Ownership, intentionality and additionality: The challenge of measurability in impact investment

In many ways, impact investment is the ultimate form of active management. By its very nature, public market impact investing is inherently direct and active; having the ability to actively assess and participate in impact opportunities that come to market and, in some cases, seek to influence the pipeline of opportunities is as important as the ability to divest when impact expectations are not met.

Impact investment requires patience and a collaborative, long-term approach to forming constructive, influential relationships with underlying holdings while collaborating with peers to strengthen the foundations of positive outcomes.

The challenge of measurement

At its most basic level, ‘impact’ implies that an investment is a catalyst or contributor to positive change. The impact an investment creates must be intentional, generating a demonstrable and measurable increase in a solution beyond business as usual (BAU), and importantly, this increase must have occurred in the absence of a technology or solution.

But this demonstration and measurement is often not as simple a task as it might first appear.

For impact investors in public rather than private markets, in particular, the impact opportunity is shaped to some extent by the investment opportunities available. Unique to public market investing is the role of engagement in seeking to effect additionality to bring about an investor contribution.

Challenges related to claims of causation and attribution abound, meaning impact investors must adopt a rigorous approach to measurement, while also taking care not to overstate the impact of their own activities to their own investors.

These challenges underscore the importance of adopting impact frameworks that support a fund’s theory of change, which determine where capital is invested, and having clear KPIs for engagements that link the fund’s impact goals either by supporting an increase in the provision of an impact solution or reducing potential harms.

The question of ownership

When it comes to understanding investment impact, considering the complex topic of ownership can highlight some of the issues around measurement and impact attribution.

Take a simple example: the shift from internal combustion engine (ICE) cars to electric vehicles (EVs), which should reduce Green House Gas (GHG) emissions and ultimately have the impact of mitigating climate change. In this example, is the impact owner the consumer who decides to purchase an EV instead of a car with an ICE? Or is it the manufacturer of the EV that has managed to produce an appropriate substitute to an ICE vehicle at a competitive price? Or is it the supplier of the battery and other unique components required to manufacturer the EV – a role in the value chain often called an ‘enabler’? Perhaps it is the investor that provides capital vital for research and development in the production of the EV?

The simple answer is that impact involves many factors. In this example, each party contributes to the overall impact that EVs are having in replacing ICEs. ‘Attributing’ the sources of impact to each contributor is challenging, especially for complex environmental and social problems such as climate change.

It is for this reason that impact investing, especially in public markets, is led by ‘intentionality,’ with key performance indicators used to verify the progress a fund makes towards achieving its impact goal. This form of intentionality sets an impact fund apart from a non-impact fund.

Avoided emissions: A key indicator on the path to net zero

An important measurement indicator used in impact strategies, Avoided Emissions data can be a valuable tool, used to demonstrate a hypothetical difference between the emissions caused by a green activity (including life-cycle analysis) compared to a BAU scenario.

Considering this metric in light of the impact ownership discussion above can provide further colour on the impact measurability challenge. In the area of renewable power generation, avoided emissions are calculated by comparing the emissions produced by the renewable power generated by a wind or solar farm to the average emissions intensity of the electricity grid. This average includes a mix of energy sources, both green and grey, and serves as a proxy for the emissions that would have been generated if the same amount of electricity was supplied without the wind or solar farm.

While we are active owners of renewable energy infrastructure businesses and have engaged with them on a range of issues to support their impacts, with clear KPIs linked back to the impact goals of our funds, we are conscious that demand from data centres has been a notable contributor to increases in avoided emissions seen in recent company reports. This has underscored the need for us to explore the potential to engage more widely to technology businesses on the demand side of the equation to seek to influence their commitment to clean energy.

Across our impact strategies at EdenTree, we engage with companies on a range of issues and themes with the aim of ultimately increasing the rate of avoided emissions, whether through the increase in the solution or technological improvements or the reduction of potential negative impacts that might occur along the way. It is important to note that ‘avoided emissions’ is an inherently complex topic. We use this metric as a core KPI on our impact funds, with data and analysis provided by a highly regarded third party provider adopting best practice methods. However, given the factors involved in calculating this figure it should largely be considered indicative.

With many factors at play, engagement remains key

On a basic level, impact often assumes that a clean solution is used instead of a polluting one – the former displacing the latter. Needless to say, there are many factors involved in one solution replacing another, not least cost, availability and desirability – as well as other demand drivers such as government policy and interest rates. Impact can be affected by other supply-side considerations, from unforeseen outages to inclement weather. It is vital therefore that we are transparent about these factors when reporting impacts to our clients.

At EdenTree we believe that combining asset allocation decisions with stewardship activities can drive enduring change, supporting real-world outcomes, innovation and market growth while limiting harm.

Recognising the inherent challenges related to measuring impacts and attributing them to the various stakeholders in the value chain, impact investors have an important role to play in improving methods, influencing both underlying holdings and working with other practitioners to improve standards while continuing to act with transparency and integrity.