Beats | October 2, 2015

Uneasy Blend of Investor Expectations: Five Ways to Build Better Capital Stacks

The team at


I recently sat around a table of investors charged with finalizing the structure of a global impact fund. I couldn’t help but hear the contradictions that laced the discussion.

One public investor had a mandate to “catalyze private capital” but was unable to accept any terms considered subordinate to other investors. Another investor wouldn’t be able to close the investment for another 9-12 months, yet required his institution be one of the first in the door. A third insisted on vetting each of the fund’s team members (down to analyst level) but wouldn’t be able to disburse any money for at least a year.


I left feeling deflated. This was a fund manager with a proven track record, massive impact, and a deeply talented team. They were being tied in knots trying to raise their next round.

Blended finance, or “stacked capital,” is a promising and growing practice that is, in theory, an elegant solution to impact financing challenges. In imperfect impact markets in which enterprises struggle to access a single source of capital, braiding capital from different sources with varied financial and impact expectations makes a lot of sense.

An increasing number of foundations and public-sector institutions (such as development finance banks) are stepping forward to provide a key layer in the stack, the risk capital that typically sits at the bottom, or the riskiest position, and “crowds in” more risk-averse, commercial capital.

[blockquote author=”Beth Bafford, Calvert Foundation” pull=”pullleft”]We are living in a fascinating time in our financial markets and our ability to get this right – to move capital efficiently into the sectors and communities we care about – could determine the size and scale of future capital flows.[/blockquote]

To realize the potential of such innovative structures, however, we have to recognize and reduce the inefficiencies and complexities such investors can sometimes introduce in an already inefficient and complex marketplace.

Many of these public and philanthropic institutions, despite their deep mission orientation, passionate staff, and desire to help catalyze private capital, were not formed to move at the pace or structure of the financial markets.

In our work, we see three ways in which the orientation and background of these longtime grantmakers is affecting the ability of the market to blend capital efficiently:

  • Public and philanthropic sources of capital are accustomed to operating in a world where the demand for their capital vastly outpaces the supply of it. In contrast, traditional investors see their cash as a commodity and thus see their investments as an opportunity to exchange that commodity for value-creation.
  • This market dynamic, and often-rigid institutional structures, means many public and philanthropic institutions are used to setting the terms of how their money can be used. These restrictions can be crippling for investees operating in shifting markets and can stifle opportunism and adaptability. When you try to sew together risk capital from multiple organizations, each with their own strict impact, geographic, risk mitigation, and financial return requirements, there is very little space within which the investees can operate.
  • All of this presents a timing challenge for investment, particularly investments in newly formed intermediaries or funds. Many risk-capital providers expect to see a fully formed fund structure in place (a hired team, a robust pipeline, etc.) before a fund or intermediary applies for or raises capital. With the timeframe between application and disbursement typically between 12 and 18 months, if not longer, this puts the fund (or enterprise, in some cases) in an impossible position. It nearly guarantees the need for bridge subsidy to survive the capital-raising process. In the past year I’ve seen this timing mismatch sink a company and nearly sink a fund.

I know that these are not the desired outcomes of any institution seeking to invest for social purpose, and I have to believe that these are growing pains in a relatively new field (or new business line) for public and philanthropic organizations.

And to be fair, there are shining examples of where investors within public and philanthropic organizations have worked to reform their internal processes to better resemble traditional financial institutions so they can act efficiently and create great value. Unfortunately, in my experience, this is the exception and not the rule.

So how can we all be better investors? Here are five ideas, both theoretical and tactical, that could be put in place in the near term, while institutions continue to undertake the necessary culture and process changes required.

  1. Treat investees as equal partners. As investors, our capital (and counsel) is our value. The value of our investees is excruciatingly hard work in imperfect markets with difficult populations solving global challenges – all while generating both a financial and social or environmental return. We should view financing relationships as a mutually beneficial relationship instead of one where the cash is king.
  1. Build a trusting relationship and align on shared objectives before diving into the details or legal documents. So much of our work to assess potential investments is based on the quality of leadership, their adaptability, their ability to actively solve problems, and their informed and strategic decision making throughout the investment period. Getting comfortable with those traits will go miles further than a delinquency covenant, a strict concentration limit, or burdensome monthly impact reporting.
  1. Suggest or appoint a lead investor (or if there are too many investors and layers, a lead that represents each tranche). These leads should be in charge of collecting and understanding the restrictions and needs of each investor in their cohort. With these in mind, they can negotiate within their group to understand the “nice to haves” versus “must haves.” This should be organized and agreed upon before negotiating with the investee so the investee does not have to be the one playing telephone.
  1. Move faster from pitch to close. But understanding that reforming process takes time, we can, in the interim, recognize the true costs of capital raising and work with investees to structure something that covers those costs (bridge loan, deferred origination fees, short-term grant). Their pipeline or projections will not stay relevant forever, and we have to respect the expectations set with their partners. Similarly, staffing a full fund management team for a year is not free, and we should not expect them to have each position filled before we can make an investment decision. We can easily align on job descriptions and desired qualifications during our due diligence process and trust their ability to hire effectively.
  1. Be more flexible. I’ve written about this here, but want to emphasize the importance of creativity in structuring. There are many ways to ensure appropriate risk mitigation without a rigid procedural process. No matter how hard we try, true standardization in our markets is hard and we need our process to recognize this natural nuance.

I welcome other ideas, as I am sure there are many. Our ability to get this right – to move capital efficiently into the sectors and communities we care about – could determine the size and scale of future capital flows.

We are living in a fascinating time in our financial markets. I look forward to working with our team and other investors to improve our ability to effectively blend capital so we can generate the world-changing impact we all seek.