Understanding impact in social investments

Understanding Impact in Social Investments

Insights Report 11 January 2022

Understanding Impact in Social Investments 2

Introduction Contents Introduction

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Our approach

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How we’re doing this

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1. Impact Management Project to identify impact risk

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As a mission-led organisation, we take an ‘impact-first’ approach to making social investments. This means that we start with the social need and tailor our investment: adapting and selecting financial instruments that are most appropriate.

2. Sustainable Development Goals 5 6

3. Outcomes

Understanding the impact of our portfolio 7 What we’ve done so far

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Looking ahead

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Home

Introduction

Our approach

How we’re doing this

Understanding the impact of our portfolio

Understanding the social and environmental impact of the portfolio overall is critical – as a tool for our learning and ensuring that we are an effective investor. In this short paper we outline our new approach to understanding impact, particularly through co-designed outcomes.

We want to share our work so far, which we hope will be of interest to other social investors considering some of the same questions. We also hope that sharing our approach at an early stage will be an opportunity to hear and learn from others.

What we’ve done so far

Looking ahead

Understanding Impact in Social Investments 3

Our approach Understanding impact is fundamentally about becoming a more effective impact-first investor. We see three interconnected ways that a considered approach can help us do this.

1. Improving our practice and decisions For example, it can help us reflect on whether we used the right financial instrument or if we took too much or too little risk. It can also help us identify where social investment is the right tool to achieve social or environmental change, and where grants or other types of support will be more effective.

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Introduction

Our approach

2. Better support for investees This is both for individual social investments (where we can use our Funding Plus support programme to help investees overcome a challenge), and for identifying common challenges across the portfolio. In these cases, we can consider what role we have in addressing these common challenges using further funding or another tool, such as using our voice or commissioning research and evidence.

3. Generating learning We hope to generate insights that will be useful to social investors taking or considering a similar impact-first approach. It also has the potential to inform other parts of our work, particularly for our endowment where we have carved out a portion of funds to make environmental, social and governance (ESG) investments, and for our exploration into the role of impact investing where we have recently allocated £10m to the practice.

How we’re doing this

We developed our approach taking into account our specific circumstances as a social investor. We have a relatively large portfolio of 841 active, mostly bespoke social investments – the majority of which contribute to our three organisational aims: to protect and restore ‘Our Natural World’, create ‘A Fairer Future’ and help enable ‘Creative, Confident Communities’.

We also have a small number of social investments focused on ‘Infrastructure and New Ideas’ designed to support the future development of the social investment market. Finally, we want to ensure that any approach is aligned to our values.

We used the following principles to help us design this new practice: • Investee-centric: We want any approach to understanding impact to be proportionate, to avoid placing additional burden on investees, and to be relevant and supportive of their day-to-day work.

• Portfolio-level learning: This work is not about assessing investees or picking winners. Instead, it is about spotting trends and patterns across our portfolio that can inform how we operate.

• One source of insight: This approach is not intended to be the only lens through which we understand impact or generate learning. It is intended to be one source that will complement others, including the in-depth insights from our relationships with investees, and our broader knowledge of the sectors and the impact areas we are working in.

1 As of January 2022

Understanding the impact of our portfolio

What we’ve done so far

Looking ahead

Understanding Impact in Social Investments 4

How we’re doing this

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To help us understand impact, we look at it from three angles, at different stages of the investment cycle. These are summarised below.

We have adapted the Impact Management Project’s (IMP) five dimensions of impact and part of its impact classification tool (the “Impact of Underlying Enterprises”) to understand the impact risk of a social investment during due diligence.

Impact Management Project to identify impact risk Pre-investment ✔ Post-investment Exit Sustainable Development Goals Pre-investment

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Post-investment

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Exit

Impact Management Project to identify impact risk

As part of due diligence, we look at impact risk alongside the more traditional financial and operational risks of an investment. We have developed questions that align to the IMP’s impact classification tool within our internal risk assessment matrix, which helps us understand the strength of the potential impact (will the initiative simply ‘Act to Avoid Harm’, ‘Benefit Stakeholders’ or ‘Contribute to Solutions’?) and identify areas where additional assurance is required.

These questions cover: • What is the applicant’s social mission?

• Who is the target group for the initiative and is it accessible?

• How much impact is likely to be created and are impact risks identified and mitigated?

If an intervention was deemed to only avoid harm, we would proceed with caution given that the model is unlikely to provide the impact we seek from a social investment; we would need a strong rationale to progress any such applications.

In addition, we assess the impact model and its alignment with the applicant’s business model and governance arrangements to ensure that impact is ‘locked in’.

Our internal ‘Approach to Private Benefit and Social Mission Locks’ document provides guidance on minimising potential mission drift.

The assessment feeds into how we engage with an investee postinvestment and identifies areas for extra support. We update the risk matrix annually to understand how the financial and impact risk profile of the social investment changes over time, and more frequently where an investee experiences significant change.

Outcomes Pre-investment

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Post-investment

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Exit

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Introduction

Our approach

How we’re doing this

Understanding the impact of our portfolio

What we’ve done so far

Looking ahead

Understanding Impact in Social Investments 5

How we’re doing this

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Sustainable Development Goals

We link each of our social investments to the Sustainable Development Goals (SDGs) they are contributing to. Each social investment has a primary SDG, and up to two secondary SDGs. This helps us understand the impact being targeted and communicate this clearly to a wider audience.

We are part of an ecosystem of other social investors, charities and social enterprises with whom we collaborate, share learning, and learn from. The SDGs act as a common language to help communicate our priorities and where we are funding. This aids sharing our learning in a broader context, and identifies partners and collaborators who are working towards the same goals.

The SDGs our investments contribute towards Figure 1 shows the eight SDGs that our strategy-aligned investments are working towards.

Strategy-aligned investments refers to the 62% social investments (by value) that are contributing towards the three aims of our strategy. The remaining 38% were made under our previous strategy and do not align with our new approach.

2 Strategy-aligned investments refers to the 62% towards the three aims of our strategy. The

£5.3m

£3.1m £2.2m £1.3m £1.5m £1.5m £0.5m 2%

social investments (by value) thatOur are contributing Home Introduction approach

£7.0m

How we’re doing this

6%

6%

Understanding the impact of our portfolio

7%

10%

What we’ve done so far

14%

Looking ahead

24%

31%

Understanding Impact in Social Investments 6

How we’re doing this

The SDGs our investments contribute towards continued Figure 2 shows how these eight SDGs link back to our three impact areas, plus a small number of investments that support infrastructure and new ideas in the social investment sector.

Our Natural World 19%

5% 12% SDG 13 Climate Action

64%

SDG 12 Responsible Consumption and Production

SDG 14 Life Below Water

SDG 15 Life on Land

A Fairer Future 100% SDG 10 Reduced Inequalities

Creative, Confident Communities 22%

78%

SDG 8 Decent Work and Economic Growth

SDG 11 Sustainable Cities and Communities

Infrastructure and New Ideas 6%

94%

SDG 11 Sustainable Cities and Communities

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Introduction

Our approach

SDG 9 Industry, Innovation and Infrastructure

How we’re doing this

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Outcomes

For each social investment, we agree two–three outcomes during due diligence to identify the key areas of impact we mutually hope the investment will create. They are not intended to be comprehensive, and although we provide input, outcomes are chosen by investees and based on metrics that are meaningful for them and their work.

We encourage investees to phrase outcomes so they describe the end state they want to see, rather than being too prescriptive about how they will achieve it. This builds in flexibility for them to adapt their approach if the circumstances change and still achieve the intended outcome of the investment.

Identifying and agreeing outcomes are helpful for understanding how an individual social investment is progressing. There is no penalty for not achieving outcomes; we know that business models and external circumstances change and organisations need to adapt. Instead, these outcomes act as a starting point for discussion about whether the original intention behind the investment is being realised.

Agreeing outcomes is a learning tool that allows us to understand progress against meaningful goals for the investee and helps us consider what more we can do as a social investor to contribute to positive change.”

Understanding the impact of our portfolio

What we’ve done so far

Looking ahead

Understanding Impact in Social Investments 7

Understanding the impact of our portfolio As well as using outcomes to help us understand the impact of an individual investment, we have started to use outcomes to help us understand the impact of our portfolio. We do this in four steps.

1. Categorising outcomes

2. Tracking progress

4. Creating feedback loops

We tag outcomes according to whether they are:

We track progress against these outcomes at least annually. Social Investment Managers use the existing reporting arrangements and schedule to consider the extent to which the outcomes are on track to be achieved by the end of the investment. We don’t ask for any additional reporting or information.

The data is useful at spotting trends in the portfolio, but it doesn’t tell us why those trends are happening. So a crucial final step is to use this data to prompt conversations among the social investment team, the wider organisation and externally to understand why we might be seeing differences and consider what this means for us as a social investor, in terms of:

• Social: the social or environmental impact created by the investee.

• Organisational: impact on the resilience of the organisation working for social or environmental change.

• Market: wider and structural impact on the market.

These categories are useful in distinguishing between outcomes with different levels of ambition, timescales and, often, the influence that the investee has in achieving them.

Organisational outcomes are more likely to be short-term and more within the control of the investee to achieve. By contrast, a market outcome is likely to be longer-term and the investee may have limited influence over whether it is achieved, being just one actor within a complex system.

Progress score -2

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Introduction

Our approach

3. Analysis Progress is translated into a score (-2 to +2 based on alignment to progress) that allows us to analyse progress across the whole portfolio, or sub-portfolios. While the average progress scores are not particularly meaningful in themselves, what is interesting is to compare them over time, or to other parts of the portfolio. This allows us to understand which parts of the portfolio are seeing more progress relative to others.

• Our practice and whether we are setting outcomes appropriately and using the most appropriate investment structure.

It is also useful to overlay financial risk – generated by the aforementioned risk assessment matrix – and investment financial performance at exit.

• Generating learning which we can share internally and/or externally.

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Off track

Somewhat off track

How we’re doing this

Understanding the impact of our portfolio

0 Unknown/NA What we’ve done so far

• Opportunities for support through Funding Plus and other support.

• Common external challenges where additional grant or social investment could help.

1 Mostly on track Looking ahead

2 On track

Understanding Impact in Social Investments 8

What we’ve done so far To date we have categorised and tracked progress for 90 outcomes across 38 social investments2. This represents 45% of the portfolio and is made up of investments that are aligned to our strategy and where outcomes have been agreed with the investee (this was only introduced for social investments in 2019).

Figure 4

Figure 3

It is hard to draw many conclusions about the progress of the portfolio at this early stage. The 38 social investments are a minority of the portfolio and 55% are newer deals made within the last two years, so in some cases, it is too early to meaningfully start tracking progress.

21% Market

18%

21%

Social

16 outcomes 79% Social

51% Organisational

46 outcomes

31%

28 outcomes

6%

That said, we are, so far, seeing more progress being made towards organisational and social outcomes, compared to market outcomes – which might be as expected given their shorter relative time horizons.

13% Organisational 50% 31%

Half of the 90 outcomes relate to social outcomes (the social impact being achieved), with a third related to organisational outcomes.

Market outcomes are the least common.

Off track

33% Market

44%

Somewhat off track Mostly on track

11% 2 As of September 2021

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Introduction

Our approach

How we’re doing this

Understanding the impact of our portfolio

11%

What we’ve done so far

On track

Looking ahead

Understanding Impact in Social Investments 9

Looking ahead We are still in the early phase of implementation, and our approach will no doubt continue to evolve as these tools become more embedded into our practice. It is important to allow time for new models to prove themselves and resist the temptation to jump to conclusions too early.

Author

We will continue to share our progress. We would also love to hear from other social investors about the approach they are taking and engage on what we are doing.

Sarah Hedley Social Investment Portfolio Manager

Kings Place 90 York Way London N1 9AG

The biggest sign of success will be if these tools are able to deliver meaningful insights that allow us to improve how we work.

T 020 7812 3700 communications@esmeefairbairn.org.uk www.esmeefairbairn.org.uk Registered charity 200051 @EsmeeFairbairn

Home

Introduction

Our approach

How we’re doing this

Understanding the impact of our portfolio

What we’ve done so far

Looking ahead