Impact Investing

What Impact Investors Can Learn from the Microfinance Industry

Substitute the word “impact” for “social performance,” and current debates in the investment community sound exactly like the ones the microfinance industry had 10 years ago. The investor community can learn from microfinance’s successful efforts to set standards for non-financial returns—the “other bottom line.”

Last November, two articles raised some fundamental questions about impact investing. “Impact Investing Benchmark: What’s ‘Impact Got to Do With It?’ (Paul DiLeo, Grassroots Capital Management) and “Impact Investing: Financial Returns are Only Half the Story” (by Roots of Impact’s Bjoern Struewer and Rory Tews) both begin as reactions to various specific points raised in a recent joint publication from Cambridge Associates and the Global Impact Investing Network (GIIN). But both articles quickly expand to address the important, broader debate that the report has spurred.

The Cambridge/GIIN report, published in June 2015, seeks to define, for the first time ever, a benchmark for impact investments. It provides detailed analysis of financial returns on “impact investments,” but curiously, it leaves social returns entirely in the eye of the beholder. And as Struewer and Tews note, “The [GIIN/Cambridge] report uses a self-reported ‘intention to generate social impact’ as the only impact-related inclusion criteria”—in other words, impact means whatever anyone says it means. DiLeo, for his part, forthrightly asks “why we bother to distinguish [impact investing] from conventional investing at all, other than for marketing purposes” if the only metric is shareholder returns.

Both articles acknowledge that impact assessment is complex, and that it would be unreasonable to expect that the first-ever attempt at an investment benchmark would or could be definitive. But as they also point out, benchmarks have a self-fulfilling quality: Once in general circulation, they become the target toward which the industry aims. Benchmarks don’t just describe market conditions; to a large extent, they shape them.

Ten years ago, the microfinance industry was exactly where the impact investment community finds itself now. We prided ourselves on the “double bottom line”—delivering meaningful social performance while operating on a financially self-sustaining, even profitable, basis. Great efforts were underway to measure financial performance. But—and stop us if any of this is sounding familiar—with a few notable early exceptions, no one was measuring social performance. No one was even defining the term. It was simply taken for granted that if a financial institution said it had a social mission, it was serving poor people well. In short, social performance back then, like impact investment today, meant whatever anyone said it meant.

The backlash did not hit until 2007, but when it did, it was fierce. The windfall profits from high-profile IPOs—and the mind-boggling interest rates paid by very poor people that had made those profits possible—soured the public on an industry that had enjoyed respect, not to mention taxpayer funding. Never mind that the IPOs were hardly representative of the whole industry. Without universal standards, the public understandably concluded that “social performance” was nothing more than a marketing slogan.

With the benefit of hindsight, it’s striking how closely the story the microfinance industry told itself then parallels the story the impact investment community (at least segments of it) appears to be telling itself now. The pre-IPO narrative in microfinance went something like this: If a customer pays off her loan and comes back for a new one, it proves that she values the product and can manage the interest. Therefore, the institution can charge a premium and still rest assured of its “social performance”—no trade-off required. Ten years later, Paul DiLeo tackles the “no trade-offs required” assumption head on. He notes that investors believe—because they choose to believe—that they can earn comparable or greater return on their “impact investments” because experience proves that people will pay more for cruelty-free chicken, or dual-fuel cars, or solar panels. But as he points out, when we are talking not about affluent customers paying more for virtue-signaling luxuries, but instead about poor people buying necessities, “the idea of them choosing to pay more makes no sense.” If an investor still demands above-market returns from a company that provides necessary goods or services to poor people, on what basis, DiLeo asks, should it be considered an “impact investment?”

The Social Performance Task Force (SPTF) was created in 2005—crucially, so it turned out, before the IPOs—as a platform for the industry to get real about social performance: defining it, measuring it, promoting best practice. It took 10 years, and intensive collaboration among all the major stakeholders, but today the microfinance industry has the Universal Standards for Social Performance. These standards enjoy credibility (because the work was well underway before the IPOs and thus could not be dismissed as damage control) and wide adoption (because everyone had a say in them). We have a suite of other tools, too, including some specifically for social investors in microfinance, and we have an active Investor Working Group.

Our journey provides a roadmap for the impact investors, considering how closely history appears to be repeating itself. Following that roadmap could help them avoid some of the quick sands we stepped in along the way. Above all, our experience suggests that unless impact investors resist the powerfully seductive lure of “no trade offs required,” disaster will ensue, causing the greatest harm to the most vulnerable.

SPTF also has a vested interest in sharing our experience with investors because so much impact investment is aimed at our sector. We’ve seen what happens when a market gets flooded with new money from investors who demand aggressive returns and are content not to ask the tough questions about what makes those returns possible. That story never ends well.

The impact investor community has an opportunity to write a new story, and get it right from the beginning. Judging from the new benchmark, and the debate it inspired, the story could end up going either way.

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  • BY Steve Wright

    ON February 17, 2016 03:35 PM

    Here, here Laura Foose! First let me say that you have that rare and inspired sort of patience that was instrumental in the brilliant cat-herding and consensus building you and your team achieved with the SPTF. I am grateful to have had a short stint in Microfinance to see you work as exactly what you suggest it is in this article - an example and a cautionary tale for the Impact Investing and Financial Inclusion work parading about like sliced bread. smile

  • Sachin S VANKALAS's avatar

    BY Sachin S VANKALAS

    ON February 18, 2016 02:16 AM

    Very well described Laura.

    Several Asset Managers in Impact Investing have built up their case by pointing out at the crisis in Microfinance Industry and specifically underlining on the fact that Microfinance story is pretty wage in terms of actual social impact achieved. To a large extent, it seemed true, as there was hardly any standard reporting on impact of Microfinance, during pre-crisis time.

    If the Impact Investment sector ignores the importance of standard definitions and proper tools for measurement and reporting of impact right from the beginning and keep focusing on scale, it would be simply the repetition of mistakes made by the Microfinance industry at its early stage.

  • Cristian Shoemaker's avatar

    BY Cristian Shoemaker

    ON February 18, 2016 09:54 PM

    Nice article Laura and Anne.  Thanks for sharing.

  • Mike McCreless's avatar

    BY Mike McCreless

    ON February 19, 2016 06:49 AM

    Couldn’t agree more. Thank you for getting the word out.

  • BY Julie Peachey

    ON February 23, 2016 09:53 AM

    Excellent article Laura and Anne.  You’ve clearly articulated something I think to myself everytime I go to conferences or hear talk about impact investing outside the microfinance world - why aren’t they learning from microfinance?  why arent’t the sectors talking?  Well done.

  • BY Unmesh Sheth

    ON February 24, 2016 05:59 PM

    Great article Laura and Anne.  I would like to share my impression as with you and your readers with slightly different observations.

    While, Impact investing has grown to $6.57 trillion in the U.S. While in any other commercial industry such a large funding cannot escape without measurement, we see a little evidence of true impact measurement in impact investment today! While interest in impact investment is going mainstream, without a real understanding of an impact, we are likely to repeat a fiasco of Microfinance industry from a decade ago. While there is substantial evidence from international development agencies requiring 5% or more budget toward Measurement & Evaluation and funders asking for a better impact evidence during their grant proposal, a closer look at them shows a completely different picture. While, aid agencies, foundations and impact funds defines success metrics and receives regular Excel or PDF based results, a closer interview with them finds a different picture. We found at that many regulatory projects collected results from program agencies mostly for compliance reasons. They simply didn’t have means to aggregate data in such way that can provide them a comprehensive view. In fact, a situation is not any different for foundations or impact funds.

    Read more here:

  • BY Anne Hastings

    ON February 25, 2016 10:46 AM

    What a timely and significant article, Laura and Anne. I can’t believe how often I feel like I’m in some sort of “time capsule” when talking with impact investors. Thanks so much for such an articulate and clear explanation of why impact investors should learn from the microfinance industry about measuring social returns.

  • Sean Kline's avatar

    BY Sean Kline

    ON April 15, 2016 07:27 AM

    The parallels are striking—thanks for highlighting Laura and Anne. Early on, I believe our Social Performance Task Force suffered a degree of self-delusion about the veracity of social performance data coming from a select group of microfinance institutions we viewed as positive deviants (including my own). In my view, rather than view the handful of microfinance institutions striving to demonstrate and report on social performance as evolving laboratories for a nascent industry’s learning, we assumed their social performance and sought to codify their practices prematurely. Numerous rigorous studies later, I think it’s clear we overestimated social performance and underestimated the gravity of market forces to make profitability primary. I remain skeptical that impact investing can, likewise, defy gravity.

  • Ellen Carey's avatar

    BY Ellen Carey

    ON April 21, 2016 08:50 AM

    Just seeing this article now and couldn’t agree more!  In addition to the experiences and lessons learned from the microfinance sector, are the actual principles, processes and tools developed by SPTF that can be easily adapted to other “impact investing” sectors.  The Universal Standards for Social Performance Management are useful for investors outside of financial inclusion and can easily be applied to investments in health, renewable energy, education, etc.  Let’s not reinvent the wheel on the amazing set of resources that have been developed.

    Keep up the great work SPTF team!

  • BY John Alex

    ON May 10, 2016 02:14 AM

    Very timely and good article at a time when the Industry is back on its wheels, reminding them to continue to balance on the double/Triple bottom line, Keep up the good work

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