Echoing Green Social Investment Council co-chair Brian Dunlap and staff member Armand Biroonak explore the emerging field of impact investing.

In Impact Investing: Transforming How We Make Money While Making a Difference, Antony Bugg-Levine and Jed Emerson provide an insightful and comprehensive overview of the varied roots of the burgeoning impact investing field, a look at impact investing’s key participants today (including Echoing Green), and offer a possible roadmap for its future.

What is impact investing? Coined by Bugg-Levine in 2007, impact investing is “making investments that generate a social and environmental impact and that have an impact on investment practice itself.”

Unlike traditional investing, which, at its core, primarily seeks to employ financial capital to generate a financial return, impact investing strives to create what Bugg-Levine and Emerson refer to as “blended value”—positive and simultaneous social, environmental, and financial value creation. While the coming together of financial decisions and social values is not a new concept, Bugg-Levine and Emerson point to what is new—the growing belief that business and financial tools can play a critical role in advancing the common good. By directing capital toward enterprises utilizing market-based approaches to create blended value, we can complement—not substitute—the efforts of governments and nonprofits to address the world’s most complex issues in a massive and powerful way.

Though nascent, this transformational approach to investing has begun to shake up the traditional nonprofit route that social entrepreneurs and the philanthropic community have long taken when working in the field. For instance, real signals of change came with private philanthropists such as George Soros and Pierre Omidyar committing hundreds of millions to make impact investments. At the same time, the emergence of impact investing is creating a call to action for financial investors and re-opening the discussion of the “purpose” of capital.

In addition to an effective and broadly-accessible introduction to impact investing—coupling theoretical discussion with compelling accounts of successful social enterprises, one of the book’s more intriguing and important components is its discussion of the blueprint necessary to mature the impact investing sector in an effective way.

Bugg-Levine and Emerson insightfully plot out the milestones critical to making the industry viable; in particular, flexible legal and regulatory frameworks that give entrepreneurs the ability to blend revenue models, beyond the current bi-furcated model of nonprofit verse for-profit; and metrics and standards for investors to better assess an enterprise’s investment value and ability to make social impact.

Moreover, the authors underscore the need for greater experimentation, creativity and openness for governments when creating tax incentive policies, foundations when grant-making, and portfolio managers when investing. At the same time, Bugg-Levine and Emerson recognize and identify the important challenges impact investing must overcome to reach scale, including sourcing deals of sufficient scale, incentivizing fund manager compensation, and directing investment to opportunities that are truly “additional” to existing efforts being undertaken by governments and NGOs. Lastly, Bugg-Levine and Emerson project the exciting sectors and geographic regions most ripe for impact investment.

Bugg-Levine and Emerson’s discussion of impact investing is by no means purely theoretical; the seed components to grow the sector are indeed developing today. For one, the staff at Echoing Green and similar organizations who provide capital to social entrepreneurs, have witnessed a rise in for-profit and hybrid model organizations over the past few years.

Meanwhile, legal frameworks are slowly changing and accommodating this new frontier as the authors discussed, for example, in October 2011, California became the sixth state to pass Benefit Corporation “B-Corp” legislation, allowing legally a corporation to not only maximize profits, but pursue positive benefits for society and the environment as well. The U.S. Senate is currently considering the Entrepreneur Access to Capital Act, which makes it easier for start-ups to raise small amounts of capital through small equity investments over the internet, known as “crowdfunding.”

Nonetheless, a few questions still remained after reading, but we were able to have a few of addressed by co-author Antony Bugg-Levine himself:

1) Where do you anticipate the majority of impact investment capital coming from over the short, medium, and long-term?

Antony: In the short-term, impact investing has been pioneered by wealthy families who have the discretionary capital to experiment with this new approach. These pioneers are clearing a path for investment from foundations and more mainstream investors and ultimately for the institutional investors managing pension funds and insurance assets who control the bulk of the world's investment capital. This trajectory is not unique to impact investing; venture capital and other investment innovations followed a similar path. An additional area that is particularly exciting is the mobilization of investments from everyday retail investors into impact investing. This is important because participation of everyday investors will be necessary for impact investing to reach its potential as a social movement not just a source of capital for social enterprises.

2) Is this funding that would otherwise be directed to traditional investment or nonprofit organizations?

Antony: We are not seeing evidence that impact investing is cannibalizing philanthropy. Instead, the most dedicated impact investors are reallocated funds away from traditional investments to build an impact portfolio. Many others are allocating a small share of their portfolio to impact investments where they are replacing more traditional alternative investments with impact-oriented product. Most impact investors operating out of private or family foundations are making grants in addition to their impact investments. We believe the most exciting portfolios are not organized around set allocations to "traditional investments", "impact investment" and grants but instead around answering the question: "what is the best blend of approaches to address the social issue I care about?" In most cases, impact investments and charitable grants will both be necessary together but insufficient alone.

3) You say that the space is not for everyone; what is a way to discourage the proliferation of too many 'bad' business models if there is a race for social entrepreneurs to go 'for-profit’?

Antony: Impact investing provides an additional option to nonprofit leaders who can now capitalize their growth through investments as well as charity. In the book, Willy Foote, the founder and CEO of the great nonprofit loan fund, Root Capital, explains clearly how the emergence of impact investors has fueled his nonprofit's growth. Without impact investors, Root Capital could not have reached hundreds of thousands of farmers with their services in their first ten years. Without charitable donations, they could not have started operations or sustained innovation either.

New options do create more strategic complexity. Social enterprise leaders must navigate these options carefully, without being caught up in either glorifying or demonizing investment and grants. The starting point must be a clear understanding of the nature of the social challenge you seek to solve: Does your work create a public good externality that truly cannot be monetized within your business model (in which case you should make the strongest case possible to donors for grant support) or can you create a business model that can achieve your social objectives while generating surplus cash (in which case you could potentially repay investors)?

And impact investors need to recognize that in many cases, they need to bring "total capital" to address the issues they care about—impact investment capital, grant capital, intellectual capital, human capital, and government collaboration will often all be needed to provide truly comprehensive and sustainable solutions.

4) Is there real potential for this to become a captivating, sizable market even as investments today largely range under $1-$2 million? Does this sector have the potential reach $1 trillion, as suggested?

Antony: The $1TR figure from the JPM/Rockefeller report is looking at only a subset of a few sectors in emerging markets. Impact investing can be applied to a far wider range of sectors and in many interesting ways in developed countries as well. So the potential is truly huge. But reaching this potential will require two fundamental building blocks. We need innovative business models that can take on investment capital and turn it into social solutions as well as surplus cash flow. Tthis may sound simple ,but in many sectors these business models are being innovated right now.

Who is going to figure out how to build a solid house for less than $5,000 with utilities and package it with an affordable financing plan? Who will bring affordable, clean water delivery to scale? Who will figure out how to provide comprehensive homeless prevention services in US cities and be repaid by sharing some of the savings this creates by keeping people out of local emergency rooms and jail lock-ups?

Just as it took decades for the modern microfinance movement to refine its business model, it will take some years for entrepreneurs and their supporters to answer these questions. But when they do, they will be able to address massive social challenges and tap capital markets that should be able to scale these innovations quickly.

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