Measuring returns in social impact investing: Financial vs. non-financial metrics.

Social impact investing means making an investment with the aim of generating a positive social or environmental impact besides providing an attractive financial return. In comparison to traditional investment, which is primarily concerned with achieving only financial metrics, such as profits, ROI, and shareholder value, social impact investing demands more holistic evaluation both in terms of financial and non-financial outcomes. Evaluating the success of a social impact investment, therefore, to a great extent balances "financial metrics with non-financial metrics, which assess the broader social, environmental, or societal impact of an investment." This shall pose numerous challenges because it would require new tools and frameworks for measuring returns well across both dimensions.

Traditionally and from the financial perspective, there is no difference in measuring returns in social impact investing compared to traditional investing. For investors, the important metrics remain the ROI, IRR, and cash flow, for they need to be assured that their capital is being deployed both effectively and sustainably. Investors in this space would typically be seeking market-rate or concessionary financial returns as suited to their objective. Market-rate returns mean that the investment should generate a return comparative to comparable investments in the broader financial markets. On the other hand, concessionary returns mean less financial returns but higher social or environmental benefits. Investors may even also consider liquidity, risk profiles, or diversification in the portfolio, just like they would within traditionally traded investments.

Nonetheless, the main challenge of social impact investing is often within the measurement of non-financial metrics since these are often qualitative, complex, and difficult to quantify. The focus of non-monetary metrics is on social, environmental, and societal impacts derived from an investment. Such impacts may involve carbon-emission reduction and better health outcomes, gender equality promotion, or improving education access. As the social impact investment space has gained momentum, so have the requirements for standardized metrics to measure these non-monetary outcomes.

Some of the most known sets are the Global Impact Investing Network's (GIIN) Impact Reporting and Investment Standards (IRIS). IRIS offers standard measures across all sectors - education, healthcare, agriculture-so that investors can compare and evaluate the effectiveness of their investment on an increasingly consistent and comparable basis. These metrics allow investors to measure, report, and manage their social and environmental performance together with financial returns. For example, in a social impact investment that aims to improve the availability of clean water for underprivileged communities, the financial return might be measured through revenue generated from selling water purification systems, while other nonfinancial metrics would include the number of people served, the improvements in public health outcomes, and reductions in waterborne diseases.

Other widely followed frameworks include that developed by the United Nations- Sustainable Development Goals (SDGs). SDG are a set of 17 global goals ranging from an end to poverty and hunger to access to clean energy and fostering economic growth, among others. Investors can fit their social impact investments into the SDG matrix and track contributions to particular targets. For example, an impact investment in renewable energy infrastructure might contribute to SDG 7 on affordable and clean energy and could be tracked by quantities of renewable energy produced, households connected to clean energy sources, or carbon emissions decreases.

These frameworks notwithstanding, as well as IRIS and SDGs, the quantification of non-financial return, indeed remains very challenging. There are quite a few difficulties along with impact measurement, especially the subjectivity of impact measurement. While financial metrics are standardized and viewed consistently around the globe, non-financial metrics commonly tend to vary from one context to the other, geography to geography, and mainly depend on the objectives of investment. Impact does not always come quickly but sometimes in years. Thus, it is very difficult to measure whether something has been successful or not in the short run. Beyond this, impact measurement requires reliable access to data that is challenging to generate when it comes to developing regions or underserved communities. Investors are likely to rely on a local partner, NGOs, or self-reporting by beneficiaries, which may bring about biases or inconsistency.

Moreover, there is also the trade-off between financial and social returns. While some impact investments can therefore yield strong both financial and social returns, sometimes trying to have a more social impact can result in reduced financial returns. For example, a social impact investment to provide affordable housing might yield lower financial returns through rent controls or subsidies established to keep housing inexpensive for low-income families. For example, when the goals conflict, the investor has to decide how much financial return to sacrifice to realize the higher social impact. As such, it is not always cut and dried and points to a need for greater openness and greater clarity among investors and investees about their objectives and expectations.