Traditional aid agencies and DFIs cannot always take risks on early stage, innovative ventures, which creates what is often referred to as the “pioneer gap”. Early seed funding, where available, may help the innovators to understand the market need, develop a value proposition and demonstrate early proof of concept, but the funding required to validate their idea and transition their innovation to a scalable model is often inaccessible or simply not available.
This pioneer gap can quickly turn into a chasm for entrepreneurs that are trying to build the market they aim to sell into. Success for these pioneers benefits many companies, not the firm alone, but those benefits are hard to quantify and harder still to capture. So as an early-stage venture, how can you demonstrate that you are investment ready?
This is a challenge we are seeking to address at GIF. To fully unlock the power of innovation, we must ensure that innovators have access to the early-stage, flexible finance they need to test, adapt and improve their ideas. Along the capital continuum that ranges from aid and philanthropic grant funding at one end to purely commercial capital at the other, we all need to make better use of the development finance toolkit. We are focused on being creative about how we blend capital across the returns continuum, taking smart risks to fund innovation that has the potential for outsized social return. This is how we de-risk firms and get their impact to scale more quickly.
The second point here is around the effectiveness of innovation: the evidence shows that investing in innovation pays off. We have seen this with our own portfolio. Between 2015 and 2020, just six of our early investments have generated more than $500 million in social benefits.
Investing in innovation is inherently risky, yet the upside is significant, so sharing the proof points of what works and what doesn’t is vital for making the policy case for continuing to invest in new solutions. To retreat from innovation and experimentation would be a tragic mistake, especially as we’re looking to confront the fast-evolving challenges posed by climate change on the world and especially on the poor.
Accepting concessional financial returns for outsized social value, i.e. funding to bridge the pioneer gap, is too rare. Impact investing and venture philanthropy can do this (and they do), but those pools of capital will be most powerful if we can complement their work with some of the government budgets that are now at the polar ends of the return continuum. We know there is a large unmet demand for this type of blended risk-taking capital in fragile places
An example is Babban Gona. When we looked at Babban Gona, we saw a company focused not only on creating a profitable business, but also on improving the livelihoods of smallholder farmers in Northern Nigeria. It wanted to do that by creating a replicable, scalable franchise-based model that provided end-to-end services to small farmers. Babban Gona provides everything from inputs, to technical assistance, to support in harvesting, storing and getting crops to market for the best price at the best time. Importantly, it understood the market, the farmers in it and the services they were and were not accessing. But to make that happen, it needed capital. In particular, it needed capital that was early, flexible and patient.
First, as early stage capital. A mix of grants and loans form a small family foundation, rather than GIF, provided this. This was well before the business was commercially viable but helped Babban Gona demonstrate that it could execute and refine in the early stages of their business model.
Second, it needed flexible capital. Babban Gona, which provides credit through the harvest seasons, has large capital requirements to operate. It is the supply chain finance mechanism that makes this such an interesting business model. But international commercial capital, including from DFIs, is often USD denominated, and this would expose the business to currency risk, undermining its ability to scale sustainably.
This is where GIF entered the picture. We saw the opportunity and were impressed by the business, its founder, and its potential to have significant development impact, by which I mean the potential to impact perhaps millions of people’s lives. We made an investment in Babban Gona in Nigeria’s local currency, the Naira. This means we shared the currency risk with Babban Gona, significantly de-risking the investment for other investors. Because of this, other commercial-rate investors were able to come onboard with additional dollar denominated debt.
Additionally, we were able to support other investors to overcome another barrier to investment. Northern Nigeria is a fragile place, and other investors who were motivated to invest in Babban Gona faced a barrier around their ability to conduct due diligence in such an environment. As the panel well highlighted, collaboration is essential to accelerate innovation. GIF is always open to help unlock additional funding through sharing our diligence, knowledge resources and intellectual capital with other like-minded investors. And in doing so on this deal, we were able to help other funders to move towards investment.
Finally, Babban Gona needed patient capital. Capital that can stick around while the entrepreneur and their business finds its product-market fit. Some funds—including many impact investing funds—are closed-end funds. Meaning that they may only have a relatively short time horizon to return capital to their limited partners. By the time they’ve made their investment, they may already need to start thinking about how to exit the investment a few years down the road. This can mean that high-impact investments get passed over because there’s no quick exit or that investment funds must exit early, jeopardising the social mission in the process.
GIF has an evergreen structure and so we don’t have obligations to exit prematurely. We can be patient—knowing full well that investing in fragile places like Northern Nigeria requires time to allow a business to make good on its potential and to try new approaches when an initial idea doesn’t work out. We can be with those entrepreneurs as they develop their business, build their market viability, pivot, and ultimately prove the commercial scalability of their model.
The story of Babban Gona is not an isolated one. It’s a story of many entrepreneurs in fragile places. Doing more venture capital style investing in fragile contexts means being able to do more investments that are both scalable and have substantial social impact.
The ability to forecast and measure impact is central to our investment processes. Just as we, as investors, quantify financial returns, innovation in development requires quantifying the social returns on investment when making a funding decision.
At GIF, we’ve developed an impact measurement tool, Practical Impact, that allows for this type of comparison. It considers how many people an innovation, if successful, will reach; how significantly it will improve each of those people’s lives, and it then adjusts for risks.
This generates a measure of potential social impact for each investment we consider, meaning GIF can use its resources to back those with the greatest potential for impact. We then track that impact over time to see how our forecasts hold up.
Evidence is a central part of this process because it allows us to build a better understanding of the likelihood of success of an innovation, and its risks. And it can help inform the innovators of the most efficient utilization of resources at a firm level.
This is important because rigorous evidence of impact allows us to make the case for scaling successful innovations, as well as for innovation itself as an impact-maximising cost-effective means of mobilising development assistance and private sector capital.
Avinash Mishra is Managing Director, Head of Risk Capital and GIF Growth at the Global Innovation Fund.