Impact investing is by far too input-defined. Often, organizations measure what they’ve done by inputs—consulting hours given, dollars deployed or enterprises served. Metrics are hard, and we are all guilty of this behavior sometimes.
Many people working in “social impact” are not sure what problem they are trying to solve.Tweet This Quote
Instead of inputs, the true innovators we’ve seen start with a problem-solving prerogative. Instead of “access to education for the poor,” innovators look at the hundreds of thousands of low-cost private schools serving the poor in emerging markets. Parents, even those living below the poverty line, can afford these schools, so money’s not the problem. The problem is that parents have no idea how these schools are performing, and they’re worried that they are sending their kids to bad schools. Families living in poverty are spending as much as 30% of their budget on education. Thus, innovators ask, “How can we deliver quality information about educational performance to parents in a way that fits within that 30% budget and solves their problem?”
What we find is that many people working in “social impact” are not sure what problem they are trying to solve and confuse high volume of inputs focused on “social entrepreneurship” with real impact on the sector they are addressing. Yet, this message rarely gets conveyed.
The greatest entrepreneurial successes weren’t done under the umbrella of “impact investments.” Tweet This Quote
We’ve found these mistranslations in recruiting for Village Capital. We look for the best possible ventures to be in our programs. However, we often find that when we look for self-described entrepreneurs, we get ventures that have sub-standard business quality. We have started recruiting “entrepreneurs addressing X” (identifying the problem for each cohort). In response, we get a lot of what we call “social entrepreneurs who have never heard of social enterprise.”
The world would do well to understand that the greatest entrepreneurial successes weren’t done under the umbrella of “impact investments,” but probably made a greater impact than any “impact investment” to date.
Find a problem, start a business that addresses (does not have to solve) the problem, and make it into a model where someone is willing to pay you for the value that you are creating. Consider the following examples:
- Sorenson Communications: Providing communication services in the United States for deaf individuals to communicate—huge value and financially successful, therefore valuable.
- Etsy: A B-Corporation that provides market access to small-scale artists and individuals producing volumes too small for “major retail”—$40M from venture capitalists; processing $1B in sales; no need to be considered a “social enterprise.”
- Tesla: We don’t need to tell you the problem statement. What we can tell you is that Tesla’s first financing was originally a PRI from the MacArthur Foundation.
Find a problem, start a business that addresses the problem, and build a model where people are willing to pay. Tweet This Quote
How do we get more problem-solvers? Invest in quality infrastructure. Instead of generalistic, input-oriented surveys figuring out, “Why people aren’t doing more impact investing,” identify specific problem areas within target sectors. We like what ACCION Venture Labs is doing in East Africa or what Pearson Affordable Learning Fund is doing in India, looking at specific leverage points by way of financial inclusion where entrepreneurs can make a difference.
Instead of input-oriented technical assistance that provides vague “handholding” and “consulting hours” to entrepreneurs, invest in real deliverables: pro forma financials, market tests, customer validation (or business hypothesis nullification), HR services, and more.
Impact investors must be willing to invest in infrastructure and riskier businesses. Tweet This Quote
Impact investors must be willing to invest in infrastructure, as well as riskier businesses, which they might not like if they want quality carriers. Impact investing has been described as an “emerging asset class.” Yet, if we continue to start with the problem, we need to identify the clear system-level breakdowns that prevent an “asset class” from being possible. This prevention is manifested in various ways: inefficient markets for start-ups, the signaling effect of the way we talk about social capital markets turning off serious entrepreneurs and investors, or the misallocation of capital that rewards risk aversion in a sector that requires risk-tolerant structures to grow big.
So, what do we do?
- If you are an entrepreneur and you meet someone with capital, figure out what they want to do and help them solve their problems. If someone wants to invest in businesses that help address cancer, figure out where they are getting stuck. Is it lack of quality deals? Is it poor problem identification? Is it public policy/regulation around investing in health services? Don’t convince them that they should buy your solution—figure out how you can solve their problems.
- Recognize that other systems we consider “normal” took similar pioneering. People look at systems and think, “this is too hard, there are no exits.” They forget, or don’t know, that Silicon Valley was built through decades of government and grant funding—and a lot of individuals losing their shirt on deals structured on legal pads. If you are coming to a meeting for the sole purpose of making money with no risk, this isn’t the place for you. Stick with the S&P500 instead.
- If you are someone with capital, realize you need to invest in (1) infrastructure, and (2) quality. Don’t assume someone is doing a good job just because they’ve won awards or are getting a lot of press (and hold everyone to the same standard). Figure out what they’ve done and what they’ve delivered from a problem-solving standpoint, not just an input standpoint. This is a corollary to the above point—invest in great businesses, and people with thoughtful (and falsifiable, changeable) hypotheses on how to build the businesses.
As an entrepreneur, don’t convince an investor to buy your solution—figure out how you can solve their problems. Tweet This Quote
“Patient capital” shouldn’t mean “infinite capital”—we’re investing, not grant-making. True solutions to major social problems will yield great businesses if done well and with appropriate infrastructure.
A version of this post originally published on UNREASONABLE.is in March 2014. It has been updated and reposted to inspire further conversation.