At the suggestion of the CIO of one of the largest superannuation funds in Australia, Investment Magazine organised a roundtable of some of the most prominent thinkers on the subject of social impact investing to share ideas on how more of the $2 trillion invested in superannuation could do some social good.
The meeting of five superannuation funds, two banks, one fund manager and two NGOs to discuss social impact investing at the Investment Magazine offices in Sydney in late June was one of the first of what is likely to be many attempts to help institutional investors find ways of using their capital to both obtain returns and help improve the fabric of the society in which super fund members live.
“Financial markets are turning over seven trillion dollars a day. You can’t help but look at the fundamental underlying purpose of finance – why we’re all here, why we’re paid – and not ask whether it is at least possible to create models that channels that capital in ways that deliver outcomes bigger than those through the very narrow lens that we have traditionally applied,” says Richard Brandweiner, chief investment officer at First State Super and an early campaigner for social impact investing.
Scale is the big stumbling block so far. Australia currently lacks the scale of projects found in the US and UK investments related to funding social housing projects. As an example, NAB’s representative at the discussion, James Waddell, said his bank was looking for deals of $50 million plus.
One common thread to the discussion was the acceptance that the state and federal government could not be relied upon to take the initiative for generating such scale in social impact investments. This is partly due to the short-term thinking of government on electoral cycles, but also the acceptance that with their scale and know-how, at least part of the initiative lies with superannuation funds. This initiative must be deployed in organising like-minded NGOs, government and businesses to sit round a table to originate deals. To do this they need to find a shared language.
Daniel Madhavan, managing director of Impact Investing Australia, an organisation devoted to making social investment projects happen, talks to not-for-profit organisations seeking capital and says they are well aware of their individual lack of scale. However, there are cultural issues to be overcome.
“They get that there needs to be a return in this, but they are very worried that the whole conversation gets driven by financial return, which is a very interesting tension between these two conversations,” he says.
For Andrew McLeod, chief executive of Good Super, this would always be a stumbling block. “Until they accept profitability as a legitimate motive it would be a useless discussion,” he says.
Change on the way
However, James Waddell foresees change. “Payments for outcomes is the future for the NGO sector because governments are changing the way they’re going to remunerate them,” he says. “There are a group of NGOs out there that are really going to make a difference and will be the social entrepreneurs, if you like, of the future.”
Lisa Wade, head of community assets at Bendigo and Adelaide Bank, spoke of how she had brought together a renewable energy company, an electricity grid company with a public sector body to create a social impact investment. “You get all the people who would never normally talk around the table, then you can create that solution,” she says. “We can create investment-grade products with solid risk/reward social outcomes, but it starts with community first, which allows everyone to have conversations with a common interest.”
Such projects are more commonplace in the UK, where the fund manager Columbia Threadneedle Investments has created the UK’s first multi-project social impact bond fund by partnering with Big Issue Invest, the social investment arm of Big Issue whose mission statement is ‘by social entrepreneurs for social entrepreneurs’.
“You need a third party that has genuine skill in building a credible segmentation of social intensity and social outcome measurement,” says Jon Allen, co-head institutional sales of Asia Pacific at
Columbia Threadneedle Investments, adding that a fund manager was a natural catalyst to bring NGOs together with investors.
He speculated that if enough fund managers did this globally – Columbia Threadneedle Investments pass all profits to a charitable foundation it has set up – then it would set a trend among other fund managers.
In 14 months the fund has raised $100 million and is growing strongly. Columbia Threadneedle Investments also has a US version of the fund and is now looking at a European version, but nothing exists like this yet in Australia.
Allen explains the mechanics of risk in such a trust was built around a trade-off between investments: “You have to recognise that the implied cost of carry is that you will not get a perfect bullseye on every single security that you buy.”
Madhavan predicted that fund managers would increasingly get involved in this space, not so much for the profits it would bring, but as a recruitment and a retention tool for young employees. “Gen Y don’t just want to take a community day each year to go and paint a fence,” he said. “They are much more interested in finding purpose in their work and using their skills to make a broader contribution. If the organisation they work for doesn’t provide those types of opportunities, other organisations will.”
Overseas or domestic?
With social impact investing more advanced in the UK and US, the question was asked whether members of super funds would be upset if there was not any equivalent local social investment. For Christian Super, with its long history of overseas investments in developing countries, the answer was a definite no.
“We’ve never asked ourselves that question because we don’t think our members care whether it’s in Australia or overseas. I’m not sure that Australians are so domestic biased that they’re not interested in social impact overseas,” says Tim Macready, chief investment officer of the $1 billion fund.
“If you went out internationally and did this and you could justify the returns, that’s not an issue,” says Kristian Fok, executive manager investment strategy at Cbus.
“But if it’s a lot of effort in terms of the activity to create the investment opportunity, and you haven’t even done anything domestically, the question would be asked ‘why are you focusing your efforts over there when there are opportunities domestically?’”
Another perspective was ventured that with the majority of Australians disengaged with their superannuation, then it was surely not an issue.
Housing
One recurring comment was the possibility of institutional money funding domestic social and affordable housing. Mark Peacock, a director at Social Ventures Australia, who finances social and affordable housing projects, pointed out that the NSW government’s public housing portfolio alone has been running at a deficit of $330m per annum when factoring in maintenance of the portfolio at reasonable standards. He believes community housing providers could have the capability and expertise to scale their portfolios through leveraging private capital, but would need a stable regulatory environment to provide certainty around the underlying cashflows to support increased leverage.
Another problem was the lack of scale of housing organisations in Australia, which he said were “ridiculously” small in an international context.
“If you look at the UK there are 20 organisations with more than 20,000 properties in their portfolio,” says Peacock. “But in Australia the largest has 9000 and the next only 5000.” He saw this lack of scale as limiting the pace of change.
Fok commented that this was an area that his fund would naturally be interested in – representing construction workers and owning Cbus Property, a property development investment company.
Investment vehicles
Even where organisations can get together to create an investment, its structure might not always be ideal. Waddell described some investments as having the profile of equity risk with bond-like returns. “You can add that it can be difficult to actually understand that risk when there is no data,” he says.
For Fok, the problem of such a profile was that it would end up becoming a risk-budget drag on the total portfolio. Brandweiner cited the lack of data as a barrier that needed to be crossed for social impact investments to be sold to boards. “There is a gap for an intermediary to help the institutional market actually quantify and understand recidivism and recidivism solutions, for example,” he says.
Another issue was liquidity. If illiquid, says Brandweiner, then the returns had to be higher.
Macready speculated that with the market so small, it was difficult to find other buyers and sellers and a willing buyer of last resort might be the government.
For Alice Prudhoe of Local Government Super, the key step would be having its consultant on board as part of its general due diligence.
Case study
Christian Super is probably Australia’s most prolific investor in social investments with $70-80m of its $1bn portfolio managed this way, largely in developing countries, with a big line in micro-finance operations in countries such as India and Paraguay.
These are investments that are small and time consuming to complete (but worthwhile, says Macready), but meet the expectations of the members of Christian Super. Research feedback shows that 73 per cent of members have expectations of investing in line with Biblical principles.
However, the first step is to work out the investment case of every single ethical allocation.
“We haven’t done a single deal that we didn’t think was a good deal,” he says.
The investment case is often made for its lack of correlation to other asset classes. “We’re not looking for anything that’s exhibiting the same risk and the same correlation as equities or bonds or any other part of the portfolio,” he says, citing micro-finance in frontier and emerging economies as a good example, as both are largely uncorrelated to global growth.
Fiduciary responsibility
If scale is the biggest barrier to social impact investing then fiduciary duty follows close behind. Maged Girgis, a partner at Minter Ellison, says the courts’ definition of superannuation funds is that of a financial vehicle not a moral vehicle or a charity.
So each investment undertaken had to prove its worth against all others.
He points out that while Christian Super had a clear mandate for its members to invest in an ethical way, other super funds – which are made up of all walks of life – do not. “It’s very dangerous to say ‘we as the super fund trustees somehow hold the morality or value set of our constituents’, because they don’t,” he says.
He advises funds to describe any social impact investment in terms of its financial worth first, and then to point out the social good it brings. These legal points were accepted by the other participants, but were considered out of date.
Brandweiner says that he felt that the sole purpose test of superannuation investments was having “less and less meaning” to many members of First State Super and that sometimes they saw it as a “cop out” when it was explained to them why the fund could not invest more ethically. To which, Girgis commented: “The world is moving on but the law has not caught up yet”.
McLeod recalls a conversation with Simon Crean, who revealed that one original proposal in 1992 had been to ring-fence five per cent of funds under management to be used for low yielding infrastructure development in Australia. McLeod proposes a rethink of the sole purpose test in this context.
He adds that the size of superannuation, at 115 per cent of the GDP and growing, was having a corresponding impact on the society in which retirees lived and some recognition of this responsibility was needed by superannuation funds, particularly in areas that impact quality of life like health and transport.
Companies
The biggest leftfield idea from the discussion was of institutional investors funding developing world projects that tackled disease, built infrastructure or improved nutrition, which were tied in with the commercial objectives of multinational companies.
Andrew McLeod, chief executive of Good Super, who has experience in senior roles on humanitarian relief project in Rwanda, the former Yugoslavia, Pakistan, Iran and Afghanistan, for both the UN and the International Red Cross, put forward the proposal.
His experience has impressed upon him how companies can on occasions be far more effective than NGOs.
He cites the largely unheralded success of companies such as Rio Tinto in building what will become the third or fourth town in Mongolia around its copper mine, a town that will become the richest in the country per head of the population. And of the success of BHP Billiton in reducing adult malaria infection from 92 per cent of the population to 5.6 per cent in Mozambique, a move which has dropped absenteeism from 22 per cent to 2 per cent at its large aluminium operations.
This has improved the productivity of the asset by about half the cost of the program, according to McLeod.
He proposes that such projects could be funded by investors and pay out a coupon related to the project’s success. He recognises that while large companies such as BHP Billiton and Rio Tinto might not have difficulty in raising cheap funding without access to investors, other smaller companies might need to.
“If you create the concept and create the market then you can persuade the mid and the small caps to do that sort of activity as well,” says McLeod.
Such projects have impressed McLeod after his attempts at coordinating international NGOs left him frustrated.
He said such herding of NGOs “never works” owing to the strong economic incentive for them not to work together. Furthermore, they are strangers to the profit motive as a “legitimate incentive for activity”.
Fok was taken with the idea of engaging with companies, because Cbus has already started that process from a corporate governance perspective and has recently made an appointment to lead its direct company research program. “We want to have a much deeper dialogue with companies,” he says.
Participants:
Richard Brandweiner, chief investment officer, First State Super
Tim Macready, chief investment officer, Christian Super
Mark Peacock, director, Social Ventures Australia
Daniel Madhaven, chief executive officer, Impact Investing Australia
Alice Prudhoe, sustainability officer, Local Government Super
Andrew McLeod, managing director, Good Super
James Waddell, director, debt capital markets group, NAB
Kristian Fok, executive manager investments, Cbus
Jon Allen, co-head institutional sales, Asia Pacific Columbia Threadneedle Investments
Lisa Wade, head of community assets, Bendigo and Adelaide Bank
Maged Girgis, partner, Minter Ellison
