The following post is part of TriplePundit’s coverage of the 2011 Net Impact Conference in Portland, Oregon. To read the rest of our coverage, click here.
By Jacen Greene
R. Paul Herman worked for McKinsey & Co., Omidyar Network, and Ashoka before launching Human Impact + Profit Investor, an impact investment advisory and portfolio management firm. HIP Investor released the HIP 100 Portfolio, ranking S&P 100 companies by their performance in sustainable products, human impact, and management practices. At the 2011 Net Impact Conference, Herman participated in a panel on careers in finance, led a workshop on impact investing, signed copies of his new book The HIP Investor, and still made time for a short interview with Triple Pundit. He spoke about the difference between impact investing and socially responsible investing, how HIP evaluates firms, and how you can shape your investment strategy to create a positive impact.
TriplePundit: How would you distinguish impact investing from socially responsible investing?
Herman: Socially responsible investing, as practiced in the 20th century, really focuses on negative screening: kicking out companies that are “bad,” like tobacco, nuclear, gaming, and the like. So they apply this negative screen to a portfolio, and usually around policy—do you have an environmental policy or social policy? And where there’s contention, they’ll file proxies, which are sort of like a lawsuit. And that, though it does better in a down market because the companies are less risky, doesn’t do as good in an up market. In a timeframe with more upcycles than downcycles, they don’t keep pace. That’s what I call 20th century socially responsible investing.
What we think of at HIP as 21st century impact investing is a focus on results, not policy. Quantifiable metrics of greenhouse gas emissions, board diversity, employee engagement. And because those also connect to financial performance—higher revenue, lower cost, better tax position—they end up, in general, correlating with better financial performance. And so there are examples including HIP, Portfolio 21 mutual funds, [and] Generation Investment Management. So far, applying that Environmental and Social Governance (ESG) approach has led to outperformance on a risk-adjusted basis.
Can you talk a little bit about HIP’s core criteria for evaluating firms?
The underlying foundation for HIP is based on Maslow’s Hierarchy of Needs. We translate those needs into five categories: health, wealth, earth, equality and trust. We look at the products and services a company has as to what human, social or environmental need they’re serving. Then we look at how the company operates [internally] and in its supply chain, and wherever there’s a quantitative measure of business, we decipher a financial connection and build a quantitative model so that we can apply an index-based approach. And then it becomes less about stock picking or timing and more about fundamental value creation.
What tips can you offer somebody who is just starting on the path from traditional investment to impact investment?
So I’ll be self-serving and put a plug in for the book, to read The HIP Investor, which is intended to be a how-to guide both from a company perspective and an investor perspective. So the output that you should look for is, one, what are your criteria? What’s important to you? And feel free to use or adapt the HIP criteria. Then, two, translate that into an investment policy statement, which, typically, if you work with an advisor they should do with you. Mainly I would expect [they would focus] on risk and return, but you should encourage them to quantify impact.
As you evaluate new investments or divest your current investments, use a methodical way—your criteria, HIP criteria—to do that. Track your performance over time as to how that’s increasing or decreasing and how closely connected it is to financial performance. What we find is as a portfolio, HIP works. On an individual basis there may not be a one-to-one relationship, so a high impact score may not [lead to] high performance. But as a portfolio, and ultimately as a society, because of the ecosystem of companies, it could, over time, deliver higher risk-adjusted returns.
Jacen Greene is a social enterprise consultant based in Portland, Oregon.