When we started Impact Engine in 2012, we were very much in learning mode. We knew we wanted to invest in entrepreneurs launching companies that were impacting the world in a positive way, but we had very little structure around how we defined impact, and even less around how we measured the impact of the companies we invested in.
Over the last nine years working with more than 50 portfolio companies across our accelerator, venture, and private equity portfolios, we have developed and honed our investment strategy as well as our approach to impact metrics. We now invest in companies where the product inherently drives positive social or environmental impact, so that impact grows alongside revenues, and in companies that have the potential to change the paradigm of the industries they operate in.
We also honed in on specific impact areas where we believe there is high overlap between large markets and significant opportunities to drive positive impact: economic opportunity, environmental sustainability, and health equity. We look for businesses where the impact can (and should) be a competitive advantage, thus the company will benefit from measuring and reporting on its impact. The only exceptions to this linear relationship between impact and revenues are a handful of companies where we believe they have the potential to generate systems change if they are successful, by changing the way important resource allocation decisions are made.
On the measurement side, we developed a consistent approach to constructing a set of impact KPIs that our portfolio companies report to us on a regular basis. While there are a lot of smart people in the industry working on developing impact measurement systems that standardize metrics across all companies, we have concluded that a bespoke approach to metrics that is customized to each company, but leverages a standardized framework, creates the most value for our portfolio of companies.
We have chosen to adapt the logic model approach (also known as “theory of change”) used in philanthropy and take a thesis-driven approach to identifying impact metrics which are unique to each company we invest in. We are sensitive to the burden that measurement can place on the management of young companies, so there are a few rules of thumb that we apply in developing impact KPIs: (1) they should be aligned with the business operations of the company, so the impact KPIs are a valuable indicator of performance, (2) there should be only a handful of key metrics that truly capture the impact the company is generating, and (3) they should be easy (and inexpensive) to measure.
Though the initial set of impact metrics can feel simplistic, the measures typically evolve over time as companies develop systems and infrastructure to evaluate impact. Early stage companies do not have a lot of available resources (human or financial) to measure the impact of a business that is still developing, and later stage companies that have never measured impact often need time to adjust how and where they collect data. But by defining impact metrics upfront that companies find manageable, and reviewing those metrics regularly with our entrepreneurs, we have found that it sharpens how our companies think about their impact and spurs them to build data collection processes that will enable them to become increasingly sophisticated in how they measure and report their impact. Once they get to a critical mass, they can demonstrate more evidence of impact through assessments with third parties and, in some cases, randomized control trials (RCTs) with academic researchers.
We align our approach to the framework provided by the Impact Management Project (IMP), which describes 5 dimensions of impact: What, Who, How Much, Contribution, and Risk.
Our diligence process addresses all of these dimensions, and as we approach the end of the process, we construct an impact thesis that focuses on the What, Who, and How Much dimensions.
First, we outline the scope of the impact opportunity, which encompasses the dimensions of how many people are affected by the problem the company is addressing and how deeply they are affected. This is essentially a statement of the potential magnitude of the impact the company might generate, if successful, and it helps us determine if there is a meaningful opportunity to drive impact. The magnitude of the impact opportunity typically overlaps with market opportunity.
Case Study: PadSplit
To illustrate how the process works, we’ll use one of our investments, PadSplit, as an example. PadSplit is a digital housing marketplace that allows private landlords to convert single-family homes into affordable, co-living residences. These residences are fully furnished, renovated up to specific standards, and include private bedrooms alongside a shared kitchen and common space. Our delineation of the impact opportunity cites the definition of when a household is considered “cost-burdened” based on the % of their gross income spent on housing and the challenges faced by lower and middle income workers in balancing housing costs with transportation cost/time.
Next, we articulate a thesis statement that connects the product or service provided by the company to the outcomes that we expect to result (the “What” in the IMP Framework). While the typical impact logic model or theory of change has several components, we strive to capture the essence of the impact we expect the company to generate in one sentence. For PadSplit, our thesis is:
Supporting property owners/developers in converting single family homes into co-living spaces and providing a tech platform to facilitate the landlord/resident relationship will increase the availability of more affordable housing without requiring government subsidies. This should lead to increased financial security and increased accessibility to employment opportunities for residents.
Then, we propose a set of impact KPIs, also referred to as “outputs” in the language of logic models and theories of change, along three dimensions:
Scale — how many people are impacted by the company (“How Much” in the IMP Framework). For PadSplit, the scale metric is the number of members living in PadSplit residences.
Effectiveness — to what degree are people impacted (“How Much” in the IMP Framework). PadSplit reports three KPIs: the average savings on housing per resident based on average cost of alternative options in their region, the average savings in commute time, and the average % increase in savings per resident using PadSplit’s financial services platform.
Access — who is impacted by the company, and to what degree are they underserved (“Who” in the IMP Framework). No matter how compelling the company, its impact is limited unless it is serving the customers that truly need it. If PadSplit was only serving affluent communities or millennials, for example, it wouldn’t meet our definition of impact -- but because the company’s business is specifically targeted at lower and middle income workers, we think it has tremendous potential to create impact. We track this dimension of access by asking PadSplit to report the average income of residents as well as the age, gender and race/ethnicity of members. If we see the average income starting to increase, it would prompt us to have a discussion with management about their strategies for reaching and screening potential residents.
We think of the overall impact of each company as being the number of people affected (Scale) times the depth of the impact (Effectiveness). You might also see this concept described as Breadth x Depth, or Quantity x Quality, or Scale x Impact. The Access dimension captures how important the impact is for the population being served. Not all of our portfolio companies are exclusively focused on underserved communities, so tracking the proportion is important for us to ensure that the impact the company is driving is meaningful for the individuals that can most benefit from it.
We then identify the Sustainable Development Goal(s) that we believe the company will contribute to, and we outline the current level of evidence that suggests the company can actually drive the impact it believes it can using the Nesta standards of evidence. While typically early stage companies can point to self-reported data, and occasionally companies have conducted a randomized control trial with a research partner (the “gold standard” for impact), we often rely on third party research to provide that evidence for impact in our diligence process.
We ultimately craft a one-page overview that captures our thinking and becomes a discussion guide with the entrepreneur. Impact-motivated entrepreneurs not only enjoy these conversations, but it also helps them to ideate around what they might be able to measure in the future. We typically refine our metrics based on those conversations, and we revisit the metrics regularly with management as their businesses evolve.
We have found this approach to constructing an impact thesis to be a valuable tool for articulating how we expect our portfolio companies to drive impact and developing near-term metrics to approximate that impact. This is a living document that evolves over time as our companies develop systems for capturing better impact data and collect increasing amounts of evidence of the impact they are generating, both directly and through third parties.
Another evolving aspect of our impact-related measurement work relates to ESG (environmental-social-governance) factors. In 2020, we formalized our approach to measuring ESG in our portfolio, particularly for later-stage companies. We wrote a blog post about the natural synergies between impact and ESG approaches, and why they are both important for an impact investor to manage. A great ESG strategy will take into account the impacts of the products that are being sold and likewise, an effective impact investing strategy will take into account that a business’s impacts will go well beyond its product, especially as it scales.
We welcome your thoughts and feedback, as we’re constantly seeking to improve the way we manage and measure the impact of companies in our portfolio!
This blog post is updated from a July 31, 2019 post.
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