Part 3: The Missing Middle of the Missing Middle

Debates on impact investing are not focused enough on system change.

The recent publication of Blueprint (exec summary here and full report here) comes at an important time for the industry and makes a powerful case for the continuing need for philanthropy in the space.

The report did an excellent job of explaining that there are business models out there that can create massive impact at a fraction of the cost of traditional donor programs, but these models need time to scale before they can be profitable, just like Amazon. What the report alluded to, but did not discuss as much, is an even more important system-change question: how can philanthropy create the Stanford – the fertile ground where an Amazon can not only be scaled, but can take root in the first place?

What is Impact?

Blueprint informs a larger discussion of the meaning of impact investing, a meaning that is increasingly broad as different actors have adopted the term. There are now two generally established camps based on which word you prioritize in impact investing.  The first camp (because it came first) sees business as merely the most efficient tool for achieving the only goal that matters – getting the best impact return for the buck. Acumen Fund is one of the most well known of the proponents of this approach, which also tends to define “impact” in terms of products or services sold to the Bottom of the Pyramid (BoP), the poorest of the poor.

One of the most articulate and well-respected organizations in this camp is the Mulago Foundation. In a series of great pieces in SSIR, foundation officers caution philanthropists new to the impact industry to take the time to truly understand what they are trying to accomplish and to be wary of chasing returns in the name of impact. Laura Hattendorf poses a simple question to all would-be impact investors.

Are you a private equity investor in emerging markets? Or are you focused on solving an important social problem at the base of the pyramid?

This question gets to the heart of the simmering battle for the soul of impact investing – is it a radical new way to invest for maximum impact, or is it an asset class (as Wall Street would like to see it) that refuses to cede an inch of profitability?  Are impact investors “putting money—loans or equity—into impact-focused organizations, while expecting less than a market rate of return” (Mulago’s working definition) or are they people who recognize  “the importance of integrating sustainability themes into their investment portfolios” (Morgan Stanley)?

The Middle of the Bell Curve

Both sides of this debate are doing good work and have perfectly reasonable positions based on their corporate mission. It’s good to have debates to air the issues and create better understanding around the term. But here’s the problem: lost in this debate are the actual entrepreneurs who will determine the long-term success of the impact investing movement. The question of whether you are focused on the BOP or focused on profits is too binary; it omits everyone in the middle. Most of the human potential out there is in the middle of the bell curve, but the debate is focused on the tails.

The Bell Curve

The vast majority of investible entrepreneurial ventures that are solving social problems are not ones that, with just a little subsidy, can save one million lives in five years or provide Google-like returns.  Entrepreneurs who can create those kinds of social or financial returns are few and far between. If you are one of them, and have gotten investment from Mulago or Kliener, then good for you. However, if you aren’t going to create tens of thousands of jobs, but just a couple dozen? What if your product merely addresses existing customer demand, like, say a locally produced vanilla wafer, even though you are operating in one of the poorest regions in the western hemisphere and transforming your community?

Mulago or Morgan?

The fact is, there are many, many entrepreneurs out there who fail the Mulago or Morgan Stanley test for impact and risk/return, but who are nonetheless consciously creating net positive impact, even measuring it — and they don’t need any operating subsidies to have an impact.  Many of these entrepreneurs, like dozens we have worked with in Central America, could provide a return of 5% – 15% while generating huge impact in their local community – and maybe eventually the whole region or the world. They may never make it on the conference circuit, but they need to be a part of this conversation. They may not be able to give the perfect reply to a donor’s question on quantitative impact or an investor’s question about risk, other than that they live with these two challenges every day.

It is in these individuals’ attitudes and decision-making ability where transformative impact occurs. Through their success, important things can happen, like building an entrepreneurial middle class, supporting democratic capitalism, empowering citizens and redefining the role of business in society.

Good companies with good managers that judge success based on impact, not just short terms profits, need to be supported just as much as the poster entrepreneurs that win all of the awards. Without direct impact for the BOP crowd, and too small and risky for the market returns crowd, these entrepreneurs struggle to access opportunity.

This is concerning, because they represent the future of business. Whether they collectively decide to incorporate impact into their decisions making  – and can access opportunity as a result — will likely determine the long-term success of impact investing.  That’s why our debates and reports must arrive at actions that drive capital to this core group.

The Missing Middle of the Missing Middle

The impact investing movement is a big tent, and it’s been stretched as far as it can go with different versions of impact investing. This is a good thing, but let’s remember that most of the entrepreneurs who will create impact with their business lie in the middle of the tent. They are the missing middle of the missing middle – not as sexy or impact-focused as the Stanford or MIT entrepreneurs and they are too small and risky to access any of the capital being channeled by Wall Street into the space. But we overlook this group of entrepreneurs at our peril. System change doesn’t happen without them.