In the current impact investing landscape, when seeking competitive financial returns, most investments are directed toward environmental initiatives. As a result, social impact investments remain relatively underinvested. For Sjoerd Rozing at Triodos Investment Management, Child-Lens Investing provides a fantastic opportunity in the social impact investment space. He tells us how he constructed his strategy, why the theme is so compelling in today’s market and how it applies to two very different investment cases.
The Backbone of a Listed Impact Strategy
At Triodos IM, the notion of impact investment is well defined and has been entrenched in its culture from the start. Impact, risk and return are always considered on the same footing, which means that the selection process always starts with determining the positive impact of any potential investment, an approach referred to as ‘intentional’ in the impact jargon. For the Future Generations strategy, a minimum of 33% of a company’s revenue must be attributed to one or more of the five child welfare focus areas (see below).
The Triodos Minimum Standards are applied as a negative screening, to avoid inadvertently investing in stocks that impact children positively but generate too many negative externalities otherwise. An integrated financial and sustainability analysis is then conducted to assess the fundamentals of a company and evaluate the impact of material sustainability factors on the value of the investment proposition.
An important pillar of the investment process is engagement, which is what is considered the ‘additionality’ of the investment in the case of public market investments.
Theory of Change
This impact approach relies entirely on the ability of the manager to build a fundamental bottom-up portfolio while maintaining a diversified profile and a competitive risk-adjusted return. A Theory of Change provides the framework that underpins how the Future Generations strategy acts, invests and evaluates its activities. The first pillar focuses on the prosperity of children from a health and safety perspective. The second includes a strong environmental drive to ensure a better future for the generations to come and the third pillar takes an economical perspective. In addition to the advocacy agenda set up in collaboration with UNICEF, Triodos IM also donates an amount equal to 10 basis points of the fund’s AuM to UNICEF’s Building Bricks for the Future project in Côte d’Ivoire. This project builds schools with bricks made from plastic waste.
The rigorous criteria applied by the ‘Future Generations’ team result in a slight sector bias. “We have quite some exposure to healthcare,” says Rozing. “This is a space where children’s needs are just different from those of adults. We identify those companies that focus specifically on children in that sector. We also have a fairly large exposure to food for the same reason.” Another way to apply a Child Lens to investments lies in negative screening. “When you think about children’s wellbeing, a clear area of concern is child labour. Yet topics such as marketing practices and living wages – do parents earn enough to provide for their children – could also be cause for concern,” Rozing adds.
The first pillar focuses on the prosperity of children from a health and safety perspective. The second includes a strong environmental drive to ensure a better future for the generations to come and the third pillar takes an economical perspective. In addition to the advocacy agenda set up in collaboration with UNICEF, Triodos IM also donates an amount equal to 10 basis points of the fund’s AuM to UNICEF’s Building Bricks for the Future project in Côte d’Ivoire. This project builds schools with bricks made from plastic waste.
A unique opportunity for profitable impact in the social sphere
A strategy wouldn’t be successful if it didn’t meet investors’ needs. Why does investing using a Child-Lens Investing framework make sense? For Rozing, the answer is easy. “What is appealing about this strategy is that it has a clear social focus while many other impact investments tend to be heavily oriented towards environmental issues. While we do take this dimension into account in our theory of change, our main focus is on social issues. The other reason our strategy makes sense is that the risk is typically lower than with environmental strategies while still offering a good return.” Given that investing with a Child-Lens Investing framework has a different sector allocation than most climate or environmental strategies, this allows for more diversification within a broader investment portfolio. Adding such a socially focused strategy to an otherwise green impact allocation can also serve as a risk mitigator, given the added diversification.
Case #1 – Stride
To illustrate how he has been able to select investments that satisfy the Child-Lens Investing framework developed for the Future Generations strategy, Rozing has picked two different examples. The first is a company that provides services directly intended to benefit children: the US virtual-education provider Stride.
“For most kids, the normal schooling system works well,” Rozing starts. “For some, however, virtual education can be a crucial component to a successful schooling. These are instances when kids have special needs. They don’t benefit from going to school in the same way as others, their homes are far away or they are high-performance athletes, for example. Another instance is when children move around a lot if their parents are assigned to different military bases. Then virtual education is a very good solution. Before Covid, the market was very small, and the pandemic brought to light the advantages of distance learning. The market remains niche (1-2% of the population) but the concept has become more mainstream.”
The choice between traditional and virtual learning environments is heavily driven by parents, however, and there is still a large untapped enrolment potential. School boards can also make decisions as to which virtual education services they want to work with. “There are other firms competing in this space, of course,” Rozing explains. “But Stride is a pure-play, and they are gaining market share. They are deploying more efforts to enrol students and provide the special attention and quality education that they require. These are crucial factors for both parents and partnering schools.”
Quality is also key to reduce risks. One of the most prominent risks for a virtual-education provider is the loss of state funding. With each state responsible for their own regulations and restrictions, it is important to note that the political backdrop can play a role in opening or closing the gates for virtual education. Responsible marketing is also a key area to watch when investing in this space. “We would not like to see that enrolment growth is being driven by children for whom virtual education is not the right solution ,” says Rozing.
The company’s activities fully contribute to the Access to Education theme, one of the five themes of the Future Generations strategy.
Case #2 – SABESP
For the second case Rozing has chosen to talk about a company which serves the general population, while having a significant impact on children’s lives. Companhia de Saneamento Básico do Estado de São Paulo, SABESP for short, is a prominent water and sewage service provider in Brazil and clean water is, after all, a necessity for a healthy childhood.
“While Brazil is a relatively developed country, still not everybody in the state of São Paulo has access to clean water and sanitation,” Rozing explains. “There is a significant growth potential for SABESP and that will have a direct impact on people’s lives, especially for children, not only today but for many years in the future. Investments in water infrastructure are typically very long-lived and may serve children for several generations. From a business perspective, water is an essential good and therefore faces a stable and predictable demand.”
At the time Rozing first invested in the company, it was still mostly state-owned and ran suboptimal. Hence in addition to the expansion potential, there was room for margin expansion driven by efficiency measures. “Last year, the state privatised SABESP by selling a large stake to the market. Since then, the company has embarked on a mission to become more efficient and they have already started to show improvements. They also have a target to deliver universal access to water by 2029. It is a huge undertaking, and they will be deploying significant amounts of capital to achieve it. Even if they cannot reach their target in just five years, they will have the pressure to show results as fast as possible. This means both top line growth and margin expansions which we expect will continue to unlock value for investors like us,” he says.
Initially, this investment opportunity came into the Future Generation’s portfolio as the team was looking for a company which products and services were advancing SDG 6 – Clean Water & Sanitation. “We ran a screening and we decided to have a closer look,” Rozing says. “We got excited because the regulated utility model was attractive from a valuation standpoint. We also liked the fact that it was different from the typical names held by most impact investors in relation to water.”
Coincidentally, the company also runs several children-related projects. “This is a nice feature, but it is anecdotal,” Rozing admits. “We wouldn’t have invested in this company if it had been only for this aspect of the business. It is an attractively-priced, not widely-owned regulated company in a country where there is no universal access to water yet.
Evidently, the risks surrounding the investment are non-negligible. Emerging markets, in general, are best approached by investment experts not the least due to their volatile governments and politics which can very quickly change and affect the local currency. For a responsible investment firm such as Triodos IM, biodiversity loss is also a prominent risk factor. “I know that several of their sources are in some way connected to the Amazon area and they need to thread very carefully there to avoid disrupting the ecosystem that is very fragile. Should this aspect not be managed well by the company, we wouldn’t be able to hold this position anymore. The company is also the largest carbon emitter we have in the portfolio. Pricing of its emissions would affect the profitability of the company. The fact that it is a regulated entity gives us some comfort that these potential costs can be passed on. From a sustainability point of view, we are facing a trade-off, so much is clear. We have decided that the benefits overweigh the costs for now,” says Rozing.
Position size is a way to deal with the inherent risk of such positions. “We try to keep it small enough that it won’t hurt our performance but large enough that we can make a difference by owning the shares,” Rozing explains. “So far, the engagement opportunities have been somewhat limited, not so much due to language barriers or time zone differences but by the structural changes the company has undergone in recent years. The privatisation process has generated significant turnover at the top, so it was not the right time to engage. When the company stabilises there will be a time to have more meaningful conversations about child wellbeing. Our biggest priority will most likely be around emission reduction. We strongly believe that reducing carbon is very beneficial for children and especially for future generations,” Rozing concludes.
DISCLAIMER
Neither UNICEF, nor its partner in Luxembourg, Comité luxembourgeois pour l’UNICEF, is acting as an investment adviser and neither of them has had or will have any role in the design, structuring, development, management or operation of the Triodos Future Generations Fund. UNICEF, and the Comité luxembourgeois pour l’UNICEF, have not been and will not be involved in the management of the Triodos Future Generations Fund, including its investments decisions. Neither UNICEF nor the Comité luxembourgeois pour l’UNICEF has endorsed Triodos IM, Triodos SICAV I, the Triodos Future Generations Fund or any investment by the Fund. UNICEF and the Comité luxembourgeois pour l’UNICEF make no recommendation as to investment in the the Triodos Future Generations Fund.
The sole role of UNICEF, and the Comité luxembourgeois pour l’UNICEF, is to receive the donation from Triodos IM and apply such donation to UNICEF’s programmes for children. UNICEF and the Comité luxembourgeois pour l’UNICEF will have no liability to the Triodos Future Generations Fund or investors in the Fund in relation to investments in the Fund, the performance of the Fund or otherwise in connection with the Fund. UNICEF is immune under international law from every form of legal process.
