A new report shows how leadership by Louisiana, California, Maryland and Nevada is pioneering creating outcome-based opportunities for private investment in natural resource restoration and protection.
Impact investing is a category of private capital investment which seeks to achieve a measurable social or environmental benefit in addition to monetary returns.
The social and environmental outcomes can include public goods ranging from increased access to public housing or childhood health care, to lower pollution or enhanced wildlife populations. Through these investments, the traditional paradigm of addressing societal problems is shifting from a public- and philanthropic-only funding model to an ecosystem in which markets and incentive-based approaches play a role, side-by-side with government delivery of public goods.
State agencies charged with natural resource management missions have enormous potential as partners for impact investors. There are hundreds of state agencies tasked with managing water, wildlife, and environmental quality. Each of these agencies has a unique mission, authorities, and circumstances through which they can carry out their mission. The resources that states could put into such partnerships are significant.
For example, 47 state environment agencies had a total budget of $10 billion in fiscal year 2015 with another $4.9 billion in funding for the California
Environmental Protection Agency. State agencies specifically charged with wildlife conservation had a combined budget of more than $5.6 billion in recent years.
Those resources are an opportunity to capitalize on new ideas in conservation finance, both for states and for impact investors. If states allocated just 5% of their budgets to partnerships with investors to deliver mission-related returns, doing so would yield more than $1 billion in natural resource conservation activities delivered with less risk, cost and delay.
There are a number of circumstances in which government agencies may benefit from working with private impact investors and having them deliver outcomes related to the agencies’ natural resource goals. State agencies may have a relatively predictable source of future revenue to invest in a program, but face an opportunity cost by only funding a small amount of activity each year. In such circumstances investors can help provide upfront capital for much larger projects than the agency could otherwise afford in a single year.
This capital would be paid back over time much like a public or municipal bond, however unlike a bond, the public only has to pay back the private capital if the project succeeds. In other circumstances, private investors may be able to deliver projects much faster. Moreover, an agency’s strengths may lie in setting goals, compliance monitoring, and performance-related measurement, as opposed to the private sector which can provide real estate, planning and construction expertise and is incentivized to deliver what clients want quickly and efficiently.
Government agencies tend to be appropriately risk-averse for political reasons – Congress, governors, and state legislators tend to punish failure rather than looking at failure as experience from which to learn from fast or even encourage, because it is a constructive part of innovation and adaptation of government services. Unfortunately, this can translate into slow execution of public programs or a resistance to trying new approaches that may fail. Partnership with impact
investors offers a mechanism for government programs to shift some or all of the financial risk of innovative projects and performance risk from new techniques to the private or nonprofit sector, only paying for outcomes when they are achieved.
While initially used to address social problems, “pay for success” approaches involving private finance are receiving more interest in natural resource conservation. Pay for success, or pay for performance, is an innovative approach to contracting that allows private investors to finance projects that are designed to meet a goal or target identified as a priority by a government agency.
The government agency repays the private funder only after certain measurable outcomes are met. This can allow government agencies to engage in projects more effectively, efficiently and through innovative approaches. South Carolina, for example, launched the country’s first pay for success initiative to provide healthcare to low-income children and their mothers until they are two years old through a mix of private sector and philanthropic investment.
Whereas it can be difficult to identify the connections between social program interventions and outcomes because so many externalities play a role, environmental investments have less of this kind of complexity and it should be easier to fairly compensate investors for outcomes.