Can you give me a quick example?
Sure. The following is a simple illustrative example. We recommend exploring our case study report to see the process applied to real cases.
Key 1: Imagine a $10m project is expected to save 1,000 lives. This is the magnitude of the underlying impact.
Key 2: Given the assessed crowdedness and scalability of the project, you assign yourself a 10% investor contribution multiplier using the formula from our case studies. This is an estimate of how much impact you are generating as an investor that would not have otherwise occurred. So, if you invest $500k in the project, your investor impact will be 1,000 * ($500k/$10m) * 10% = 5 lives. This is the contribution-adjusted impact.
Key 3: Suppose you believe that with your best alternative way to generate impact, you can generate an impact of 1 life saved per $10,000. This makes the investor impact of this investment equivalent to $50k. This is a 10% Impact Return on your $500k.
In your case study report you connect 'education technology' to 'lives saved' and I'm not comfortable with that. Why did you do it?
The connection between 'education technology' and 'lives saved' was already made by TPG Rise in their promotion of their methodology, not by us. That said, we have used their case study as we found this connection to be reasonable. We'd ask you to spend just a little more time carefully reviewing the case before jumping to conclusions.
What are the benefits of impact returns?
The benefits are only limited by your creativity. Beyond other uses listed on this site, impact returns are a way to uncover valuable insights and mitigate bias by generating a dialogue about different opportunities. They can be used to sense check, to explain and to challenge any investment or strategy.
How hard is it to estimate impact returns?
Addressing each of the Three Keys is like riding a bike. If you haven't done it before it will be intimidating, but once you follow some examples and do it, you'll quickly get the hang of it. Crucially, good data, or even any data, is not required. If you really have no information you could still do a useful impact return calculation, just as a thought experiment. In fact, leaning in this direction helps avoid placing unnecessary requests and burdens on investees. This also means that impact returns work even if impact definitions aren't universally agreed and standards aren't universally accepted. All that you need to estimate an impact return are an understanding of what an investee is already reporting, (optionally) your own understanding of the relevant evidence base, and most importantly, a willingness to do back-of-the-envelope calculations and a view on your opportunity costs.
How are impact returns meant to be interpreted? What is the intuitive story?
In our case study report and other materials, we tell the 'quantitative story' of impact returns. We see numbers as humanity's most universal language for sharing such analytical stories. However, it's essential to remember that in practice, quantitative impact returns should be used in combination with qualitative approaches.
Moreover, there are several ways to interpret impact returns. Though theoretically equivalent, you might find one of these interpretations particularly compelling. Click each interpretation to see an explanation.
'Strategic' or 'shadow' price
In this default interpretation, impact returns are simply a way to integrate impact into decision making. They are set based on overall strategic considerations without necessarily considering either of the scenarios below.
In this interpretation, impact returns represent the amount you would need to donate to the best available charitable opportunity to generate the same amount of impact.
Imagine your portfolio team was divided into two: an investment team solely focused on financial returns, and an impact team focused on impact (a situation common in many foundations). In this interpretation, impact returns represent the amount the impact team would be prepared to pay the investment team to facilitate an investment because of its impact. Such payments could actually be formally agreed between the teams, not just used as a 'shadow' price.
Why is careful analysis important when investing for impact?
The variation in impact between different opportunities can be a lot greater than the variation in financial return. This makes careful analysis as much or more important than in traditional finance. Furthermore, the potential scale of investments that also generate financial returns makes careful analysis as much or more important than in traditional philanthropy.
Why do you present these three keys like they are something new?
Great question. These ideas are essentially "simple" and not new. Even our methodology for Key 2 (estimating an additionality number) is just about the age-old economic laws of supply and demand. Yet, we find ourselves presenting these Keys to the world like this as, by and large, we find that investors are not following these keys. Even Key 1. There is no "magic" in this, other than challenging yourself to work through the three keys, no matter how strange each one may seem at first. We would love to connect to other investors who are also following all three keys - if that is you or your colleagues please do reach out.
How would you compare different forms of impact such as 'biodiversity' and 'access to drinkable water'?
Comparing different forms of impact, such as biodiversity and access to drinkable water, is a subjective process. As an 'impartial' nonprofit initiative we never claim to have such answers, though we are happy to help investors choose an approach that works for them.
One option is to not even try to compare them and to allocate separate pools of capital to each type of impact. Use impact returns within each pool.
Another option is to convert the impacts into a common unit of impact before assessing the 'impact returns'.
A final option is to use separate 'prices of impact' for each project and get comparable 'impact returns' that way.
How do impact returns relate to existing frameworks and methodologies?
Impact returns are complementary to and build on the foundations laid by approaches like social returns, SROI, and cost-benefit analysis. What sets impact returns apart is that they are designed to be comparable to financial returns. Social returns, on the other hand, are designed to be an estimate of the value created for "society", but they do not reflect the opportunity cost of alternative ways of creating value for society. The user of social returns is typically then left to compare between opportunities on their own. Whereas a comparison to the opportunity cost is embedded into impact returns in Key 3.
Specifically, what is the difference between impact returns and SROI, social returns or cost-benefit analysis?
SROI and cost-benefit analysis are great for their original purposes. Those purposes are for deciding between different grants and government policies. For more general investment decision making they fail on 2 of our 3 Keys. We need something that takes into account that variable additionality between different investments (Key 2) and opportunity costs not social costs (Key 3).
For example, TPG Rise has use a social return methodology to publicly claimed that their 'education technology' investment produced almost $1 billion in social value. They got to this claim because they ignored their additionality (which was probably closer to 0% than 100%) and they used US social values (e.g. $10 million per US citizen's life saved). Whereas the 'opportunity cost' to avert the death of a human being, or even a US citizen specifically, will be a lot lower.
An example of how SROIs can be inputs to get 'impact returns': Suppose a philanthropist knows a grant-funded project that has an SROI of 1000%. If they donated any more money right now, they would give it to this project. So that is their 'opportunity cost'. Then, suppose an investment comes along with an SROI of 500%. We would translate the investment's SROI into an 'impact return' of 500%/1000% x 100 = 50%. This is simply pointing out that every dollar 'invested' is acheiving 1/2 the impact of a dollar in the grant project. And the point is that this 'impact return' is the correct 'return' to compare to financial returns, not the SROIs.
Why convert impact into returns? Why not convert financial returns into impact?
Great point. In theory, you can invert Key 3 and translate any financial value into an impact value. In practice, we believe working in terms of "returns" is the right choice because it makes it possible to leverage all the existing knowledge and processes from the financial world. Also, to convert all financial values into impact is a bit of a strong statement, perhaps only appropriate for investors who happen to be foundations.
Are impact returns just for impact investing?
No. We developed impact returns as a way to integrate impact into finance in a way that works with any investment. It can be used to 'Invest for Impact', viewing all investments as tools to eventually produce impact, including grants and traditional investments (to save to have impact in the future). That said, "impact investing" is where impact returns really stand out as needed. In fact, we would define an impact investment simply as an investment with significant impact returns.
Why do you sometimes refer to impact returns as "coherent"?
Impact returns are coherent with financial returns in the sense that they both make sense economically and can be combined together. The reason this is true is because of the three steps. Key 1 makes sure impact has a valid magnitude, just like financial results. Key 2 makes sure that we don't overstate how much impact an investor produces, ensuring the magnitude of impact really is valid. Key 3 then translates impact into financial terms in the most objective way possible - in terms of opportunity cost.
Why do you emphasize being quantitative? Don't you realize the dangers and limitations of numbers?
Yes. We also realize the dangers and limitations of ignoring numbers. We emphasize the quantitative story that can be told with impact returns, because we think it is this side of that impact story that needs most improvement. Our view is that models and quantitative stories are just tools that complement more qualitative approaches. Just like the Black-Scholes model is never the sole tool of an option trader, models in impact finance are tools to aid discussion and support decision-making.
What is the relationship between impact returns and financial returns?
If you are confident in your own assessments of investment cash flows and impact, then investments that are less crowded and more scalable, all else equal, will also tend to offer higher expected returns. This means that Key 2 drives a relatively positive relationship between impact and financial returns. Keyword, "relatively". It could still be the case that all investments with great cash flows are crowded and offer little investor impact, and that all investments with great impact are actually grants. But, among a pool of investments with similar cash flows and underlying impact, the ones that offer a higher investor contribution (less crowded, more scalable) will offer higher expected impact and financial returns.
Are impact returns a framework, a tool, or what?
Impact returns are fundamentally a metric, just like financial returns or cost-effectiveness estimates. You can also refer to them as a "tool", "framework", "methodology" or whatever you want. What we care more about is that you check out our case studies and try doing some impact return estimates of your own.
Why do you sometimes say that impact returns are "open minded" or "impartial"?
To assess impact returns you need to actively be aware of your opportunity costs (Key 3). Someone who isn't at all impartial (i.e., someone who is biased towards particular things), can't be bothered to consider their opportunity costs. Whereas doing Key 3 requires consideration of at least one alternative. Furthermore, once you start doing Key 3, the natural direction of travel is to keep improving and updating the estimate of your opportunity costs as you encounter new alternatives.
How do impact returns relate to uncertainty?
There is uncertainty in any model of the world, whether qualitative or quantitative, financial or impact-related. Impact returns can and should be combined with the best practice techniques for being transparent about and managing uncertainty. We present some aspects of uncertainty in the case study report (though the primary focus of that report is the basic impact return process). Management of uncertainty is something we love to talk about, but as an advanced topic with investors who have already mastered it in other contexts or that have mastered impact return assessments without uncertainty.
What can questions can I ask my investees to check their alignment with the ideas of impact returns?
Even without actually estimating impact returns, you can assess the alignment of your investments (and their reporting) with the three steps.
Do they report enterprise impact in a way that reflects its magnitude? Does this include an attempt to adjust for enterprise contribution?
[For Funds] Do they report assessments of their investor contribution? Do these assessments reflect the magnitude of the contribution?
[For Funds] Does their allocation of capital, including any tradeoffs they need to make, plausibly reflect a price of impact that is acceptable to you? Are they explicit about the 'price of impact' they use for decision making? Do they explain why this price of impact is justified?