The way the world is thinking about finance is now, slowly, beginning to change with an understanding that finance can be a force for good, rather than simply providing wealth to, often, a small handful.
At Esmée Fairbairn Foundation our thinking, and more importantly our practice, has also been evolving over recent years. Rather than a sole focus on grantmaking and social investment, we recognise that all our resources, be that our endowment or our ability to influence, can create significant social and environmental good.
This recognition was a primary driver behind our recent allocation of £10m to ‘impact investing’ which targets impact and financial returns in equal measure.
We have long been advocates of the benefits of ‘social investing’ (or ‘Programme Related Investments’), whereby a charity invests directly to further their charitable aims, as well as achieve a financial return.
Our first social investment was made in 1997 – 15 years before the creation of Big Society Capital which many fate as the creation of the UK social investment market. Since that date we have made over £66m of social investments into more than 175 organisations. We see social investment as being primarily about the creation of impact and being catalytic in the process, accepting concessionary financial returns consequently (by way of demonstration, as of November 2021 we have a 2.0 per cent return across 93 exited investments against a target of break-even).
In 2018, the decision to carve out a £25m portion of our endowment to test and make ESG investments came into effect. These investments would primarily focus on meeting the financial return target of our mainstream investment strategy whilst achieving enhanced ESG impact.
Bridging a gap in how we invest
Whilst a positive development, this, however, created a gap in our offer: seeking impact returns in lockstep with financial returns rather than having to sacrifice one for the other.
This gap is reflective of a wider market challenge. It isn’t realistic to expect pension funds or large holders of capital to accept break-even or low single-digit returns, yet it isn’t acceptable to pursue financial returns at all costs. This middle ground is the emerging and evolving practice of ‘impact investing’.
What followed for us has been a 2-year journey with trustees – and our advisors Cambridge Associates – which has resulted in the £10m allocations. This allocation will target funds that align with our organisational impact aims and must look to achieve a financial return of 6.5-8 per cent (across the portfolio) whilst generating significant social and/or environmental impact. This will mean we can test the ability to generate financial and impact returns in lockstep and, we hope, inform the future of our endowment investment strategy.
We are far from alone in considering the impact of foundation endowment investing. Rather than using charitable foundation endowments to produce financial returns which maintain real-term value whilst providing a surplus to make grants, there has been a move to a ‘total impact’ strategy.
Rockefeller Foundation were one of the first organisations to formalise the idea of driving impact in their grants as well as through their endowment investing. Whilst common in the US, only a handful of UK foundations have adopted this approach.
Why has take-up of impact investing been slow?
The reason for slow take-up could be down to several reasons. The dangers of greenwashing have been well documented which makes capital providers nervous. There is confusion on terms, with ‘social investing’, ‘impact investing’ and ‘Environmental, Social and Governance (ESG) investing’ often, unhelpfully, used interchangeably despite having different objectives. There is also a misunderstanding of what social or impact investing entails. Both often carry the stigma that they are not ‘real’ investing and will automatically produce sub-market returns. This brings misconceptions on risk, credibility and value, when in fact these forms of investing are arguably more challenging and require more skill given that they are assessed on the dimension of ‘impact’ as well as the traditional dimensions of ‘risk’ and ‘return’.
We’re at the start of our journey and commit to sharing our learning as we progress. It’s easy to look at a £10m allocation as a drop in the ocean (particularly for a foundation with an endowment totalling over £1bn). What’s really needed of course, is a reset to a new way of considering the role of finance in tackling the world’s societal and environmental challenges – evolving to ‘finance 2.0’.
However, this won’t happen overnight, and the greater number of investors who can demonstrate the creation of impact alongside financial returns, the larger the evidence base becomes resulting in the ‘traditional’ finance sector becoming the outlier rather than the norm and being pressured into evolving mindset.
Ben Smith is the Head of Social Investment at the Esmée Fairbairn Foundation.