Collective conscious:

How impact investing, venture philanthropy and flexible capital are changing the world
by Olena Boytsun, Founder of the
Tech & Society Communication Group

Collective conscious:

How impact investing, venture philanthropy and flexible capital are changing the world

by Olena Boytsun, Founder of the
Tech & Society Communication Group
Back in 2016 I got a unique opportunity to become an impact investor, having started working in one of the most famous global companies in this field. Omidyar Network, the philanthropic investment company of Pierre Omidyar, the founder of eBay, had already invested more than 1 billion US dollars in various projects, companies and non-profit organizations around the world at that point.
My task was to structure the activities, business model and portfolio in Central and Eastern Europe for the fund. Deeply immersed in this sphere, I was understanding more and more that the transformation of the financial system of the post-Soviet countries towards more flexible capital was necessary for the effective development of the region. Impact investing and venture philanthropy are the most logical tools to achieve this goal.
Flexible Capital
After the IPO of eBay in 1998, Pierre Omidyar decided to donate part of the resulting multibillion-dollar capital to charity and founded a traditional family charitable foundation. However, a few years later, Omidyar drew attention to the fact that this form of capital distribution was not the most effective for the goals he was trying to achieve. So Omidyar Network and the group of companies the Omidyar Group appeared - a fund that combined the features of both an investment fund and a philanthropic organization, operating with flexible capital. The model of the Omidyar Group organizations differs from traditional investment funds in the way it works with portfolio: depending on the goals and business plans, it is possible to support teams of entrepreneurs regardless of the form of legal registration they have chosen.

This is an important moment for the development of new markets, because, for example, with the emergence of social entrepreneurship such legal entities as non-profit companies appeared, and traditional non-governmental organizations in many countries received the right to earn money to fulfill their statutory goals. Such approach removed the limitations of the past years, when entrepreneurs and startups had to choose from two models - either a for-profit one, aimed at obtaining profit with the involvement of standard investments that must be returned and multiplied, and usually the part of the company shared, or a model of a non-profit organization that receives non-returnable grant money and organises its activities around fulfilling a specific mission.

The flexibility of capital also manifests different ways in which it can be allocated. As a rule, general (core) and project support are specified. With project support, all expenses are clearly fixed by category, and the general one allows teams to make their own decisions about the distribution of money. At the same time, there are no restrictions on the topics of activity, and flexible capital can be directed to any industry, from education, infrastructure and agriculture to highly specialized markets, such as, for example, the market of civic technologies (civic tech).
Flexible capital eliminates restrictions not only in terms of legal registration of the company. Currently, a number of tools have appeared in the financial markets with the aim to regulate investments in the form that is suitable for a specific project.
One of the clear examples is a repayable grant or loan, which is issued for a certain time with no interest payments foreseen, but it is implied that money still needs to be returned. The work with profitable companies can also combine both standard investments and grants.

Even if the grant is irrevocable, the fact that an organisation signed the contract with a foundation does not automatically mean that the entire amount will be transferred. For example, if a non-profit organization cooperates with an impact fund and receives a grant of one million US dollars for two or three years, in most cases this means that the first tranche is transferred unconditionally (unconditional tranche), but the main part of the investment depends on the fulfillment of certain conditions (conditional tranche). After the end of the first annual period, it is necessary to provide a report, for example, on the achievement of certain indicators or on the fundraising of additional funds. And if the conditions are not met, then the following tranches are not carried out or are transferred partially, for example, in the amount of 50%.

In markets where there are legal possibilities for this, impact funds try to set as a condition such indicator as the development of an organization's business model, the achievement of a certain level of revenues even for non-profit organizations, in order to reduce the dependence on grant money and to help achieve financial stability and sustainability. Thus, the market mechanism works, even in the non-profit sector.
Impact investing
Over the past ten years, the concept of impact investing has developed in the financial world. It means a type of investment that aims to obtain not only financial profit, but also a certain positive effect in the form of market development, social development or environmental improvement.

Impact investments can be made in companies, organizations and foundations, and the most typical investors are banks, traditional investment and pension funds, institutional and family foundations, government development agencies, and individual investors. 66% of global impact investments have provided their investors a financial profit that is commensurate with the market, 15% of investments have resulted in a return below the market rate or conservation of capital.

According to the Global Association of Impact Investors (GIIN), as of 2019, 1,340 organizations have $502 billion in impact investing assets under management, up from $114 billion in 2017.

Impact investing processes are much more active in developed countries than in developing countries. In 2019, GIIN notes in its annual report that 28% of all impact investments are made in the USA and Canada, 10% of them belong to Western Europe. Significant growth in impact investing is observed in the Latin American region: there were 14% of global impact investments in 2019, while in 2017 this figure was 9%.

For countries with a transition economy, the social effect and market development from impact investments can be stronger and more significant than in other countries.
The entire region of Eastern Europe, Russia and Central Asia accounts for only 6% of global impact investments.
This percentage has not changed since 2017, although the overall increase in assets means that impact investments in the region are also growing. However, according to my estimates, the post-Soviet region is not yet fully involved and integrated into the world processes and is at a preparatory level. The potential for growth is significant, and with the right approach, the region can become one of the leaders in this field.

Most impact investor offices are located in the USA and Western Europe, and they are often headed by well-known businessmen who understand the peculiarities of the hybrid system of profitable business and the non-profit sector.
For example, from the time of its founding in 2007 until 2018, Omidyar Network was headed by Matt Bannick, who previously served as president of PayPal and eBay International. Based on his practical experience, Matt has developed a university course on evaluating high performance business models in emerging economies and teaches it at Stanford Business School. One of the companies of the Omidyar Group Luminate, which also supports innovative business models in the media sphere, is headed by Stephen King, an experienced top manager who switched to impact investing after several years of managing BBC Media Action.

For impact investors, not only financial profit is of importance, that is, the result, but also the execution process, in which the values of the team must be of the highest standards. The principles of non-discrimination and diversity play an important role. It is believed that the team cannot effectively manage impact investments if it does not understand the market and does not fully represent the part of the population for which it plans to create a positive effect.

For example, in this movement, at professional impact investment conferences, it is considered unacceptable to have discussion panels made up exclusively of male participants, the so-called manels (from the English words men - men and panel - panel), as it has been observed that this is more typical for traditional investment conferences.

One of the main questions in impact investing processes is the measurement and assessment of positive impact, especially when planning social impact. There is no universal template that all impact investors use, and typically each large fund develops its own system for determining impact. Omidyar Network has developed its system, which allocates deals to different investment categories, ranging from the level of expected profit or return on capital and up to a non-refundable grant. Using my knowledge of econometrics, in the process of work I developed another mathematical model that may be more suitable for countries with a transition economy and takes into account their social and economic features. This model allows to calculate not only the contribution to the development of a sector or a project, but also the attribution.

In impact investing, the role of the investment manager is even more complex and important than in traditional investing. As a rule, teams, especially at the start-up stage, cannot themselves formulate a system for measuring their performance, especially in the social sphere. An investment manager must not only understand, and in many cases create a business model, but also develop a system for financing (or refinancing), tracking positive changes, which requires a deep understanding of the subject and the market. At the same time, teams should feel that such systems are effective and practical principles and methods that will help them in their activities. This combination of business and social competencies makes the work of an impact investor extremely interesting and motivating.

Human capital factor in the investee teams plays a big role in impact investing. Impact investors consider the problems with management and implementation of the planned business model as the biggest risks, which does not differ either from traditional direct investment markets or from venture processes.
Venture philanthropy

At the beginning of the development of the industry in the 2000s, both grants and investments were included in the general concept of impact investments, but recently, impact investments mean the return of money with a financial profit, or at least simply the return of invested money. At the same time, many charitable foundations and philanthropic organizations understand that the development of the market of non-profit organizations and the creation of systems for understanding social impact is a priority for them.

For such investments there is a term "venture philanthropy". This concept combines the concept and methods of venture business with the goals of the charitable sector. Venture philanthropists apply business approaches and invest finance and non-financial support into the nonprofit sector to help organizations grow and become more sustainable. Because there is still no established terminology in the market, venture philanthropy is often also considered a form of impact investing.

For example, European Venture Philanthropy Association (EVPA) unites many regional impact investors, provides opportunities for project search or networking, and conducts research in the field of impact measurement. EVPA emphasizes that venture philanthropy does not need to be considered as a fixed and rigid system, and that a hybrid approach, i.e. providing flexible capital, can become an effective lever for the implementation of the tasks. Omidyar Network is mentioned as the most striking and well-known example of a hybrid structure.

The participation of the venture philanthropic fund in the development of the organization usually has a transformative value, since both individual projects and all the main systems and processes of the organization are developed and improved. Financial resources are important, but qualified non-financial advice from an experienced investment manager or expert provides new opportunities. However, this type of impact investing is practically unavailable for Eastern European countries. Venture philanthropy develops mainly by family or corporate private foundations, while in the countries of the post-Soviet bloc such foundations don’t operate almost at all. Such foundations, for example, in Germany, may work with Africa or South-East Asia, but will not be able to support projects in Ukraine or Georgia.

Investors and philanthropists are increasingly noticing the funding gap between Western and Eastern European countries. For example, the recently created Civitates fund unites 16 investors, each of whom has provided at least 100,000 USD per year to support innovative media and projects for the development of digital transformation in Europe. Out of 16 organizations, only 2 have an office in Eastern Europe and work with a portfolio in these countries. As a member of the steering committee of the Civitates fund, I suggested that when selecting projects, special attention should be paid to projects from Central and Eastern Europe and it would be useful to conduct a separate campaign to attract applications from these countries. During the two years of existence of the fund with flexible capital, dozens of innovative teams were supported that otherwise would not have been able to attract funding.

Impact investing is a complex financial instrument, born as a response of the market to the existence of many global problems. Both individual and institutional investors are no longer willing to give money "unconsciously", especially to charity projects - they need to understand what effect they receive or help to achieve from investing their money. It is the model of determining the positive effect that distinguishes impact investing from philanthropy. The pace of how fast this market is growing and the scale of how many new participants are joining every year gives confidence that global economic growth and overall positive development of society are possible combined.
The article "The Collective Conscious" was published in the September 2019 issue of the Huxley Almanac #1/2019.
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