”. She is co-chair of the Valuation Technical and Practitioner Committee of the International Foundation for Valuing Impacts (IFVI) and a member of the ISSB Technical Reference Group.

December 2023 • I by IMD 21

[ Impact economy ]

The perfect blend How private investors can do good without taking unacceptable risks Blended finance has the power to unleash the capital needed to drive progress toward the UN Sustainable Development Goals. Maximilian Martin explores how the world of finance can manage different investor risk and return profiles to fund impact projects

ore than two billion people – or a quarter of the global population – live in fragile contexts. Through the UN Sustainable Development Goals (SDGs) and other frameworks, the global community is committed to advancing development and assisting our fellow human beings in humanitarian need. To help achieve this, official development assistance (ODA) totaled $185.9bn in 2021. This is a lot of money, but not nearly enough to resource sustainable development and humanitarian assistance worldwide. In fact, if all of this capital went to the world’s least resilient countries only (which it does not), today’s development assistance would be just over $90 a year per person. That is roughly the cost of the world’s cheapest smartphone plus a solar cooker. To finance the attainment of the SDGs, we are short anywhere between $2.5tn and $4.2tn per year. Moreover, this gap is bound to widen: post-COVID-19 investments in the economy and society, climate change adaptation, and international defense are bound to take a toll on public finances. As a result, new approaches, greater value for money, and tapping into sources of capital other than development assistance represent the only logical way forward. The good news: we have some underused tools to bring to the challenge at hand. Roughly 500 years after being introduced to mobilize capital for global trade, a whole range of financial instruments is now starting to transform the world of humanitarian assistance and international development. We need to ask how we can achieve more, faster.

The promise of innovative finance

The coming year marks an important anniversary in mobilizing financial innovation for the public good. Established in 2004 by the UK and France, the International Finance Facility for Immunization (or IFFIm) paved the way for mobilizing private sector capital to fund immunization efforts in the world’s poorest countries. The IFFIm borrows capital against future grant pledges made by sovereign development donors in international financial markets. Frontloading donor commitments and tapping capital markets makes the funding 22 I by IMD • December 2023

available much faster, and the health impacts are impressive: $8.7bn raised to date in vaccine bonds has allowed Gavi, the Vaccine Alliance, to immunize more than a billion children, saving 17 million lives. In business, there is nothing revolutionary about transferring a pledge to a lender to secure a debt or loan. Over the past 20 years, thousands of innovative financial transactions have started to transform the field of development. To make this available on a large scale to the world of development and humanitarian assistance, we need to take a closer look at capacity building and transaction design. Micro incentives and capabilities add up to macro outcomes. Blend: Designing transactions for different types of investors

In practice, how can we crowd in capital on a massive scale from the global fixed-income markets (outstanding debt in 2022 of $129.8tn) and the global equity market (capitalized at $101.2tn for the same year)?

From a conception perspective, there is no alchemy here. By using catalytic capital from philanthropic or public sources that does not need to be repaid fully, or at all, innovative finance renders blended structures possible. Investors with different risk-return requirements can invest alongside each other and thus jointly enable private sector investment in developing and frontier countries. In such a structure, every investor can achieve their own financial return, social, or environmental impact objectives, and “blend” them. Blended finance helps address one of the key investment barriers that private investors face: the combination of excessive perceived risks linked to low financial returns when compared to the risk inherent in comparable investments makes for a poor investment case. Once philanthropists or the public sector provide funds on below-market terms and lower the overall cost of capital (or offer an additional layer of protection to private investors within the capital structure), typical building blocks of blended finance transactions can be added:

HOW IT WORKS

• Grants to fund feasibility studies and transaction design. • Credit enhancement through guarantees or insurance on below-market terms. • Technical assistance funded by grants to enhance commercial viability or boost development impact, pre- or post-investment. • Equity tranches, in some cases. Boost: A novel approach to finance the fight against malaria

Innovative finance only makes sense if it works in practice. Take an example that is aligned with the magnitude on which we need to rethink the plumbing of global development and humanitarian assistance. With an estimated 247 million cases per year worldwide and 619,000 deaths, malaria is a threat to almost half of the world’s population; it also disproportionately affects the African population (95% of cases and 96% deaths), and especially children under the age of five, who account for about 80% of all malaria deaths in the region. At the same time, few pharmaceutical companies invest in malaria research and treatment, especially when compared to other sectors such as oncology or HIV/AIDS.

‘Over the past 20 years, thousands of innovative financial transactions have started to transform the field of development’ In response, the EU Malaria Fund (EMF) – a public-private partnership between the EU, international organizations, corporations, and civil society – was inaugurated in 2020 to provide a novel funding instrument to address market failures in malaria prevention and treatment. The innovative finance approach consists of providing venture debt to companies: the EMF aims to fund scientifically promising projects not yet pursued by the pharmaceutical industry, including vaccines.

Infographic: Theresa Schwietzer

To attract a wide variety of investors, the EMF was structured with three layers of capital. The first layer of capital is a non-repayable grant layer – essentially, philanthropic donations from foundations and other donors who know that they will not, under any circumstances, be reimbursed. Their reward is the social impact that the EMF can unlock. Their grants serve to absorb the first losses from the fund’s investments. The second layer is the first-loss junior capital, which came from the European Commission as a public benefit investment and acts as the next buffer for any losses. According to the EMF’s investment guidelines, in the case of overall positive returns for the entire investment portfolio, the remaining amounts of invested principal can be returned to investors, in addition to any returns available above and beyond the principal. The first two layers together accounted for about 50% of the total investment capital. » December 2023 • I by IMD 23

[ Impact economy ]

People in Sudan wait to receive protection against malaria. The EU Malaria Fund provides a novel funding instrument to address market failures in prevention and treatment of the disease

Moreover, should any EMF investment achieve remarkable success in the market and produce an exit volume exceeding 200% of the loan volume owed to the EMF, it must pay an additional 20% of the amount exceeding 200% to the EMF, which will then be redistributed to EMF investors. In 2021, the EMF announced the closure of its investment period, having invested roughly €70m ($76m) in 17 companies to develop over two dozen novel scientific approaches to the fight against malaria. During the post-investment period, it will continue to service its investment portfolio. Achieve: four recommendations for innovative finance programs

The EMF experience shows crowding in capital is possible. Private investors will sometimes accept rates of return below the market in exchange for the knowledge that their investment benefits the public good (a senior capital tranche that receives a non-guaranteed annual interest rate of 3% is far from extravagant). To tap into the potential of innovative finance on a massive scale and mainstream such approaches, support is needed from a variety of actors:

24 I by IMD • December 2023

• Donor governments have a key role to play in lending their support to innovative finance. • Development and humanitarian organizations are active on the ground; they are tasked to come up with investable pipelines across their areas of expertise. • Development finance institutions are instrumental in providing capital that de-risks such investments. • Investors not only have capital to commit, but often also command valuable industry expertise as well as supply chain and market insight, and in some cases structuring expertise.

BLENDED FINANCE: A DEFINITION

The OECD defines blended finance as “the strategic use of development finance for the mobilization of additional finance towards sustainable development in developing countries [that] attracts commercial capital towards projects that contribute to sustainable development while providing financial returns to investors.” The view is bullish: “This innovative approach helps enlarge the total amount of resources available to developing countries, complementing their own investments and ODA inflows to fill their SDG financing gap, and support the implementation of the Paris Agreement.”

Photo: UNICEF/Mojtba Moawia Mahmoud

The third layer is the second-loss senior capital, which accounts for the remaining 50%. This layer comprises funds from public and private investors. They were offered a non-guaranteed annual return of 3%, made possible by the existence of the first two layers.

At some level, none of this is rocket science. Much of the debate centers on a technical or a “10,000 feet view” of the field. Yet over the past 20 or more years, I have come to the realization that we tend to pay too little attention to the reconceptualization needed at the organizational level. To achieve results, factoring in the following four recommendations will help. Give investors clarity

Every stakeholder in the project must be clear about what innovative finance is not: innovative fundraising for grants. In the non-profit sector “investment” is often used as a synonym for “grant,” and there are wonderful new ways of raising such donations, for example, via digital technology or crowdfunding. However, in finance, investment refers to funding a project capable of not only returning the initially deployed capital to the investor but also yielding a financial return that compensates for the risk taken by the investor, which involves the potential loss of this capital – in case the project is not successful. Being clear about this helps align everyone’s expectations and focus. Decide what level of risk is acceptable

It is critical to understand what level of risk your organization can really take on – financially, and in terms of its identity as a non-profit organization. In Shakespeare’s The Merchant of Venice, first performed in the 1590s and a great illustration of the implications of financial innovation, a cash-poor merchant promises to cover a bond so his friend, a young Venetian nobleman, can woo a beautiful heiress. Repayment later becomes a serious problem. This dimension is better thought through early on. Data matters

Innovative finance is really about pricing and transferring the risk of achieving a social outcome from public or non-profit funders to private investors. This requires hard evidence. When you consider which of your organization’s programs are strategic, and which ones would benefit from a boost by unlocking additional financial resources, it is best to focus on programs that already have a track record of achieving the intended social outcome. Look for programs where the costs and benefits are clear and where you have a good sense that they can be scaled, and how. Any moonshots that involve doing something completely different in untested ways should first go through a piloting phase. Such a pilot needs to be funded with grants, and not investments. In this case, focus on approaching philanthropists with a known interest in innovative finance or seeking access to philanthropic funding in general. Governments have also been known to grant funds in specific cases for the initial phases, such as feasibility studies.

equity, pay-for-success contracts, or impact bonds, to name just a few. And, of course, in blended finance, one can layer investments depending on a party’s risk profile, for example through first-loss provisions, as explained earlier. To decide which approach is suitable, it is essential to first understand in detail the problem you are trying to solve with investment capital. What is the core activity to be funded? What social outcomes does it reliably produce, and at what cost? Which expenditure is operational (the OpEx,

‘Look for programs where the costs and benefits are clear and where you have a good sense that they can be scaled’

the money spent on an ongoing, day-to-day basis to deliver the program)? And as you scale the program, which capital expenditure (CapEx) is needed? What funds are required to buy, upgrade, and maintain physical assets such as machines, buildings, and technology? But first and foremost, why should the program be financed via an innovative financial instrument at all? It takes time and effort to develop an in-depth understanding of the intervention to be funded. Being certain so that you can explain the reasons for diverting from traditional funding models is essential. Until this is accomplished, committing to developing a specific type of financial instrument would be premature. If the reasoning makes sense, the door is open to take development and humanitarian problem-solving to the next level. In this way, mainstreaming innovative finance holds the potential to bring us closer to fulfilling our development and humanitarian impact ambitions. ■ The opinions expressed in this article are those of the author and do not necessarily reflect the views of the organizations for whom he serves in an executive or board of directors’ capacity.

Function before form

In my line of work, we regularly hear from senior leaders in organizations sharing goals such as: “We want to launch an impact bond.” In impact investing and innovative finance, I have found it helpful to always be mindful of one of the mantras of high-rise architecture, a concept that has guided the construction of skyscrapers since the 1850s: “Form follows function.” There is actually a vast number of financial instruments that one could potentially use: guarantees, debt instruments, private

Maximilian Martin is Lombard Odier’s Global Head of Philanthropy. He led the “Program for Humanitarian Impact Investment” transaction (also known as the humanitarian impact bond) on the side of the co-sponsor. Martin is Founder of Impact Economy and serves as a Senior Fellow at IMD’s elea Center for Social Innovation.

December 2023 • I by IMD 25

[ Impact economy ]

Fiduciary duty and climate change: adding value in the longer term

26 I by IMD • December 2023

The responsibility to maximize profits guides how institutional investors, such as pension funds, invest on behalf of others. But that does not mean investing in climate change is off the table. Far from it, explain Emil Moldovan, Todd Cort, Matthew Goldberg, Jennifer Marlon, and Anthony Leiserowitz

nvestors and companies in the US have applied an approach to climate investing primarily focused on shorter-term financial returns, especially compared to the more stakeholder-focused approach of their peers in the European Union. We see this in the rush to invest in renewable energies after the passage of the US Inflation Reduction Act and its associated subsidies. Concerns about short-term profits are also evident in the political discourse that attempts to vilify ESG investing strategies. While differences in social norms and dependencies on fossil fuel-based economies may underlie these concerns, an often-overlooked reason for this discrepancy stems from the complex and diverse legal structures that define the responsibilities of capital owners and managers in the US – and a lack of understanding about what they do and don’t allow when it comes to investing other people’s money. Specifically, these legal structures create significant responsibilities regarding how “fiduciary duty” – in broad terms, acting in the best (financial) interest of a client – should be exercised. The actions of US asset owners in climate investing make sense in light of how they interpret (or misinterpret) the relevant rules on fiduciary duties.

Photo: NOHAA via Unspalsh

Climate impacts create liabilities that institutions interpret through the lens of fiduciary duty. While climate change is a relatively new concern for investors, Anglo-American fiduciary law is well-established and has a tradition that goes back centuries. Therefore, to understand how institutional investors approach climate change and what leeway and legal grounds there may be to invest in climate-related assets and instruments in the US, we need to fully understand the nature of fiduciary duty as it applies to US asset managers and owners. A fiduciary is a person entrusted to manage someone else's money. The trustees of large pension plans, for example, are fiduciaries, as are the leaders of a bank. All fiduciaries have several broad duties. These include duty of care (serious attention to detail), obedience (compliance with the law), and loyalty (to place the best interests of the client above one’s own). Though US fiduciary law applies to all US fiduciaries in similar ways, the specifics of how a fiduciary exercises those duties depend on the needs

of the individuals and organizations they serve. The specifics also depend on what role a fiduciary plays in the financial system; whether that investor is an asset manager investing on behalf of an asset owner or the asset owner investing themselves. And, in addition, they depend on how statutes, court precedents, and organizational charters and bylaws force fiduciaries to interpret the needs of their clients. Ownership of capital is different from control

In the US, asset owners have the legal power to create investment mandates and enter into contracts. Asset managers have the authority to act on these mandates, for example, in executing contracts. The asset owner, therefore, typically holds the greatest authority to set conditions on the investment – such as climate performance. When asset owners transfer this authority to asset managers, they also pass on the legal liabilities. Professionals who influence investments with less authority, such as brokers, consultants, and lawyers, partially carry this burden. Though private individuals directly own real assets such as equity in their house, they typically entrust financial assets to institutions. While individuals may have contributed – and, therefore, claim a portion of the assets held by an institution – the individual often cannot set mandates on the investment. In effect, the owners have ceded the right to set mandates on the investment to the institution. For example, pension funds in the US are controlled by the employer. Individuals are claimants who can remove funds at retirement. Similarly, when individuals place money in a bank, the individual becomes a creditor, and the bank decides how to invest money with other parties prudently. While this system protects the individual from liability in the case of illegal practices (liability passes to the institution), it also removes any individual power to decide how the capital is invested. However, at the same time, fiduciary law supersedes other contracts or interests an institution may have. Just to emphasize this, for example, a pension fund may not be legally allowed to follow through on the investment wishes of an employee if those investments are likely to lose money. Fiduciary law shapes how fiduciaries must interpret their mandates. Differences in how fiduciaries carry out their duties

In this system, the fiduciary law to protect the interests of individuals who have ceded ownership to institutions has evolved through an abundance of policy changes and legal challenges. As a result, the institution's responsibilities depend heavily on the type of individual owner and the legal definition of the institution. The discharge of these fiduciary responsibilities is nuanced and open to interpretation, potential challenge, and liability. Practices vary across levels of jurisdiction (states versus federal), kinds of investors, and contracts that provide additional enforceable terms. A few examples help to illustrate the bespoke nature of what fiduciaries pay attention to: Retirement funds owned by employers. These include defined benefit and defined contribution plans for both private companies and governments. Such funds represent perhaps a third of US equity, other » December 2023 • I by IMD 27

[ Impact economy ]

financial assets, and significant real assets. For defined benefit plans, fiduciary duty has been interpreted to mean “maximization of returns”. Defined contribution plans have a similar interpretation, but individuals are given more choice in defining what maximization of returns looks like. There is another layer of complexity: for private employers, the precedent is strictly defined as financial returns in the portfolio and explicitly does not include financial benefits that might accrue to “society as a whole”. For public employers, such as states, politics may shape the interpretation of what is meant by return maximization. Societal enablers. These include trusts, foundations, sovereign wealth funds, and endowments. Some of these institutions may have a similarly strict definition for maximizing financial return. However, the specifics of how societal enablers invest their assets are governed by the founding documents that define the entity’s purpose. While the beneficiary may use the financial returns for philanthropic benefit or social good, the fiduciary responsibility of the investment pool may be purely financial. Many societal enablers are currently debating the relative weight they should give to tactics such as traditional versus impact investing. Traditional investing for societal enablers entails investing for profit maximization and using those profits for charitable grants. Impact investing entails investing for an intrinsic social impact, even if the investment may produce lower financial returns. The relative weight that societal enablers give to these tactics is shaped by their charters and bylaws.

‘The fiduciaries who serve asset owners have the latitude to incorporate climate change in their decision-making when it aligns with their interpretation of their clients’ financial (and sometimes other) interests’ Company enablers. These include banks, insurance firms, and other regular corporations. The responsibility of a company fiduciary is frequently determined at the organizational level rather than the portfolio or business unit level. So, for example, a company can make investments that will generate financial returns across the breadth of its activities even if it does not realize those returns for a specific bundle of securities. Additional economic benefits that corporations can accrue at an organizational level include access to cash on hand through money market funds, scoping of new markets through venture capital, and regulatory reserves through treasuries. Company fiduciaries have a responsibility at a different level than other fiduciaries because a corporation’s shareholders have claims on cash flow at the corporation level as opposed to the portfolio or business unit level. Because the execution of fiduciary duties varies for different asset owner and asset manager relationships, there is a perceived “leeway” across a range of dimensions when deciding what investment decisions or cri28 I by IMD • December 2023

teria are or are not allowed, including ESG-related investments. There is even heterogeneity in the proper execution of fiduciary duty within these groups. Take, for example, the “company enablers”. One company may see climate change as a material risk and opportunity for the company, thereby enabling investments in greenhouse gas reductions. Another company may see those same investments as a violation of fiduciary duty. The execution of fiduciary duty by each company enabler is shaped by a complex set of factors, including 1) strategic priorities set by the executive team; 2) pressures on liquidity and the time horizon for returns; 3) volatility and the risk tolerance of the executive team; 4) tolerance for providing any form of philanthropy into the investment mix; 5) the types of investments taken in the past, and; 6) the stakeholders that the company is beholden to including its shareholders, employees, creditors, donors, customers, partners, etc. These same factors can be applied, to a greater or lesser extent, to any institutional asset owner. Therefore, a public employee retirement fund in conservative Florida may have very different predictions about how to maximize profits compared to one in more liberal New York based on how fund employees model the outlook of the assets that they steward. A university endowment funded by donors with significant concerns about the financial impacts of climate change on the health of the economy may invest quite differently than one where no concern amongst donors exists, even though they both operate under a strict fiduciary duty. From this, we can see that the fiduciaries who serve asset owners have the latitude to incorporate climate change in their decision-making when it aligns with their interpretation of their clients’ financial (and sometimes other) interests. This is further supported by the fact that the legal test of fiduciary duty examines the investment process more than the outcome. For example, consider a stakeholder who sues a portfolio manager who makes low-carbon security recommendations that lose money. If the manager can demonstrate due diligence, proper data, and strong financial modeling to maximize financial returns in the portfolio, the manager may be safe. If the manager indicates that they invested for the sake of societal well-being, even though this came at the expense of the stakeholder, the manager may be guilty. This could lead to fines and other repercussions. Therefore, an investor’s fiduciary judgment carries legal weight: if they view climate change as financially material, they have a duty to address it; if they do not, they have a duty not to. Moving climate investment forward in the US

Through a better understanding and informed application of fiduciary duty in the US, there is a significant opportunity to move greater amounts of capital toward more climate-beneficial investments by institutions. Aligning the institution with the asset owner typologies outlined above will provide a good starting point for moving capital on the criteria that the institution must use when making investment decisions in line with their fiduciary duties. In some cases, the asset owners may have active mandates for consideration of climate or at least implied interest in climate as a material factor in financial performance. In these cases, the asset manager will have greater

leeway to consider opportunities and risks related to climate. Institutional specifics will clarify whether philanthropic capital is appropriate, alongside fiscal expected returns, and other economic benefits. Even though individuals have ceded authority in the mechanics of asset allocation, they may influence decision-making through thoughtful engagement and sometimes through modifying organization charters and bylaws.

‘Through a better understanding and informed application of fiduciary duty in the US, there is a significant opportunity to move greater amounts of capital toward more climate-beneficial investments by institutions’ In other cases, individuals may have little or no authority to mandate or influence the institution's direction (where they have outsourced key decision-making or where assets are pooled across many types of claimants). In these cases, the institution may be acting in line with perceived responsibilities based on legal precedent and policy, which could still open the door for a focus on climate. For example, climate investments that may not yet produce market returns may require capital from societal enablers. Corporations may use investing to feel out new business opportunities in green energy, for example. Climate investments that will generate a return are appropriate for retirement funds. In these cases, understanding the language and practice of fiduciary duty will allow a more intelligent and flexible approach to pitching climate investments based on factors such as time horizon, volatility, and liquidity. In all cases, improved fiduciary judgment is also an intervention point. Educational support such as that offered by the Chartered Financial Analyst (CFA) Institute can help portfolio managers understand the unique way that climate change-related investments may benefit the stakeholders they serve and, therefore, be included in their considerations. Stakeholders can work with allocators to explore ways that asset classes or the economy may be impacted by climate change, e.g., either through extreme weather or societal responses. Lawyers and consultants can play this role, as can auditors, journalists, concerned employees, donors, customers, beneficiaries, regulators, and civil society with financial stakes in environmental sustainability. The recent public debate about ESG provides a confusing picture about which laws apply in which setting. In-house legal counsels are well-positioned to scope the opportunity space available to portfolio managers. In the next business cycle, portfolio managers will be well-positioned to develop quantitative methodologies that highlight climate change's role in aligning assets with liabilities. These will benefit from several technological advances, including proactive extreme weather forecasting and

reactive attribution science that connects extreme weather disasters with climate change. Finally, understanding the jurisdictions in which the asset managers operate can be critical to understanding their perception of leeway under fiduciary duty to consider climate investments. For example, governments (federal and state) regulate asset owners. They can set rules on the consideration of liquidity, returns, thematic investing, and risk tolerance. As regulators work with large and diverse constituents, they can help clarify situations in which climate change is a viable financial thesis to address through investing. Understanding the nature of asset owners and the duty of their fiduciaries allows for a broader and more inclusive approach to climate portfolio management. For example, some asset managers may have mandates for diversification. In the world of climate change, this could be interpreted as a requirement to diversify portfolios into investments with greater or lesser exposure to financial risks and opportunities from climate change. ■

Emil Moldovan is a student at the Yale School of the Environment who carries out research with the Yale Program on Climate Change Communication. He has a background in corporate consulting on sustainability, focusing on analytical solutions applied to supply chain constraints. Todd Cort is a senior lecturer at the Yale School of Management with a courtesy appointment at the Yale School of the Environment. He serves as Faculty Co-Director for the Yale Center for Business and the Environment (CBEY) and the Yale Initiative on Sustainable Finance (YISF). Matthew Goldberg is a research scientist and the Director of Experimental Research at the Yale Program on Climate Change Communication. His research focuses on strategic communication about climate change. Jennifer Marlon is a senior research scientist and lecturer at the School of the Environment and the Yale Program on Climate Change Communication. She studies climate change, extreme weather (particularly wildfires), and science communication. Anthony Leiserowitz is a senior research scientist at the Yale School of the Environment and Director of the Yale Program on Climate Change Communication.

December 2023 • I by IMD 29

[ Impact economy ]

Adrian Hensen aims to make the steward-ownership concept better known among relevant stakeholders such as company owners, consultants, and investors

Steward-ownership: join the ‘economic avant-garde' and make a real impact 30 I by IMD • December 2023

Described recently as the “economic avant-garde" by Frank-Walter Steinmeier, the federal president of Germany, steward-ownership is gaining ground among companies seeking to have a positive impact on the world. To protect their mission and ensure they can focus on their impact, entrepreneurs and family business owners are turning away from traditional absentee ownership and shareholder value primacy. In an interview with Bryony Jansen-van Tuyll, Adrian Hensen, Co-founder of the Purpose Foundation, explains how the model of steward-ownership equips businesses to deliver positive change

What kind of legal governance structures can steward-ownership take?

There are different forms. We have some companies that have foundation structures, with a single foundation owning a company, or double foundation structures. Bosch, for example, has a double foundation structure. You also have trust models such as the “perpetual purpose trust” in the US. That is the model that outdoor brand Patagonia chose. In other cases, we also have something we call a “golden share” model whereby an external organization ensures that the principles are legally locked. Search engine Ecosia has adopted this model. As you can see, there is not one specific governance structure – it depends on the company, its resources, and the legal possibilities of the country where the company is based (See box on Page 33). Which types of companies are adopting steward-ownership, and why?

What is steward-ownership and how does it differ from other corporate ownership models?

My background is in business and psychology, so let me explain from a psychology perspective. That requires looking at a company as a human. If a person would like to improve their lifestyle, they can put in place new programs for sports and diet, for example. These might make a difference for a while. Yet, to bring about significant improvement over the long term, a person must first identify and address the underlying drivers of their behavior – the root cause. In the same way, companies are limited in how much they can benefit society by the underlying structure of a company: ownership. Ownership is a bundle of different rights, including profit rights and voting rights. Owners, holding the rights to both money and power, determine the direction of travel a CEO can take. Steward-ownership is an ownership structure that decouples profit rights and voting rights to enable a company to prioritize long-term purpose over short-term profits by legally enshrining the two following principles: Firstly, steward-owned companies ensure the value generated through the company always serves the company. This could mean reinvesting in the company, paying better wages, or paying off capital costs. Profit is a means to support the purpose rather than a goal in itself. We call this the “Principle of Purpose-Orientation”.

Photo: Purpose

The second principle ensures that the power in the company always stays with people who are closely connected to the company: the stewards who protect the mission and operations. We call this the “Principle of Self-Determination”. These principles are not merely taglines but are legally locked into the DNA of a company, enabling it to pursue its purpose and maximize impact.

We see three main types. The first are family-owned businesses. Patagonia’s founder, for example, decided that instead of ceding the company to the second generation, he would transfer ownership to a “perpetual purpose trust” that would protect the company’s mission. We see other family-owned businesses, sometimes fifth- or sixth-generation businesses that choose to go down this route, too. They want to make sure that the company will continue pursuing its course in the long term, whether this is providing employment to the region they are connected to or pursuing the mission of the company. Steward-ownership provides a legal model that protects purpose orientation and the company’s values in the long run. The second group we see are companies that seek a coherent structure to support what they are doing. Their management style is already based on certain values, and they have a strong mission. These companies realize that there is a mismatch between their ownership structure and the way they would like to drive their company. Dutch mental healthcare company BuurtzorgT, for example, successfully took this route. Finally, we have companies that are purpose-oriented impact companies such as social enterprises or “zebra” companies that combine profit and social goals. Some companies we work with combine all three of these attributes: they are family-owned, already with a strong mission, and impact driven. You are in touch with managers from many steward-owned companies. What benefits do they see in their day-to-day operations?

The first benefit is how their employees relate to the company in terms of motivation and eagerness to support the mission. This is extremely valuable, especially today with labor shortages in many sectors. Secondly, the companies see the advantage of being able to focus on the long-term rather than having to focus on quarterly results. Thirdly, they build stronger relationships with their customers as they are, » December 2023 • I by IMD 31

[ Impact economy ]

in effect, making a binding promise to them that they use their profits to pursue their mission. Investors also see benefits because they know that the company is planning for the long term and there is clarity of direction. And finally, the companies see that they get a lot of trust from their various partners and a willingness to collaborate. What are the main challenges for those who would like to embark on a journey towards steward-ownership?

And yes, there are still challenges. Firstly, the concept is not known enough among relevant stakeholders, such as company owners, lawyers, consultants, accelerators, investors, and politicians. A decade ago, even though there were companies that had alternative ownership structures, there was not even a common term for the concept. Today, we have a name and language to describe what it is. But we still need to raise awareness.

‘We are seeking to build a more diverse ecosystem and culture of corporate ownership’ The second challenge lies in the complexity of setting up an alternative structure. Because it is not the norm, there are no obvious and easy legal forms for companies to take on. That is why we support an initiative here in Germany that is lobbying for a new legal form for steward-ownership. We also provide open-source templates that companies can use freely. While 10 years ago it could cost a company up to €500,000 ($535,000) in consultant and legal fees to set up a steward-owned company, today we have managed to bring that down to about €5,000 in certain legislative areas. But even with those solutions, it’s still more complicated and expensive than other ownership forms – it shouldn’t be that way.

Frank-Walter Steinmeier, the federal president of Germany, talks about the ‘economic avant-garde' at the Day of Steward-Ownership event in Berlin in October

It’s not that complicated. The most important aspect is that you must be willing to answer the questions: “How much do I need to get out of this investment? And how much is enough?” Also, investors have to be open to the considerations like: who should have power and why? Through non-voting and certain co-determination rights, they will be kept up to date and involved, but the power over the company lies with the entrepreneurs, the stewards of the company. Of course, they will receive agreed dividends over time, as for any investments. The key is clarity and transparency for both the company and the investor. Who are the main parties investing in steward-owned companies? What are their goals and expected returns?

Although we have seen some philanthropists, we mainly talk to impact investors or conventional investors. At our last event, we brought together family offices, private individuals, wealth holders, and some banks. These investors seek to support companies with a mission. They also seek investment returns. Yet, as mentioned before, they need to ask themselves upfront: “How much is enough?” The return levels they will get, as well as the timeframe, are agreed upfront, with a certain degree of flexibility. Technically, it can be structured as mezzanine instruments, as debt, equity, a combination of those, or another form. It’s about being honest and fair up front. What fair is, in the end, is a conversation between the interested parties on both sides.

The final main challenge is the lack of awareness among investors. We need to enable, inspire, and educate them on how to invest in a steward-owned business. If we lower these hurdles, steward-ownership will be able to bloom and have a huge positive impact on society and the planet.

If a company makes more profits than they had expected, the company can decide to give back higher dividends to the investors to cover capital costs faster, or they could decide to invest in higher wages. This is in the hands of the stewards who take the long-term perspective for the benefit of the company, along the chosen lines of governance.

Most companies require external investment to get off the ground, scale their activities, or develop new products. How can steward-owned companies attract the investment they need without having to sell shares?

In the “open materials” section of our website (www.purpose-economy.org), you can find an open content case study we published outlining how steward-owned startup Vyld designed its financing structure and closed two financing rounds.

32 I by IMD • December 2023

Photo: Anna Wyszomierska

I would love steward-ownership to become the norm to better address the challenges we, as a society, face today. But it is not our goal to make all businesses steward-owned. Right now, corporate ownership is like a monoculture. At school, university, and throughout the workforce, people are primarily exposed to legal forms and financial set-ups that are based on shareholders seeking to maximize returns. With our organization, we are seeking to build a more diverse ecosystem and culture of corporate ownership.

A cynical person might argue that structures like foundations are often set up for tax evasion or to allow people to enrich themselves.

This is true and shows it is highly relevant to look at the exact legal structures. There are many different types of foundation-ownership structures. If steward-ownership is set up correctly, it will not and cannot be used for tax benefits. I mean, current owners moving toward steward-ownership, like Yvon Chouinard of Patagonia, are personally giving away the complete value of the company in the service of the company's long-term purpose-orientation and society. There is no personal financial extra in this for them.

Looking ahead, how do you think the steward-ownership movement will develop?

Let me start by describing what I see today: that the movement is gaining a lot of momentum. We have been pushing steward-ownership for about eight years. We saw more and more companies taking on this type of ownership, and then, Patagonia became another big lighthouse case. Now we see the German government willing to introduce an official legal form for steward ownership and Germany’s President acknowledging the concept. We see other changemaker organizations picking it up in different regions ranging from Uganda to Latin America. Steward-ownership has been in a bubble. The bubble is growing, but it still needs help to come out of the bubble. We need to give it the means and resources to do that. We need more forerunner companies, case studies, people doing research, educating, and inspiring others. We need forerunner investors and governments that can push through legal changes and provide grants. We also need to change the narrative about ownership and launch discussions about the role of companies in society. It would be great if steward-ownership was taught in every school and university. All of this would make it easier for companies and investors to make a conscious and intentional decision about the “how” in addition to the “what” of a company. How is a company owned, how is it capitalized, and is this in service of the “what” and the purpose of the company? I hope that the monoculture of investments and company structures will be further enriched in the future, creating a diverse ecosystem in service of people, planet, and society. ■

Adrian Hensen is co-founder of Purpose (www.purpose-economy.org), an organization seeking to promote steward-ownership and support entrepreneurs, business leaders, investors, and politicians interested in adopting steward-ownership. Bryony Jansen-van Tuyll is a senior research writer on sustainability at IMD. Previously, she worked as a management consultant, supporting companies in their growth strategies, before specializing in sustainable innovation. She has founded and run non-profit organizations aimed at knowledge sharing around sustainable business, connecting with experts and entrepreneurs who are developing novel business models and systems.

Steward-ownership models: how they work in practice DOUBLE FOUNDATION This model legally separates money and power: one entity holds the control rights, with its managers acting as stewards for the company. Another, charitable, organization holds the economic rights and shares of the company. Examples: Bosch (Germany), Globus (Germany). SINGLE FOUNDATION All voting and economic rights are held by a self-governing non-profit foundation. It acts as a shareholder and guardian of the steward-ownership structure and principles. Examples: Novo Nordisk (Denmark), Zeiss (Germany), Carlsberg (Denmark), Märkisches Landbrot (Germany), Elobau (Germany). VETO SHARE The guiding principles of steward-ownership are included in the company’s articles of association. The steward-owners of the company hold 99% of the control rights, but no economic rights. 1% of the control rights, the so-called “veto-share” or “golden-share”, is held by an independent non-profit entity. It has the right to veto any article changes or actions affecting the principles of steward-ownership. The economic rights remain within the company or can be given to investors or founders – but only to a limited extent. Examples: Ecosia (Germany), Sharetribe (Finland), Wildplastic (Germany). PERPETUAL PURPOSE TRUST Increasingly seen in the US, a perpetual purpose trust (PPT) is set up for the benefit of a purpose rather than a person and can operate indefinitely. It holds the shares of the company. The trustees (i.e., steward-owners) control the PPT, but cannot extract the value or profits of the company. Examples: Organically Grown Company (US), Firebrand Artisan Breads (US). EMPLOYEE OWNERSHIP TRUST Gaining traction in the UK, under this model the shares of the company are held by an employee ownership trust, meaning the company is indirectly controlled by its employees. If the employees only have limited access to dividends, the setup corresponds with the principles of steward-ownership. Example: John Lewis Partnership (UK). (Source: Purpose)

December 2023 • I by IMD 33

[ Impact economy ]

Shareholder engagement is a great investment in all our futures Activist investors have the power to direct the corporate world to embrace positive change. Kristin Hull offers a four-step guide to effective engagement

t Nia, we are activist investors. Encouraging big companies to improve their practices is a large part of the strategy behind our shareholder engagement. In an effort to reduce risk, encourage responsible and sustainable business practices, and to increase long-term ROI, we seek to engage with every company in our portfolios on environmental and social justice issues. We like getting to know the people behind the ticker symbols, working to build win-win relationships, and using our investor voice for change in areas that we identify as material. We persuaded Apple to remove NDAs from employee contracts, Fortinet to start their first diversity reporting, IBM to significantly increase theirs, and SunRun to end forced arbitration for employees. These are among the changes we have achieved by raising our investor voice. What is shareholder engagement? And why is it a valuable tool for an investor’s toolbox? For the most part, investors worldwide have been passive owners of their stock. Since the 1980s common practice has been to buy an index fund with so many companies in it – we may not even know which stocks we own. As investors, we often feel quite distant or removed from the decisions happening at large corporations, and yet there are various ways we can get involved. Shareholder engagement is when an owner of stock in a company reaches out to the company, often to request a change in a practice or policy. We often see engagement as investor effort for risk mitigation. Share-

34 I by IMD • December 2023

holders can provide valuable insights into environmental, social, and governance (ESG) issues, regulatory changes, and market trends that could impact the company's performance and reputation if left unaddressed. As activist investors and active managers, we select companies individually, building portfolios of solutions-focused organizations. We engage with companies in our public equity portfolios, both to get to know them better and as an opportunity to address social or environmental issues that may be material to future earnings. We work across our portfolios seeking to strengthen each company as well as the portfolio as a whole. In our engagements, we approach companies as allies. We develop carefully researched environmental, social, and/or governance recommendations and pair these with educational materials tailored to each company. Our shareholder engagement program seeks to encourage our companies to develop long-term sustainability strategies as opposed to implementing one-off changes. We also promote sharing best practices, strengthening our total portfolio, and allowing our engagement to be seen and experienced as a benefit to the company. We also seek to have our companies implement accountability structures to ensure long-lasting impact. What issues do we focus on?

We focus on environmental sustainability across our portfolios and track the carbon emissions reporting for Scope emissions for each of the companies we hold. We encourage the sharing of data on the climate crisis and ask companies to disclose information they have on their emissions as well as their strategy for moving toward carbon neutrality. We consider the changing climate as presenting risks as well as opportunities for some solutions-focused companies. We expect our companies to be forward-thinking and to be ahead of the curve when it comes to monitoring these assessments and planning for the future. And yet in the two shareholder proposals we led on this topic, we received a lower-than-expected vote from other investors, which signaled that we may be a little ahead on this complex issue and that the political divide over climate change remains strong. We also look to make a difference on social issues. When George Floyd was killed in 2020, we monitored which companies and CEOs had made statements about Black Lives Matter. We reached out to all our portfolio companies to ask them how they were responding, both within the company and the broader community. We made specific requests to CEOs who had not issued statements and suggested increasing diversity efforts, including recruitment and hiring as well as the retention and promotion of diverse talent. When the Dobbs decision was issued by the US Supreme Court, virtually ending federal abortion rights, we sent letters to our US-domiciled companies sharing best practices to support reproductive health care and urging them to put travel policies in place. And this year, with the US Supreme Court ending affirmative action in

higher education, we reached out to many of our companies to ask how the lack of diversity policies at universities might affect their talent pools. We engaged further by checking their willingness to undergo a racial equity audit, which involved looking at their products and services as well as their policies and practices. Four steps to inspire change as an activist investor

Through our experience in investing and working with a wide range of companies in many different sectors, we have learned the following four points to help deliver an effective strategy for shareholder engagement: 1. Choose the topics that matter. Start by identifying the issues most pertinent to each company. At Nia, we determine where we feel our investor voice will be effective and where we can make the biggest difference. For example, many of our portfolio companies are leading in their product design and sustainable solutions and yet may need support in their human capital management strategies. We may ask about their ability to attract, hire, and retain top talent, and about their diversity, equity, inclusion, and belonging programs. 2. Make contact and communicate. Begin by emailing the investor relations group at a particular company and build from there. In that initial communication, we share the reason we are invested and a bit about what we look for in a company across our sustainability, diversity, and inclusion criteria. We request a meeting to connect with members of the management team to learn more about their policies when it comes to environmental sustainability and/or human capital management practices. These emails often begin a dialogue and a series of meetings where we share research about best practices and ask for data from the company that they may not yet be collecting or sharing publicly. Often our communications are productive and result in greater transparency or more robust reporting efforts in areas such as diversity metrics and carbon emissions. 3. Build a healthy, lasting relationship. Some of these conversations can be awkward or uncomfortable at first, although they needn’t be. For example, sometimes the company management personnel start on the defensive, concerned that we may raise uncomfortable issues or ones that they consider to be of low priority. Sometimes it can take a little discussion to build a positive rapport. We always begin by emphasizing that we are long-term investors and have the company’s best interests in mind. This can help to foster a positive atmosphere for constructive dialogue. Sometimes it turns out that we raise issues they have already been working on internally and just needed an investor request to be able to put the topic on the board agenda. It’s a good day when we can use our investor voice to support employee efforts and encourage board action. 4. Use your powers. If your requests for a dialogue go unanswered, you may need to resort to filing a shareholder resolution with the company. This is a written request submitted to a company asking the management to address an issue of concern. It allows individual investors to bring forward proposals to be voted on by shareholders. Strategic resolutions can be a powerful way to encourage corporations to act on issues that may

be problematic for the environment, their employees, and/or may cause a potential business risk. Once a resolution is filed, the company has a legal obligation to engage with the investor, which raises the priority of the concern and can speed up dialogue. Generally, companies do not want to see resolutions on their proxy ballot, so they are often motivated and incentivized to address the issue beforehand. If the topic is not satisfactorily addressed, the resolution will appear on the company’s proxy statement and be voted on at the corporation's annual meeting, where all investors will learn about the issue and have their say. The process is a chance for investors to have a say on decisions such as who gets to sit on the board of directors, executive compensation, corporate reporting, and transparency. It takes just $2,000 in stock to be able to file a resolution and, as a result, all of us can express our preferences to the companies we own by voting our proxies.

‘We always begin by emphasizing that we are long-term investors and have the company’s best interests in mind. This can help to foster a positive atmosphere for constructive dialogue’ Active ownership is both a right and a responsibility. If we don't engage, companies are left to their own devices – possibly cutting corners on caring for the environment or their human capital management practices. Knowing investors are engaged and active is a great way to encourage positive corporate behavior. If we don't direct our investments into companies whose products and services are beneficial, then nothing will change for the better. Active investors are already making a big difference. Shareholder engagement can enhance corporate governance by encouraging transparency, accountability, and responsible decision-making within a company. Engaged shareholders can also help hold the company's board of directors and management accountable for their actions. We get the economy we invest in. Our investment dollars, from our savings accounts to our retirement accounts, make up that economy. Investors can invest in the world they want to live in by choosing companies whose products, services, and ways of operating are helping to accelerate the transition to a just, inclusive, and sustainable economy. ■

Kristin Hull is Founder and CIO of Nia Impact Capital, a women-led asset manager investing in the transition to a more just, inclusive, and sustainable economy. She is devoted to democratizing access to impact investing, promoting inclusion and diversity in leadership, re-envisioning capitalism, and changing the face of finance.

December 2023 • I by IMD 35

[ Impact economy ]

Welcome to the brave new world of eDNA and ecoacoustics How a new breed of startup can help to monitor your biodiversity impact

Given the relative ease of sampling, eDNA can also help involve local communities or citizen scientists with little-to-no formal background in biodiversity monitoring

36 I by IMD • December 2023

With over two-thirds of species lost in the past 60 years and more than a million more at risk in the next decade, regulators want businesses to be accountable for their biodiversity impact. Adrian Dellecker explores the rise of biodiversity data startups seeking to help companies adjust

he 200 parties to the UN Convention on Biological Diversity last year agreed new global targets to be met by 2030 – the Kunming-Montreal Global Biodiversity Framework (KM-GBF). Alongside ambitious conservation and restoration targets, the KM-GBF called on governments to take legal, administrative, and policy measures to encourage and enable business to “regularly monitor, assess, and transparently disclose their risk, dependencies, and impacts on biodiversity” as well as providing relevant information to consumers. Legislation is being introduced in many parts of the world – most notably, the EU’s Corporate Sustainability Reporting Directive (CSRD), which comes into force on 1 January and initially will affect 50,000 companies. Under the directive, companies will be required to “have specific targets related to biodiversity including on the restoration and rehabilitation of biodiversity and ecosystems” and specific pressure, impact, response, and biodiversity-friendly consumption and production metrics. Standard setters such as the International Sustainability Standards Board (ISSB), the Taskforce on Nature-Related Financial Disclosures (TNFD), and the Science-Based Target Network (SBTN), have begun issuing recommendations for companies to implement the CSRD alongside other “double materiality” requirements, whereby a company must assess both how nature impacts its bottom line and how its operations impact nature. In addition to these mandatory requirements, business may increasingly showcase their positive impact through voluntary initiatives such as biodiversity credits, which could reach $160bn annually.

Photo: David Clode via Unsplash

The growing need for biodiversity data

In all cases, there is going to be an increased burden on businesses to better track and monitor the impact of their operations on biodiversity – the “availability of accurate, comparable, and decision-useful nature-related data is an essential prerequisite” for biodiversity reporting, according to the TNFD. Companies will need to invest far more into biodiversity monitoring and data to meet the increasing sustainability reporting requirements or to convince consumers of their efforts. The problem is not a lack of data (in a recent survey, the International Union for the Conservation of Nature found and cataloged 178 global data sources for biodiversity conservation monitoring) but rather that the data can be complex to navigate for business and is not always fully available, complete, globally spread, or even comparable. Yet gathering more relevant data,

especially on a continuous basis, can be logistically difficult, time-consuming, and expensive. “Conventional ways of monitoring biodiversity are not scalable from a cost and time perspective,” says Kristy Deiner of SimplexDNA, an eDNA firm set up in 2021 as a spinoff from ETH Zürich. The answer may come from technology. The “strong growth in demand for better quality nature data has helped to spur on a technological revolution in data generation and analytics”, according to the TNFD, which is also advocating for a new facility for managing nature-related data. In particular, environmental DNA, earth observation, acoustics, and camera traps – often combined with machine learning and blockchain – are at the forefront of this technological innovation. This could revolutionize biodiversity data with potentially transformative applications for businesses seeking to monitor and manage their impact. Scaling biodiversity data

Innovation in the analysis of environmental DNA (eDNA), or the genetic material present in environmental samples such as sediment, water, and air, is gaining momentum, not least because it can generate vast amounts of information from single samples. Sequencing of eDNA has enormous potential for biodiversity monitoring since it can not only monitor species distribution in a specific area but can identify specifically targeted species and provide information on plant-pollinator interactions, diets, invasive species, pollution, and air quality. It is time-saving and cost-effective, does not disturb habitats, and can survey large areas quickly. Given the relative ease of sampling, eDNA can also help involve local communities or citizen scientists with no formal background in biodiversity monitoring. However, eDNA must still be considered complementary to traditional methods of species identification – on-site with trained ecologists – since it cannot determine population quality, such as age, sex ratios, or body conditions, and is still prone to false results. Passive acoustic monitoring (or ecoacoustics) is another emerging technology for generating biodiversity data and intelligence. Ecoacoustics »

ways to achieve biodiversity targets

Companies seeking to be “nature positive” and comply effectively with new biodiversity regulations should consider the following:

1. Get ahead of the curve. As the requirements to act on biodiversity loss are increasing, companies will gain a competitive edge by acquiring knowledge in biodiversity target-setting and monitoring. 2. Shape the future of monitoring. By partnering early with biodiversity data startups, companies can help provide key data into future models and make the future market more efficient 3. Be transparent. To avoid accusations of greenwashing, it will pay to rely on expert third parties and to have all biodiversity data technology-based and open source, so consumers and regulators can verify information in near-real time.

December 2023 • I by IMD 37

[ Impact economy ]

THE BOOM IN BIODIVERSITY DATA STARTUPS 70 60 50 40 30 20 10 0 2011

2012

Aggregator/Dashboard

2013

2014 Imaging

2015

2016

eDNA

Acoustics

2017

2018

2019

2020

2021

2022

2023

uses autonomous recorders to capture and store sounds from a landscape. Especially when combined with eDNA and machine learning, ecoacoustics is becoming an increasingly popular way of monitoring biodiversity restoration efforts. Ecoacoustics offers near real-time monitoring of biodiversity in a way that’s cheap and highly reliable. It can also detect threats such as chainsaws, gunshots, or motorcycles, and is usable above or below the waterline.

‘Given the relative ease of sampling, eDNA can also help involve local communities or citizen scientists with little-to-no formal background in biodiversity monitoring’

Imaging is another increasingly affordable, repeatable, and comparable method of biodiversity monitoring. Earth observation from space is becoming cheaper and new sensors are helping to see through cloud covers or forest canopy to identify individual animal and plant species. Even image-sensing technologies linked to drones and camera traps are rapidly improving the cost-effectiveness of monitoring efforts. At the same time, advances in AI are significantly cutting down the time needed to process data by helping to identify species. Coupled with AI, earth observation can also help predict environmental data such as future deforestation.

knowledge needed to identify and adopt the most effective means to act on biodiversity, they will need to partner with third parties specialized in biodiversity monitoring. This is already happening.

The new business of biodiversity data

Taken together, these emerging technologies are radically transforming biodiversity monitoring. As companies come under increased regulatory and consumer pressure to report on the biodiversity impact of their operations, it will become more and more common for them to use these new technologies. However, because businesses generally lack the internal 38 I by IMD • December 2023

EDF Renewables, for example, worked with NatureMetrics, a UK-based eDNA market leader, to monitor a planned offshore wind farm in north-east England in 2022. The International Association of Oil & Gas Producers is exploring eDNA to monitor and report on its offshore activities. Nespresso partnered with the Cornell Lab of Ornithology, using ecoacoustics to monitor the biodiversity of its coffee farms in Costa Rica and Colombia. Microsoft has collaborated with Imazon to develop PrevisIA, a tool that uses earth observation and artificial intelligence to predict deforestation in the Amazon. Vale, Brazil’s biggest miner, has now joined the initiative. “There are organizations that are looking down the barrel of regulatory compliance or legal obligations to start reporting on their biodiversity

impact,” says Benjamin Tomkins of HiveTracks, a US-based company incentivizing beekeepers to use their bees as “natural drones” to help monitor biodiversity. “But there are also early adopters who are trying to differentiate themselves as nature-positive companies and demonstrating it in their ESG reporting with verified data.” Sensing an opportunity, an increasing number of tech-focused startups are emerging in the biodiversity data space. “Startups are the right format because the solutions that are needed need to be innovative, disruptive, and brought to the market fast,” says Camille Accolas from Brainforest, a venture studio dedicated to building for-impact ventures. Using technology, these startups are providing biodiversity monitoring as a service. Of the 61 biodiversity data startups surveyed for this article, nearly twothirds (37) were launched since 2020. Many were founded by conservationists eager to overcome traditional data collection. For example, Okala, a platform that aggregates biodiversity data for businesses, was started in 2023 because the founders were “frustrated with the traditional and opaque way of measuring biodiversity for paper reports”. More than a third of the data providers in the sample were aggregators, using a combination of eDNA, ecoacoustics, imaging, and machine learning to provide an interactive portal solution for their clients. This segment is growing fast: seven times more companies aggregating biodiversity data were launched in the past four years (2020-2023) than in the four prior (2016-2019). The growing biodiversity startup landscape

As 50,000 companies get ready to disclose the impact that their businesses have on nature in 2024, they will need more than guidance – they will need real intelligence on the impact their operations have on biodiversity and nature. Data collection will be key. For this to be managed most efficiently and transparently to satisfy both regulators and consumers, it is expected that many companies will outsource this work to dedicated partners specialized in new technologies for biodiversity data monitoring. As a result, the biodiversity data economy is booming, with record numbers of startups being created. Companies that aim to be nature positive, or simply compliant with increasing biodiversity regulation, would do well to nurture this budding economy to both achieve their own goals and those of the Global Biodiversity Framework agreed by 200 governments just a year ago. ■

IQuote

WORDS OF WISDOM ON MAKING A POSITIVE IMPACT ON PEOPLE AND THE PLANET

If we want to have the biggest impact, the best way to do this is to make sure we always focus on solving the most important problems.

Mark Zuckerberg, American entrepreneur and co-founder of Facebook (Letter to Investors, 2012)

Don’t underestimate the positive or negative impact that you may have on others. Robert Ballon, Belgian priest and business management scholar (Talk in Tokyo, 1983)

Every interaction you have is an opportunity to make a positive impact on other people.

Jacques Horovitz, French business management scholar, entrepreneur, and consultant (Comment made at IMD, 2005)

One does not make a difference unless it is a difference in people’s lives. Peter Drucker, Austrian-born American educator and business philosopher (Business Week, 2005)

Simple routines mean greater impact.

Ingvar Kamprad, Swedish entrepreneur and founder of IKEA (Testament of a Furniture Dealer, 1976)

Success is not measured in the amount of money you make, but the number of lives you touch. Unknown

Try to be a rainbow in someone’s cloud

Maya Angelou, African American poet and civil rights activist (As quoted in her obituary by the Huffington Post, 2014)

What you do has far greater impact than anything you say. Stephen Covey, American psychologist and writer (The Speed of Trust: The One Thing that Changes Everything, 2006)

You can never have an impact on society if you have not changed yourself. Adrian Dellecker is a senior researcher and writer at IMD. He is a political scientist, environmental advocacy expert, and innovator. Dellecker was formerly Head of Strategy and Development at the Luc Hoffmann Institute. From 2008 to 2016, he was Head of Policy and Advocacy in WWF International’s Global and Regional Policy Unit.

Nelson Mandela, President of South Africa and co-laureate of the 1993 Nobel Peace Prize (Disputed)

The quotations are taken from The Essential Book of Business & Life Quotations compiled by Dominique Turpin, Professor Emeritus of Marketing Strategy at IMD.

December 2023 • I by IMD 39

[ Impact economy ]

Essential levers to add value and bring about lasting change Ventures that change ecosystems will pioneer the impact economy, argues Adrian Ackeret, and they require a supportive environment for innovation, entrepreneurship, and funding

needs of the people who live there. Similarly, entrepreneurial approaches that treat people who live in absolute poverty as customers rather than recipients of handouts operate with a relentless focus on actual circumstances, needs, and aspirations. They work with – and not against – incentives for adopting a new product and service that is designed to create a positive impact on individuals or the community. Over time, a positive reinforcement cycle sets in whereby the perceived value of a product or service increases, the link between an offering and the impact it creates becomes more tangible, and the efficiency of delivery and distribution can be improved. This creates the conditions for developing a business model that can eventually go to scale, and thereby create impact in a profitable and economically sustainable way. Often, developing a profitable business model with lasting impact requires connecting several elements of a value chain to successfully embed the impact within a local community while also developing a commercially viable value proposition. Over time, some impact ventures succeed in integrating previously fragmented value chains in such a powerful way that they have a profound effect on changing incentives across layers of organizations and institutions. Under these circumstances, entrepreneurial ventures can create a systemic impact that catalyzes change within societal behavior and industry configurations and re-align the strategies and resource allocation of an entire ecosystem of actors. Connecting the value chain in skills education

he concept of an impact economy sets out a powerful vision of a future that aligns profits with purpose in a comprehensive way. It posits that impact objectives will become mainstream features of capital allocation and, in turn, the power of capital markets will be unleashed to drive sustainability as much as efficiency. Moving from where we are today toward realizing the vision of an impact economy involves systemic changes. To what extent meaningful changes can happen from the bottom up is a contested issue, as is the question of how much of that should be driven by private actors, civil society, and government policy. A vital ingredient in all scenarios is the need for entrepreneurial approaches that develop innovative solutions, which combine deep impact with sustainable business models. Fortunately, we are seeing a growing number of impact ventures that demonstrate not only how lasting opportunities can be created for people who have been underserved (or even living in absolute poverty) but also facilitate a systemic change that goes beyond an isolated improvement. What characterizes such ventures and how can we systematically support their emergence and growth? Characteristics of ventures with systemic impact

In fragile contexts – conflict zones, areas affected by natural disasters, and regions with weak institutions – entrepreneurship often plays an elemental role in creating resilient structures that respond to the pressing 40 I by IMD • December 2023

Despite advances in education, people who live in underserved communities in low- and middle-income countries – often in absolute poverty – are largely excluded from access to professional job opportunities in formal labor markets. This is the case even if companies and the economy as a whole are seeking entry-level workers. Overcoming these structural barriers requires building end-to-end models in skills education that support the learning journey of job seekers beyond a limited focus on providing skills at a training center. Typically, they combine innovative talent assessment, curricula that prioritize life skills, and close partnerships with employers. Unleashing the talent of Latin America’s underprivileged youth

Arbusta is an example from the elea portfolio that addresses this challenge. Founded in Argentina in 2015, its operations have since expanded to Colombia and Uruguay. The IT-outsourcing company recruits vulnerable young people who, despite being “digital natives,” would otherwise be overlooked. After being trained, Arbusta engages them in digitization projects for corporate clients, including some of the fastest-growing tech startups in Latin America. The company’s services include data management, software testing, and digital service desks. After working for the company for anything from a few months to a few years, employees emerge with excellent career prospects as Latin America has suffered a long-standing shortage of tech “talent”. Arbusta has been profitable and reinvesting into growth in the past years, despite extremely challenging macroeconomic conditions in Argentina and Latin America overall. More than 700 young people so far

Recipe for a better life: ATEC gives low-income households in Bangladesh and Cambodia access to modern induction hobs, a healthy and eco-friendly alternative to wood-burning stoves

have found careers in the IT sector after being taken on by the company. It is a testament to how transformational impact for people in poverty can be embedded within a profitable and financially sustainable business model. Arbusta’s impact can scale further: it will reap economies of

‘The arrival of the digital technology revolution in remote areas plays a decisive role in making life-changing solutions accessible to people living in poverty’

Photo: www.atecglobal.io

scale afforded by bigger client engagements and better utilization of its processes and technology while also becoming more targeted in its capacity-building and onboarding processes. The company’s approach can serve as a blueprint for other organizations that can benefit from insights and possible collaboration with Arbusta. Arbusta catalyzes systemic change by realigning the perceptions and expectations of multiple layers of stakeholders with regard to the potential of marginalized youth. There are many stories of how relatives of Arbusta employees and other young people from the same poor neighborhoods have changed their perceptions about their career prospects and applied to Arbusta on their own initiative. Within the education system, Arbusta

has changed the perception of the effectiveness of integrating life skills and technical skills while also tying colleges to a close feedback loop with industry partners. Finally, employer perceptions of job readiness and suitable backgrounds for professional entry-level employees have shifted through collaboration with the company and its employees. Over time, these shifts reinforce one another. All are oriented toward a new vision of an IT sector in which utilizing technology for improving business performance is aligned with developing personal growth for young people – both as an investment opportunity and a sustainable buildup of human and social capital. Energy transition: turning the ‘impact flywheel’

The need to deploy as many innovative solutions as possible to reduce the global carbon footprint is beyond dispute. But from an ethical and practical standpoint, it is sustainable only if it goes together with improving the dignity and livelihoods of people living in poverty. Business models that tackle both dimensions in a combined way represent the core of the idea of an impact economy. They mobilize investments aimed at reducing the carbon intensity of output while developing more inclusive value chains. Essentially, a growth strategy from a business perspective drives the internalization of externalities from an economic perspective. If the model is successful, it creates a powerful virtuous circle of change because an ongoing value proposition ensures long-term buy-in and reinforcement of changed behavior by critical stakeholders. » December 2023 • I by IMD 41

[ Impact economy ]

Making clean cooking affordable

ATEC, a “clean cooking” venture operating in Bangladesh and Cambodia, is a pioneering example of such an approach in the elea portfolio. ATEC provides low-income households with access to clean cooking devices such as electric induction stoves that replace carbon-intensive, polluting, and unhealthy oil or wood-burning devices. In Bangladesh and Cambodia, many disadvantaged communities have access to a relatively reliable connection to the grid. Devices sold by ATEC work with pay-as-you-go technology that allows customers to buy at a low upfront price and pay the balance in small, typically daily, increments via mobile money. Pay-as-you-go technology also ensures tracking of live-usage data, which is then used to generate carbon credits. As a result, ATEC marries social and environmental efforts in a reinforcing model whereby carbon credit revenues unlock the distribution of life-improving devices at scale. The company describes its unique approach as an “impact flywheel” whereby capturing the value of verifiable carbon credits by selling those credits on international carbon markets reinforces the ability to pre-finance the permanent transition of poor households to clean cooking. ATEC currently also pilots a cook-to-earn model in which carbon benefits are directly remitted to individual households based on usage. Putting the links of the flywheel together in a robust way is very complicated from a business and legal perspective – but all the components must be fully in place if the flywheel is to serve its purpose of creating a direct, real-time, verifiable link between global decarbonization outcomes and locally distributed activities by individuals. The potential upside of making this flywheel work is enormous, both in terms of carbon reduction – cooking is roughly equal to aviation when it comes to global emissions – and income improvements for poor households, who no longer need to spend a large part of their income on inefficient fuels. It’s also a promising approach to solving the problem of indoor air pollution that has riddled global development for decades because household-level behavior is sticky and changing it requires disproportionate effort in the absence of strong incentives. If ATEC succeeds in demonstrating the effectiveness of its “flywheel” for clean cooking, it will have the potential to redefine the operating logic of this sector as well as a large part of what is often labeled as the “last mile” of improving rural livelihoods. Innovation lever: the social integration of technology

Arbusta and ATEC are examples of how change depends on technological innovation as a lever for impact and value creation. The arrival of the digital technology revolution in remote areas plays a decisive role in making life-changing solutions accessible to people who live in poverty. Innovation as a lever extends beyond the digitalization of offerings. Financial innovations such as the pay-as-you-go schemes used by ATEC are a clever way of tying income generation directly to loan repayments. Credit facilities are created that mitigate over-indebtedness and de-risk loans for people without any credit history or even access to traditional bank accounts. 42 I by IMD • December 2023

The elea way: philanthropic capital for ecosystem change The insights in this article inform how elea, a philanthropic impact investor, approaches its core value of partnership and collaboration with impact entrepreneurs. The organization provides long-term investment in the form of equity (or equity-like instruments), loans, or grants, while also typically matching every Swiss franc invested with another Swiss franc of strategic support provided by the elea team, which has business and social innovation expertise in its investment sectors. Sector-specific insights from a global perspective and access to networks across stakeholders allow elea to contribute to how a venture can shape wider ecosystem change. It also supports a venture in defining its funding strategy. As an early-stage philanthropic impact investor, elea seeks to de-risk ventures for complementary funding across the spectrum of capital, including more commercial capital over time. Ultimately, elea aims to exit and re-direct the capital towards new ventures, providing catalytic resources to mobilize the most efficient “blend” of capital.

In addition, it is the social integration of technologies that most often turns out to be the decisive factor for inducing and sustaining systemic change. Balancing the disruptive qualities of technology with carefully embedding new solutions in people’s everyday lives in a user-friendly way has proven to be a key success factor for ventures that work with marginalized communities. Entrepreneurial lever: building purpose-driven organizations

Ventures that develop solutions with the potential to create systemic change perform two critical tasks of integration: they integrate impact and business performance at the core of their business model while embedding their bottom-up development within the wider ecosystem. Accomplishing these tasks requires strong entrepreneurial leadership and organizations that are both highly resilient and highly experimental. As the examples of Arbusta and ATEC show, impact for this type of venture is not simply a by-product of their activities but an essential aspect of the business model that drives their competitive position and longterm success. However, even in cases of very strong alignment, ventures have to regularly resolve trade-offs between commercial and impact goals. In particular, ventures working in low- and middle-income countries typically navigate in very challenging operating conditions, which are marked by a lack of reliable infrastructure and institutions as well as social and political instability. As a result, even ventures that are on a clearly defined path to profitability – and to becoming attractive investment opportunities for commercial impact capital – face enormous challenges in overcoming the “pioneer gap” between proof of concept and financial viability.

[ Impact economy ]

Because small changes to incentives can make a big difference when building a value proposition with underserved market segments, change has to be driven locally and bottom-up in an iterative way. Entrepreneurial leadership needs to combine experimentation and pragmatic responses to emerging patterns in a specific environment with an orientation towards strong organizational values and a well-articulated long-term vision that connects with a wide range of stakeholders. This is where the personal motivation and determination of impact entrepreneurs often make a decisive difference to the success of emerging ventures. At the same time, such founder-entrepreneurs tend to have very strong personalities that they need to keep in check in order not to become an obstacle to the organization’s growth and ability to attract the next level of leaders. Funding lever: investors as partners and ecosystem enablers

As a third major lever, the funding constellation plays a particularly crucial role for a venture to realize its potential to impact the ecosystem in a wider way. Entrepreneurs who build impact ventures need investors who are not only willing to accept the inherent uncertainty of this type of venture-building process but are also able to contribute to its active management. This calls for a collaborative approach and active engagement combined with patient capital. Being in the same boat as an entrepreneur puts active investors in a strong position to be effective sparring partners on critical questions at the juncture of purpose, strategy, and personal commitment. Whatever elements of strategic and management capacity can be provided by other players in the ecosystem, there is a unique role for investors who build a relationship of trust and mutual, long-term commitment. A pragmatic approach to sustainable progress

With their visionary and pragmatic approach, impact ventures like Arbusta and ATEC demonstrate how to inspire change within a wider ecosystem. In turn, buy-in from the ecosystem will be equally necessary to reinforce, grow, and institutionalize the systemic change that they represent. Realizing the vision of an “impact economy” will require thousands of ventures like these to succeed at the upper end of their high ambitions, and eventually become the mainstream of companies. While this may appear like a less spectacular, step-by-step route to a more sustainable and inclusive capitalism compared to more forceful calls for “system change”, it may also be a path that avoids falling into the trap of overestimating the ability of planning changes to a system. ■

Adrian Ackeret is a Partner and the Chief Investment Officer of elea Foundation for Ethics in Globalization, an active philanthropic impact investor. It specializes in agricultural value chains, last-mile retail and services, employable skills, and climate and livelihoods. The foundation combines long-term economic success with sustainable, measurable impact. See www.elea.org for further details.

Generate impact or a healthy return? The dilemma facing a new breed of venture capital investors Impact venture capital in Europe is generating lower financial returns than its traditional counterpart. After extensive research, Valentina Masseretti, Anita Quas, Stefano Romito, and Clodia Vurro offer three possible reasons why

mpact investing is rapidly transforming from a niche market into a global movement, capturing the attention of major private equity firms such as Bain Capital and KKR. While historically focusing on economic value, these investors have recently launched funds that aim to generate positive, measurable social and environmental impact alongside a financial return. Venture capital (VC) investors are also adopting an impact approach through equity investments in startups. The academic community has started to shine a spotlight on these specialized impact VCs (IVCs) in an effort to understand the differences between the impact investing model and traditional VCs (TVCs) such as screening criteria, contracting with limited partners and portfolio companies, and return generation. With the potential to radically shake up markets and mainstream conversations around impact, several lines of inquiry emerge. Of course, many scholars are working to address the elephant in the room: Does attention to impact generation come at the expense of financial returns? Existing evidence seems to point in this direction but we still lack an understanding of what drives this lower financial performance. An investment’s financial return ultimately depends on the cash flows at entry and exit, adjusting for the amount of time that investors hold onto the shares. At entry, in the absence of strong profits or company fundamentals, valuations of startups mostly depend on the individual expertise and negotiating power of the VCs. Since IVCs typically lack both » December 2023 • I by IMD 43

[ Impact economy ]

EUROPEAN IVC INVESTMENT DEALS BY YEAR OF INVESTMENT 14

% of deals

12 10 8 6 4 2 0

2015

Investment year

2016

2017

2018

2019 IVC-only deals

expertise and negotiation power relative to the more consolidated TVC industry, we hypothesized that IVCs give higher post-money (post-investment) valuations to their portfolio companies than would TVCs. In other words, impact investors might give a higher price to startups that bundle impact and financial return and, for the same investment amount, would be content with a smaller share in the company. At exit, somewhat counterintuitively, we hypothesized that IVCs achieve lower valuations for their portfolio companies since they are less likely to reach sufficient scale to be listed on public stock exchanges or acquired through trade sales. Put simply, IVCs are less likely to achieve a successful exit. Considering that IVCs are expected to have different and more restrictive selection criteria than TVCs, this is not surprising. Rather than an exclusive focus on ventures with unicorn potential, IVCs focus on impact ventures that balance various financial and sustainability objectives. As a result, IVCs and TVCs are expected to use different selection criteria to choose portfolio companies, differ in their approach to valuation, and pursue divergent exit outcomes for their investments. Despite these large differences in approach, IVCs and TVCs often compete for investment or co-invest in the same startups. As even the most traditional investors are becoming more attracted by companies with sustainability objectives, syndication (when IVCs and TVCs invest simultaneously into a startup) is increasingly becoming a norm. Given the difference in investment approach, there is clearly an enormous potential for conflict between IVCs and TVCs. We investigated how these investors reconciled their differences when co-investing, especially in terms of investment preferences and attention to financial returns. Our approach

Using a sample of European VC deals extracted from Dealroom, a global data aggregator for intelligence on startups, we classified investors as IVCs or TVCs. We limited our sample to startups that received their first venture capital investment as of 2015 – the year that the UN Sustainable Development Goals (SDGs) and Agenda 2030 were adopted. Using best 44 I by IMD • December 2023

2020

2021

2022

Syndicated IVC-TVC deals

2023 Total IVC deals

practice to identify IVCs, we considered as IVCs those investors belonging to impact-focused associations like ImpactBase, the Impact50 list in ImpactAssets, the Community Development VC Association (CDVCA), Impact Capital Manager (ICM), the Global Impact Investing Network (GIIN), Operating Principles for Impact Management, the European Venture Philanthropy Association (EVPA) as well as PEI Award winners of Impact Investment Firm of the Year. Then we reviewed their websites to identify IVCs that explicitly state a dual objective of generating social impact alongside financial returns. IVC investment trends in the European market

Our data, which is yet to be published by a scientific journal, reveals that traditional investors still dominate the marketplace: we coded 4,833 TVCs and 275 IVCs. Together, these investors were responsible for more than 28,000 deals between January 2015 and June 2023. IVCs were involved in 7% of deals, of which 57% were syndicated with TVCs. Interestingly, it appears that traditional investors come in later during the entrepreneurial lifecycle of companies who receive their first round of financing from IVCs. We found syndication between IVCs and TVCs to be less frequent in the funding rounds. Our analysis also enabled the exploration of impact investing across European regions. Regional analysis indicates that IVCs tend to concentrate in northern and western European countries (defined as the share of deals in which there is at least one IVC co-investor involved); Norway (13%), Finland (12%), France and the Netherlands (both 11%) lead the way. In terms of the geographical location of the portfolio company, IVCs are less likely to invest internationally than TVCs, especially when investing without a TVC partner. In terms of industry, IVCs are mostly interested in the energy (where IVC deals represent 17% out of the total number of investments), food (12%), and health (8%) sectors. Moreover, IVCs tend to select older and larger companies that are in later stages of development. IVCs are more likely to invest in larger companies even more when they invest alone compared to when they syndicate with TVCs.

Selection preferences: To understand how IVCs differed from TVCs when selecting investments, we used a subsample from only the first round of investment, since this funding round is characterized by the strongest information asymmetries between VCs and prospective portfolio companies. Using matching techniques (quasi-experimental methods that construct an artificial control group of companies that share similar characteristics to the treated companies), we matched 8,500 companies that obtained VC funding to a larger control group of 300,000 companies that did not receive any VC funding but had similar characteristics in terms of company age, size, location, and industry. Our analysis focused on two selection criteria: (1) the startup’s potential to create impact on the economy, society, and the environment, which was captured by their association with the SDGs, and (2) the characteristics of the entrepreneurial team, which typically is considered as a meaningful signal of entrepreneurial quality and potential to succeed. As expected, we found that IVCs were more likely to target companies associated with an SDG, especially startups addressing environmental objectives. At the same time, IVCs put less emphasis on entrepreneurial team characteristics. In other words, IVCs care more about the potential ability of portfolio companies to create impact compared to the traditional VC industry’s focus on the quality of the entrepreneurial team. These preferences are intensified when IVCs invest without a TVC co-investor. By contrast, syndicated IVC-TVC deals offer the best of both worlds: compared with pure TVC deals, syndicated deals emphasize startup SDG orientation (especially for SDGs related to the environment) while maintaining a strong focus on entrepreneurial team characteristics. Valuation: Another critical question is how IVCs and TVCs price their portfolio companies when investing. Controlling for several well-known determinants of valuation, we did not find differences in the average valuations of deals in which IVCs were involved and those in which they were not. However, results become more interesting when we isolate deals in which IVCs invest alone (i.e., do not syndicate with a TVC partner): in these cases, we found that IVC tended to assign higher valuations to startups. Interestingly, these valuations are driven by the SDG orientation of the companies. Put simply, IVCs investing alone give an “impact premium” to SDG-oriented companies. Instead, when a TVC is involved in the deal, we do not find such premium, even if an IVC is present. Investment success: Investors also care about their chances to ultimately cash in on successful investments (namely through a trade sale or IPO). Even though our observation period is quite recent (i.e., deals carried out since 2015), we still find modest evidence that indicates that IVCs have had less successful exits compared to TVCs. That is, IVCs are less likely to achieve a successful exit, at least in the short term, than TVCs. Will IVCs evolve to sacrifice impact for returns?

So why do IVCs achieve lower financial performance than TVCs? We offer three potential explanations:

1. IVCs focus less on well-known signals of entrepreneurial quality such as the presence of experienced founders. Rather than selecting companies with the strongest entrepreneurial teams, they seem to care more about potential impact. 2. IVCs tend to place a higher initial price on their portfolio companies in terms of post-money (post-investment) valuation, especially if the startup has a positive impact on the society or the environment. These two explanations are coherent with the IVC necessity to “show impact” to their own investors, who often place conditions on impact targets for fund managers to achieve incentive pay and carried interest in impact funds. 3. IVC investments are less likely to result in a successful exit for their investors, at least in the short term. Whether IVCs are less interested or less able to push their portfolio companies toward the most financially attractive exits remains an open question. At the same time, our data shows that IVCs increasingly co-invest with TVCs, and that the investment styles of the two categories of investors tend to converge in such syndicated deals. As such, we might expect that the identified differences in selection, valuation, and exit patterns between IVC and TVC might fade away with time. A relevant question for investors and policy makers is whether IVCs will gradually compromise their focus on impact to improve financial returns and boost their chances of raising funds. At the same time, the European IVC ecosystem is evolving quickly. For example, important institutional investors such as the European Investment Fund increasingly finance impact funds, tying carried interest to impact KPIs. IVC investors who want to maintain their “impact” status will find it profitable to continue to pursue social and environmental value in their portfolio companies. As IVCs gradually become more experienced and more highly regarded, they will master the art of selecting, contracting with, and nurturing these companies, eventually boosting the financial returns of impact investing. ■ Anita Quas is associate professor of corporate finance at the University of Milan. She conducts research in the field of entrepreneurial finance, and her main area of expertise is governmental intervention in the venture capital industry. Clodia Vurro is an associate professor of management at the University of Milan and Director of the Master’s Program in Innovation and Entrepreneurship. She researches strategic management and sustainability with a focus on collaborative strategies and cooperative behavior. Stefano Romito is an assistant professor of management at the University of Milan. His research focuses on the approaches and capabilities of managing inter-organizational relationships. He is interested in studying inter-organizational agreements with the aim of helping companies to achieve their sustainability goals. Valentina Masseretti holds a master's in management of innovation and entrepreneurship from the University of Milan where she is currently a research assistant.

December 2023 • I by IMD 45

[ The human factor ]

Flat or spiky? Tapping into neurodivergent talents at work Learning how to effectively accommodate and enable neurodiverse talent unlocks benefits for business and the wider workforce, explain Nancy Doyle and Heather Cairns-Lee

In an often rigid and biased world of work, these patterns and themes have exposed weaknesses in the way organizations hire neurodiverse talent and, if onboarded, in accommodating and making the most out of that talent. In turn, talent gaps and oversights mean that many organizations are not just falling short when it comes to diversity and inclusion, they are missing out on the clear benefits that neurodivergent people – and smarter HR practices – bring to the workplace. For example, some of us who make sense of the world in overviews and at scale might be called dyslexic. Others who are excellent pattern-spotters and detail analysts with high levels of sensory sensitivity might be labeled autistic. The naturally curious who have a dispersed pattern of attention that could prove distracting in an open-plan office (but is an essential skill in a large crowd or during high-performance sports) may be defined as having attention deficit hyperactivity disorder (ADHD). We are used to hearing these labels described as disorders, deficits, difficulties, or disabilities, which is the traditional language of the “medical model” to describe developmental differences. The alternative neurodiversity model argues that such profiles are naturally occurring, have existed throughout human history, and are part of the rich tapestry of human diversity. However, since the Industrial Revolution, success has been measured on our levels of literacy and numeracy, our fine motor control, and our ability to sit still and concentrate on one thing for hours at a time, and to do so in increasingly loud, busy environments. Naming differences as disorders arose in response to being unable to complete one or more of these

46 I by IMD • December 2023

tasks. Attention has been on the negative when in fact it is more usual for people to have a balance of strengths to go with these struggles. From an evolutionary perspective, a community with a balance of strengths and struggles has what Helen Taylor calls “complementary cognition”. Together, these people are able to perform at more advanced levels than the sum of their parts, so it makes sense for organizations and leaders to strive to replicate this kind of complementarity through a mix of profiles rather than to exclude people with “disorders”. Tearing up the ‘superpower’ and disability narratives

To understand the nature of neurodiversity and the benefits it can bring to the workplace, let’s break down the different profile types into two groups: “flat” and “spiky”. Research by one of the co-authors of this article has shown that people with flatter profiles are “generalists” – able to perform most tasks competently. Those with spiky profiles are “specialists” – able to perform some tasks exceptionally well while experiencing significant challenges with others. For example, those with attention deficit disorder (notice the negative labeling) may have a hard time paying attention, but they can excel in creative thinking, generating new ideas, and problem-solving. Their “spiky” profile may be high in creativity yet low in self-organizing. Statistically, based on IQ science dating back more than 100 years, most humans (around two-thirds) are generalists. The rest can be high or low ability across the whole range and, of these, around 15% to 20% are specialists, with spikes stretching across more than two standard deviations from the norm. Using the language of neurodiversity, those who do not fit within the norm are termed “neurodivergent” or “neurodistinct”, or similar (the language of diversity is always in flux). To date, workplaces have treated neurodivergent people as disabled, because the standardization of education, recruitment, and generalist job specifications are indeed disabling. Typically, we’ve not asked for disability details on an individual level; it only gets discussed in response »

Illustration: Jörn Kaspuhl, Source: Genius Within

e are all different. Each of us has a unique profile of strengths and challenges. However, across these profiles are clear patterns and themes of behavior and personality. They all fall under the broad umbrella of “neurodiversity” – the idea that humans have naturally occurring variations in the way we think, feel, and perceive.

December 2023 • I by IMD 47

[ The human factor ]

to performance failures, and then a fix is applied one person at a time. This is disruptive and stigmatizing, and though disability accommodations have been found to be successful in improving performance, they often happen too late to fix the breakdown in team trust. Instead, organizations should deploy an accommodations approach that is predictive and proactive – a standard part of onboarding and performance management – to have a positive impact. No doubt you’ll have also noticed the “neurodiversity at work” programs springing up, particularly across the tech industry. These began around 15 years ago and sought initially to consciously hire people diagnosed with autism, due to the related skills of detail focus and accuracy that can be applied to writing and testing code. Examples include Microsoft’s Autism Hiring Program, SAP’s Autism at Work program, and IBM’s Neurodiversity Hiring Program. Several big tech companies went on to create the Dandelion program, inspired by Thorkil Sonne, a social entrepreneur and an Akosha fellow, who aims to transform the way society views autism. The metaphor of a dandelion may seem a strange choice for a workplace initiative to widen the talent pool, yet it beautifully illustrates the challenge of integrating neurodiverse people into the workplace. In a well-manicured lawn, the dandelion is usually seen as a weed – a nuisance to be removed from spoiling the uniform green grass. Yet a weed is simply a plant in an unwanted place. When that plant is wanted, its value is seen. Just like the dandelion that is full of precious nutrients, different neurotypes have much to offer, and these skills can be appreciated when these people – like dandelions – are wanted and not trying to fit into a uniform system. These programs helped flip our understanding of minority neurotypes from one of pity – feeling sorry for people who didn’t fit in – to a “superpower” narrative. However, while this superpower narrative helped to change the way we think about neurodiversity, it doesn’t serve the many neurodivergent thinkers who do not have access to the tech industry, and those who may not even have a diagnosis due to the gender, race, and culture bias within psychiatric definitions and assessment protocols. Further, as Michael Bernick has written in Forbes, the number of neurodivergent people included in these programs is still tokenistic. So in the long term, neurodiversity at work programs have proved a great point, but they aren’t moving the dial on systemic inclusion. How can we more effectively leverage neurodiversity as a key change agent in creating the future of work? How can we cater to and recognize all types of neurodivergent talent, and not just those flying high in the tech industry? Based on our research and work with organizations in this area, we recommend the following three points for reflection and action: 1.Creativity is king

The World Economic Forum (WEF) claims in its 2023 Future of Jobs report that creativity and innovation will be kings in the future of work. Businesses surveyed for the report believe that creative thinking is the top cognitive skill on the rise. It is vital to innovation, progress, and en48 I by IMD • December 2023

trepreneurship across multiple domains as it inspires change and creates new opportunities. Neurodivergent people can have greater capacity in these skills because they often have atypical thinking patterns and may process information differently, which can lead to innovative ideas. Their non-linear thinking can lead to more associative connections, resulting in creative breakthroughs. Additionally, a significant number of neurodivergent individuals have hyperfocus which enables them to dive deeply into topics and come up with original ideas. A UK-based survey conducted by Birkbeck University in London found that employers and employees alike rated neurodivergent staff as highly talented, creative, and innovative contributors.

‘To date, workplaces have treated neurodivergent people as disabled, because the standardization of education, recruitment, and generalist job specifications are indeed disabling’ Diversity is the precursor to innovative thinking and creativity, so it is essential to build workplaces that accommodate a wider range of neurodiversity than is currently the case. Creative thinking flourishes in workplaces in which there is psychological safety, constructive challenge, and recognition of creative contributions. It wilts under excessive time pressure and criticism. Creating organizational systems that are supportive of neurodivergent employees supports the performance of all employees. This can be achieved by focusing on the three Fs of organizational design: FAIRNESS in hiring and rewarding people from all groups, not just majority groups, through inspiring programs designed to support neurodivergent people. FOCUSING on outcomes of job roles rather than presenteeism. FLEXIBILITY in crafting jobs to match people’s strengths with roles in a context in which talent from all walks of life can thrive. 2. From standardization to personalization

To achieve inclusion as standard, we are going to need to let go of some assumptions. For example, do all job descriptions require both independent work and teamwork? Really? Surely the most important aspect of data analysis is accuracy and speed, not influencing skills? We have stacked our job designs, recruitment, and selection processes, and performance management with meaningless, biased-laden language such as “good cultural fit” and “must show compassion at work”. These allow us to hide behind biases and maintain a standardized set of work behaviors and performance. But to innovate we need to break things! And we’re going to need to break down the standard management of work

DYSCALCULIA

DYSLEXIA

Innovative thinking Verbal skills Creativity

DCD/ DYSPRAXIA

Visual thinking Creativity Visual mechanic skills

Verbal skills

Authentic

Honesty

AUTISM

Concentration Fine detail processing Memory

The strengths of neurominorities

Hyper-focus

TOURETTE SYNDROME Observational skills Cognitive control Creativity

Innovative thinking

Sensory awareness

ACQUIRED NEURODIVERGENCE

MENTAL HEALTH Depth of thinking expression

ADHD

Hyper-focus Energy and passion Creativity

Verbal skills Empathy Intuition

Emotional expression

LEARNING DISABILITY

Resilience

Loyalty Consistency

input and refocus on work output: caring less about how a job was done and more about how well the job was done.

Source: Genius Within

The “Please climb that tree” graphic on Page 47 illustrates the nonsense of our standardized workplaces, job descriptions, and performance analysis. If we take the image one step further, we can further illustrate the pitfalls in existing approaches to hiring practices, job roles, and performance. Is the test of climbing the tree relevant to the role? What is the actual job? Is it picking fruit? In this case, for some of these animals, climbing the tree would be completely unnecessary. If we avoid mandating the method of delivery (climbing the tree), all but one is capable of completing the task; and each of them will go about it in a different way and have different strengths and weaknesses. 3. Double loop learning

The business theorist Chris Argyris proposed in the 1970s that much of corporate problem-solving happens as a single loop of learning: cause, effect, stop, change. But too little organizational learning involves circling back on the root causes: why did the problem arise in the first

place? We implement corrective measures (single loop) but don’t learn from them by considering preventative measures (double loop) going forward. Consider the "autism at work” early adopters in the tech industry. The industry’s problem? A scarcity of highly accurate coders. Its solution? Change the terms of the job and hiring processes to allow autistic people to apply and thrive. Tick! However, according to “double loop learning”, the process should not stop there. The next question should be: why were the standard processes of job design and hiring for coding jobs systematically excluding autistic people, who turned out to be really good at the job? Why don’t we change the standard job and hiring protocols to focus much more on this specific area of performance so that autistic people can apply without having to “out” themselves to the whole company? The same insight applies to accommodations at work – every single person to whom you offer a “fix” represents the tip of the iceberg. There will be a lot more people with the same need who are too shy to speak up, possibly due to other marginalizing identities such as gender, race, LGBTQ+, and so on. So, if you’ve sent 5% of your workforce for coaching » December 2023 • I by IMD 49

[ The human factor ]

CREATIVE THINKING

ANALYTICAL THINKING

TECHNOLOGICAL LITERACY

CURIOSITY AND LIFELONG LEARNING

RESILIENCE, FLEXIBILITY AND AGILITY

SYSTEMS THINKING

AI AND BIG DATA

MOTIVATION AND SELF-AWARENESS

TALENT MANAGING

10.

SERVICE ORIENTATION AND CUSTOMER SERVICE

TYPE OF SKILLS

Management skills

Cognitive skills

Technology skills

Self-efficacy

Engagement skills

The skills judged to be increaasing in importance most rapidly between 2023 and 2027

50 I by IMD • December 2023

‘Creative thinking flourishes in workplaces in which there is psychological safety, constructive challenge, and recognition of creative contributions. It wilts under excessive time pressure and criticism’ As we edit our human resources management to accommodate a wider range of thinkers across the employee life cycle, we will iteratively shift our culture, communication, and procedures. We will start creeping towards a more flexible, inclusive workspace and workflow that unleashes the true creativity in our teams and caters to a wider range of neurotypes as part of the norm. This approach benefits more than neurodivergent thinkers. The average age of acquiring a disability is 53, and over three quarters of disabilities are non-visible, affecting memory, organizational skills, and time management. The needs that neurodivergent people have are often shared with people living with long COVID, multiple sclerosis, chronic fatigue, and many more conditions. By listening to how we work at our best and by making those adjustments, our organizations will achieve the double win of not just supporting and tapping into neurodivergent talent, but also learning how to accommodate an aging and diverse workforce. ■

Nancy Doyle is a Visiting Professor of Organizational Psychology at Birkbeck, University of London, and the founder of Genius Within, a majority disability-staffed social enterprise facilitating 5,000 neurodivergent people each year towards their career goals. Doyle is a Forbes columnist and the co-author of Neurodiversity Coaching, published by Routledge. Heather Cairns-Lee is Affiliate Professor of Leadership and Communication at IMD. Her award-winning research and teaching focus on sensemaking in leaders and organizations, collaboration, authentic and effective communication, and the creation of diverse, caring, and inclusive cultures. She is the co-editor of Clean Language Interviewing.

Source: Future of Jobs Report 2023, World Economic Forum

THE 10 SKILLS ON THE RISE

on time management and organizational skills, why not plan these topics as workshops for your wider staff next year? If 8% of your staff need assistive technology (such as speech-to-text), it’s time to negotiate a whole company subscription with the supplier so that it can be accessed as a common affordance rather than a rigmarole involving occupational health and several expensive assessments – most of which cost more than the kit itself.

[ The human factor ]

Mind the gap between ‘problem’ behavior and its underlying cause

Executives often struggle to lead teams effectively because they are oblivious to the psychological factors that shape human behavior. Understanding and recognizing these factors opens the door to better outcomes, writes Michael Yaziji erennial behavioral and organizational cultural issues such as a poor feedback culture, organizational politics, conflict avoidance, and micromanagement are often thought of as aberrant behaviors. They are not. They are normal expressions of powerful psychological needs that are often subconscious and hidden.

The usual approaches to dealing with these problems – discussing desired behavior and including them in company values, equipping people with tools, and rewarding and punishing behavior – are often ineffective. But we continue regardless. We launch a new set of aspirational values and organizational leadership principles. We talk about the importance of empowerment and the leaders swear to it. We run training sessions on giving and receiving feedback. And we call out political behavior. Yet, little changes. Why? Because these approaches treat behavioral issues as if they were cognitive in nature, assuming that employees need to understand what to do, why it matters, and how to do it. However, the root causes of problematic behaviors are much deeper, more fundamental, and pre-cognitive in nature, driven by our psychological needs. Effective leadership requires digging deeper by recognizing behaviors as effects and focusing on their root causes – specifically the powerful psychological needs and dynamics that drive much of our behavior. These psychological needs are often subconscious, and we are in a state of denial to others and often even to ourselves. An added complication is that we are all subject to systematic delusions – about ourselves, our bosses, and our direct reports. Leaders should be attentive to their own delusional tendencies as well as the delusions of others around them. Effectively shifting behavior – both our own and that of other people – and an organization’s culture requires leaders to understand and view

behavior through the lens of psychological needs and to become adept at leveraging the broader set of tools that are available to manage them. Understanding requires a subtle skillset of (1) understanding psychological drivers and how they express themselves within and across people (including our own and others’ systematic delusions), (2) inquisitive, non-judgmental observation, and (3) empathetic hypothesis generation. Managing requires effectively influencing individual and group needs and dynamics, their context and options, and their interpretations of each of those factors. To illustrate how these psychological needs play out, consider a meeting that we encountered with a senior team that we were working with. Anna was a conflict-avoidant COO who ran the organization. Jacob and Benoit, two EVPs, were competing to replace Anna. Jacob began presenting a strategy. By the third slide, Benoit predictably began attacking Jacob’s strategy, poking holes in it and offering an alternative strategy. The meeting quickly degenerated into a heated squabble. The lower-ranking members in the room squirmed with discomfort; they’d seen this play before and knew that tension among their seniors was likely to cascade onto them. Anna, looking to restore collegiality, urged people to take their turn as speakers, and tried to find a middle ground between the competing proposals. She offered a compromise strategy that made no sense and satisfied no one. The decision was postponed yet again in order, ostensibly, to collect more data. Everyone at the table walked away frustrated. Anna failed in her leadership in this meeting even though she was providing feedback and guidance about the EVPs’ behavior in the moment and developing solutions concerning the strategy. Why? Because the argument over strategy was not, of course, the real issue. It was a status fight between Jacob and Benoit, but neither » December 2023 • I by IMD 51

[ The human factor ]

psychological needs

STATUS Our standing, importance, and power in comparison with other people. We tend to underestimate this driver within ourselves but overestimate it in our colleagues and bosses. Beneficial: Healthy competition for ideas or organizational performance. Harmful: Political battles, wasted energy, and deleterious cultural effects resulting from non-productive status battles. INTERPERSONAL CONNECTION Emotional closeness and attachment to others. Beneficial: Strong bonds and high levels of trust. Harmful: In group/out group, conflict avoidance and overly polite culture, avoiding tough decisions, and false consensus. SECURITY Safety, order, and predictability in activities and the environment. Beneficial: Clear processes, consistency, and risk avoidance. Harmful: Change resistance, micromanagement, and analysis paralysis.

52 I by IMD • December 2023

NOVELTY Variety and change in activities and the environment. Beneficial: Openness to innovation and change, creativity. Harmful: Chaos, continual change, and poor follow-through. AUTONOMY Being in control of one’s choices and life. Beneficial: Self-management and distribution of responsibility. Harmful: Loose cannons and poor teamwork. MEANING Purpose, significance, or inherent importance in one’s actions. Beneficial: Powerfully motivated if fulfilled. Harmful: Demotivation and disengagement if unfulfilled. COMPETENCE Mastery and proficiency in what one does. Beneficial: Drive for excellence. Harmful: Micromanagement and a risk of plateauing.

would admit it, perhaps even to themselves. Anna, unconsciously driven by her own need for interpersonal connection, sought compromise solutions. She failed to deal with the underlying psychological drivers behind the behavior; the status battle remained unresolved. The more junior members of the team, feeling a lack of security, sat silently rather than making a constructive contribution. Developing a new strategy would not solve the status battle between Benoit and Jacob. And providing feedback about their argumentation style might muzzle them in the moment but would do nothing to address the underlying tension. Anna was watching behaviors while what she needed was a completely different set of lenses through which to view the room. She would have been better served by imagining flashing signs over the heads of each participant: “seeks status” over the heads of Benoit and Jacob, “seeks security” over the heads of the lower-ranking members in the room, and “seeks interpersonal connection” over her own head. Her goal then would be to figure out how to satisfy, manage, and channel these needs rather than focus on the behaviors. Now I will explore the fundamental psychological needs that drive most behavior, whether it is beneficial or maladaptive in organizations, and discuss how understanding and managing these psychological needs can lead to more effective leadership and changes in behavior.

‘We are all subject to systematic delusions – about ourselves, our bosses, and our direct reports. Leaders should be attentive to their own delusional tendencies as well as the delusions of others around them’ Beyond those driven by basic physiological needs, all behavior is driven by pre-cognitive psychological needs. Leaders can more effectively change behavior by sharpening their skills in understanding, identifying, and managing the psychological needs that are the deeper, pre-cognitive root causes of that behavior.

Photo: Shutterstock

Through our qualitative research and the largest-ever global survey of more than 1,500 executives across 20 transnational organizations with headquarters in 15 different countries, we have identified the key psychological needs that executives believe are driving most behavior – whether beneficial or maladaptive – in organizations. We have discovered systematic delusions we tend to hold about ourselves, our bosses, and our direct reports. And we see how these express themselves in the behaviors that drive or hobble performance. The seven psychological needs

There are seven fundamental psychological needs that drive much of our behavior: status, interpersonal connection, security, novelty, autonomy, meaning, and competence (See facing page).

The biology

These psychological needs are associated with the “pre-rational” and “pre-conscious” parts of the brain. These include the amygdala, hypothalamus, ventral tegmentum, and brainstem, which we share with other vertebrate animals. They make up part of the limbic system, which is responsible for our memory, emotions, and motivation, among other things. Our psychological needs find some level of stability over time. Nonetheless, research shows that everything from conditions inside the womb, early life, traumatic experiences, exercise, meditation, and cognitive therapy can all reshape the neural sensitivity, synapses, and neural pathways that underpin our needs. Research shows that the “executive function” neocortex of the brain of higher mammals “talks” to the limbic system. Put very simply, this means our thoughts impact our emotions, and our emotions impact our thoughts. This brain biology helps explain why standard solutions to behavioral problems, which treat the problem as if it were one of knowledge, are less effective in changing behavior. When we focus on “talking to” the “reasonable” neocortex, it is, at best, an indirect route to impacting the limbic system that is driving behavior. At worst, it is only a puppet to the limbic system puppet-master. It can be helpful to think of psychological needs as buckets that want to be filled. It is not the absolute size of the bucket that drives behavior, but rather the amount of unfulfilled need. (See illustration). Different people have different-sized buckets. Time and context shift bucket sizes and unmet needs. Looking through the lens of psychological needs

Leading through the lens of psychological needs provides valuable insights. It allows and requires an understanding of the context, dynamics, signifiers, and triggers that spark the need and the behavior. As you work to manage through the lens of psychological needs – whether at the interpersonal or the organizational level – keep these essential principles in mind: 1. Accept, don’t judge, the needs. Non-judgmental acceptance that we’re all driven by these pre-rational needs is essential to strengthening our ability to perceive them. This acceptance is critically important because we often refuse to see what we don’t want to see. Ignoring or disapproving of needs is not going to make them go away. To the extent they are unfulfilled, they will, in one way or another, express themselves in behavior. If we can accept psychological drivers as just part of ourselves and others – without judgment – we’ll be much more capable of perceiving these drivers, in ourselves and others, accurately. 2. Hypothesize with an open mind. Try to interpret behavior and speech through the lens of psychological needs. This can be challenging because we simultaneously need to attend to the speech and » December 2023 • I by IMD 53

[ The human factor ]

THE BUCKET LIST: HOW TO ASSESS UNMET NEEDS

It is not the absolute size of the need, but the amount to which it is unfulfilled that drives behavior. In the example, while the absolute size of the need of interpersonal connection and security are large, they are mostly filled. By contrast, the individual's needs for meaning and status remain unfulfilled and will thus be the biggest drivers of behavior.

MEANING

INTERPERSONAL CONNECTION

behavior per se, while also hypothesizing about the needs underlying them. As you hypothesize, be open to disconfirmation and consider alternative hypotheses. Misattributing needs will make efforts to manage them much less successful. Be aware that our own needs will color what we see in the behavior of others and how we interpret it. 3. Understand the signifiers of need-driven behavior. Recognize that individuals' feelings of need are influenced by the symbols they associate with the object of the need. For example, for one person, a signifier for status (the object of the need) is job title, for someone else it might be office size, and for a third, it might be time with the CEO. An individual’s feeling of need will be a function of how they interpret the extent to which their need is being fulfilled. This, in turn, will be affected by what they take to symbolize the object of that need.

STATUS

SECURITY

sive and deny the psychological needs that you believe are behind the behavior. It can be less sensitive to discuss the signifiers and their goals (See Point 3). Returning briefly to our case study, Anna needs to decide whether and how she could put the issue of status on the table with Benoit or Jacob. Given that status-seeking often has negative social conno-

‘Leading through the lens of psychological needs provides valuable insights. It allows and requires an understanding of the context, dynamics, signifiers, and triggers that spark the need and the behavior’

Managing through the lens of psychological needs

Leading through the lens of psychological needs offers you a broader option space for managing people. Rather than simply focusing on the cognitive and behavioral factors, you can leverage a wider set of options, including managing the needs themselves, shifting signifiers, modifying the context, and adjusting the payoffs.

tations, will either of them even be open to considering that this drive is behind their behavior? Is the relationship she has with them strong and trusting enough to support such a delicate conversation?

1. Adjust the salience of various needs. Accentuate or attenuate attention toward or away from various needs. You will need to decide to what extent you can openly discuss the psychological roots behind the behavior. While open discussions about underlying psychological needs can lead to better understanding and more effective management of these needs, it can be quite delicate. Your interlocutor might feel defen-

2. Fulfill the need. If there are ways to fulfill a need and attenuate a problematic behavior, then simply do so. For example, someone might need novelty; someone else might need a bit more of a sense of security in their job; reassuring words can go a long way. In our example, Anna could consider putting Benoit on a new high-profile project or highlighting Jacob’s accomplishments in a larger team meeting.

54 I by IMD • December 2023

[ The human factor ]

(Much research has been conducted on psychological safety as a prerequisite for better feedback and open conversations, etc. That safety is an outcome of fulfilled needs of security, status, and interpersonal connection. Assure those and you will gain the benefits associated with psychological safety. Without their fulfillment, you’ll achieve neither psychological safety nor its attendant benefits.) 3. Leverage the signifiers of the need. Signifiers create more options for managing needs. Consider Benoit and Jacob. Both are seeking status. This can feel like a zero-sum game because status can seem like a relative attribute: if I gain more status, it is at your expense. But what if Benoit’s signifier for status is salary size, while Jacob’s is job title? Suddenly, we see that Benoit and Jacob are playing two different “status games”. If Jacob were to be given a new title and Benoit a pay increase, both would feel that their need for superior relative status is satisfied. By understanding the signifiers, Anna has options for addressing these needs: what was seemingly a zero-sum game because status is inherently relative has become an opportunity for a win-win, satisfying both Benoit and Jacob. 4. Modify the context and need fulfillment criteria. By modifying the context and need fulfillment criteria, Anna could leverage their status competition to drive better behavior. One approach would be to grant status for, say, higher sales. This would intensify competition but toward a productive end. Another approach, this time to diminish competition, would be to put them on a high-profile project together where the joint status payoff would depend on them effectively working together toward a shared goal. To sum up, the “scientific” approach to management is achieved by operating in the world of the objective and observable: namely, behavior. However, by focusing on behaviors, leaders only tend to address the symptoms and not the primary drivers of behavior: namely, psychological needs. This approach is often ineffective because the root causes go unaddressed and express themselves in other behaviors that can be equally problematic. By understanding and managing the psychological needs that underlie and drive behavior rather than simply focusing on the behaviors themselves, leaders have a wider set of variables that they can leverage to more effectively lead and influence others in a way that aligns the individual’s own psychological needs with the goals of the organization. ■

Michael Yaziji is Professor of Strategy and Leadership at IMD. With two PhDs, his expertise spans strategy, leadership, and sustainability. In the area of strategy, his current focus is on artificial intelligence, on which he lectures regularly. He leads the IMD faculty interest group on the topic and initiatives across multiple institutions (IMD, EPFL, and UNIL).

How to harness talent of people with disability A five-layered, multi-step approach can help to attract and develop the largely untapped talents of ‘the world’s largest minority’, argues Tania Lennon

ith four in five CEOs concerned about finding the talent they need to execute their strategies, according to IMD survey research, people with disability present a significant opportunity. According to the World Health Organization, PWDs account for more than 10% of the world’s working population. This translates to one billion globally who live with a disability – the world’s largest “minority” group. Yet organizations often struggle to attract, develop, and retain PWDs. While disability awareness and other formal procedures are helpful, they are often insufficient when it comes to creating the conditions that enable organizations to harness the talent and potential of PWDs. Equally, paid employment has been shown to provide a vehicle for accessing a range of benefits – including social, economic, and personal opportunities – for PWDs. Paid work improves health outcomes and contributes to individual well-being through job satisfaction and a sense of purpose. So what conditions are necessary to attract and retain PWDs? Research suggests organizations should adopt a multi-level, integrated approach comprising five interconnected levels (see graphic). This integrated approach also helps PWDs overcome the barriers they can face in accessing career opportunities. Social context and culture. An inclusive culture is defined as one in which employees perceive that they are valued and esteemed members of a work group. They feel they belong, not despite their differences but because of their uniqueness. Organizational cultures that enable individuals to express their unique differences, whatever they are, provide what is known as “optimal distinctiveness” – a balance between being both similar to and different »

December 2023 • I by IMD 55

[ The human factor ]

from others. This phenomenon is often encountered in marketing studies of younger generations, who identify with niche identities yet want to be accepted by broader society. This broader context “social model” lens provides a valuable perspective on disability at work by separating physical restrictions from personal experience of life as a PWD. This perspective moves disability beyond being perhaps just perceived as having a medical condition to being understood in a wider social context that includes attitudes and prejudices. Celebrate differences, in all their forms, and reinforce how they bring value to the organization through channels such as innovation and network building. Job design and accommodation. Research suggests that accommodation is the top need for PWDs in the workplace. Accommodation can take a variety of forms, such as changes in work schedules, vocational counseling, adaptations to the work environment, the application of assistive technology, the provision of support people, and enabling commuting. Alongside this, job design influences how individuals experience their role, with the degree of accommodation provided a particularly strong indicator of the degree of inclusion that pervades the organization.

11. >

ia Soc

ext and cultu l cont re >

22. Jo nd a

rsonal and socia

l id

sig de

5. Pe >5

ccommodation > e

h rs

ac oc

. Le ad a ip

ate clim

4. Attitu >4 de

nd a

56 I by IMD • December 2023

In terms of job design, the biggest problem can be accurately estimating productivity. The ability of the individual to carry out the job can often be underestimated, as it can be assumed that individuals are in the job because of their disability, rather than because of their capabilities. Formalize the process of workplace adaptation and job design, harnessing expertise to ensure both the workplace and the work are optimized for the individual, including regular reviews to support adjustments. Leadership and climate. Diversity climate is a term that captures the aggregate perceptions of employees about the characteristics and values that define the organization’s approach to diversity. It is a powerful factor that moderates the relationship between diversity and organizational performance through variables such as increased organizational commitment and the removal of obstacles. It includes process elements (how the organization is perceived to deal with issues such as harassment and discrimination), attitudes (perceptions about how diversity is managed within the organization and the company’s commitment to fairness and diversity), and behavior (observations about how different groups interact in the workplace).

Diversity climate affects both how employees feel about their organization - reflected in factors such as satisfaction, commitment, and turnover – and how they perform, as measured by performance ratings, objective outcomes, and behavioral measures. There are three main levers to shape diversity climate: HR practices, the diversity of the leadership cohort, and the leadership style of the line manager.

tit y

Successful workplace accommodation is heavily reliant on open communication on both sides. Employees need to clearly communicate and justify their requirements and the potential benefits to employers. Similarly, employers should foster mutual trust with employees and a desire to understand their needs and concerns.

Firstly, HR practices that foster fairness and social integration actively support the development of a positive diversity climate. Climates that reinforce inclusiveness rather than difference seem to be more effective in attracting, developing, and retaining PWDs and in supporting them to achieve their full potential. Secondly, the makeup of the leadership team has a significant impact. For example, research shows that formal diversity programs have a greater impact when the management team is more diverse and demonstrates stronger relational values (that is, they are seen to care). Finally, line managers have the biggest influence on our experience in an organization. An inclusive leadership style that embraces the unique identity of everyone within the team is most likely to foster the supportive environment that enables PWDs to flourish. In addition, individuals who have a positive and supportive relationship with their supervisor are more likely to disclose disabilities, enabling the organization to mobilize the right support and accommodation to maximize productivity.

‘Successful professionals with a disability perceive the obstacles they encounter as challenges toward realizing their potential rather than risks that might lead to failure’

Racing ahead: athletes compete in the 2022 Winter Paralympics in Beijing

Leverage all three levers to cultivate a positive diversity climate, which not only benefits PWDs but all groups across the organization – as well as benefits for talent retention, productivity, and organizational performance. Attitude and advocacy. Studies of successful professionals with a disability reveal a key differentiator: they perceive the obstacles they encounter as challenges toward realizing their potential, rather than risks that might lead to failure. Reframing in this way contributes to the development of self-efficacy, which in turn supports career development and success.

Photo: Michael Steele/Getty Images

This type of mental fortitude and resilience is particularly important for PWDs, who are often at increased risk of stress-related disorders, especially job-related stress. In research, women with disabilities often report facing an additional set of barriers as they are more likely to be juggling other roles and responsibilities. Training to support PWDs at work often focuses on practical concerns. However, employers should extend development efforts to build assertiveness, self-advocacy, and self-efficacy. Personal and social identity. Identity is a key variable that impacts on how PWDs engage with and experience the workplace. While organizations are often alert to the need to adapt roles and work environments, harnessing PWD talent requires

more than structural adaptation. Identities are developed through interaction with others, based on their reactions. These interactions provide cues that help individuals interpret and make sense of the context in which they are operating. The more engaged individuals are with the social context of work, the more their identity as an employee becomes salient. Similarly, the more important a workplace relationship is to the individual, the more influence that relationship is likely to have on the formation of disability identity, reinforcing the central role of the line manager in the engagement and retention of PWDs. When individuals feel they have space to bring their whole self to work, there is an increase in self-esteem and satisfaction with life, making it more likely that employees feel empowered and enabled to contribute their unique strengths. Provide opportunities for both people with and without disabilities to learn about the complex and dynamic nature of disability identity and recognize the unique contribution that each person makes. ■ Tania Lennon leads the Strategic Talent team for IMD. She is an expert on future-ready talent development, including innovative assessment methods to maximize the impact of talent development on individual and organizational performance. Lennon is a “pracademic”, blending a strong research orientation with evidence-based practice in talent development and assessment.

December 2023 • I by IMD 57

[ In the mind's eye ]

Add authenticity if you want to lead with authority and approachability In today’s rapidly changing, high-stakes business world, striking a balance between being approachable and authoritative is tricky. George Kohlrieser explains in seven steps how to become an authentic and effective leader

Distinguish between authenticity and niceness

The mistake many leaders make is confusing authenticity and niceness. Authentic leaders are consistent, transparent, and emotionally intelligent, creating an atmosphere of trust and credibility. Niceness, on the other hand, can be seen as a form of lying and betrays a fear of conflict. It may involve withholding negative feedback or making concessions that undermine your authority. Instead, leaders need to practice kindness, which is based on respectfully speaking the truth even when that feels uncomfortable. Being kind is an essential component of good leadership whereas being nice isn’t. It might temporarily send you to the top of the popularity charts, but it can harm your chances of leading effectively in the long run. 58 I by IMD • December 2023

Take the example of John, a team leader in an investment firm who has a reputation for being excessively nice to his team. He avoids confrontation and often makes concessions to keep everyone happy. One day, a critical project is at risk of failing since several team members have not met their deadlines. Instead of addressing the issue and holding the individuals accountable, John gives an extension and takes on additional work himself. This decision, while well-intentioned, ultimately undermines his leadership authority. The team perceives him as inconsistent and lacking assertiveness in upholding project standards. Over time, the team realizes that they need a leader who can make tough decisions, provide honest feedback, hold people to account, and ensure standards are maintained. They need someone who can be kind and tough. Build trust

Trust is the cornerstone of an authentic leader and is built by being true to yourself and to your principles. An authentic leader listens actively, shares personal experiences, is emotionally available, and admits mistakes. Such authenticity fosters psychological safety and open communication. This encourages team members to have confidence in their leader's intentions and abilities. Trust, in turn, leads to stronger relationships, loyalty, and a willingness to follow the leader's guidance. Communicate effectively

Clear and open communication is vital in high-stakes situations. Au-

Illustration: Jörn Kaspuhl

t’s one of the biggest conundrums facing leaders today: how do you balance approachability while maintaining your authority? To empower your team to produce their best work, you need to encourage them to speak up and be creative while maintaining accountability to ensure the project doesn’t overrun. In a quest to balance the two, leaders sometimes swing between a “command and control” management style (issuing orders and checking up) and being overly nice. This is not only confusing for your team, but risks coming across as dishonest. The trick in overcoming the approachable/authority paradox is holding your authority with authenticity. In this article, I outline seven leadership behaviors that will help you to lead with care and courage.

thentic leaders communicate with clarity, empathy, and honesty, creating a safe space for team members to express themselves. They also listen to feedback and input from their team – reducing misunderstandings, conflicts, and human error. Clear communication ensures that team members understand the leader’s expectations and work toward common goals. A failure to communicate effectively was on dramatic display during the abrupt US withdrawal from Afghanistan in 2021. After two decades in the country, the decision to withdraw was complex and sensitive. The lack of clear, consistent, and timely communication from various government officials instead led to confusion and chaos, followed by a rapid takeover by the Taliban. This, in turn, sowed further mistrust and a public backlash, underscoring the importance of effective communication. Act with empathy and understanding

Empathy is a fundamental component of authentic leadership. Leaders who are empathetic connect with the emotions and perspectives of their team. They show understanding and support for the challenges that their team faces, especially in high-stress situations. Acknowledging the team's concerns and needs demonstrates empathy, fostering stronger relationships and creating an environment where team members feel valued and understood. Set boundaries

There is a big difference between being an authoritarian leader and being a leader with authority. The latter will set clear boundaries around what is acceptable and unacceptable behavior, delineating their expectations and the consequences of actions. Without boundaries, leaders risk losing control and direction within the team. Leaders should define their role as decision-makers and guides while also respecting the autonomy of their team members. This balance ensures that leadership authority is preserved.

‘There is a big difference between being an authoritarian leader and being a leader with authority’ These limits also play a fundamental role in building and maintaining trust. In the absence of clear boundaries, particularly around roles and responsibilities, team members are left in a state of uncertainty, unsure of the limits and expectations in their interactions. They may find themselves questioning if they're crossing lines or going too far. Trust is nurtured when leaders take the initiative to establish boundaries. This act of defining the parameters in interactions helps to establish a sense of psychological safety and predictability – both crucial elements of trust.

Lead by example

Authentic leaders set an example by practicing the values and behaviors they expect from their team. By consistently upholding these standards, they inspire their team to follow suit. Leading by example reinforces the leader's authority, as the team recognizes that their leader lives the principles they advocate. This practice also empowers team members, demonstrating that success is achievable by trusting and respecting the leader. Empowerment and accountability

Leaders must find the balance between empowering team members to take initiative and holding them accountable for their actions and decisions. Empowerment fosters ownership, innovation, and a sense of responsibility. It encourages team members to use their creativity and initiative to contribute to the team's success. However, accountability ensures that standards are maintained. US Navy SEALs are known for their rigorous training and demanding missions where they face life-and-death decisions every day. They are highly trained and encouraged to take the initiative and make critical decisions on the battlefield. They also adapt and innovate, as their missions require flexibility and quick thinking. This empowerment makes them feel responsible for the mission’s success. However, they also have strict standards and protocols to follow: their missions are high stakes, requiring safety and excellence. SEAL leaders are accountable for their team’s actions, and this accountability applies to each team member. The SEALs empower their team members to make split-second decisions while also holding them accountable to meet standards and perform exceptionally. This balance explains their effectiveness in one of the most high-stakes environments in the world. In conclusion, leadership is neither a popularity contest nor a power trip. Especially in uncertain times, leaders need to build trust and strengthen relationships within the team by being empathetic, communicative, and accountable. They use their authority to inspire confidence and guide their team to success, rather than micromanaging every detail. By being authentic and consistent, leaders can bridge the gap between approachability and authority. ■

George A Kohlrieser is Distinguished Professor of Leadership and Organizational Behavior at IMD and Director of the High Performance Leadership Program.

December 2023 • I by IMD 59

[ Leadership skills ]

It pays to be funny … but John Cleese is arguably taking it a step too far in this Monty Python sketch

A sprinkling of well-judged humor makes for better leadership, but not everyone is a natural comedian. The good news is that, through training and practice, executives can acquire the tools of comedy to enhance how they lead, writes Emilia Bunea 60 I by IMD • December 2023

This is not an unthinkable scenario. Employers everywhere are fighting for talent, and today’s talent increasingly expects an engaging and fun manager. So, can leaders develop and deploy humor skills at work if they are not naturally funny or perhaps don’t feel comfortable joking around? There is ample research on the positive effects leading with humor can have, from making newcomers in the team feel more welcome, increasing trust in the leader, encouraging employees to speak up, and fostering employee creativity to increasing work engagement, boosting energy in the team, and making change feel more manageable. However, very few studies have looked at the development of humor as a leadership skill. Those studies that do exist – such as recent research into humor training in a military context – have tended to measure outcomes such as well-being or self-confidence, rather than the humor itself. To find out how leaders develop their own humor muscles, I interviewed about 40 managers who take part in standup or improvisational comedy as a hobby. Some jealously kept their comedian persona separate from their work one. They did not bring much comedy to work, and brought no work content into their standup routine, apparently because audiences do not relate to work jokes. This is ironic, given the large difference in time most of us spend at work relative to the time we spend on other sta-

Photo: BBC

Joking aside, lessons in laughter can seriously improve your leadership

magine you are interviewing a promising candidate for a job that you’ve been trying to fill for a long time. As a final test, you ask: “Tell me a joke.” (A growing number of employers now do this.) The candidate passes the joke test with flying colors, but then says: “Now, it’s your turn.” Would you think, “How insolent!”, and answer: “Here’s a joke: you’re hired!” Or would you give it your best shot, and promise yourself to work on your humor skills later?

ples of standup content, such as interacting with our in-laws. This “segmenter” category in my interview sample tended to be naturally funny but did not feel they had become any funnier as leaders since they’d started moonlighting as comedians. On the other hand, the “integrators” in my sample, who did bring what they’d learned from comedy to the workplace, reported having become more spontaneous and engaging at work. Some of them also had important cautionary tales to tell (See the “Risk management” section later in this article), but it was refreshing that they had taken these experiences with good humor. Here are the key takeaways from my research project on humor and leadership: It’s about more than just being funny

According to pioneering research by Paul McGhee, a rounded sense of humor is made of six skills: verbal humor, the enjoyment of humor, laughter, finding humor in everyday life, laughing at yourself, and humor under stress. As you read this, you might be thinking, “Just teach me the verbal part.” My interviewees thought the same at the beginning

‘We know now that leadership involves a set of skills and self-views that are possible to learn and develop. The same thinking is likely to evolve around developing humor’ of their journey. After all, research has shown that mastering verbal humor can bring great power; being able to “belly laugh”, not so much. But somewhere along the way they realized that, to a leader, every one of the six humor skills was very important. Enjoying (and therefore encouraging) the humor of others in your team is just as important as showcasing your own. Roaring with laughter is one of the very few things in life that are both healthy and contagious. A good-natured, optimistic outlook on life both nurtures and is nurtured by those other humor skills: finding humor in everyday life, laughing at yourself, and maintaining humor under stress. Without them, you may learn to crack hilarious jokes, but sooner or later they will cost you as a leader. It takes work

Many people believe that an individual’s capacity for humor is innate. This belief posits that you might be able to finesse it around the edges and work at such things as understanding humor styles or avoiding humor pitfalls, but you cannot turn a not-so-funny person into a hilarious one. Interestingly, substitute “leadership” for “humor” in the two previous sentences and you will have what used to be widely believed about leadership. We know now that leadership involves a set of skills and self-views that are possible to learn and develop. The same thinking is likely to evolve around developing humor. Humor training programs are proliferating, and research will eventually follow suit. I believe a

consensus will emerge that, like leadership, humor can be developed, while also recognizing that, as with leadership, some personality traits and self-views support, while others hinder, this development process. For example, if you have a sunny personality (high extroversion, low neuroticism), and a good amount of self-confidence, you have a golden ticket for the leadership development express, as well as for the humor development one. That is, you have a good base for developing precisely the “healthy” humor styles that correlate with positive outcomes when used by leaders, which are affiliative humor (humor that seeks to create a sense of camaraderie and shared experience) and self-enhancing humor (taking a light-hearted approach or coping with adversity through humor). However, as many of us who are introverts discovered in the case of leadership, you can still develop your comic abilities even if you don’t quite have that winning confidence-personality combination; you will just have to work harder at it. This sounds unfair – until you realize that it’s also great material for humor. My interviewees (particularly the “integrators” among them) worked hard at developing their humor: they read books, took classes, and above all, practiced. The practice happened anywhere from a standup comedy open mic night to low-risk situations at work (such as watercooler banter, or during informal chat time around meetings). I’ve learned from them that there is no shortcut to developing humor, but that the long trip can be great fun. Choose your tools

I asked my interviewees which humor tools they used most at work, and why. Here are their top five: 1. Insider references are both easy to think of and effective in uniting the team, increasing the sense of belonging to a special group. After all, only we, the insiders, get the joke about Daniel and the coffee machine, right? 2. Analogies are used by leaders to bring home an important message. If the analogy is also humorous, its staying power increases. “This team is at its best in hard times. We are like blooming teas; we only show what we are capable of when thrown in hot water.” 3. Irony relies on internal contradiction, and there is plenty of that in organizational life. Imagine that your team has experienced failure, and they are in the meeting room, busy blaming each other. You intervene: “OK, OK, Diana is right.” “But I didn’t say anything,” protests Diana. “Exactly,” you reply. 4. Self-deprecation is essential for staying grounded and humble as a leader. Is your team running out of creative ideas? “I’ve been through this, when your mind feels empty. Only in my case, it literally was.” 5. Hyperbole is another relatively easy tool to deploy: just take something and blow it out of all proportion. Giving feedback to an inflexible colleague: “Look, you can give the other party a bit of ground in negotiations like this. You are not Gandalf fighting the Balrog.” » December 2023 • I by IMD 61

[ Leadership skills ]

Risk management

The majority of research on leadership humor deals with the many, hairy risks it entails. My interviewees also shared stories of not being taken seriously, offending others without intent, or releasing a disruptive genie of mischief among team members. But after digging deeper, we realized that most such problems arose when the joking around was just for the sake of it, rather than with a leadership goal in mind. Students roll their eyes at a teacher who cracks jokes unrelated to the subject matter but love one who organically inserts humor into a lesson, making the topic easier to relate to and more memorable. Similarly, employees will not respect a leader who breaks the flow of a meeting to tell jokes that have no apparent point. Staying “on topic” at work is not easy, though. Once you have started mastering this shiny new skill of comedy, it is difficult to hold back a great joke. A 2016 neuroscience study found that, as they move from amateur to professional level, comedians change the brain area that generates the jokes, from a sequential, logic-based one to a spontaneous, no-logic one. So, the best jokes come from a brain area unencumbered by logic. This only accentuates the need for leaders to wear two “hats”: that of a creator, and that of a curator. The creator may spark fireworks of humor in your mind, but the curator should constantly select only those jokes that serve a leadership purpose. Or, as one of my interviewees put it: “Leadership has to lead, and humor has to … humor it.”

Should I worry about my humor style?

Research on leadership humor warns against adopting what are referred to as “maladaptive humor styles”: aggressive and self-defeating humor. Aggressive humor means laughing at, rather than with, someone else. Self-defeating humor means putting yourself down too much for the sake of getting a laugh. Both styles are not good for leadership, as numerous research studies have found. However, leaders trying to actively reduce their use of aggressive or self-defeating humor may only be treating the symptom, not the root cause. As research has revealed, if a leader has a preference for aggressive humor, it may signal darker personality traits (from low agreeableness all the way to subclinical psychopathy and Machiavellianism), often accompanied by lower self-control and lower empathy. Self-defeating humor can come from a place of low self-confidence and uncertain emotional stability. These root causes are clearly seriously problematic for effective leadership and should be addressed first, before trying to “correct” your choice of jokes. There is one situation that may still require you to reassess and fine-tune your humor style: when you change team or company. There are groups in which putdown humor is a team sport, a way of signaling (both for the initiator and for the target of the joke) that they’ve earned their membership in the group. In such cultures, the content of the joke may seem aggressive, but its message is actually positive, representing a strong sense of belonging and openness in the team (which actually makes it affiliative humor). But if you take those same jokes to a new, different culture, they could only signal unnecessary aggression. I spoke to some managers who deplored their new colleagues’ “poor sense of humor” in these kinds of new work situations. A closer look reveals that these managers were merely trying to use the same sharp-tongued humor that had previously served them so well, and perhaps it might have been wiser to proceed with more caution. Developing your humor skills takes serious work. The good news is that this work dovetails with your leadership development efforts. Work on your whole sense of humor (including being able to laugh often and heartily, finding humor in everyday life, and humor under stress) and it will not only make you funnier, but also build a strong, healthy psychological foundation for positive leadership. One of the managers I interviewed put it this way: “I think working on my humor kept me a decent guy.” We need more of those kinds of people at the helm of teams and organizations. ■

The psychology of comedy: Emilia Bunea hones her humor with a standup routine

62 I by IMD • December 2023

Emilia Bunea, CFA is CEO and co-founder of Ed.movie, a California-based “edutainment” company with a mission to make education irresistible. She was formerly a C-suite executive with several multinational companies in the financial sector, most recently as CEO of Metlife Romania. Bunea holds a PhD in Management from Vrije Universiteit Amsterdam and is a CFA charter holder. She currently researches the role of serious leisure and humor in leadership and teaches a “humor for leaders” course. She also dabbles in improvisational theater and standup comedy.

[ I reader ]

From decoding hieroglyphs to befriending an octopus … and so much other stuff IMD professors recommend books for the festive season Visions of Inequality

Branko Milanovic Imagine an IMD event in which a high-level panel is invited to debate on inequality. By a miraculous combination of holograms and AI, six key figures will sit next to one another on stage in front of a live audience: François Quesnay, Adam Smith, David Ricardo, Karl Marx, Vilfredo Pareto, and Simon Kuznets. As a well-informed, sometimes humorous, and always lively moderator, Milanovic allows the panelists to make their points and share their views on what remains one of the main challenges in the global economy. A stimulating read for all of us trying to squeeze interesting narratives out of data and for anyone interested in global issues. Bruno Lanvin, President, Smart City Observatory

So Much Stuff: How humans discovered tools, invented meaning, and made more of everything

Chip Colwell A fascinating exploration of the journey that led humanity from “having nothing to needing everything”. Colwell presents a compelling argument, urging us to reconsider our connection with material possessions and address our tendency to accumulate unnecessary items. The thought-provoking book serves as an appeal for us to reflect on our consumption habits and the true necessity of the things we collect. Ginka Toegel, Professor of Organizational Behavior and Leadership

The Writing of the Gods: The race to decode the Rosetta Stone

Edward Dolnick A fascinating account of the race to decode the Egyptian hieroglyphs through cracking the Rosetta Stone. Written like a crime thriller, I couldn’t put it down. A great combination of history, linguistics, archaeology, and geopolitics. Amit Joshi, Professor of AI, Analytics and Marketing Strategy

The Cooperative Economy: A solution to societal grand challenges

Dovev Lavie As a professor who focuses a great deal on sustainability transformation, what resonated with me in Lavie’s book was not only the sharp review of the four main societal and planetary challenges that threaten our way of life and even our very survival but also how he proposes to tackle them. Neither communism nor capitalism, the cooperative economy is a new model that creates common prosperity in balance with the natural environment and planetary boundaries. This pragmatic book is a must-read for decision-makers who have a genuine concern for our current predicament and a sincere interest in creating positive change. Stéphane J G Girod, Professor of Strategy and Organizational Innovation

Going Infinite: The rise and fall of a new tycoon

Michael Lewis Lewis has a knack for putting the spotlight on the handful of people whose actions have major consequences for business and society: Liar’s Poker revealed what drives Wall Street, The Big Short explained the subprime mortgage crisis, The Undoing Project made the behavioral revolution accessible, and Moneyball showed its impact on sport. In Going Infinite, Lewis traces the rapid rise and calamitous collapse of Sam Bankman-Fried and his crypto empire. Readers learn about effective altruism, how video games, math, and trading mix, and just how much access you get when people think you’re worth $30bn – no matter how morally or emotionally broken you are. David Bach, Professor of Strategy and Political Economy and Dean of Innovation and Programs

Remarkably Bright Creatures

Shelby Van Pelt A heart-warming novel about the human experience and connection – it is about grief, loss, friendship, and redemption. The story is told from two perspectives: one human, the other an octopus! If they could talk, what do you think an octopus, as smart and as crafty as it is, would say about us? This is not a fantasy novel, mind you – it’s as real as it gets. I promise you’ll grow to love the witty and proudly tentacled Marcellus and maybe even shed a couple of tears, like me, before the end of the story. Öykü Işık, Professor of Digital Strategy and Cybersecurity

December 2023 • I by IMD 63

[ Technology ]

Accuracy, bias and copyright are ABC of AI pitfalls, but benefits outweigh the risks

n the past year, generative artificial intelligence (GenAI) has emerged as a transformative force in business, weaving through industries and reshaping the fabric of innovation. The impact of AI on drug discovery is just one example of its potential to reshape business practices. Pioneering biotech companies such as Insilico Medicine, based in both Hong Kong and New York, are employing AI to revolutionize the identification and development of new drugs. Through the generation of predictive analyses, these platforms streamline the identification of compounds with the highest probability of success, potentially ushering in a new era for drug development pipelines – traditionally long and costly processes. Beyond healthcare, AI permeates the global economy, leaving no sector untouched. In finance, for example, AI is already making significant strides, with banks integrating the technology for fraud detection, personalized customer service through intelligent chatbots, and informed lending decisions through credit scoring models. The application of AI extends to cybersecurity, personalized marketing through customer data analysis, and the fine-tuning of loan and investment portfolios, marking a paradigm shift in traditional financial practices. It is not merely an option for organizations (if it ever was); it is an imperative for those seeking to harness the substantial business benefits from efficiency gains and skill augmentation to enhanced knowledge management. AI is not merely automating routine tasks, it is liberating professionals from mundane, repetitive work, unlocking the full spectrum of their creativity and problem-solving skills. According to Goldman Sachs, the advent of GenAI has the potential to automate 25% of tasks in the US and eurozone, triggering a surge in productivity that could contribute to a 7% increase in annual GDP over 10 years. However, this technological shift may also disrupt 64 I by IMD • December 2023

the job market significantly, putting around 300 million full-time workers in major economies at risk of automation, according to the investment bank. And yet, AI can empower employees too, with capabilities such as multilingual translation and the generation of complex analytics, code, and writing. It may not be Shakespearean, but it closely resembles human output. This shift is not only about efficiency gains but also equipping individuals with the skills needed to navigate the profound changes that AI brings to the workplace. Companies that fail to adeptly incorporate AI risk falling behind, underscoring the need for organizations to build the necessary expertise to stay competitive. Already examples exist of organizations that are starting to feel the negative impact of GenAI. For instance, companies in the education sector such as Chegg, a California-based edtech business, have acknowledged being hit. Earlier this year, Chegg admitted that the increased popularity of ChatGPT among students was negatively impacting sales. This admission resulted in an immediate 50% decline in the company’s shares and its stock market performance has continued to languish. Tackling accuracy, bias, security, and copyright concerns

However, the widespread and necessary embrace of AI does not unfold without its own set of problems (beyond any impact on the job market and vulnerable business models). Organizations must navigate these risks with care to ensure the responsible and secure adoption of AI. AI systems can exhibit “hallucinations” and produce misleading outcomes and biases as well as posing potential copyright concerns. For example, deployed to research a brief for a court hearing in the US, AI invented previous cases. This kind of glitch can pose considerable risks, especially in critical domains such as healthcare and finance, where precision is paramount. The trick lies in refining AI models to minimize inaccuracies and enhance reliability. To do this, organizations should continuously monitor and retrain models with new data, prioritize “explainability”, and collect user feedback to make improvements, considering the ethical implications. Bias in AI systems is another pervasive concern, reflecting the biases present in the data used for training. From gender and racial biases to socio-economic prejudices, AI systems may inadvertently perpetu-

Photo: insilico.com

From drug development to finance, the potential of AI for business is enormous, but effective safeguards are needed, write Sarah Toms and Amit Joshi

ate and even exacerbate societal inequalities. AI image tools have, for instance, depicted Africans as primitive, leaders as men, and prisoners as black. Addressing bias requires a concerted effort to develop fairness-aware algorithms and implement transparency in training data. Organizations should begin by identifying potential biases in both the data and model outcomes, with a focus on attributes like race and gender, use diverse and representative training data, and employ metrics to quantitatively evaluate model impact on different groups. It’s also key to fostering a culture of awareness and commitment to fairness within the development team. Additionally, organizations are exploring innovative solutions to some of these teething problems, such as Retrieval Augmentation Generation (RAG). This approach limits AI responses to a predefined set of data, providing a degree of control and reference. While some companies like Microsoft have pledged legal protection for users of its AI productivity tools, to cover potential copyright losses, this solution may prove problematic. It does not tackle reputational damage, for instance, which can be substantial. Striking a balance between innovation and risk mitigation is, therefore, essential. The issues don’t stop there. Copyright concerns can emerge as AI systems generate content that may unknowingly infringe on intellectual property rights. Organizations must grapple with the question of whether AI-generated content can be used in customer-facing tasks without violating

copyright laws, raising questions about the role of the regulatory environment and future business models. Data security and privacy issues must also be addressed. Encryption, access controls, and regular audits will help reduce the risk of data breaches, while the lack of explainability – with AI operating as a “black box” – can be tackled through interpretable models, clear communication about limitations, and the importance of informed user consent through transparent policies. Adapt and adopt, or perish

Despite these considerable challenges, we believe the benefits of AI far outweigh the risks, and organizations that fail to adopt AI risk obsolescence. The inevitability of AI adoption necessitates the need to take a strategic approach, emphasizing the importance of defining problem statements, establishing feedback loops, auditing data and outcomes, and recognizing AI as a transformative force that requires a shift in business models and organizational thinking.    First and foremost, organizations must clearly define the problem statement: Why are we implementing AI, specifically? This statement will align initiatives with company goals, ensuring efficient resource allocation. Stakeholder engagement is vital in this process, so be sure to gather diverse perspectives. In addition, measurable success criteria – set as quantifiable KPIs – will enable objective impact assessment, while early risk identification and ethical considerations, like bias and privacy, »

Insilico Medicine is one of a new breed of biotech firms using generative AI to revolutionize the identification and development of new drugs

December 2023 • I by IMD 65

[ Technology ]

Lastly, organizations must recognize that AI is not just a technology but a transformative force that can shift an organization’s strategy. The benefits are vast but they come with significant challenges that require careful consideration and strategic integration. Ultimately, AI’s transformative potential is reshaping the way we approach problems and envision solutions. Organizations that embrace this transformative force with strategic foresight will not merely survive but thrive. AI and its implications for business will feature as the spotlight theme in the March 2024 edition of I by IMD magazine. ■

Sarah Toms is Chief Learning Innovation Officer at IMD where she leads the Learning Innovation and AI strategy. Previously, she co-founded Wharton Interactive, an initiative at the Wharton School that has scaled globally. Toms is coauthor of The Customer Centricity Playbook, the Digital Book Awards 2019 Best Business Book Amit Joshi is Professor of AI, Analytics and Marketing Strategy at IMD. He specializes in helping organizations use artificial intelligence and develop their big data, analytics, and AI capabilities. An award-winning professor and researcher, he has extensive experience of AI and analytics-driven transformations in industries such as banking, fintech, retail, automotive, telecoms, and pharma.

66 I by IMD • December 2023

Understanding what motivates you can help you build up daily habits to sustain yourself when faced with changing contexts and rising uncertainty, explains Francesca Giulia Mereu CHALLENGES PERSONAL

SELF-AWARENESS PROFESSIONAL

INDIVIDUAL

COACHING CORNER NEEDS

PEOPLE

SKILLS

But organizations should go further still. Regular auditing of data and outcomes is paramount to managing bias and ethical concerns. This practice ensures fairness and accountability in decision-making processes, by systematically reviewing and rectifying biases in training data. It also enhances transparency and explainability in AI systems, fostering trust among users and stakeholders. Establishing clear policies and procedures for handling sensitive information, meanwhile, ensures compliance with regulations. Continuous improvement is also critical here, so ensure that regular reviews are integrated into the AI’s development life cycle, creating a mechanism for stakeholders to report concerns while adapting ethical guidelines based on audit findings and emerging standards.

LIFE

The establishment of feedback loops is crucial, allowing AI and the organization to learn from successes and failures along the way. Practical steps include updating the AI model to keep it relevant and prioritizing user feedback for ongoing enhancements to usability and performance.

Feeling flat? It’s time to recharge your five ‘batteries’

LEADERSHIP PROCESS

can be addressed through assessments and expert involvement. Regularly refining the problem statement, too, ensures adaptability to emerging and evolving AI insights.

FOCUS

WORK TEAM

APPROACH

ow can I consistently be at my best and give my best when the definition of our “new normal” seems to be constantly changing? As an executive coach, this is a question I keep hearing from my clients. We are used to demanding a lot of ourselves. That’s normal when the way you got to where you are took ambition, discipline, and dedication, and it’s critical when your role involves being responsible for others. Yet the COVID-19 pandemic challenged so many of the practices that got us to where we are, from Zoom fatigue to being “always on” and more. We all feel drained more often than we’d care to admit. Over the course of our professional lives, we’ve learned how to manage the day-to-day of our jobs and to look after ourselves – if perhaps not always as much as we wished we did. But then the pandemic came along,

[ Well-being ]

disrupting the rhythms we learned to work within and, at the same time, offering an opportunity to stop and reflect. From going fully remote to hybrid to trying to “return to normal”, we all did what we could to make the best of a situation that was beyond our control. In some areas, we might have gained a new level of agency; in others, we found ourselves struggling to find a balance that allowed us to flourish. Maybe you feel that despite the stream of self-help tools, resilience tips, and stress-reduction techniques available, you are still searching for how to integrate these strategies into an effective and flexible routine. When you look at how to strengthen your resilience and well-being, I’ve found that what helps the most is being able to clearly focus on: • Identifying what you need to be at your best. • Establishing what being “at your best” looks like. • Building strong daily habits that motivate and sustain you. During my 24 years as an executive coach, I’ve helped driven, passionate professionals to achieve and sustain their goals by improving how they manage their energy. The key lies in charging your five “batteries”. Your energy is like the battery in your phone: you want to keep it charged to be able to use it when you need it. In the “Professional Energy Management” framework, we break it down into five areas that drive and sustain you in tangible and practical ways: Physical: health, stamina, and vitality. Mental: clarity, focus, and intellectual agility. Emotional: resilience, creativity, and emotional self-regulation. Spiritual: values, motivation, and sense of purpose. Social: relationships, surroundings, and professional environment. Each battery is recharged or drained by 10 indicators such as your habits, perceptions, lifestyle, and so on. It’s important to remember that each dimension is always influencing the others, which means that changing one has the power to both benefit us by reinforcing another and that bigger issues in one area often boil over and affect others. When you start to break down energy into the five batteries, you begin to have a clearer, more granular sense of what’s affecting you and what you could tweak. If you are struggling in certain areas, you can begin to ask: “How have my habits, perceptions or context changed? How are they currently helping or hindering me? What can I change? What do I need to accept for now?” Consider these anecdotes to help you reflect further: Physical: The “convenience” of working from home left Jakob feeling more sluggish. He never realized how much he relied on the rhythm of his daily commute to get him moving. Mental: With the day beginning and ending with her laptop’s blaring screen, Simona feels drained by the monotone trawl of attending meetings and sending emails without a moment to really disconnect.

Emotional: Gustavo loves his work and his family, but being at home all the time has made it harder for him to appreciate either, making him feel unhappy about the situation and with himself. Spiritual: Yasuhiro’s truest sense of fulfillment came with seeing how his team’s projects affected communities. With everything remote, his sense of purpose has waned as his contributions have felt more abstract than ever. Social: When rigid, regimented Zoom meetings became the norm, Tamara lost the relaxed moments between in-person meetings that allowed her to speak with members of her team in an organic way, leaving her feeling disconnected. When we feel stuck with our energy, we often start trying to figure out how we can get “more” or “better”. Yet, the question I invite you to ask is: “How can you optimize how you use your energy each day?” It takes building new habits, and it starts with understanding where you are right now.

‘Your energy is like the battery in your phone: you want to keep it charged to be able to use it when you need it’ Whatever your situation, understanding how you are managing your energy is the first step to kick-starting new habits to help you consistently be at your best. Through “Personal Energy Management”, we do this through mini habits: small, beneficial practices that can be inserted between existing habits – like brushing your teeth, making coffee, or opening your computer – to start the change that you want for yourself. To do that, I created an “Energy Check” to help you establish where you stand and where you can go from here by showing how you take care of your energy through 50 key indicators. Scan the QR code to take the Energy Check. After taking this anonymous, brief assessment, you will be able to download a self-debriefing report featuring questions, further information, and effective steps to get you on your way to creating new mini habits aligned with where you want to feel change the most. ■

Francesca Giulia Mereu is an executive coach with more than 20 years’ experience. Author of the book Recharge Your Batteries, she regularly works with the Centre of Competence on Humanitarian Negotiation and at IMD with leaders of global organizations. December 2023 • I by IMD 67

[ CEO Dialogue ]

The TIME machine: media group’s first female CEO plots course for the future Jessica Sibley, CEO of TIME, explains to Jean-François Manzoni how she is transforming the 100-year-old media brand into a company that can remain relevant in the digital age

hen Salesforce CEO Marc Benioff first tapped Jessica Sibley for the CEO position at TIME, he asked her how she would transform the venerable news group. Like a true media veteran, she responded with a headline. “I looked at my blank computer screen and the first thing I wrote down was TIME 3.0,” she recalled. “And I think that by the time I actually walked in the door, I was on seven pages in version seven with seven leading priorities and goals.” Almost a year into her role, Sibley, who jokingly describes herself as an impatient New Yorker, has taken action on all seven priorities with the overarching goal of making TIME, which is celebrating its centennial year, relevant for new audiences in the digital age.

Though not a journalist, Sibley has been at the heart of major news outlets for her entire career. From her previous role overseeing revenue initiatives as COO at Forbes to her stints at the Wall Street Journal, Bloomberg, and Condé Nast, her focus has always been on driving revenue growth. At TIME, she is following a similar playbook. While its journalism will always remain the core product, Sibley is branching out into new businesses including digital commerce and the branded content division Red Border. She has expanded live events and extended its TIME 100 franchise to spotlight next-generation leaders in artificial intelligence, healthcare, and entertainment. TIME also launched its first-ever Climate 100 list to coincide with the COP 28 Climate Conference in Dubai. Another major revenue generator is TIME Studios, the group’s in-house TV and film company, which produces scripted and unscripted shows that are sold to streaming services. Major successes have included documentaries on the soul singer Aretha Franklin and rapper Megan Thee Stallion. With revenues hitting $100 million in three years, it has become TIME’s fastest-growing business. While many traditional media brands have struggled to branch out into TV and film, Sibley credits the success of TIME Studios to its strategy of hiring experts and operating it like a separate business. “It reminds me of what Forbes did in the very early days of forbes.com,” she said. “I was at Forbes magazine and Forbes.com was in a different building, run by different leaders. They hired digital journalists, marketers and built this incredible business that still exists. They kept a really strong print business and then were able to integrate it in such a financially successful way when it was time to make that decision.” Scrapping the paywall

With many media groups grappling to find a sustainable revenue model, one of Sibley’s first moves as CEO was a surprising one: to scrap the paywall on Time.com and make its digital archive freely accessible. She was driven by a desire to boost digital inclusivity and ensure free access to quality information. It was also a smart business move. TIME currently has its largest-ever audience: 120 million people, 45% of whom are under the age of 35, which makes it more attractive to marketers. 68 I by IMD • December 2023

that has a Chief Climate Officer nor a sustainability action platform like TIMECO2,” she said. In the room where it happens

TIME is Sibley’s first CEO role. As the public face of the company, she spends a lot of time traveling the world to talk to customers and build the brand. One of her biggest challenges, she says, is making sure that TIME journalists are safe, and that the newsroom is productive and happy. “That’s our product. That’s really important to me. And we’re going through a lot of change and that means uncertainty. We have to take what is incredible about TIME and make it contemporary, relevant, and lead to new models and platforms.” Throughout her career, Sibley has often been the only woman in the room. Unfazed by this, she is just as committed to diversifying TIME’s workforce as she is to building new revenue streams. Since her tenure began, female leadership at TIME has risen above 50% with several women joining the executive team. “I am so lucky in my career that I’ve been surrounded by incredible men who have mentored me, taken a chance on me, and who’ve been great collaborators and partners. So, I never felt uncomfortable in any of these rooms,” she said, highlighting how TIME’s owners Marc and Lynne Benioff gave her a huge opportunity as a first-time CEO.

‘We have to take what is incredible about TIME and make it contemporary, relevant, and lead to new models and platforms’

“I am going to continue to focus on diversity. I call it my forever and ongoing project,” she said. Sibley has asked her team to look at where the ongoing gaps are at TIME, not just in the C-suite but across the workforce. “I’ve worked at companies that had [women on the board or in the C-suite] but where the rest of the employee base wasn’t diverse. So I think you’ve got to look at everything and identify where the improvement needs to happen.” ■ Click here to watch the video: https://youtu.be/L3OHk1BCW7o

Photo: Courtesy of TIME

“We’re working with the most important global blue-chip brands that are best in class and have really large budgets,” she said. “And they want to align with a brand like TIME because we are so trusted.” One of the less visible new businesses is the website-building platform TIME Sites, which was renamed after the company acquired Brandcast. Sibley describes it as the “new PDF” with real-time data and interactive highly visual storytelling. TIME uses the product to showcase what it’s doing internally, but also sells it to other business clients. These new high-margin businesses are needed to protect TIME’s newsroom, which while expensive to run is the foundation on which all other revenue streams are built. Lastly, Sibley has launched a sustainability and climate action platform TIMECO2 and has hired the group’s own chief climate officer. “I always like to go first, so I don’t believe that there’s any other media company

Watch the full CEO Dialogue to hear more from Jessica Sibley on the changing media landscape, how to rejuvenate a legacy brand, and what she expects from her top team.

Jean-François Manzoni is President of IMD, where he also serves as Nestlé Chaired Professor of Leadership and Organizational Development. His research, teaching, and consulting activities are focused on leadership, the development of high-performance organizations, and corporate governance.

December 2023 • I by IMD 69

[ Sustainability ]

A certified success: how a telecoms giant brought hope to children in Pakistan The Norwegian telecoms group Telenor launched an ambitious project with UNICEF in 2016 to increase digital birth registrations in Pakistan. It is a powerful example of how firms can experiment with sustainable business models to empower societies, argues Vice-President of Sustainability Zainab Hussain Siddiqui

ave you ever thought twice about your birth certificate? For most of us, it is a privilege we often overlook. Yet today, there are roughly 1.1 billion people around the world who are considered “invisible”. Without a birth certificate, they lack an official identity and they cannot access basic services: going to school, visiting a doctor, or getting a passport. At Telenor, we realized that we could help to change this situation. From smartphones to mobile connectivity, we knew we had the tools at our disposal to reimagine the registration process and to enable millions of disenfranchised people to gain access to a birth certificate. But we also understood that, as a privatized telecommunications company, we could not move the needle alone. Like many of today’s complex challenges, success would depend on strong partnerships with international organizations and, crucially, governments.

So, in 2014, Telenor Pakistan launched the Digital Birth Registration (DBR) initiative as a pilot project. The credit for the idea of this project goes to UNICEF. The fund had been working on the topic of children’s birth registrations across all their markets for many years. At one point, they convened a roundtable discussion between telecom operators, policymakers, and researchers. The aim was to see whether technology could tackle low birth registration rates and who would be willing to take on the task (we raised our hand, of course). 70 I by IMD • December 2023

Communicating change: Telenor Pakistan harnessed the power of its mobile technology to help register the births of 2.5 million children

Photo: Telenor

If we got it right, however, we could take one step closer to the UN Sustainable Development Goal (SDG) of achieving identity for all by 2030 – an ambition that is aligned with our commitment to responsible business conduct and our purpose to empower societies. From a corporate perspective, we knew we could also scale the model across markets – the kind of win-win for business and society that must underpin sustainable business transformation.

I believe our experiences in developing and rolling out this innovative project, building effective relationships with diverse stakeholders, and reimagining our business model through the lens of corporate purpose offer valuable insights and learnings for business leaders seeking to navigate the deep complexities of transformation.

We knew we could tackle this through our digital services. But we also had to ask ourselves: Why do we want to do this? From the outset, there had to be a clear business model behind the initiative. This was essential to secure buy-in within the company and to maintain and scale the project through shared value creation.

Turning purpose into reality

Moreover, the traditional telecom business has become a saturated business and mobile phones are ubiquitous. In many countries, price is the differentiating factor. How do we find new avenues of commercial deployment and address social aspects whilst also generating money? Through our analysis, we identified several business opportunities for the DBR project.

Today, Telenor is a household name within the Nordics and Asia, with 14,000 employees under its umbrella. We are no longer a state-owned monopoly installing telegraph lines but a listed firm operating in eight markets with annual sales of around NOK 99bn ($9.1bn). Over 160 years, we have transitioned from providing phone booths and switchboards to delivering connectivity to 158 million subscribers. This growth has brought us to a critical juncture: Who are we as a company? What is our purpose? When Telenor started in 1855 as the Norwegian Telegraph Administration, the mandate was to promote the country’s prosperity and help its industries. While this still rings true, we have refined our purpose over the years. This has culminated in a common goal: "Empowering societies. Connecting you to what matters most." In my role as Vice-President of Sustainability, it is my responsibility to take this purpose and, among other things, find ways to reduce societal inequalities. We know it’s crucial for corporate purpose to align with sustainability goals that fit naturally with the core activities of the business, and for these efforts to stretch far beyond the classic CSR or semi-philanthropic activities of the past. We see our greatest potential in supporting the UN SDGs through expanded internet connectivity. Over the years, we have rolled out digital service initiatives – ranging from mobile health and agriculture to finance – to address this. But one that hits home for me, and continues to leave a lasting impact on the business, is our DBR project in Pakistan. Documenting the undocumented

When we embarked on the DBR project, it was a full-circle moment for me. I was born in Pakistan and spent many years of my career in the capital, Islamabad. I had worked in telecommunications and various government roles before moving to Telenor Pakistan to lead sustainability. My upbringing gave me a first-hand understanding of the complexities of obtaining a birth certificate in Pakistan – a process that is often tangled up in inefficiency. Pakistan has a birth registration rate of only 33.6%. It can take a year or longer to get your hands on a birth certificate. On top of that, exploitation is rampant at every level. You may end up paying much more than expected, especially if you’re illiterate. Now picture this: one out of every four children under five years old remains unregistered. There are around 237 million children globally who don’t possess a birth certificate. The SDGs include a commitment to leave no one behind and to ensure everyone has a legal identity by 2030. A birth certificate is a basic human right. It allows us to carry out daily tasks with ease and combats issues such as child labor and early marriage.

One drawcard was new potential revenue streams. One important ambition of the digital birth registration project was always to strengthen our brand. We estimated we could reach 1.4 million parents of the 700,000 children in Sindh and Punjab who are registered annually on a steadystate basis. This would bring in an additional $2.3 million in annual revenue.

‘From the outset, there had to be a clear business model behind the initiative. This was essential to secure buy-in within the company and to maintain and scale the project through shared value creation’

Asia is also a large market for value creation. Telenor has been a pioneer in the region for the past 25 years, providing mobile services in large markets such as India, Pakistan, Bangladesh, Malaysia, Myanmar, and Thailand. We know from our own studies that people across Asia believe connectivity gives them more economic opportunity, greater access to essential services, and added convenience. We already had more than 200 million customers in Asia. But there was an even bigger group of potential customers who lacked formal identification. Increasing the number of birth registration certificates would also increase the number of national identity cards – a prerequisite for getting a SIM card. Finally, we saw the potential for this project to grow and scale. Governments are generally reluctant to hand over their services to private companies. If we could convince local governments of the project’s feasibility, it could open doors to other e-government services: for example, digital marriage, death, and divorce certificates. During this time, I was still acting as head of sustainability at Telenor Pakistan. When we pitched this project to the top management at Telenor Group, it received a strong and positive reception. They understood that there was a strong business case. Yet we weren’t offered money right away. It was only after an executive at the global level saw the potential » December 2023 • I by IMD 71

[ Sustainability ]

Telenor generated a lot of goodwill and can profit further down the line

Analysis by James Henderson

ompanies navigating a purpose-guided sustainable business transformation are often faced with a critical question: How can we successfully mix purpose, sustainability, and profits? The Digital Birth Registration (DBR) initiative from Telenor offers us a window into how companies attempt to find this balance. As a for-profit entity, Telenor is conscious about improving its bottom line. It is not in its interest to take on a project, product, or service without the confidence that it will create a return on its investment. At the same time, the company has put sustainability at the core of its strategy: empowering societies and connecting to what matters most. Telenor’s purpose is fundamentally about Goal 10 of the UN’s Sustainable Development Goals on reducing inequalities. Initiatives in mobile finance, health, and agriculture in Pakistan and Bangladesh are good examples of how and where it has meshed purpose, sustainability, and profits. Yet, when Telenor Pakistan led the DBR initiative it also considered how the project could be turned into a successful business venture. The company invested about $2 million in mobile phones for the facilitators, device repairs, SIM cards, subsidized data connec-

tivity, capability, and partner development with limited financial success but significant social impact. Telenor Pakistan also tried to convince the Pakistani provincial governments to outsource the service (and potential future services such as digital marriage certificates, and driver’s licenses) for a per registration fee, but to no avail. So, do we call this venture a failure, consistent with its purpose and sustainability strategy but with a questionable return on investment? Perhaps, in the traditional world of maximizing shareholder value and profits. However, in the world of maximizing shared value, it ticked many boxes for success. The reputational effects the company received due to this initiative have been astounding. It put Telenor at the center of an important social issue in Pakistan – one of its key markets. It was targeting a country with one of the lowest birth registration rates in the world. As a result, the project affected how the public viewed Telenor as potential customers. In a market as saturated as the telecommunications industry, companies need to offer something beyond low prices. Secondly, the public-private partnership earned the company a seat at the table for

to increase government relations and brand value that the wheels started turning. In his view, the initiative was bound to create a lot of goodwill with government stakeholders and international entities – and that would make it worthwhile for us as a business, regardless of whether it was a commercial success. The rollout

It’s important to acknowledge that when you're trying to experiment and do something new, it is difficult to get supporters rallying behind you. I reached out to international donor agencies for support at the beginning – many were excited, but few were willing to put money behind the initiative. This is why Telenor Group ultimately decided to back the 72 I by IMD • December 2023

future government negotiations. If you’re working so closely to deliver on an objective that the international community is holding the government accountable for then you automatically become an ally of that government. So, if Telenor Pakistan was looking to shift or shape the regulatory environment to its benefit further down the road, it would very likely have an easier time doing so as a result of this initiative. Finally, results from Telenor’s employee engagement survey reflected its strong purpose and sustainability-led strategy. The company is considered a front-runner, consistently ranking beyond its competitors. Furthermore, research has shown that firms with middle managers (and below) who are highly engaged when it comes to the company’s purpose and strategy significantly outperform others. So what can business leaders take away from this case study? Well, Telenor did a good job at looking beyond the narrow focus of maximizing financial returns – it thought more widely about maximizing reputation, attracting customers, and engaging employees to improve stakeholder and shareholder value in the long run. ■

project and fund the rollout. Telenor Pakistan and UNICEF started the pilot for DBR in 2014. We spent months on the ground assessing the realities and challenges of the birth registration process (I was also in Pakistan many times during this time). We spoke to senior people in government as well as daily wage workers, who described the costs of having to travel to their nearest birth registration center. A challenge we encountered very quickly was the skepticism from the government concerning technology integration with a private-sector organization. They were reluctant for us to access their national database with serial and registration numbers. It was a long process to garner this initial trust, but we eventually man-

aged to increase birth registrations from 30% to 90% within six months of the pilot. Half of the registered children were girls. From the pilot, we drafted a scale-up plan and the DBR project was officially launched alongside UNICEF in 2016. We chose to focus on two provinces in Pakistan: Sindh and Punjab. The process would be simple. Designated government and Telenor workers would be equipped with a smartphone and mobile app with the digital application form. This would be submitted to the nearest Union Council (the smallest administrative body in Pakistan’s local government) where it would be reviewed. Under this new approach, registration would be free for parents and take no longer than 10 minutes. To encourage registrations, we adopted an incentivization model for our facilitators who received a bonus if they met their monthly targets. We also came up with a cost-sharing model between Telenor and the state. For every registration, Telenor would receive $3 from the government in exchange for shouldering the costs of human resources, field monitoring, and communications. If we could scale this project and address the 6.2 million unregistered births in Sindh and Punjab, we would in theory earn about $19m in revenues. Beyond the profits

In 2021, Telenor Pakistan and UNICEF handed over the DBR project back to their respective governments in Punjab and Sindh. Ultimately, Telenor was unable to convince the authorities to completely deregulate services such as birth registration. There wasn’t enough momentum within the government for this kind of initiative, and many of the allies with whom we had developed strong relationships at the beginning had changed postings or moved away. Nonetheless, we were proud to have laid the foundation and given them the template to continue the project. Altogether, Telenor Pakistan registered 2.5 million children between 2014 and 2021.

Photo: Telenor

This endeavor has taught us a lot about how we can approach similar initiatives more effectively. My advice is to bring more diverse stakeholders to the negotiating table. In this case, we would have benefited from the support of an organization – such as the World Bank – to help sway governments to deregulate their services. I would also discuss the commercial value for all stakeholders earlier in the project. We waited until we had shown the social value until we broached the financial considerations, when the project was already underway. Most importantly though, this has taught us that social good can take precedence – and have significant benefits – over profits, even in a profit-driven company. In particular, this was the first concrete initiative that changed our perspective on sustainability projects and programs for Telenor. Normally, a project begins with commercial considerations, but we were able to flip this around by starting with the social need and then demonstrating the commercial benefits. When you show the flip side, you can demonstrate even more that sustainability can become an integrated part of the company's operations. Too often, sustainability teams are associated with charity work. This project was eye-opening for us because we realized sustainability could come from both angles: the commercial side and the sustainability team.

Better connected: Telenor knew increasing the number of birth registrations would give them access to potential new markets

The DBR project also increased our appetite to experiment with different ways of approaching sustainability projects and programs locally. In some of our markets, this would typically involve an inauguration and a minister cutting the ribbon. This initiative showed how we could create value on a larger and more meaningful scale and even sparked the interest of our teams in Asia to see how it could be replicated beyond borders. We later scaled the project to Myanmar (although this was halted due to the military coup). During the implementation of the project, the then Chief Technology Officer of Telenor Pakistan shared a moment of pride for him and his team who developed the technology of DBR. He had returned from a technical conference abroad where a member of the audience had commended him for the company’s work with birth registration in Pakistan. Ultimately, this was a team effort and the project brought to the forefront the incredible work of our local teams. Although we have passed on the reins, we know that the impacts will continue to be felt in the years to come – both for Telenor and the communities in Pakistan. Four-year-old Jeet, who is the first in his family to receive a birth certificate, will be able to go to school and find a job later in life. It all comes back to our purpose: bringing people one step closer to what matters most to them. ■ Zainab Hussain Siddiqui is Vice-President of Sustainability at Telenor. She joined Telenor Pakistan in 2012 as Head of Sustainability. Before this, she worked in Pakistan’s telecommunications industry and held key positions in government and development sectors.. James Henderson is Professor of Strategic Management at IMD. He is an expert on strategic agility, or the development and implementation of strategy under uncertainty. His research focuses on competitive strategy, corporate strategy, digital transformation, and sustainability.

December 2023 • I by IMD 73

[ Finance ]

When it comes to working capital, don’t dig yourself into a hole

Companies figuring out how to respond to the shock of higher borrowing costs must beware of three common misconceptions, argue Salvatore Cantale and Marc Woodfield

s geopolitical and macroeconomic conditions remain challenging, inflation-induced interest rate hikes around the globe have increased the sensitivity of stock prices to borrowing costs, increasing the cost of capital. And, as soon as companies realized the likely economic repercussions of such increases, they began implementing new working capital initiatives with the clear objective to squeeze as much money out of their value chain as possible. If you are still asking yourself why working capital is an obsession, remember that the money bound in companies’ operations and value chains can represent huge sums. Take the case of Caterpillar, the world's largest construction equipment manufacturer and a Fortune 100 compa-

74 I by IMD • December 2023

Photo: Omid Roshan Evss via Unsplash

The working capital costs of Caterpillar, the world's largest construction equipment manufacturer, stand at around $14m a day

ny in the US. With some $18.5bn invested in working capital at the end of 2022 and a cost of capital equivalent to roughly 8.5%, the annual cost of the money invested in its working capital totals about $1.5bn. Considering that it takes Caterpillar roughly 110 days to convert its working capital into cashed-in revenues, its working capital costs about $14m a day. This is a serious issue for big businesses and it’s easy to understand how it is often a matter of survival for SMEs. So it is no surprise that one of the immediate reactions to an exogenous shock such as the one we are experiencing is to free up (at least some of) the cash bound in companies’ working capital by decisively squeezing customers and suppliers alike. Before jumping on that bandwagon, however, make sure you do not get trapped by the following three fallacies. This can be a zero-sum game

In 2023, according to research sources such as PwC’s global Working Capital Study, the amount of working capital has been estimated at $1.3tn. In the current situation, this is not just your game but a game that involves everyone. Put differently, even if you are already tapping into your customers’ outstanding balances more quickly, minimizing inventories, or letting your supplier wait even longer, do not fool yourself that this will solve all your problems. What initially seems like an advantageous reclaim of your money from (possibly late paying) customers will soon be matched by your own suppliers acting in a similar way to claim (some of) your outstanding bills. Hence, be prepared to accept that this approach may very well turn into a zero-sum game whereby what goes around comes around and often with a vengeance, through a poorly orchestrated step that might result in a loss of reputation (and a lower stock price). Consider, for instance, the apologies from former adidas CEO Kasper Rørsted for the German sport giant’s 2020 decision during the COVID-19 pandemic to delay rent payments for some of its commercial real estate. This decision backfired immediately and intensely. German politicians called the decision “indecent and unacceptable”, and the company was vilified on social media. Consequently, adidas had little choice but to reverse its decision. While some of this resentment may be quickly forgotten, the empirical evidence concerning the adverse implications of unethical behavior on stock prices is well documented, especially when the issue at hand is picked up by the media. Companies must take account of the longerterm negative implications, from lower customer satisfaction, loyalty, retention, and hence overall marketing profitability – possibly straining future top-line capabilities – to the supplementary cost related to any media follow-up, possible litigation, and compensation payments. Takeaway: Think beyond the immediate cash implications, factor in the opportunity cost of choices, and consider the longer strategic consequences. Deteriorating working capital is an outcome, not a cause

Despite the general fascination with KPIs and metrics, keep in mind that

working capital is merely the outcome of underlying policy decisions. It indicates the level of alignment of the company’s operations and processes throughout its value chain. Let’s consider these two examples: The first involves a global leader in industrial engineering, which had a problem with its receivables management, repeatedly reporting more than 110 days’ worth of sales outstanding (DSO). Our in-depth analysis indicated that there was no major issue with deal negotiation and contracting, nor with the methods applied as part of its collectibles management. The real problem was quality, or more specifically the mismatch between the projectized work ordered by the clients and what was effectively delivered by the company. In fact, a considerable proportion of customers stated that they were not entirely satisfied with the products delivered, so they (rightfully) delayed payment until resolution. In less than a year, after a (painful) quality improvement program encompassing the firm’s pre-sales, sales, and engineering disciplines, the relevant root causes for customer dissatisfaction had been successfully addressed. This translated into a reduced DSO of 78 days. Given the size of the company, this improvement of more than 30 days has freed up $3bn a year in working capital.

‘Despite the general fascination with KPIs and metrics, keep in mind that working capital is merely the outcome of underlying policy decisions’

Our second example looks at a global producer of premium sports fashion. Despite an extended period of revenue growth, thanks to its wide range of iconic products, it still suffered from constantly rising inventory levels and repeated stock-outs of core items, while other items sometimes remained unsold (until significantly marked down). Our analysis showed that the problem was not the large number of stock-keeping units (SKUs) or their selling price. The issue was rather an inability to accurately anticipate customer demand across geographies and channels, paired with the absence of real-time insights into the location of each SKU within an inefficiently designed multi-geography and multi-site inventory setup. So the focus was shifted to implementing a fully integrated inventory and enterprise order management system with predictive analytics capabilities, streamlining the global warehouse and distribution center network, and empowering retail outlets to drive re-stocking decisions. Within a year, stock-outs halved, leading to 20% higher sales revenues (despite the streamlined outlet network). In parallel, inventory stock was lowered by more than 10%, freeing up more than $200m a year in cash. In addition, the annual employee satisfaction survey revealed that store managers and staff were considerably more motivated, as they felt enabled to satisfy customer needs while “improving the business” (instead of solely improving working capital). » December 2023 • I by IMD 75

[ Finance ]

Takeaway: What tends to be flagged as a “working capital” issue far more often turns out to be a problem of coordination and alignment along the end-to-end value chain. Make sure you understand the interplay between the different parts and drill down to the root causes of your problem, instead of firefighting the consequences.

Takeaway: A good working capital policy does not necessarily seek to minimize the level of capital employed at all costs, especially when this leads to detrimental effects for customers, suppliers, employees, and/or other critical stakeholders. A good working capital policy seeks to optimize relationships and the value of an ecosystem.

Working capital as value driver

It is a natural reflex in times of crisis and stress to slam on the brakes and manage working capital more decisively. And decisive leadership is indeed crucial at such times. But what might, in the heat of the moment, seem like a “no brainer” decision can frequently turn out instead to be just another form of “barking up the wrong tree”. Though you should set ambitious targets for the individual drivers of your overall working capital, make sure you properly understand how they relate to one another. Instead of overwhelming your colleagues with difficult-toexecute working capital initiatives, make sure that you seek to better align the business internally and externally, reconsider your partnership model within your ecosystem, and more effectively leverage the available resources and capabilities across the company’s network to build more durable and resilient value chains.

Finally, executives should not only consider just the short-term aspects of capturing value, but also how to create and harvest longer-term value for the business. For example, Unilever announced in March 2020, at the beginning of the COVID-19 pandemic, that it would provide “€500m of cash flow relief to support livelihoods across its extended value chain”, including provisions for “early payment for our most vulnerable small and medium-sized suppliers” and extended credit “to selected small-

‘Though you should set ambitious targets for the individual drivers of your overall working capital, make sure you properly understand how they relate to one another’

In short, be decisive about building bridges for your business that will last long after the cost of borrowing crisis has passed. ■

scale retail customers, whose business relies on Unilever, to help them manage and protect jobs”. With SMEs on average possessing just 27 days’ worth of cash buffers (and some sectors such as restaurants having as little as 16 days), this initiative has been a lifeline for many partners along Unilever’s value chain. Beyond that, it fostered the intangible benefits of “goodwill”, both inside and outside Unilever. The commercial value of such an initiative cannot be overstated, which is why large companies such as Facebook and Google followed suit. Others, including Chinese manufacturer BYD, French luxury conglomerate LVMH, and several auto companies, temporarily strayed from their core activities by leveraging their production and distribution capabilities to address global shortages in desperately needed goods such as masks, disinfectants, and respirators. You might think that this form of exceptional “generosity” is reserved for dominant market players with excellent working capital positions, but you would be wrong. Take the case of Teladoc Health, a US-based e-health company. In order to reply to the sharp rise in demand for doctoral e-guidance in the wake of the pandemic, it not only recruited more teleworking doctors (the core business), but also offered them above-average compensation levels and payment terms. Fundamentally different from the often shortsightedly applied approaches to working capital management, all these companies share a key factor in common: they understood the differential advantage of building lasting relations with all their value chain partners, from which they can later harvest benefits. 76 I by IMD • December 2023

Salvatore Cantale is Professor of Finance at IMD. His academic and consulting work is divided into two different but complementary streams. He works at the intersection between strategy, business models, and financial results. He also sheds light on the relationship between ESG and finance, with the aim of increasing the understanding of how ESG policies impact both sustainability outcomes and financial results, and of helping companies navigate ESG ambitions and regulatory requirements. Marc Woodfield is an external researcher at IMD, with a primary focus on value creation and capture in the intersections of strategy, distribution, operations, and finance. He has 20-plus years of run and change leadership experience in the management consulting and financial services industries.

Can biology reverse disease and slow climate change? Science is unlocking big ideas in tiny places, like genes that can help stop disease and crop DNA that helps farmers fight climate change. It’s the Bio Revolution, one of the megatrends we’re investing in to help treat chronic human conditions, like a warming planet. To us, there’s nothing more valuable.

Gain more insights that matter at

Bayer.com/megatrends

[ The forecaster ]

2024: why the future’s bright for Microsoft, Nike, and Pfizer The big players in the world of tech, pharma, and fashion have the know-how and agility to make the most of the fast-shifting business landscape, writes Howard Yu

change, woven by leaders in their respective fields, has been tracked by IMD’s Center for Future Readiness in its latest rankings. Our Future Readiness Indicator clearly shows which industry titans are leading the charge into the new year and offers key insights into what others can learn from their examples. From Alphabet’s slip to the rise of Nvidia: the tech sector shuffle

With Microsoft in first place, Alphabet dipped slightly from second to fourth, while Nvidia edged upward from third to second. Amazon’s drop was more pronounced, falling from sixth to 10th. Netflix, despite increased competition in the streaming sector, remained steady at number 12, while Tencent, showing resilience in the gaming industry, remained fixed at 11. Two big trends stand out in the tech world: the introduction of smarter AI and making software easier and all-in-one. Companies including OpenAI, Google, Microsoft, and Meta are pushing generative AI forward, but the star of the show is Nvidia, known for its powerful graphics chips. No longer just for gaming, the chips are essential in AI applications, from drug discovery to self-driving cars. Nvidia is also creating Omniverse – a virtual world where people can work together on projects and use different design tools all in one place. But it’s Microsoft that’s leading the way in offering software-as-a-service – doing more with less hassle. Take Microsoft Teams: as well as chat and virtual meeting rooms, it combines contacts, files, project management, and much more in a convenient package. Microsoft 365 goes further, blending familiar tools like Word and Excel with newer technologies – all connected by Microsoft Graph, which links different Microsoft services. This approach, once a hallmark of Amazon's AWS, is being perfected by Microsoft, making it simpler for us to use many different types of software without getting lost in the tech maze. Future-ready pharma: the titans poised to change lives

Pfizer, AstraZeneca, Eli Lilly, and Novartis are leading the way in the pharmaceutical industry, according to the indicator. It was a significant year for obesity treatments, with Eli Lilly moving up from seventh to third place, and Novo Nordisk rising from 13th to seventh. Pfizer advanced one place to take the top spot.

s the year turns, transformations are taking shape across the tech, pharmaceutical, and fashion sectors. Tech giants such as Nvidia and Microsoft are remodeling the landscape with AI and integrated software solutions. The pharmaceutical industry, led by Pfizer, Eli Lilly, and others, is boldly stepping into the era of personalized medicine and digital therapies. Fashion brands like Nike and Hermes are adapting to the relentless ebb and flow of market demands and consumer behaviors. This tapestry of

78 I by IMD • December 2023

Top-performing pharmaceutical companies are deeply invested in research, continually seeking innovative medicines while also preparing a pipeline of future drug candidates. The Augmented Drug Design (ADD) project by AstraZeneca and Amazon Web Services (AWS), for example, aims to speed up medicine discovery. Through ADD, tasks such as identifying potential drug targets, analyzing images from lab experiments, and managing clinical trials have become more efficient. The global reach and efficient distribution networks of the top-performing companies enable them to deliver medicines to a huge number of patients, while their adeptness in navigating complex legal and regulatory landscapes ensures timely drug approvals. Pfizer's cold chain

THE FUTURE-READINESS INDICATOR PHARMA

TECH Movement since previous rank

Rank

Company

1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

MICROSOFT CORP +1 NVIDIA CORP +1 META PLATFORMS INC +3 –3 ALPHABET INC 0 APPLE INC +4 SALESFORCE INC +5 ADOBE INC ADVANCED MICRO DEVICES INC 0 +13 CISCO SYSTEMS INC –6 AMAZON.COM INC

HOW IT WORKS

IMD’s biannual future-readiness indicator is based on seven equally weighted factors. We evaluate the financial fundamentals of a company’s ongoing business – as investing in the future requires a healthy cash flow – and look at cash and debts. We measure growth prospects, examining investors’ expectations and the intensity of a company’s investment in startups or new ventures. Because executive teams need to see beyond their day-to-day

Rank Company 1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

FASHION Movement since previous rank

PFIZER INC ASTRAZENECA PLC ELI LILLY AND CO NOVARTIS AG ROCHE HOLDING AG BRISTOL-MYERS SQUIBB CO NOVO NORDISK A/S JOHNSON&JOHNSON MERCK & CO INC (MSD) BIONTECH SE-ADR

+1 +1 +4 +1 –4 –2 +6 0 0 –4

operations, we look for diversity in the management board, taking note of gender and nationality as well as the industry backgrounds of the top leadership. Wherever possible, we gauge a company’s productivity by measures such as operating revenue per employee. Finally, we monitor the trajectory of new product rollouts, openness to new ideas, and the early results of innovation. The resulting industry rankings are based on hard data.

service and AstraZeneca's end-to-end digital supply chain initiatives are particularly notable. Eli Lilly also shows promise with its investments in blockchain and digital twins for better traceability, logistics, and inventory management. By focusing on various treatment areas and adopting modern technologies, these companies are enhancing their operations and maintaining upward business growth. A patient-centric approach, coupled with the adoption of modern technologies, allows them to gather valuable data and optimize their operations. How top fashion brands are shaping the industry's 2024 landscape

In fashion, Nike consolidated its top spot in 2023, with Hermes and Kering rising in the ranks. LVMH and Richemont have consistently held strong positions, emphasizing their robustness in luxury's digital transformation and enduring brand value. Zalando's rise to fifth in 2023 from seventh in 2022 showcases its e-commerce strength and adaptability to consumer shifts. Inflation and geopolitical issues affected consumer spending and operational costs. The price of cotton, cashmere, and input materials have all risen. Despite these challenges, luxury brands like Hermes thrived, thanks to the resilience of affluent consumers. The broader market, how-

Movement since previous rank

Rank

Company

1. 2. 3. 4. 5. 6. 7. 8. 9. 10.

NIKE INC HERMÈS INTERNATIONAL SA KERING SA LVMH SE ZALANDO SE RICHEMONT SA LULULEMON ATHLETICA INC INDITEX SA BURBERRY GROUP PLC PRADA SPA

0 +2 0 +1 +2 0 –5 +5 –1 0

They include financial reporting, investors’ calls, LinkedIn profiles of the management team, CrunchBase, Factiva, and other publicly available reporting, all of which we use to produce a balanced composite score.

Scan the code for more detailed analytics.

ever, faced slower growth. However, Nike outshone everyone: revenue for the third fiscal quarter reached $12.4bn, surpassing projections of $11.48bn and representing a 14% increase on the previous year. Growth was driven by strong performance in direct sales, including its website and owned-and-operated stores, with member-buying frequency increasing and store sales growing across all regions. Supply-chain disruptions are driving the need for new manufacturing models, including nearshoring and digital enhancements. Brands are also exploring the metaverse, utilizing rental channels and off-price retailers. That’s why future-ready companies are constantly realigning their structures to focus on sustainability and digital acceleration. These are the trendsetters who move forward with confidence into 2024. ■ Jialu Shan, Lawrence Tempel, and Alexandre Sonderegger contributed to this article. Howard Yu is LEGO® Professor of Management and Innovation at IMD, and the author of LEAP: How to Thrive in a World Where Everything Can Be Copied (PublicAffairs, June 2018). He is also director of IMD’s Center for Future Readiness.

December 2023 • I by IMD 79

[ PREVIEW ]

Scan the QR code to visit ibyimd.org

The AI edition: risks and rewards Coming in March 2024

Artificial intelligence is transforming the way we live and do business. The rewards for first movers and innovators are clear, but risks abound – from labor market disruption to ethical concerns. There is also too much hype and noise surrounding AI, making it harder for leaders to make decisions about its adoption. How do we harness this rapidly evolving technology for the benefit of business, economies, and society? In the March edition of I by IMD, academic and industry experts explore ways to embrace the promise of AI while navigating the challenges. In the meantime, join us online daily at ibyimd.org, where you will find articles, videos, podcasts and learning exercises that will spark conversation and help you and your teams excel.

[ IMPRINT ] PUBLISHER

International Institute for Management Development Ch. de Bellerive 23, P.O. Box 915, CH-1001 Lausanne | Switzerland EDITORIAL ADVISORY BOARD Anand Narasimhan (Chair) Professor of Global Leadership and Dean of Research Christine Batruch Sustainability Advisor, Lundin Group; President, Bohdan Hawrylyshyn Family Foundation Vincent Bieri Co-Founder Nexthink; Member of the Board of Advisors Trust Valley Jean-Philippe Bonardi Professor of Strategic Management and Dean at HEC Lausanne, University of Lausanne Stuart Crainer Thinkers50 Founder and author Michel Demaré Chairman of IMD; Chair of the Board at AstraZeneca Plc. and Nomoko AG; member of the supervisory boards at Vodafone Group Plc and Louis-Dreyfus Company International Holdings B.V.

80 I by IMD • December 2023

Cynthia Hansen Managing Director of the Innovation Foundation, empowered by the Adecco Group Prince Michael of Liechtenstein Founder and Chairman of Geopolitical Intelligence Services AG; Chairman of the European Centre of Austrian Economics Foundation in Vaduz; Member of STEP Ann-Marie Sevcsik Catalyst of social change through innovative partnerships Michael Skapinker Financial Times contributing editor Ian Charles Stewart Executive in Residence, IMD; Main Board Director Trustee International Institute for Sustainable Development; Co-Founder of WiReD Magazine Su-Mei Thompson CEO at Media Trust

EDITORIAL

Delia Fischer Matt Falloon Ken Toner ART DIRECTOR

Catharina De Gregorio PRINTING

IMD

Send Letters to the Editor to: content@imd.org

Live. Learn. Play. It’s go time. Time to get yourself out of bed and get going, because the day belongs to those who claim it. It’s go time. Time to live, love, learn, teach, work and play on SA’s Bozza Network. It’s go time. Time to rewrite your story, stake your claim, or start that start-up. Time to slay, make your moves, and add your own unique flavour to the world. It’s go time. The time for waiting is over. The time for going is here.

*Based on MyBroadband 2020

Build organizational capacity for innovative finance solutions in fragile settings Innovative finance for humanitarian and development impact is about new types of partnerships across sectors, new ways of working, and new ways of mobilizing additional resources. For everyone involved, this requires a new skill set. IMD’s Driving Innovative Finance for Impact program equips you to set up and manage a project and co-create an innovative finance solution to serve those most in need. You will: • Identify a project of strategic importance to your • organization that you could take to the next level. • Understand the challenges of scale, impact • measurement and collaboration. • Learn how to identify and mobilize key • internal and external stakeholders. • Help build the organizational capacity needed • to deliver innovative finance solutions.

Take the next step imd.org/difi