Redefining Community Impact - Andrea Armeni

This blog post originally appeared on Caldy, a terrific resource for impact investors. 

“People who own property feel a sense of ownership in their future and their society. They study, save, work, strive, and vote.” 

                                                                                                  - Henry Louis Gates
                                                                                                            Harvard University Professor

Impact investment is often seen as a panacea to the challenges of aid and philanthropy, driving capital to socially positive projects that would otherwise not be financed. As the field matures, however, practitioners are starting to recognize some of its challenges.

The enthusiasm around impact investing means that we have often overlooked where its promise has gone unrealized. Given the tremendous potential of the field, we need to get it right – both to seize a unique and timely opportunity, and to avoid some of the pitfalls that have mired its predecessors, aid and philanthropy.

It is time for a course-correction.

Flows of capital – from World Bank-sponsored megaprojects to neighborhood redevelopments – are not always inherently positive: they can both help and harm communities. Wind farms can add precious resources through local ownership, or they may steal indigenous lands. Microfinance can launch people’s livelihoods, or place them in a cycle of debt. Job creation efforts can strengthen communities or keep them in employed poverty.

How can we ensure that the billions being deployed actually matter, that they will alleviate poverty rather than perpetuating its global cycle? While agreeing that more capital is needed to effect social change, this should not mean investments under any guise. Nor should it mean “impact” without a clearer, more accountable definition.

There is potential for impact investing to turn finance into a real force for transformative social change, rather than just offering incremental solutions at the margin. This is an ambitious vision, but one that is now ripe for implementation.

The Principles of Transformative Finance

Transform Finance, the organization I run, co-founded with Morgan Simon, set out to answer this question by analyzing what seems to have worked – and what hasn’t – in the first wave of impact investing. We distilled that analysis into three overarching principles:

  1. Communities should be engaged in the design, governance, and ownership of projects that affect them.
  2. Investments should add, rather than extract, value to the communities where they are deployed.
  3. Risks and returns need to be fairly balanced between investors, entrepreneurs, and communities.

These principles, rooted in social justice, offer a roadmap for impact investors who strive to ensure their contributions are positive. At a minimum, they offer real agency to the supposed beneficiaries, rather than simply viewing them as providers of labor or consumers of goods. This goes beyond investments and deal structures. It means giving real agency to and drawing leadership from the affected communities.

1. Community Engagement

As impact investing scales up, it has been the voices of investors that have dominated the conversation. Yet if impact investing is to affect the lives of billions of individuals, would it not make sense for their voices to be heard as well?

From disaster relief to urban planning, the concept of community engagement has taken hold. It is time for it to become a tenet of impact investing as well, so that communities can be engaged as partners and not merely as recipients in the co-design, governance, and ownership of projects that affect them. Rather than repeating the mistakes of the past, we now have a wealth of resources to engage beneficiaries adequately.

Co-design has an intuitive appeal that is often bundled in with de-risking by achieving community “buy-in.” But co-design should not be limited to a way of ensuring investor profits; it should be a way of giving a bottom-up, meaningful voice to the affected communities and drawing leadership from them. In this way, shared governance would ensure that decisions on the flows of benefits are informed by the views and priorities of the beneficiaries, and go beyond simple consultation. This includes addressing two key questions: (1) Who should govern the agreements about use and distribution of the profits?, and (2) Which stakeholders have a right to remain engaged throughout the process?

Shared ownership goes to the heart of the intention of impact investing. We can only do so much good by viewing beneficiaries as sources of labor, or as purchasers of cheaper and sometimes better goods. A cycle of poverty is broken by asset creation, and impact investing is perfectly poised to provide such structures. However, this requires a change in mentality for some of the players who are accustomed to the more traditional approach to business and investing. They will need to shift their thinking, for example, from simple job creation to a more sophisticated job creation model where the employees share in the upside and have opportunities for ownership, asset creation, and advancement.

2. Non-Extractiveness

Traditional finance is predicated on the capture of the value that is created by the investment. This mindset, if over-applied within the impact investing context, risks turning the world’s challenges into profit opportunities, while at the same time relegating the real impact to a fortunate by-product.

We see some striking value-extractive examples in microfinance. For instance, does it make sense for Banco Compartamos to extract US$1 million in profits daily and yet say that it aims to offer “inclusive opportunities to the largest number of people in the shortest time possible while also sharing the profits with the communities”? Even if one is agnostic about the appropriate returns from an impact investment, this is a jarring figure.

In order to increase the amount of wealth rooted in communities and distributed throughout the population, impact investments need to be non-extractive, a concept pioneered by The Working World, a community development fund. By being mindful of extractiveness, an impact investor can quantify the value that is produced for the community versus what is taken out of that community.

Returning to the wind development example, an equity investment that repatriates the proceeds to far-away investors would be more extractive than a debt investment where equity ownership is built locally and the community gets to determine how to reinvest the value created by the project. Grupo Yansa has successfully pioneered this approach in Oaxaca, offering a structure that reinvests the proceeds from renewable energy into health, education, and financial security initiatives.

3. Fair Allocation of Risks & Returns

In a traditional finance scenario, an investor would try to maximize the potential returns compared to the risks of the investment. This inherently pits the investor on opposite sides of the table from the other constituents or stakeholders. Where a positive social return is sought, it makes more sense for investors, entrepreneurs, and affected communities to be sitting on the same side of the table, rather than viewing the investment as a balance of interests.

We often find that investors are far more sophisticated in calculating and minimizing risk than communities are. Yet, communities stand to lose far more than investors do if things don’t go as planned. In a failed project, chances are an investor will still have a roof over his / her head, and a job the next day. A community may suffer much more, not only in terms of resources but also in terms of opportunity cost over alternatives it could have pursued.

Investors need to be thoughtful about this potential, and foster deeper accountability to the projects in which they engage.

The Challenges

Through the work of the Transform Finance Investor Network, we see two major issues emerge in putting communities at the center of impact investing.

One is the dearth of proven alternative investment structures that are conducive to shared ownership. We need to focus our efforts on simplifying and proving out structures – from demand dividends, as in the case of Maya Mountain Cacao, to non-extractive loans, as in the case of The Working World – that can become more mainstream.

The other challenge is the limited pipeline of transformative projects that are co-designed with communities, create real shared value, and are appealing to investors. For this we need to redouble our field-building efforts and support the capacity needs of a new breed of entrepreneurs and practitioners.

In particular, we need entrepreneurship capacity building programs that are targeted at aspiring entrepreneurs of all stripes, recruiting beyond the traditional realms of business schools. Further, we need entrepreneurs and investors that understand their crucial role, but likewise know how to lead from behind and draw leadership from the affected communities. Lastly, we need to respect and enhance community leadership models that already exist, rather than imposing outside ones.

Let’s work together to ensure we fulfill the promise of this world-changing opportunity.

- Andrea Armeni

The post was originally published on CaldyGroup.com.