Wouldn’t it be wonderful if you could set up a private equity firm, invest in businesses that generate biodiversity conservation benefits, and use the proceeds to fund new ventures?
The idea has occurred to several people. It is unlikely to work.
Private equity investing is a non-scalable craft where industry knowledge and social connections are important.
Venture Capitalists succeed by paying very close attention to a limited number of investments in businesses they understand. Even so, they expect failures. To make up for failures their hurdle rates are high, e.g. returns of 30 to 50% per year. These rates of return are unlikely to be widely available in conservation businesses. Look e.g. at the fund-like Verde Ventures’ portfolio.
Scalability is crucial. If you tell a VC that you want to open a tea room and sell tea and cakes, you will not get funding. If you tell him that you have a plan to do for tea what Starbucks did for coffee, he might be interested. Most conservation-related businesses are small and not scalable.
Before investing, a VC has to ask himself, “If this venture can take off and become huge, can it do so with the existing management team?” VCs are notoriously ruthless (they would call it “pragmatic”), often “adding value by firing the CEO”. This is unlikely to be socially acceptable e.g. in a community-based venture.
The VC must have a clear exit strategy. He must generate proceeds that can be invested in new ventures. In contrast, conservation typically needs patient investors who are in it for the long run.
Finally, most private equity firms are located in enterprise clusters, rich environments where world class talent is available. Examples of clusters are Silicon Valley for computers, Milan and Paris for fashion, and Hollywood for films. In contrast, Verde Ventures, for example, is all over the place, both in terms of geography and industries.
For further reading, see also the paper by Louis C. Boorstin, Delivering Social Value via the Private Sector: A Framework for Market-based Interventions. He writes,
To date, IFC’s most consistently successful environmental interventions have been market development programs aimed at changing the behavior of lenders, companies and consumers related to specific environmental activities. These projects have yielded social benefits that are sustainable, replicable and in some cases highly leveraged. The programs have employed a range of knowledge sharing, capacity building and risk-sharing tools – but rarely capital funding – to engage with existing market institutions, including local financial intermediaries, project developers, industry associations and utilities.
IFC environmental interventions that have primarily provided capital funding for investments have shown more mixed results. The weakest performance has come from private equity funds expecting commercial (i.e., very high) or near-commercial rates of return. Three such funds were closed down prematurely by their investors because they could not identify and complete enough transactions meeting pre-agreed investment criteria. However, IFC has also supported more successful “fund-like” vehicles that have the flexibility and patience to accept lower returns and/or to meet the market’s need for a wider range of financial instruments (i.e., not just equity) while also providing limited technical assistance.