Bridging Gaps: Impact Investors and Social Energy Enterprises
Multiple approaches have been adopted to tackle the problems faced by the world’s poor. The most predominant channels are through public sector or targeted philanthropic programs. While these channels continue to exist there is an emerging breed of hybrid organizations that use market forces to solve social-environmental-poverty issues. In order to grow one the most fundamental need is capital. These factors influence the enterprises’ ability to attract the right type of capital to fund multiple stages of growth. However, there is little documentation that puts forward the practitioner’s perspective around investor dynamics which heavily influences its ability to create sustainable growth and achieve long term scale.
At SELCO Foundation, the Policy Team has been exploring the largely shared viewpoint by social enterprises that although there has been a widespread effort to capture the difficulties in accessing capital for social enterprises, there is limited insight expectation gaps between the investment and practitioner community.
Combining SELCO’s own investment story with a roundtable discussion between a set of investors and practitioners to jointly discuss:
Expectation gaps from both sides, investors and practitioners, and its impact on organization sustainability
Recommendations that could help guide the growing social investment community and practitioners on the development of sustainable social enterprises. For instance, what kinds of terms or investments instruments would best suit energy enterprises?
The workshop was held on April 7th 2014 and saw attendance from 30 participants-SELCO’s own key funders and other like minded investors, incubation centres, energy enterprises. SELCO intends to work on some of these recommendations and put them into action prior to the next meeting in April 2015.
Building the right investor team:
Frontline Organizations: It is quite challenging to understand the realities on the ground particularly if the team is remotely located with limited bandwidth. It is observed that many who join investment circles have limited field experience and therefore understanding the language of the entrepreneur poses a steep learning curve.
Limited Bandwidth: Investor teams can be small, very often located out of the country and this limits capacity to travel and spend time with investees regularly.
Ground level realism not acknowledged: Experience with ground level realities is not given much importance over qualifications. The latter will naturally help make more informed due diligence decisions however without the appropriate people in the team this realism is lost.
Finding aligned investors among investor circles: It has been difficult to find aligned investors looking at impact first, modest returns. In some cases, there are investors ready to invest in high risk, demonstrable models in order to bridge the gap for other investors, however latter stage investors who have a highly commercial vision can lead to divergent views on future of organization and hence drives a wedge in trying to combine scarce resources towards multiple needs of the organization that can lead to long term growth.
Advocating with the missing middle: Important to recognize that returns cannot be market rate there is an element of subsidy that needs to be injected into the system. This is the way all other industries have grown so unfair to say that this sector should focus on profits without an adequate amount of soft funding as well. There is large institutional funding that can be tapped into but requires loud, collective voice to release it to practitioners. The onus cannot only fall on practitioners but the investor community and other intermediary bodies need to lobby for this release.
Change the terms of engagement: The predominant language is in how profitable the business can be in the future and this is dictated by profit first investor community. Other stakeholder are lending themselves to this language and is probably one of the leading reasons why it is felt entrepreneurs are also largely speaking the same profit first language. This language of negotiation and reporting of impact needs to change otherwise it is a losing battle.
Accountability beyond just the entrepreneur:
Impact of investors vs impact investors: Looking back at the MFI crisis very few questioned the model that was in place and the kind of lending practices. The original vision was to lend for livelihoods but once this was found not to be very promising, rather than digging deeper to understand why and correct these issues, they expanded their lending portfolio which ultimately led to an unsustainable model deepening poverty. There is a danger in repeating this general reluctance to reform the present model. Nobody wants to lose money and this risk averseness is not developing the appropriate instruments, risk appetite of entrepreneurs etc.
Source of funding: There is sometimes a severe disconnect between the intent of the monies the investment vehicles have in their discretion and the conditions dictated to the potential investee companies. The practitioners feel that there lies a contradiction.
Partnerships vs hierarchical relationships
There is an engagement disconnect between investors and entrepreneurs to solve bottlenecks. This is further compounded by the due diligence process or interactions with teams or amount of control sought and how it is exercised which can lead to a general climate of mistrust that is built between the entrepreneurs and their investors. Entrepreneurs need to engage with investors and spend time understanding their perspective also. Over time one can align with like minded investors even if it calls for a few mistakes. There needs to be a balanced approach and one cannot be seen to take more risk that the other because that puts the partnership on a competitive footing.
Ongoing dialogue: There is a need for ongoing dialogue between investors with entrepreneurs. Need for a mechanism like an alliance, circle of investors
More hype, less depth:
Beauty Contests: Pitching on both sides is akin to beauty contests which brings a high degree of visibility but with fewer meaningful impacts to justify the enormous amount of publicity. This could in part be due to a gap in appropriate impact reporting frameworks but also due to the need to garner high visibility to attract big investments in today’s hyper connected world. However, this is more apparent in urbanized entrepreneurs who have access to these social media tools, language, and events. This can be misleading to investors but also inculcates an unhealthy culture among entrepreneurs more concerned with visibility than field work.
Average case vs best case scenarios: This overhype can lead to rosy, best case scenario projections that do not necessarily reflect the practical situation. If these rosy projections made during fundraising do not come to pass the entrepreneur is reluctant to reassess their strategy and recalibrate investor expectations.
Imbalanced views on investment criteria: For practitioners, the differing requirements from various investors, the kinds of documents required, the overemphasis on excel sheets vs field realities which contribute to longer approval periods can lead to frustration among practitioners. For smaller entrepreneurs (less than Rs. 50 lakhs) unable to articulate their plans through excel sheets there are few alternatives developed to suit their ability to communicate their vision. On the other hand, investors view excel sheets are the simplest tool out there as part of the due diligence process especially when dealing with unsophisticated entrepreneurs. Entrepreneurs need to understand and trust that some conditions are put in there to give early investor some leverage with later investor, and are not going to be used against them. There is a need for a certain amount of accountability and one cannot forego that to ease access to funds. In addition even if investments are built on relationships in order to maintain continuity (lessen delays) there is a need for records and hence the importance of these documents in the event individuals moves from the original investment team.
Long approval periods: Cumbersome approval processes can entail a minimum of 6 months to 1 year or more just to clear approvals. This is then followed by release of funding which can take upto 6 months. This is untenable – needs to made much shorter and faster and less painful.
Careful use of commercial capital: Practitioners need to be mindful of not overpromising to investors but instead focus on core of work and organic growth. There is an emerging need to raise funds and grow as fast as possible without creating processes and strengthening the core values of the organization. This can also lead to false perceptions of growth and ability to scale.
Blended investments: Mismatch between big and small monies and there is a need to combine grant funds with matching investor funds at different stages. There is no standardized instruments that have demonstrated this appropriate mix of investments and there is a need for this. The time taken to approve investments is too long and this can stifle critical growth periods for entrepreneurs.
Overhyping, overselling Innovation: Replication needs to be given its due rather than the over emphasis on innovation. While innovation is an important facet of the organization it is increasingly being given an overriding importance over the ability of the organization to replicate sustainable processes.
Oversimplification of problems: Complexity of issues not acknowledged in that different regions call for different solutions. The expectation of return cannot be uniform and it’s a flawed approach to think that the same model or solution will work everywhere. There is an under appreciation of contexts.
Policy frameworks: Need to complement the industry and gain inputs from practitioners themselves. This need not always occur at the national level but can also lower decentralized levels as well. Policy frameworks need to be readjusted as well to stimulate the growing industry in order to mitigate risks for both parties fairly. The conversation gets heated up
Cultivating a change in mindset:
Annual meetings that brings together these likeminded players to further this change in attitude towards sustainable long term investing as a continuation of this meeting. Each invitee will be expected to bring an additional participant to expand the community of likeminded investors and practitioners at different levels.
Forming an Alliance:
Practitioners: Bringing together collective voices in the space will make it easier to engage and lobby with different actors particularly government and policy makers. It also brings in continuity that is not dependent on any one organization or entity but is representative of the larger industry or sector. In this regard, coordinated efforts have lead to the creation of CLEAN earlier this year which can be that collective voice.
Investor Circles: Bringing together different types of investors- high risk funds, intermediaries and long term patient capital into an aligned thinking and also assist in advocating for changes in line with practitioner alliances. This group is also better placed to influence its own circles on a changing attitude towards modest returns and sustainable investing.
Incubation Centers: as intermediary vehicles who can bring in newer players early into this mindset and also serve as advisors between investors and entrepreneurs. Ultimately they are the middle organizations connecting these two entities and therefore they too need to be clued into these conversations.
Exposure programs for Investors and practitioners:
Exchange Program: Moving beyond traditional sense of engagement and exploring an exchange program that enables the investors to witness and engage directly with enterprises on the ground to have a deeper understanding of ground level realities.
Practitioners joining advisory boards: Practitioners participating in advisory boards to assist in due diligence process to bring in a ground level perspective.
Pilot Model Investment Instruments: In order to invest more and invest early there is a need to look at a variety of ticket sizes in different forms. Currently there is a mismatch between big and small monies. For example soft funds are necessary in early stages especially for non tangible expenses (cost vs revenue) that can be used to raise equity funds targeted at organization growth. Therefore, In addition to outlining new sustainable blended investment instruments, it would add of value to demonstrate its viability in reality. This can also demonstrate a new model of partnership between investors and practitioners.
Shorten the due diligence process
Standardizing application and assessment procedures: In order to ensure smoother negotiations, shorten due diligence periods and prepare practitioners. Perhaps a set of model documents can be developed by the broader impact investment community that can reduce time and resources-financial/human (refer model templates from National Venture Capital Association, http://tinyurl.com/ykdxq57)
Domestic Frontline Investor Organizations:</span> Whose proximity will help gain a better understanding of the practitioner and also assist the “remote” decision making team and minimize waiting periods for the practitioner. Also staffed appropriately with folks mindful of ground level realities.
Develop an impact reporting framework: Keeping the metrics simple but effective enough to communicate impactful processes and results of the organization will also help as an additional tool in the investment due diligence stage. This work is already initiated to undertake a larger robust study to develop a reporting framework with appropriate indicators .
Strengthen the Role of Incubator Vehicles: Incubation centres can serve an intermediary role between investors and practitioners. They can be an effective first level interaction that can translate expectations from both sides particularly for smaller entrepreneurs who can engage their counsel to facilitate negotiations.
Expand into other technology players in the energy access space that also shapes early on a holistic thinking around the need for a variety of instruments needed for multi-pronged solutions to solve the scale of the energy problem across the world.
1 ‘Clean Energy Access Network’ (CLEAN) was created in 2014 in India as an overarching alliance that capitalizes on the strengths and expertise of existing networks or interested organizations. The network will focus on areas around clean energy, energy access and decentralized energy while creating the capacity to deliver innovative solutions for other parts of the developing world.
2 CII-Centre for Sustainable Development is working with SELCO Foundation as one of the partners to develop a reporting framework for social enterprises. The intent is to relook at existing indicators that capture impact within the organization (its practices) and results (its outputs) across sectors and differing approaches adopted by enterprises.