NESsT and Latimpacto partnered to introduce family foundations and family offices in Latin America to the fundamentals of impact investing. The aim was to encourage more funders to build business models that enable them to support social enterprises and other revenue-generating initiatives.
Over the course of its first year, Latimpacto formed a team that has been focused on delivering on what it set out to do from the start:
Connect the entire capital continuum, from philanthropic giving to impact investing (with financial return).
Connect capital providers in all sectors of the social ecosystem: from foundations to corporations, investors, family offices, professional services offices, academic institutions and public sector actors.
Connect Latin America with each other and with the largest community of global social investors: about 1000 organizations that are members of EVPA and AVPN and above all.
Prioritize the achievement of a positive social and environmental impact ("impact first"), which is a prevailing need at this time when the socioeconomic fabric has been dramatically affected in Latin America.
We convened with leaders from organizations such as Fundacion Avina, Fundación Banco Colombia, Fundo Vale, FREIS, and Icemex. The areas that piqued the interest of the participants in the course included:
How to decide on the use of philanthropy versus investment to carry out a theory of change
How do risk, return and impact work together in an investment strategy
How do you structure an investment to ensure that it will achieve its intended goals
How do you mitigate risks while fostering impact
In the spirit of encouraging more impact investing in Latin America, I shared four learnings that NESsT values as part of our own process.
1) Define your “Theory of Change” to be a continuous process that should withstand the test of time and analysis.
NESsT’s theory of change rests on the belief that social enterprises are hybrid models that are well suited to address key social and economic challenges confronting our world today. We believe that if we invest in these enterprises, and help them to grow, we will become a more inclusive and equitable society.
How we go about doing this has evolved over time. Early on, we worked with nonprofit organizations and provided a great deal of capacity support to help them pivot to becoming entrepreneurial and sustainable. We supported a wide spectrum of nonprofits working in many sectors in order to demonstrate the power of social enterprise.
With time, we also began working with for-profit mission-driven businesses that also needed technical assistance and capital to grow. Seeing that there were many new players in our sector, we decided to deepen our impact on social enterprises creating quality jobs. We did all of this by recycling philanthropic capital and measuring its impact.
Today, realizing that as these enterprises grow, they also need different types, slightly larger amounts, and continuous capital, we have launched an early-stage investment fund to do just that. The NESsT Fund provides early-stage growth capital to its portfolio and meets the large gap in funding for SMEs that currently exists in the region. We have further deepened our impact measurement to include a gender lens dimension believing that it will not only improve its impact but also its performance.
Defining your theory of chance and revisiting it doesn’t mean you change your mind. On the contrary, it just means that you verify whether your philanthropic and/or investment activities are ensuring that your organization delivers on its theory of change and continues to add value. If it is not, then you either change the focus of these activities or the cause/effect elements of your theory of change based on the evidence at hand.
2) Design your investment strategy by outlining the criteria of funding that best reflects your intended risk, return, and impact.
The criteria of your investment strategy are the baseline that must exist in order to carry out your theory of change. In other words, the criteria lay out the key drivers you will assess to produce the outcomes you seek. NESsT defined its criteria with the following characteristics below. These characteristics are at the intersection of how we balance risk, return, and impact. We seek investments that have medium to high loan profitability with high impact. This entails taking calculated risks.
The Fund shall target companies with the following characteristics:
3) Assess the criteria closely during the due diligence process against the risk, return, impact framework that you have defined.
Probably the most challenging aspect of an impact investment strategy is the due diligence process that will inform your decision to make the investment. How to ensure that enough of these criteria are there that it makes sense to provide the capital. Do we have great confidence in the managed team? Are we sure that the growth opportunity is really well-founded and substantiated? Will they be able to diversify their clients, decreasing their dependence on anyone? Have we assessed all of the possible ways that this investment can go sour (worst case scenario) and that there is still a repayment option? What do industry trends tell us? How can we mitigate risks?
NESsT has had to turn away some very impactful opportunities when these criteria have not been met. But we have also decided to make some of them when the criteria were met but could be strengthened. The Business Assistance Facility of the NESsT Fund, which offers support to the investees in areas of financial management, impact measurement, governance, marketing, and sales, among others, helps us to mitigate possible risks and position the enterprises for success.
4) Structure the investment to best ensure that it is aligned with your risk, return, impact framework, and can achieve its intended goals.
This means defining the minimum and maximum amounts you’re willing to fund, the conditions of the grant such as length of repayment and grace periods, defining what the capital can be used for (this increases or decreases the risk of your capital deployment strategy and should align with the length of repayment), interest rates or equity frameworks, and what you will use to determine the creditworthiness and/or financial health of your borrowers and investors.
Much of this will already be defined by the type of funding that the strategy is offering given the maturity of the companies. However, there are many decisions to be taken that are contextual and informed by an enterprise’s financial history and track record, the use of the funding, the security of market demand, the riskiness of the sector and level of competition, the presence of collateral, and growth expectations and need for future capital.
Concluding Remarks
Having a strong theory of change that is relevant, backed by a strategy that informs and responds to the interplay of risk, return, and impact is key for sound impact investment. Interestingly, they are probably also the building blocks of a sound philanthropic investment. Creating real systemic change in Latin America requires a combination of both. Organizations such as Latimpacto that are helping the philanthropic community in the region to transition to a more “engaged” philanthropy that encompasses these characteristics are playing a critical role in accelerating this change. And as shared with the course participants last week, their interest in learning what is impact investing, and how best to do it, demonstrates a serious commitment and the first step toward this transition.
Resources for Videos (Live for 30 days in Spanish)
Cómo estructurar una inversión
Por qué NESsT creó un fondo de inversión