To build its $150 million private equity fund to invest in frontier markets, Sarona Asset Management leveraged public funding to lower risks and thus attract private investors. That “blended finance” model is becoming increasingly important in mobilizing private capital to meet 21st-century challenges as articulated in the 17 U.N. Sustainable Development Goals.
Private capital can indeed deliver public goods. We need much, much more capital from individual, institutional and other commercial investors to fill the estimated $2.5 trillion annual gap in financing for sustainable development. The good news: We increasingly know the blends that can attract it.
Sarona, an Amsterdam and Ontario-based fund-of-funds manager, invests in local private equity funds in emerging and frontier markets like Peru, Ecuador, Nigeria, Egypt, Vietnam, and Indonesia.
When Sarona lined up its investment portfolio under each of the 17 U.N. SDGs it found it was already active in many areas that are likely to contribute to achieving the SDGs over time. The firm found that all of the more than 200 companies it directly or indirectly invests in contribute to SDG №8 (decent work and economic growth), for example (see, Sarona’s latest Annual Values report). Its portfolio companies added 15,000 jobs last year and employ 127,000 people, including 27% that are women.
With commitments and improvements in the “G,” governance, in ESG, including full compliance with local labor and tax laws and a 12% increase in corporate taxes paid, the firm says 100% of its portfolio companies contribute to SDG №16 (Yes, peace, justice and strong institutions are investable!) Half contribute to reducing poverty and income equality, and half make an explicit effort to reduce the gender gap.
For its $150 million Sarona Frontier Markets Fund 2, the firm leveraged a $15 million (Canadian) first lost guarantee from the Canadian government’s aid agency and a loan and credit guarantee from Overseas Private Investment Corp. to lower fund’s risk. This intentional deployment of public finance attracted $85 million from private investors including individuals, pension funds, and endowments.
“Blending” capital to back high-growth, mid-market companies in frontier markets has the potential to unlock capital flows in sectors and markets critical to delivering the U.N. global goals. “We’re like a private sector development finance institution,” says Sarona’s Vivina Berla, who spent 20 years in the institutional investment world before arriving at the firm. To have an even greater impact, Berla told ImpactAlpha, we need more catalytic public funding to help intermediaries like Sarona “bring more private money into local funds and projects.”
Last month, the firm signed the Stockholm Declaration, a commitment from European investors representing over $200 billion in assets to measure and report against the SDGs. Sarona’s third blended finance fund-of-funds is in the works.
Private capital, public good
We hear a lot about the multi-trillion gap in finance needed to deliver the U.N. global goals for poverty reduction, education and health, social inclusion and climate action. To help close that gap, a lot of hope is being put on blended finance––the practice leveraging risk-taking public and philanthropic funding to attract private investors to deals in sectors and markets critical to sustainable development.
Since the early eighties 187 blended finance deals (classified as funds and facilities or projects and businesses) have mobilized $51.2 billion for development, according to The State of Blended Finance, a new report from Convergence, a platform to bring together investors for blended finance deals, and the Business and Sustainable Development Commission.
Though deal activity is growing, only a few dozen get done each year. Sub-Saharan Africa has attracted 40% of deals but only 16% of capital. Financial services, clean energy and climate finance deals make up half of all deals. To boost private capital flows into the the poorest countries, the World Bank, one of the largest blended finance dealmakers, recently approved a new $2.5 billion Private Sector Window with the International Finance Corp. and Multilateral Investment Guarantee Agency.
We need more risk-taking and appropriately placed capital from public and philanthropic funders, according to the report, in order for private investors to see better risk-return profiles in sustainable development deals. Donors, who could help reduce risk and boost returns, need more finance capacity and metrics to evaluate the additionally of their funding. The top philanthropic investors involved blended finance deals include the Omidyar Network, the Gates Foundation and the Calvert Foundation. Top private investors: JP Morgan Chase, Deutsche Bank and Calvert Investments.
Development finance institutions, says the report, need to take greater risk by allocating capital to lower-income countries and more risk participation products.