ESG and Africa’s Unlisted Companies: The Journey of an Impact Token

Part 3 our ongoing series on ESG and Africa’s unlisted companies

(This article forms part of KudosAfrica’s just-published 2020 ImpactAfrica Report. Download a free copy here.)

The Journey of an Impact Token

By Fleur Heyns, co-founder of Proof of Impact

Summary
Thanks to the extraordinary application of exponential technologies, we are in a position to reverse the archaic system of top-down inefficient and seemingly ineffective impact funding. Instead, sensors, devices, and IoT deliver objective data points that collectively provide the proof of an impact event in real-time. This digital data can be written onto a public ledger, the blockchain; and then, the immutable impact token is born. These tokens can be sold directly to donors as the digital certificate of the impact event funded by the donor, as collateral for performance-based-impact investment products (tokenized impact bonds and digital loans) or provide proven impact content in ”ESG”/”SDG” investment portfolios or Donor Advisory Funds (“DAFs”).

 

The current state of the world

The world is not making much progress in meeting the social and environmental challenges it faces. A June 2019 report from the African SDG Center for Development suggests that Africa is on target to attain only 3 of the 17 SDGs. Moreover, the annual funding gap required to meet these goals in Africa alone is estimated and likely underestimated at more than $1.3 trillion per year. For reference, the nominal GDP for all of Africa in 2018 was $2.2 trillion. The need is substantial.

Traditional impact funders (donors and increasingly impact investors) blame the lack of progress not on their own reluctance to change their investment mindsets and processes, but on the lack of viable and investable implementation opportunities. The implementers claim onerous reporting requirements and lengthy funding application processes are stagnating their ability to grow and deliver impact exponentially.

Yet, at least USD1trillion is given away each year (50% from private donors in the USA), mainly in the form of annual donations. Imagine if this money was spent achieving verifiable impact results. This USD1trillion would be the catalyst to unlock trillions more to cover the SDG funding gap.

Drivers for change and disruption

A new generation of Changemakers is emerging, who no longer accept the status quo. They do not want to donate to receive the annual proverbial NGO postcard. They want to engage with their causes, they want to directly see the impact results they funded, and they want the impact to be visibly priced in products they consume. The global demand to prove impact and purpose is here.

Historically one could have argued that even though people want this transparency, we just do not have the ability to offer it. A bit like investing in Africa in the 1920s, you would have had to go there as an explorer or investor yourself to do the due diligence and close the deal. This made the entire investment process risky, lengthy and prohibitively expensive!

Until now. We are no longer in the 1920s. Technology has come a long way. Most of Africa is covered with (sporadic) access to internet and data services. We can now serve the needs of 4 billion people we previously had limited (or only very expensive) access to. The use of sensors or IoT in various sectors from healthcare to agriculture has increased enormously to where some community verification and certification programs collect over 70% of their data points from automated sources.

We have never had the possibility to connect these data points (that validate impact events) to funding sources directly. Money, especially impact money, is transferred from donors through various intermediaries, some more trustworthy and affordable than others, to the impact implementer. Then even these impact implementers cannot always deliver on their promise. Some donors have indicated that the percentage of capital wasted is roughly 70-90% in this process!

We desperately need to increase the speed of capital mobilization in the impact space. The most effective lever we have is to improve the standard of drivers (or at a minimum assess their standard!)so we can empower and fund those that perform the best.

Reversing the traditional impact funding model

As it is so inefficient and costly to retrospectively assess the impact results in a timely fashion, let’s “flip” the process on its head.  Let’s find and validate impact events and fund them directly as they happen.

iData points are collected from the impact implementer “sellers”. These data points are checked and if deemed “valid” by the Proof of Impact protocol, a “Proof of Donation” token (essentially a digital certificate) is minted on the Ethereum main net that can then be bought by an impact funder “buyer”. The funds can be sent and traced all the way to the impact implementer without intermediation. As the token is only minted upon valid presentation of proof points, and the blockchain is immutable, there is no further requirement of an impact audit nor monitoring & evaluation (“M&E”) consultant to come in and validate these events.

 

Creating liquid impact investment markets

The investment industry has been flooded with “impact- washing” and “ESG-washing” portfolios to respond to the demand of next-generation asset owners who would like to deepen the purpose of their capital ranging in intent from  “do no harm” to “impact as a benefit” and increasingly to “impact as an imperative” to drive positive change in the world.

The investment managers’ burden of proof is as low as signing up to the  Principles of Responsible Investing (“PRI”) which suggests they agree to comply with the six principles of responsible investing. $78 trillion is supposedly managed responsibly this way, yet the challenge is to find investment managers who can quote the six principles, let alone invest by them.

A portion, 15% of the responsible investment capital, is managed according to Environmental, Social and Governance (“ESG”) criteria. However, there are fund managers who will proudly claim to have made their $150bn portfolio “ESG compliant” within three weeks, without having acquired or divested a single asset!

A more genuine category of responsible investing falls under the definition of “impact investments”. These are largely long term buy and hold, illiquid assets and at a total of  $508 billion AUM comprise less than 0.2% of all global assets and undergo a laborious and expensive audit process of Monitoring and Evaluation to validate the impact.

The market demands a higher burden of proof, more transparency and innovative impact investment products that connect impact events directly to funding offering liquidity to investors.

The opportunity to build from the bottom up is there. Impact events are recorded and verified. A “security token” is issued with an embedded smart contract that stipulates the conditions under which a financial return is generated; (see examples below) e.g. the repayment of the solar panel by a user in Rwanda (reduce his borrowing costs), access to clean water on a “pay as you go” contract with the user, reduced mortgages conditional to the borrower proving his financial literacy and access to healthcare policy (reducing his own default risk); liquid social impact bonds triggering payment from the outcomes payer when impact outcome is achieved, etc. There are literally 100’s of billions of dollars of immediate opportunities to create win-win situations for users, investors, and benefactors.

Blockchain technology can support the scalable inclusion of verified impact content (impact tokens) into any impact funding product. This methodology reduces the administrative and management costs of these funding products while significantly substantiating the impact claim, and making otherwise illiquid assets, tradeable. A whole new world of liquid impact funding products is born!

 

Example 1 Access to solar tokenised bond (SDG 7)
Performance-based “security token” is issued at $8/bond, par value = $10/bond if the outcome of 300,000 solar installations is achieved. The investor makes a 20% return as long as the outcome is achieved. The performance-based bond can be listed on an exchange and trade between 0 and $10 (or higher if demand for solar outcomes is high).

 

Source; Proof of Impact B.V.

Example 2 Multi-asset class Education portfolio for Africa including impact tokens (SDG 4)
A multi-asset class impact investment portfolio ranging from low risk, low impact public equity investments to higher risk, high impact return performance-based education tokens. The inclusion of the impact tokens allows the portfolio to be balanced not only from a risk-adjusted return perspective but also deepens the impact delivery claim of the capital invested.

 

Source; 17Africa

This article forms part of KudosAfrica’s just-published 2020 ImpactAfrica Report. Download a free copy here.

This contributed article reflects the views and opinions of the author and not necessarily those of Africa Capital Digest.

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