As with any financial analysis, understanding the impact risk of an investment is as important as understanding its potential for impact return. Impact risks can take various forms. For example, there may be a lack of evidence that an intervention will lead to the desired outcome. Even if the intervention is successful, the investment could cause displacement, leading to reduced or no net benefit.
Or, the investment may create positive change for its target beneficiary but a negative change for other stakeholders, which reduces or undermines its impact.
In this respect, impact risk is directly linked to reputational risk.
For the asset owner providing concessionary capital, choosing between an impact investment product and another tool to create social outcomes, the impact risk is greater still: the product needs to demonstrate that the investor’s financial return will generate equivalent or superior outcomes relative to an alternative approach.
A way to mitigate this risk is to provide products with verified evidence of the impact. A product with ‘impact evidence’ has defined an impact strategy together with its stakeholders and worked collaboratively, using a credible methodology, to track progress against the expectations set.
Impact evidence is most robust when the product’s method of intervention is well-understood and is supported by a scientific study (such as randomised control trial) that demonstrates the causal link between the investment’s outputs and the asset owner’s target social outcomes. Since this level of evidence is typically far too costly for earlier-stage impact investments, a credible methodology will combine primary research (such as customer surveys, stakeholder feedback forums and qualitative interviews/case studies) with reasonable efforts to analyse additionality (that the positive change would not have occurred anyway).
Products with strong impact evidence also demonstrate an understanding of their costs to deliver the target outcomes, which can be benchmarked against other comparable approaches. This cost-effectiveness analysis is particularly important for the impact-first investor, who wants their financial return to address a social issue as efficiently as possible.
Finally, a product with strong impact evidence focuses not just on its target outcomes but also on its wider stakeholder impacts, to spot and manage any negative unintended consequences or externalities and, ideally, turn these into value creation opportunities. In this respect, lower-risk impact investment products overlap with those other responsible and sustainable investment products that deeply integrate Environmental, Social and Governance factors (ESG) into their investment management.
Zoic Environmental is a specialised environmental and sustainability consultancy, experienced in due-diligence and compliance assessments of corporations and their supply chains. For more information, go to www.zoic.com.au.