Impact Investors (Should Be) Risk Takers: Does impact investing have a lower risk tolerance than venture capital?
The report, From Blueprint to Scale, produced by Monitor Group in collaboration with Acumen includes the following statement:
“… few impact investors seem prepared to provide money and technical assistance in these earlier stages… only six of the 84 funds investing in Africa or across regions offered early-stage capital… the overwhelming majority of impact investing funds and advisors we spoke to expressed a strong preference for investing in the later stage, certainly after commercial viability had been established and preferably once market conditions were well prepared for sustainable scaling.”
I later read this statement to a few friends who run venture capital funds, but I changed the term “impact investing” for “venture capital.” Then I asked them if they thought the statement was accurate in terms of representing what venture capital does. The overwhelming response was: Absolutely not!
Does this mean that impact investing has a lower risk tolerance than venture capital?
After listening to my friends’ reactions, I returned to this conclusion from the Monitor Group report. I began to question myself: Is the world prepared for impact investing? I continue to ask myself that question.
When we launched IGNIA six years ago, the term “impact investing” did not exist. We started with the perspective that we would make investments so transformative that they would have the chance to address the majority of the population’s dire needs. And because of their transformative nature, these investments would be high risk – definitely higher risk than venture capital. On the flip side, because these investments, when successful, would transform industries and were addressing huge markets of the base of the pyramid, they had the potential for very high potential financial upside. This high potential financial upside would balance the risk versus return equation.
In the case of IGNIA, the monetary value of the placed investments totals $57 million. The average age of the companies in our portfolio is three years and our oldest investment is five years. Our original plan was to execute financial exits in year seven or eight. Like any venture capital investment, to define returns before an exit is pure speculation, but seven of our investments are making very good progress. In one of our investments, we have returned 85 percent of the invested capital and we are in line for an annual return of 18 percent. But, of course, this is not without risk. We have written off three of our investments, which as a percentage of our overall portfolio, is both in line with the venture capital industry and with our plan. Unfortunately, when innovating one has to expect failure, although when it happens it is extremely painful.
I was not surprised by the assertion in the Blueprint to Scale report. Since then we have approached most investors within the impact investing field with potential co-investment opportunities, the common response is: “great opportunity with great potential, but too early stage.”
I find it interesting that, as an industry, while trying to solve the impact investing “do good while doing well” paradox we have landed in a risk adverse approach. Finding the solution to this paradox requires innovation and innovation implies risk taking. But can we call ourselves impact investors if we are not willing to take the necessary risks required to innovate? At IGNIA we are privileged to have to the support of great investors that are patient and that are willing to bear the risk that is involved when investing in disruptive models. Without them, we couldn’t do what we do. And thanks to their support, some of our investments will create a long lasting impact.
Álvaro Rodríguez Arregui is the co-founder and CEO of IGNIA, a venture capital firm based in Monterrey, Mexico that supports the founding and expansion of high growth social enterprises that serve the base of the socio-economic pyramid.