IMPACT INVESTING IN ASIA
Accelerating Impact with Catalytic Capital
What is catalytic capital
Asia sees a growing number of untapped opportunities to support underserved populations, early-stage innovations, and underfunded sectors.
The Catalytic Capital Consortium defines catalytic capital as investment capital that is patient, risk-tolerant, concessionary, and flexible in ways that differ from conventional investment, with the ability to de-risk and mobilise additional investment from mainstream investors.
By deploying catalytic capital, funders and investors are able to ensure the additionality of their capital, address issues on the ground that are often aligned with their values, whilst at the same time achieve their return objectives.
It is well-placed to build proofs-of-concept and support the development of ground-breaking solutions which other funds might deem too risky.
Catalytic capital in action
Merry Year Social Consulting
DEPLOYING CATALYTIC CAPITAL
Investors in Asia
Catalytic capital investors target underserved populations and markets in high-risk sectors, such as climate action, food and agriculture, education, livelihoods and inequality.
DEPLOYING CATALYTIC CAPITAL
Roles that investors play
Catalytic capital investors are driven by motivation to bring additionality and support innovations that others might be hesitant to fund. Investors can play different roles with their catalytic capital, depending on the kinds of gaps that exist, and what is needed to address them.
DEPLOYING CATALYTIC CAPITAL
Structures and instruments
Investors and funders in Asia use different structures and instruments in deploying catalytic capital. Choosing the right instrument requires a strong assessment and understanding of the needs of the investee organisation, alongside ensuring that investees’ financial needs are aligned with the resource providers’ own investment objectives.
Subordinated or junior debt can attract more senior partners by reducing the cost of capital, thereby changing the risk/return ratio for commercial investors. Some lenders are more patient than others and offer lower interest rates. Others have adopted a model of collecting interest and returning it as a grant. Some investors are experimenting with ‘recoverable grants’, a giving strategy which might look like a loan, that allows for charitable capital to be recovered.
- The Green Fund, an impact investment fund financing sustainable commodity production, is an example of a debt fund which offers subordinated loans under flexible terms to bring in other investors. It finances projects which may be considered high-risk in tropical forest regions in Indonesia and other parts of the world.
CHALLENGES AND BARRIERS
Investors and funders have to overcome challenges on several fronts when deploying catalytic capital. Many of these relate to the practice being emergent but are notable nonetheless.
It can also be challenging to clearly identify the risk-reward ratio borne by different parties in blended transactions. Commercial investors often do not see eye-to-eye with catalytic capital providers on deal size and the scale of transactions.
Governance issues can be a hurdle for those ready to deploy catalytic capital. Many investors have investment arms outside Asia, and it can be difficult to find staff in the markets of interest with the appropriate expertise to manage transactions.
Moreover, Asian private wealth holders and asset owners often follow a “two pockets” concept, with one pocket of money set aside for investment and the other to “do good.” Each pocket is distinct, and while blending is a growing practice, it is still rare.
Given the experimental nature of catalytic capital deployment in the region, the size of the transactions might be smaller than mainstream or large institutional investors require, which could be over USD 100 million. On top of this is the inherent risk of failure when embarking on an untested approach.
Data and research on investment performance is hard to find in Asia. Impact measurement and management is still a nascent discipline globally with few incentives to adopt common standards. This is apparent in Asia, and can be attributed to the complexity and resource intensiveness of impact measurement: according to one intermediary, impact measurement for an impact bond can cost up to 10% of the deal size.
There is also insufficient transparency on deal terms and actors even though most would agree on its value. In some countries in Asia, it is clear that fiscal frameworks and regulatory restrictions are often inconsistent, unclear and impede the deployment of catalytic capital. For example, in Australia, there are regulations that demarcate the fiduciary duty of foundation trustees, and similarly, in Hong Kong, the Inland Revenue’s approach to charities limits the activities for which the charity can use its funds to ensure its charitable status. Tax regimes can also be challenging when cross-border activity occurs, especially when philanthropic partners are tax-exempt in certain jurisdictions.
Whether the issues are around financial laws, charity laws or foreign capital laws, wealth managers may need to set up different vehicles to navigate the relevant regulatory environments. This again adds to complexity and cost. In many cases, particularly in emerging economies, the complex policy infrastructure leads wealth managers to focus their time on market prospecting and building a pipeline of companies.
Influencing public policies and regulations is seen as complicated because investors do not have the capacity to do so. Governments are constantly shifting priorities, while many laws in the region limit the scope of nonprofit organisations in political and advocacy work.
Enterprises also face challenges in proper bookkeeping and generating financial projections – the minimum documentation required for investments. This is made worse in certain markets where social enterprises do not even have a way of legally registering their entities to reflect their unique operating models. Impact-first social businesses can also encounter societal stigma. In Hong Kong, for example, consumers can perceive product offerings to be of lower quality than those offered by conventional businesses.