The next trend in our series relates to the increasing focus on impact investing strategies. UHNWIs and family offices have played a significant role in philanthropy, social investing, donor-advised funds, and charitable giving since the 1800s, however, impact-based investments have evolved to become more commonplace in the 21st century with a total estimated current value of $500 billion*. Impact investing, put simply, is an investment made with the intention of benefiting society, along with a financial return. It was the Rockefeller Foundation that coined the term and helped propel the movement forward by setting up the Global Impact Investing Network (GIIN) with a mission to champion the practices of impact investing worldwide.
UBS* reports family offices shifting sustainable investments to more impactful strategies. Family offices on average allocate 37% to exclusion-based investments currently, predicted to decrease over the next five years. However, ESG investing will remain roughly the same at 22% allocation and impact investing is due to increase from 8% today to 11% in five years. Responsible investing, ESG, and impact investing are indeed different subsets of socially responsible investing. Still, the data collectively points to the growing importance of strategies that integrate ethical considerations into the investment mix with an emphasis on those having a measurable impact.
As part of this global trend, we see wealthy families choosing to collaborate and co-invest in order to further their ability to make an impact for good. For example, The ImPact, is a non-profit co-founded by a group of forward-looking families; a global membership community committed to aligning their assets with their values. The mission of ImPact is to guide sources of capital toward investments set to make a significant social impact and generate financial returns. There is a plethora of advisory firms, community organizations and non-profits that aim to share research, establish best practice tools, and encourage the mobilization of capital into impact investing. See footnote for further references. The patient capital of family offices is naturally a good fit for many impact investments that require a higher risk tolerance and long-term thinking. It’s certainly encouraging to see the growing commitment to improving social/environmental issues for the benefit of future generations.
The highly debated question within the field of impact investment is how to define and effectively measure the success of impact investments. There is plenty of skepticism and even high-profile legal cases (outside of the family office space) that have challenged whether impact funds and ventures deliver the same returns as traditional funds and indeed whether they create the social/environmental impact they promise. At Stryde, we have found our conversations with CIOs the most useful in understanding how family offices view the concept of impact investing. One candidate emphasized the need for tangible data to help decision-making and ongoing reporting. Another suggested the family they work for is interested in impact investing but has yet to do so due to the level of subjectivity associated with impact measures.
Stryde’s clients span the full spectrum of approaches when it comes to responsible investing. Some families are fully committed to making an impact and will only invest in equities and alternatives that meet their internal impact criteria; others (the majority), have some focus on socially responsible investing and allocate a portion of their capital in this direction, and at a minimum, apply positive/negative screening to their investment criteria, e.g. screening out investments relating to tobacco, fossil fuel, firearms. The final group feels they contribute to social causes via philanthropic endeavors and maintain financial return and risk profile as the key measures for investment decision-making. Several MFOs and HNW family wealth management firms now place greater emphasis on impact investing and have built significant specialist knowledge in this area, alongside the Chief Investment Officer, they now have a Chief Impact Officer driving strategy and thought leadership.
How impact investing is ultimately defined will be unique to each family but what is outside of their control are the external factors driving the need for such investments in the first place. According to the Stanford Social Innovation Review*, the next 10 years of impact investment is set to grow. The primary reason is the continued gap between funding and the ongoing issues relating to social inequalities and climate change. The unfortunate reality is that this gap means the investible universe will grow over the next ten years. If we combine these external factors with the increased appetite of Millennials (represented in the next generation of family members) to address climate change, we will surely see further focus on these methods of investment. These shifts will in turn influence the expertise needed within the family office team and from external advisors.
Talent Implications
As impact investing has grown so has the demand for specialist skills and professionals in the sector globally. Investment banks, wealth managers, asset managers, private equity funds, venture funds and family offices have all started to hire and develop people to deliver products and services in this area. This has created a war for the very best talent. This problem has been exacerbated by the historic trend that professionals interested in a career that contributes to social/environmental causes have gravitated towards non-profits, and public or academic institutions. Additionally, salaries offered in this space have tended to be less competitive than traditional investment roles. This trend is especially true of some of the impact investing firms that originated from non-profits or foundations. As private equity, venture firms and family offices have become more active in this space, salaries have started to move up, which arguably is healthy for the profession overall.
At Stryde, our perspective is that it is imperative to offer compensation for impact investment roles that are mid to upper-quartile in comparison to the broader investment management market. To ensure talent will join and stay, a package should include a competitive base, bonus, and long-term incentive plan, ideally with carried interest for direct investment roles, which should take their annual variable compensation of 10% - 40% of salary. It makes sense to link both the financial and impact performance of the investment to the individual’s variable compensation, another reason why standard definitions and metrics are necessary in this field. Family office investment teams are generally quite small, therefore it’s important to take the time to get this right as any attrition could be detrimental to the team and the performance of the investment.
How to Approach Team Structure
There is no one-size-fits-all approach to structuring a team for a family office that is conducting impact investing. Like all talent solutions in family office, it depends on the mission and values of the family and its long-term strategy for investing in impact. Some families may work exclusively with institutional investors such as wealth management firms, while others may have the desire to build a dedicated in-house team within their SFO. A common model being public market investments are managed externally while private investments are controlled in-house.
While many family offices are accustomed to direct investing, they may not have the in-house expertise to embark on the repeated due diligence and evaluation of a venture that has a sustainability/impact claim. Therefore, it may be necessary to prioritize investment via a specialist fund manager or engage an outside expert for a particular deal. Some experts focus on impact research, measurement, and due diligence; others have skills in developing relationships with ventures in specific geographic areas or a particular theme (climate, education, healthcare, social causes etc.), some have technical expertise gained from working within the field. It is possible to engage experts on a fractional or interim basis to support an investment team through a potential investment. Even when a family office does not need a full-time dedicated impact professional, it’s still paramount to have team members with the necessary intellectual curiosity to ask the right questions internally and externally. Their role may be to hold an external partner to account, and that’s easier to do if the investment person has the right understanding and approach.
If a family office decides to allocate most or all of its public and alternative investments to impact-driven areas, it makes sense to build in-house expertise. Within family offices that have decided to take a wholly mission-driven approach, almost all team members have previous experience within the sector. Stryde’s impact-focused clients are often looking for professionals with exemplary academics, prior experience with traditional investing and substantial impact experience somewhere within their career path. To further build in-house expertise, some of the families we work with prioritize investments across specific causes (micro-finance, agriculture, healthcare, clean energy) and only have team members with experience in these areas.
An Evolving Profession
The overarching strategy and size of AUM will influence the talent a family office can leverage and how they compensate for that talent. For several reasons, distinct types of people are attracted to a family foundation versus an impact investment team that still needs to drive competitive returns. An important rule of business performance is the best talent drives the best performance. In a competitive talent market, it’s important to keep an eye on a family office’s ‘employer value proposition’ and the evolving nature of the profession.
Other changing specialist knowledge needed for a family office that has entities covering impact investing, donor-advised-funds, charitable giving via a family foundation include regulation, compliance, and tax. There are strict rules and regulations about how these entities can interact with one another. Non-compliance can result in hefty penalties and result in revocation of the private foundation's tax-exempt status. As the profession and regulations evolve in different jurisdictions, it is critical to have talent that is willing to learn and stay abreast of the latest trends in the field.
It's a Family Affair
How a family decides to split investments across philanthropy, public equities and alternatives will be unique to them and their family charter (if they have one). Unlike other assets, the origin of impact investing in each family is usually the result of one or two people who have a passion for a particular cause. For example, at the Italian family office, PFC in Milan, one family member (Giorgiana Notabbartolo*) became more interested in making a difference with her inherited wealth and decided to go on a personal journey of building her knowledge and credibility in the space before gaining broader family buy-in. They decided to engage an external advisor to help the family explore their values around wealth. The advisor helped them create a family constitution, a two-year journey that allowed the family to move forward with a fresh vision of building a future that is not disconnected from wealth. Giorgiana humbly acknowledges that she is still learning, she continually looks for feedback and asks others for help. This is an important approach in this complex and ever-changing field.
Conclusion
Family offices not only have the financial means to make a significant contribution through impact investing, but they are freer from investment constraints than a pension or endowment fund may be governed by. This puts them in an exciting position to act as catalysts in seed-stage ventures in leading-edge technologies and/or long-term partners in areas that need patient capital. While they are faced with the same challenges as institutional investors in terms of measurement, they have as much opportunity to define benchmarks that mean something to their family and desired legacy.
The key is to engage all the relevant family members and design a family charter and governance structure connected to those. These can be revisited and updated as tools improve and best practices in the field continue to evolve, what matters is that creating an intention is the starting point of change.
Notes and Sources: