Often assumed to be incompatible with commercial investing, confined to multilateral agencies or social responsibility arms of corporates polishing a public image, sustainable business is increasingly significant to investors.
International companies now publish more than 5,000 sustainability and corporate responsibility reports a year, and between 2006 and 2013, the number of countries and regions with mandatory and voluntary reporting measures increased from 19 to 45.
At 46 Parallels, like many investment funds, we find ourselves at the metaphorical crossroads between our ethics, our moral compass and our responsibility to deliver positive and competitive returns to our investors. With Africa, our target region, undergoing an unprecedented investment boom, the right approach to sustainability can not only go hand in hand with commercial investing, but help strengthen one of the world’s most exciting growth prospects.
Broadly speaking, investors in Africa can be grouped in two – the social/impact investor and the commercial investor. For the former, financial returns are sometimes outranked by ‘social returns’ and ‘governance improvement’. Commercial investors tend to, unsurprisingly, have just one prime consideration – the bottom line. Anecdotally, we find that the vast majority of money available to invest in the continent’s private sector is financially motivated. For Africa to maintain and consolidate the current wave of optimism around its economic potential, it has to be unremittingly relevant to the latter; the commercial investor. In recent years, it has taken important steps in this direction.
Seven of the world’s ten fastest growing economies are now on the continent. In 2012, foreign direct investment increased by 5 percent to a record $50bn, bucking a global dip of 18 percent. Following a vanguard of Africa- focused investment firms, private equity brand names such as KKR and the Carlyle Group are now embracing the continent. The the list of international businesses moving into or scaling up their operations in Africa is growing rapidly. Last year, Walmart spent $2.5bn buying into a fast growing consumer market across sub-Saharan Africa.
Despite these ostensible boom times, mid-market businesses in Africa’s locally owned private sector struggle to attract the capital required to expand. Foreign interest is particularly deficient in terms of access to debt, which was instrumental in the growth of the now ‘Emerging Markets’, and something we address through our investments. There are world-class examples of businesses operating with an integrated approach to sustainability on the continent, but these represent a small share of overall private sector activity. Unless African companies, especially the mid-market, are able to meet the organisational standards required by commercial international investors, they face an uphill struggle.
We are certain that Sustainable Business can and does play an important role in companies achieving those standards. Compliance with international legislation such as the US’ FCPA and local legislation like the Kenyan Ethics and Anti-Corruption Commission Act and the Ugandan National Environmental Act, are already important points on the checklist of investors looking for portfolio companies. To a growing number of financiers, including ourselves, businesses that effectively address these issues within the context of a broader Environmental, Social and Governance (ESG) approach stand out. More practically, businesses willing to improve their ESG credentials also indicate better quality investments for us.
There will always be a strand of commercial investors that view ESG as dilutive to their returns, and we are critical of their misalignment with communities, support for public-sector corruption and short-term approach to investing in Africa.
We are similarly critical of overzealous social investors, who prioritise the social/governance bottom lines above the financial. Their capital can develop false economies and inefficiencies which can, in turn, dull African corporate instincts and embed what many call the donor/aid false economy.
As Africans with a background in global investment banks, focusing on a single (commercial) bottom line is part of our DNA. However, in building our business we have not found it challenging to incorporate an ESG framework which dovetails with our focus on financial returns for our investors and investing for the longer term in the continent we live in.
A few guidelines that work for us:
Embrace Sustainability’s potential to improve financial returns: An inclusive approach to ESG sustainability for our investee companies has proven to be as important a success factor to risk management as any other. Fines, graft, waste are all drags on a business’ profitability and are limited by an effective ESG framework.
You are not alone, bring the experts in: Early in the life of our fund, we engaged partners in the ESG space to help us to articulate our philosophy and develop an ESG strategy to formalise the natural willingness to ‘do good’ with our capital in a realistic way. Combining real world , on the ground experience with theirs, moving from the theoretical to the practical.
Cover the macro and micro: our ESG Framework is applied from philosophical level down to our daily/weekly investment processes; making sure that from Analyst to Partner we are comfortable with the sustainability credentials of our investee companies and driving them to attain higher standards.
Use support tools: Leaning on the IFC Performance Standards and other applicable regulations (as we do) ensures you are of equally impressive moral fibre as social investors while targeting commercial returns – something to consider for those who think they have a binary choice between tactics .
The most important kind of investment Africa needs at this stage of its development is patient, commercially motivated capital with an interest in the long-term health of the continent’s fast growing economies. ESG is an important element in achieving this.