Investors are finding new ways to finance high-impact projects while managing risk.
Allocations to “equity-like debt” surged over the last five years, growing to more than $16 billion through last year, a compound annual growth rate of 104%. Often used in mezzanine, subordinated or bridging positions, the hybrid debt and equity instrument features prominently in so-called blended finance structures in which different types of capital are pooled to de-risk investments and attract commercial investment.
“Investors are leveraging the unique features of these asset classes to derive value, indicating a strategic shift in how capital is deployed,” the GIIN’s Dean Hand writes in the Global Impact Investing Network‘s “State of the Market 2024” report. The GIIN surveyed more than 300 impact investing organizations managing nearly $490 billion in total impact investing assets.
The findings on equity-like debt are from a subset of 71 survey respondents that also provided data in 2019. That subset showed growth in impact AUM at 14% CAGR over the five-year period. The GIIN’s annual market-sizing survey is due in coming weeks.
Taking risks
The growth in equity-like debt was driven by a relatively small number of large-ticket investors (the number of investors that allocated to equity-like debt fell by 20% over the same period). The bulk of impact AUM is allocated to private equity and private debt.
But equity-like debt is nimble. Positioned between senior debt and equity, it offers higher returns than traditional loans, with the potential to convert to equity. Investors deploying the instrument, according to the GIIN, “act as catalysts, establishing track records in new regions, products, services and returns that pave the way for larger institutional investors who are typically more risk-averse and less inclined towards blended deals.”
Mobilizing capital
Equity-like debt, and other catalytic tools such as first-loss reserves and guarantees, are helping to mobilize commercial capital across sectors like energy and housing (see, “How commercial investors are streamlining blended fund structures”).
The GIIN report reveals that investors allocated more to market-rate blended finance structures than to the next three biggest blended finance strategies combined (flexible terms, subordination and guarantees).
“These findings suggest that there may be additional demand for de-risking capital as this area of the industry grows,” the report said. Also true: “The promise of blended finance mechanisms to leverage increasing volumes of market-rate capital is at play.”
