Author: Arvind Agarwal, Founder & CEO - C4D Partners
Returns from impact investments have witnessed a good growth trajectory
Impact investments have become an integral part of the market but the concept still seems to be ambiguous for most. Additionally, the myth of low returns that continues to shroud impact investing deters mainstream investors from charting this course.
As India becomes a proving ground for impact enterprises and investments, the need to demystify this emerging asset class is urgent. Impact investing is similar to any investment, be it equity or debt, made by individuals or institutions, in private companies. But the funds to these private companies are directed towards a specific purpose, like supporting a positive social or environmental change, rather than only generating financial returns. Companies driving these changes intend to generate profits for their shareholders, just like any commercially driven company, but not at the cost of the planet or people.
Take, for instance, a waste management company in Bangalore that is providing end-to-end waste management services for corporates, apartment complexes, institutions, communities and other bulk generating organizations and institutions. This is an example of a company working towards keeping the environment clean with responsible and sustainable waste management solutions, and at the same time generating revenue through its services. Similar is the case with a Mumbai-based courier company employing hearing impaired youth, and in the process not only creating employment opportunities for capable individuals but also leveraging opportunities in the logistics industry to generate profits. Impact investing is all about investments in such companies that are making a difference on-ground along with generating financial returns. The key is to bring an alignment between the planet, people and profits.
Impact funds can generate returns between a loan and a venture capital (VC) fund as the risks are placed likewise. To put things in perspective, a fixed deposit will yield a lower return as the associated risk is lower when compared to a venture capital fund that can generate higher returns due to higher risks. Similarly, debt/loan to companies will generate lower returns than a VC fund but higher returns when compared to a fixed deposit. In recent years, returns from impact investments have witnessed a good growth trajectory. An impact fund (equity) targets, or should target, returns between 15% to 25%. Sebi is the key regulator for management of all investment funds. Regulations for impact investment funds are the same as that for VC investment funds, as both are registered and regulated by Sebi as category I Alternative Investment Fund (AIF), which refers to funds that intend to invest in early-stage ventures or social ventures or SMEs or areas which the government or regulators consider as socially or economically desirable. In case of grievances as well, investors or all related parties can turn to Sebi for redressal. In an ideal world, impact investing is a subset of ESG Investing. ESG cuts across companies’ environmental, social, and governance-related risks/opportunities, whereas impact investing could focus on either social or environmental, or both.
The minimum ticket size required to invest in any AIF is ₹1 crore, except for an angel fund where the minimum ticket size is ₹25 lakhs. Investment decisions are solely made by the fund manager, as per the terms dictated by the investment management agreement between the investor and the fund manager. Investors play a non-discretionary role in determining where the funds must be invested. Alternative funds are highly illiquid asset classes and are usually active for 10 years. First the five years, capital is called for investments, and exits are realized in the next five years. Similar to venture funds, impact funds make distributions to their investors as and when the funds exit the underlying companies. The key to running a successful impact fund that generates adequate returns is maintaining a balance between the investee companies’ impact and financial sustainability. Impact funds, alternative funds and VC funds are all high-risk investments as they invest in start-ups, making them ideal for investors with a high-risk appetite. By putting impact investing on equal footing with other investments, investors can unlock the industry’s true potential to resolve social and environmental challenges globally.