A detailed look at impact investing
What is impact investing?
Impact investing in the latest wave in the RI evolution. Impact moves beyond simple exclusionary screening and recognises that through innovative financial solutions investors’ capital can be put in motion towards greater social utility while aiming to generate market equivalent returns.
The challenge of impact investing is in simultaneously delivering financial and societal returns. These two criteria are not conflicting but are both demanding. The financial targets are not token, but competitive, market rate returns. The societal objectives require a demonstration of clear, measureable benefits. Our clients hold us to exacting standards on both.
Impact strategies cover a broad range of complex social and environmental themes and in many cases harness the latest technology or pioneer delivery systems to gain efficiencies and reach those most in need.
Here we take a look into how some investments work in practice under three prominent themes across our Impact strategies.
Impact investing: a simple but powerful asset class
Impact investing aims to be a win-win concept: investors enjoy potentially attractive financial returns while simultaneously having a positive outcome for broader society and the environment.
In 1998, AXA Investment Managers (AXA IM) launched its first societal impact mandate, tackling unemployment by investing in listed small and mid-cap companies creating sustainable jobs in France. We now manage impact funds ranging from private investments to green bonds and listed equities, aimed at providing solutions relating to healthcare, climate change and social issues.
Through impact investing, AXA IM wants to enhance long-term returns, and this is achieved through the allocation of capital to avail unmet sustainability-related opportunities within large addressable markets. Alongside this, we aim to drive impact by leveraging our investor rights, to influence companies through engagement.
Impact investing is an idea which has grown rapidly in recent years. The United Nations’ Sustainable Development Goals (SDGs), which were established in 2015 to address key global challenges including poverty, inequality, climate and health, have played a vital role in driving the impact agenda. There has been widespread adoption of the SDGs by a wide range of stakeholders – governments, businesses, financial institutions and not-for-profits – as a framework to assess unmet societal needs.
There are 17 SDGs, with clearly defined objectives, as well as 169 underlying targets to be met by 2030.
The roots of impact investing have been in venture capital and private equity. But over recent years the concept has evolved to include the rapidly growing green bonds market. As this investment approach moves further into the mainstream, there has been considerable debate in the asset management industry around how impact can be truly achieved by investing in publicly-listed equities and corporate bonds. While the underlying concept may be simple to grasp, doing it in a robust and thoughtful manner is challenging.
Our approach to impact investing in listed assets is built on five pillars. These pillars are what characterise impact investing and differentiate it from other approaches to responsible investing. Here are our key areas of consideration:
Investments should be made with the upfront objective of having a specific positive social or environmental outcome.
We aim to invest in companies where the positive outcomes are of material significance to the beneficiaries, companies, or both.
We principally focus on the extent to which a company is making its ‘needed’ products and services more accessible or commercially viable.
4. Negative externality
A company’s corporate practices, products and services, may significantly undermine the positive impact it is generating elsewhere. Consequently, it is important that negative externalities, and a firm’s commitment to address them, are fully considered alongside positive outcomes.
There needs to be a clear methodology and commitment to measuring and reporting the social and environmental performance of investments and these need to be monitored over time.
We are determined to ensure our research processes have a strong backbone and that they can stand up to scrutiny. We fundamentally believe that there is no substitute for sustained, in-depth analysis and hard work. We do not want to be reliant solely on third-party research methodologies and scores, but instead, to be at the forefront of data analysis and information.
We believe our methods, when it comes to impact investing, are distinct from other approaches we have to responsible investment. Nevertheless, we do harness our long- standing broader approaches to integrating ESG factors into our impact investment processes2. These include systematically incorporating an assessment of material ESG-related risks and opportunities into investment analysis. We also comply with AXA IM’s ESG Standards Policy3. This may involve excluding investments in companies involved in certain industrial activities, such as controversial weapons production, or which are the subject of major controversies and breaches of international norms.
We approach impact investing through the themes outlined in the following table. These cover what we see as major global challenges or important solutions. We have identified a sub-set of the SDGs that we believe are being addressed through these investment themes. Naturally, this thematic framework will evolve over time to reflect the shifts in broader unmet societal and environmental needs.
Source: AXA Investment Managers. For illustrative purposes only.
AXA IM’s approach to impact investing has been established with the purpose of delivering attractive financial returns, while also promoting positive change around key global challenges. Our impact research framework is built to identify the companies that can achieve these goals, and to monitor the sustainability-related impact of those businesses.
In our methodology, we aim to identify and track a range of company-relevant impact metrics or key performance indicators (KPIs), across five categories:
Tracking these KPIs allows us to judge the societal contribution of companies and the progression of such contributions over time. As a result, we are better equipped to judge which businesses are contributing to the achievement of which SDGs, and by how much. KPI monitoring also helps to highlight obvious disclosure gaps of companies. When this tracking is done across a breadth of firms within a sector or impact theme, it also helps us to make comparisons and to see obvious areas for improvement. Accordingly, we can thoughtfully engage with companies around these disclosure gaps and highlight areas for improvement.
We believe our in-depth impact analysis, when integrated into our traditional company and financial analysis, is a powerful tool which can help us identify potential long-term winners. These are the companies that can enjoy a self-reinforcing relationship between generating outstanding societal and financial outcomes. Not all companies can achieve this, and we want to be invested in the ones that can.
Broadly, through our research, there are two categories of companies we aim to identify:
Companies in this category are the highest rated in terms of the extent of net positive societal impact that they are generating and can sustainably generate into the future. Impact investors have traditionally focused on companies that generate positive outcomes through the provision of their goods and services (products and services impact leaders). This is also where we focus most of our research. However, we are of the conviction that there is also an important place within the impact landscape for exceptional companies bringing about positive change through their corporate practices, behaviour and operations (operational impact leaders).
Products and services impact leaders are firms that sell goods and services that are of critical importance and/or of notable value. However, this is just the starting point. The businesses in this category should generate significant ‘additionality’ by leveraging technology, scale, innovation and/or public-sector support, to make their goods and services accessible and commercially viable to a potentially highly-underserved market.
Our expectation is that operational impact leaders cannot simply be good corporate citizens but must also aim to drive broader change through their corporate behaviour and practices. This would include companies with best-in-class approaches globally, but also those companies where practices are leading and shaping a country or a sector.
Impact leaders will have a clear strategic intention – as articulated by the board and senior management – to contribute to society and the environment while also aiming generate healthy financial returns. They should be able to clearly articulate how their societal contributions are also benefiting the business and its investors.
Impact leaders need to generate significant positive impact through a lage portion of their business activities or address critical issues for a notable group of beneficiaries through a smaller part of their business and they can tackle a single SDG or multiple SDGs.
Impact leader status is to be awarded sparingly only to the leading companies, though this does not mean that such companies are perfect or without fault. There are no guarantees that they will be able to keep this rating over time. We will monitor the progress of such companies to ensure that they remain leaders.
Transitioning companies are those which operate within the limits of today’s business realities but are exhibiting some ambition for significant transformation. It is very important that the prospective change is permanent in nature, and that it will enhance the long-term financial returns of the company.
Such transformational change will usually occur in one of three ways:
- Plans for a dramatic change in the product mix of the company, which may take some time to materialise
- Continuing to provide functional products that generate negative externalities but with plans to significantly reduce those negative externalities
- Making plans to dramatically improve the environmental or social outcomes from the company’s operations and setting aggressive targets.
When allocating capital to transitioning companies it is important to appreciate that there are no guarantees to success in relation to investor engagement initiatives. Accordingly, it is important to be selective when identifying candidate firms. A lot of consideration should go into which companies are already showing a willingness for significant change or will likely be open to engagement.
There is considerable debate in the investment industry as to the exact strategy needed to maximise the potential impact from investing in listed assets. There are those that consider investing in companies which are already impact leaders to be most suitable. Then there are others which consider that effecting meaningful long-term change by leveraging investor engagement in transitioning companies to be the best approach.
AXA IM’s position is that there is an intellectual rationale to invest in both types and we see scope for potentially attractive shareholder returns from each.
For us, the key is to be explicit and transparent in what types of categories investee companies fall into and be able to clearly explain why they belong in an impact investment portfolio. Therefore, our assessment framework is designed to analyse companies so that we can identify opportunities for a range of impact investing strategies in listed assets.
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