Catalytic Capital | July 11, 2022

Maximizing the impact of catalytic capital when supporting emerging fund managers 

Margot Kane

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Guest Author

Margot Kane

Editor’s note: This blog is part of ImpactAlpha’s series, “Seeding Impact,” authored by participants in the Catalytic Capital Consortium (C3) Seeding Learning Labs. Key insights have been published in a C3 Guidance Note (for more, see the executive summary and full report). C3 sponsors ImpactAlpha’s catalytic capital coverage.

Impact investors associate catalytic capital with providing relatively more flexible, patient, and risk-tolerant capital than what is otherwise conventionally available. While this is a critically important ingredient, a crucial and oft-overlooked element is not just what type of capital is being provided but how it is provided: the environment and process through which this capital is allocated, and the supports offered post-investment. 

For maximum impact, the investment process itself should be transparent, efficient, and responsive to the market position and needs of partners. 

An instance where attention to the impact of your investment process can be immensely valuable is when supporting emerging fund managers – particularly underrepresented fund managers.  Many fund managers raising their first or second funds have a limited track record and limited-partner network, a gating issue for most investors, including many impact investors. To be successful, both financially and from an impact standpoint, these fund managers must grow their track records and assets under management to attract a wider range of LPs.

Without risk-tolerant capital that can be deployed in unconventional approaches, such as in seeding a first-time fund or warehousing early investments, these fund managers may never have an opportunity to prove out their investment thesis and grow into sustainable businesses with long-standing impacts. 

At Spring Point Partners, we began to support emerging underrepresented fund managers in 2020 as part of our values-aligned investment strategy, focusing on wealth-building opportunities through business ownership for BIPOC and other underrepresented founders. Since then, we have supported ten emerging managers who turned to investing in order to address the market inefficiencies and bias they experienced as BIPOC operators, investors and founders themselves, including the founders of Ruthless for Good, Debut Capital and Plain Sight Capital.

Approaches that enable fund investors to maximize impact can take many forms, whether or not they are working with highly flexible capital. These include: 

An understanding of the dynamics and markets that drive momentum and decisions for other investors. Fund anchoring is a strategy that serves as a good example of this. If an investor wishes to help ensure a new, high-impact fund gets off the ground, that investor needs to understand the fund economics well enough to estimate the fund’s minimum viable AUM, which in turn will inform fundraising requirements and define what an “anchor” investment would entail to serve as a materially helpful signal in the fund manager’s fundraising. 

It’s also important, if seeking to seed or anchor a fund, to commit as early in the fundraising process as possible so the fund manager can leverage that commitment to reach their minimum fund target. Sometimes it’s inevitable to come in as the last money in, but in that case, a high-impact strategy would be to commit (at least verbally) your intent to participate in the next fund, serving as an early support in the never-ending fundraising cycle most managers face particularly before their track record is fully established. 

Understanding the markets in which the fund managers are operating – and how that market is often very different from where most catalytic capital sits – is critical to achieving outsized impact.

A willingness to accept the unknown and mitigate risks through building trust and relationships, versus overengineering deal structures for downside risk. Oftentimes, transactions involving catalytic capital are trying something new or untested in multiple dimensions – a new product, a new team, a new asset class, a new geography – and there is not going to be sufficient track record to reassure investors that they have a holistic grasp of all the risks involved. 

What we’ve learned at Spring Point is investing in the time and energy to build relationships and trust with partners is essential to risk mitigation strategies. You simply aren’t going to know as much going into the deal as you might in a more traditional transaction. Overly structuring deals for controls and downside protection does not sufficiently mitigate against the unknowns and can meanwhile have adverse impacts upon your partners by slowing deal closing, complicating decision-making, and hampering open communications. 

A broad support network. This can take many forms, but typically encompasses expertise, crowding in capital, and building awareness on behalf of investment partners. One of the most critical value-adds is the ability to open doors and make connections on a wide range of topics to support what is, in effect, a small business – the business of running a fund. 

Emerging fund managers are operating with lean teams and budgets without access to certain kinds of expertise. Additionally, if they are first- or second-time fund managers, their investor network will generally not be fully developed. Building awareness among investors and peers is a high-impact strategy that can benefit both parties.

  • Sharing expertise. Catalytic capital investors could take a page from traditional VCs and invest in operating venture partners that can provide expertise and guidance early in a fund manager’s development on topics like portfolio construction, board recruitment, compensation structures, regulatory issues, communications, and tax and fund administration. Bringing strategic resources alongside money to the table increases the likelihood of your portfolio’s success – and when success also equals impact, this is a way you can deepen it.
  • Crowding in capital. Another way investors can maximize impact through network is bring aligned co-investors along with them through deal sharing and syndication. Happily, over recent years there has been increasing opportunity to do this in an organized and productive manner, through various channels like Gratitude Railroad, Mission Investors Exchange working groups, Calvert Impact Capital’s syndication team, and Toniic.
  • Building awareness. Some investors who are active in catalytic capital investing also have robust brand and communications infrastructure – which many fund managers and entrepreneurs cannot afford to build in early days. Activating your communications infrastructure on behalf of your portfolio partners can help them fundraise, grow awareness of their strategies and impact, and generally improve their brand value. Part of our impact is rooted in our ability to lift up our partners and build their market presence over time.

Leading an intentional diligence process that is sensitive to the power dynamics present.  When the investor is perceived as a gatekeeper to scarce or precious resources, it is important to build trust and mutual respect. Adopting a service orientation recognizes that these partners have an opportunity cost in spending time and resources with each prospective investor. The impact of catalytic capital should not be diminished by the time and pounds of flesh it took to secure it.

  • Transparency. A key example of this is providing transparency and reliability around the investment process. Opaque, winding processes have a net negative impact whether you’re deploying catalytic capital or not.  This is an area most investors have a lot of room to improve upon, our team at Spring Point Partners included (there are even impact investors who have crafted their investment products specifically to address the harm that overlong closing and funding processes can take, like Open Road Alliance).
  • Coordination and sharing. Another way to tackle the damage of the prolonged or circuitous diligence processes is to proactively coordinate and share resources with other investors, including those who are not coming to the table with catalytic capital. At Spring Point Partners, we are working to normalize sharing legal and diligence resources with our co-investors where possible, as well as collaborating on calls and site visits, in order to minimize the extraction of time and resource of the process can otherwise cause. 

None of these examples provide a radical departure from what we would generally consider good investment practice. Transparent and efficient diligence processes, providing a supportive network, investing to support the fund manager’s long-term success, and building trusting relationships are approaches many investors apply when investing in private markets. 

The benefits of these approaches when paired with catalytic capital, however, can mean a significant increase in the impact of that capital and its ripple effects. 

Margot Kane serves as chief investment officer for Spring Point Partners.