Office workers ponder a wind turbine model and blueprint
To back or not to back? As green energy becomes more mainstream, investments in it may offer smaller returns © Getty Images

Impact investors seek to do good while doing well — to deploy their wealth in a way that benefits society and also generates a profit. And, though some observers question whether “social returns” can be rigorously quantified, money has still flooded in. Industry body the Global Impact Investing Network calculates that the market is now worth $1.2tn.

This growth has — in effect — turned impact investing into its own asset class, capable of attracting interest from some of the world’s largest private equity investors. In 2021, TPG, the Texas-based private equity firm, said it had raised $7.3bn for a climate-focused impact fund from backers including the Ontario Teachers’ Pension Plan and insurance company Axa.

It is one of several impact offerings that TPG has launched since 2016, making it one of the biggest private equity firms to offer an alternative to pure profit-seeking. TPG’s six impact funds have raised $15bn and invested in businesses ranging from medical education to dairy farming in India.

TPG stresses that its impact investing funds are different from environmental, social and governance (ESG) strategies. Impact investing actively seeks businesses that deliver measurable social or environmental benefits — rather than simply screening out companies for failing to match up to certain ESG criteria.

As its impact funds have grown, TPG’s position in this sector is getting crowded. Rival private equity firm KKR has raised almost $2bn for its second impact fund, according to a regulatory filing this month, improving on the $1.1bn the firm achieved for its inaugural impact fund, which launched in 2018.

Now, TPG is starting to face questions about its competitiveness in the impact market. “Imitation is always a form of flattery,” TPG executive chair Jim Coulter said on a February 15 call with analysts, who asked about competition from other big private equity firms. “Our peers wouldn’t be coming in if there weren’t a lot of [investor] demand for this type of activity,” he said. “We expect competition and we also expect to continue to grow against it.”

man in a business suit making a gesture with his hand
TPG executive chair Jim Coulter: ‘Imitation is always a form of flattery’ © Mark Kauzlarich/Bloomberg

Interest in impact investing has increased following the US 2022 Inflation Reduction Act, a $369bn stimulus package for green projects, which is expected to increase the pool of capital for this niche. But that poses a challenge for private equity firms, which seek to deliver outsized returns, says Bruce Usher, a professor at Columbia Business School.

“The returns on renewable energy projects [such as wind and solar] are pretty low these days, partly because they are very low risk,” he points out. “Some of these sectors, like renewable energy, have become so successful that it becomes challenging to get those returns.”

Private equity firms offering impact investments must now address concerns about greenwashing, too. Critics have questioned how firms are defining and measuring the social impact they claim to produce alongside financial returns.

To address this, the World Bank’s International Finance Corporation has called on asset managers to disclose their impact investing methods, and to have their alignment with the IFC’s best-practice principles independently verified. Several big private equity firms — including KKR, TPG and Apollo — have signed up to the IFC principles and have published their impact reports.

Vague definitions of impact investing have prompted regulators to get involved, as well. In a consultation paper published last year, the European Securities and Markets Authority (Esma) proposed that funds using “impact” in their names must make clear how they generate a positive and measurable social or environmental impact alongside a financial return. It is expected to publish regulations on fund names later this year.

The Securities and Markets Stakeholder Group, a consultation body that advises Esma, said in January that firms offering impact funds should “distinguish them from strategies that are ‘only’ based on meeting some ESG criteria”.

At the same time, the US Securities and Exchange Commission has been working on defining precisely what can describe itself as an impact fund. Under a proposal issued last year, a stated goal of pursuing a specific impact is what would distinguish impact funds from ESG funds more generally. A final rule is expected later this year.

But as these regulatory schemes are in the works, the once distinct world of impact investing is blurring — in some eyes — with the world of ESG investing, suggests Meg Starr, head of impact at private equity firm Carlyle.

“Impact investing had been very narrowly defined in terms of what the companies do: does their core business model solve an environmental or social issue?” she says. This definition meant a lot of early impact funds had only a small set of businesses to invest in, she says.

However, rather than offer investors ‘labelled’ impact funds, Carlyle says its definition of impact is based on how it drives ESG change within its holdings.

For private equity firms in particular, measuring impact can be a real problem, Usher believes. Carbon emissions can now be measured and audited but, for social benefits, “it is sometimes pretty unclear what you are trying to measure.”

“I have some doubt that we are going to solve that challenge any time soon,” he says. “That is not a reason to say we should not do impact investing, [but] I do think it is important to be honest about the ability to measure things.”

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