Too Good To Be True: Understanding and Avoiding the Mission Trap and Impact Washing
By Eva Yazhari
Sometimes, an investment that looks good at first turns out not to be the most logical or the most values-aligned investment. For instance, a wealth manager offers you the opportunity to invest in a portfolio that they think meets your goals for integrating your values into your investments. They tell you that this is an impact investment with a major financial opportunity because the global economy is changing and companies are adjusting their business practices to seize new opportunities and manage risk.
Your first reaction is enthusiastic—here is a chance to become an impact investor with less administrative cost and a promise of financial return no different than what you are used to. Then, you look deeper into the details of the fund, and you realize the impact strategy could be better thought through and more differentiated from other investment options. The fund may also not be investing in the sectors you are passionate about. Or it may not be active enough in influencing companies to do their part with voting proxies. Just because a well-known financial institution or wealth manager has recommended an “impact investing” fund for your portfolio does not mean that it meets your specific goals.
If you have invested in a fund with this profile, do not beat yourself up—even if you have already invested. Success is a process. By simply becoming aware of areas to pay closer attention to in your due diligence, you have taken great strides forward. Thinking about stakeholders and the larger system in which a fund or company operates can often illuminate how a business or investment strategy may not be exactly in line with your desired impact. Making an investment that does meet some of your impact goals is better than not investing at all.
AVOID THE MISSION TRAP
You will learn about a lot of investment opportunities that sound promising, innovative, incredibly impactful, and sometimes too good to be true. Someone will tell you about a magical company solving a big social problem, and its founders are well-intentioned and working hard. But after looking under the hood, it might not appear to be a sustainable business that can grow and scale lasting financial and social performance.
For instance, at Beyond Capital, when we think a company is over-promising, we review their financial projections and find that there could be more rigor involved in setting forth the business expansion strategy or that there is some naivete in how they are achieving their goals that will create barriers to growth in the future.
While additional investigation is needed, this company’s promise may be too good to be true—and it should probably be avoided if your plans for your own investments are to produce sustainable and viable financial and social returns. There are, however, times where pioneering a technology may require more risk. But in general, when looking for balance of financial and social returns, avoiding skewed or unsustainable impact is advisable.
Some simple common questions to ask are how does the business make money? Does the company’s business model add up to a sustainable and profitable business? Are its activities extracting or creating value for the stakeholders?
Remember that you are not only investing in a company’s mission. You are investing in the visionaries, contributors, and role players behind the mission and the stakeholders affected by it. If the team has not given serious thought to how their business is going to operate—or how they are going to make money—then it is time to invest your money elsewhere. Impact investing is investing for financial, social, environmental, and technological return. While there is some personal proclivity and nuance in the exact balance, it is ultimately important to consider each aspect of what you are looking to achieve.
IMPACT WASHING
Similar to the mission trap is the phenomenon of impact washing and greenwashing in impact investing. This is why it is crucial to implement your values directly, rather than converting your resources to generically categorized impact investments and feeling good about it. Clear values create a compass that can guide your decisions and set a benchmark for measuring success.
My colleague and friend, Matt Raimondi, is the Beyond Capital Director of Social Impact. He is also an Associate Director at Sustainalytics, which is a leading independent ESG and corporate governance research, ratings, and analytics firm that tracks twelve thousand global companies in emerging markets and developed markets. When I asked him about companies self-reporting ESG data, he explained that the nature of most ESG ratings is that they rely on company disclosure and publicly available data. This can lead to scoring bias for companies with more robust reporting and is something Sustainalytics tries to account for in their methodology. And because ESG ratings are based on company self-reporting, it is difficult to know the truth and where impact washing has taken over.
For example, Matt explained that while Sustainalytics rates oil and gas one of the highest-risk industries, many companies in this sector put significant resources into their sustainability reports and marketing—even though, in reality, those efforts are often a very small part of their business. At the same time, many of these companies are involved in environmental controversies. For example, Exxon made a bold claim that they were reducing greenhouse gas emissions to attract attention and gain ESG status, when in reality, this was a very small part of their business. The key is to ask questions that get to the heart of the impact the company is having.
Raimondi also highlighted that self-reported ESG disclosures vary widely from company to company, both in content and in quality. Furthermore, the result is that an ETF portfolio can end up becoming over concentrated with companies that report more information than smaller businesses. This can be problematic for a few reasons. First, if the ETF seeks to track a benchmark (such as a market index), it might not be able to fully represent that by excluding businesses that lack ESG data and reporting. Second, reporting also varies by region, with developed market companies tending to have more robust disclosure and reporting on ESG.
Raimondi believes that in order to have a meaningful understanding of what a company’s ESG disclosure reporting actually means would require a standard reporting framework. One of these frameworks, SASB, is making strides in providing a standard reporting framework for companies, but it is still not widely adopted or required by law. Raimondi’s company, Sustainalytics, offers another potential solution, since the company can provide a more consistent and comparable assessment across a broad universe of companies that they cover. Most likely, a top-tier advisor or fund manager will consult with a firm like Sustainalytics on the ratings for their investment recommendations.
Still, you should be informed, and there are plenty of companies out there that do not engage in impact washing. Many of these businesses may have good intentions but lack rigor in their approach. However, other firms may be acting out of opportunism with impact investing on the rise. If a company appears to overlook certain activities, if they intentionally conceal damaging information, or if you find it difficult to construct an accurate picture of how they operate, then it is likely not a good investment opportunity. Here are some warning signs to consider with each investment:
False Reporting
ESG research begins with bottom-up, company-specific data, much of which is voluntarily disclosed by the companies themselves. A company looking to exaggerate its impact could easily complete false or misleading reports.
Lies through Omission
A company could claim that their product or service is good for the environment. And in one way, it might very well be. But producing that product could also come with unintended consequences that impact the environment in other negative ways. An example is the rare earth metals that power mobile phones. Mining these metals are toxic to the environment and harmful to the health of individuals involved in extracting them. Examples like this illustrate the importance of thinking through the big picture whenever possible.
Imagery and Misleading Statements
Some companies utilize imagery and make misleading statements that entice investors and consumers that could be clues to potential greenwashing. These include overuse of environmental imagery or misleading labels using terms like “natural” or “environmentally friendly” without further explanation of methodology or lack of a legitimate certification like Fair Trade to back up these claims.
Other forms of greenwashing could include overselling a particular ESG quality of a business while ignoring another—in other words, incorporating hidden tradeoffs. For example, the electric car industry may show promise and tout the positive benefits of fossil-fuel-free transportation, but there remains an open discussion on the environmental impact of producing the lithium-ion batteries used to power them.
If you plan to be extremely intentional with one particular sector or area focus, understand that some impact investing opportunities do employ a “lesser of two evils strategy.” For example, “greener” fuel companies happily promote their use of hydrogen as a clean fuel source, even if their overall practices are not sustainable. Once again, to identify these forms of greenwashing, it is important to do your own due diligence or hire a trusted advisor. Overall, companies may score well on ESG rankings, but it is important to understand what they are assessing and look beyond their marketing or rhetoric to understand what is driving the score.
Excerpted with permission from The Good Your Money Can Do by Eva Yazhari. Copyright (c) 2021 by Eva Yazhari.
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