Impact Investment in Brazil: where challenges become opportunities

Mario Braga . May 24, 2019

From a suffocating bureaucracy to high production costs, Brazil is known for being a hard place to do business. For a foreigner, fluctuations in the Brazilian currency and the language barrier add to this list. But for a specific type of investor, the country’s huge population, abysmal inequality and recent improvements in legal requirements make the country an attractive destination for capital.

“Impact Investors,” as these capitalists are known, do not only seek to maximize gains. They are equally concerned with the social and environmental consequences of the enterprises they lead or back. In other words, they look for opportunities not only to make money but also to improve underprivileged communities.

The trend has picked up over the past decade, and it is one of the reasons why there is still significant growth potential in Brazil. Daniel Izzo, co-founder and executive director at VOX Capital, one of Brazil’s first impact investing firms, says that back in 2009 it was hard to set up meetings with fund managers to talk about impact investment. “We wouldn’t be taken seriously. Some fund managers would even get angry at us. True story,” he said during the <a href="https://investforgoodbrazil.com/">Invest4Good Brazil conference</a> held this month at the London Business School. Mr. Izzo revealed that things started to change around 2012. More meetings began taking place and people were becoming more aware of impact investment. “In 2016, people were asking to meet us because they knew they needed to know more and move in this direction,” he said. Focused on sectors that affect people living in urban poverty, such as health, housing, mobility, education, employment, and financial services, VOX Capital has already invested in 23 enterprises which reached 7.2 million people in 2018 alone. So far, the impact investment firm has analyzed over 5,000 projects. They seek to support businesses that use technology for rapid growth and are capable of generating a social or environmental impact for the bottom 80 percent of the population, corresponding to some 160 million Brazilians. One of the ideas backed by VOX is the fintech Avante, which provides microloans to small businesses in the Northeast, demanding less collateral and charging lower interest rates than retail banks. Other companies boosted by impact investments provide software and managerial solutions to expedite processes and professionalize health clinics, schools, and small firms, for instance. Mr. Izzo reveals that among their investors are over 60 wealthy Brazilian families and high net-worth individuals, as investors with over USD 1 million in assets are usually known. At the conference in London, he said that for now these people are testing how impact investment works. “Some of them are close to philanthropy, considering it less as an investment and more as money that they might not recover, but I think that once the cycle proves itself and they get the returns, we will prove that the concept of impact investment works. Then we may see more capital inflow,” he said, acknowledging that the amount currently invested in social and environmental causes is “very little” given the size of the Brazilian financial market. <h2>Business attracting impact investment</h2> But who are the businesses backed by impact investors? As an Impact Institutes and Foundations (<a href="http://www.mdic.gov.br/images/GuiaFIIMP_ENG_14aug2018.pdf">FIIMP</a>) report explains, there is no legal or tax framework to determine precisely what an impact business must look like in Brazil. The four criteria established by the Social Finance Task Force in 2015 establishes that they (a) entail an explicit purpose to create and scale-up positive social or environmental impact (b) via market mechanisms and with (c) governance structures that take into account the interests of investors, customers and the community by (d) understanding, measuring and evaluating its impact. Therefore, impact investments can be organized in different ways but on the business spectrum they always fall somewhere in between a non-profit organization and a purely commercial company, as the image below shows. <img class="alignnone size-full wp-image-17876" src="https://brazilian.report/wp-content/uploads/2019/05/Illustration.png" alt="capital investments brazil" width="1192" height="523" srcset="https://brazilian.report/wp-content/uploads/2019/05/Illustration.png 1192w, https://brazilian.report/wp-content/uploads/2019/05/Illustration-300x132.png 300w, https://brazilian.report/wp-content/uploads/2019/05/Illustration-768x337.png 768w, https://brazilian.report/wp-content/uploads/2019/05/Illustration-1024x449.png 1024w, https://brazilian.report/wp-content/uploads/2019/05/Illustration-610x268.png 610w" sizes="(max-width: 1192px) 100vw, 1192px" /> Platform Pipe Social has looked at the Brazilian ecosystem in detail to create a map of social and environmental business in Brazil. This year, they tracked 1002 different initiatives spread across the country and targeted at solving different issues. The figure represents a 73-percent increase since 2017 while the overall economy expanded just over 2 percent. That shows how strong the demand for funding is. The geographic breakdown of the data shows that almost two-thirds of impact businesses are concentrated in the Southeast. <img class="alignnone size-full wp-image-17877" src="https://brazilian.report/wp-content/uploads/2019/05/Map.png" alt="impact business brazil" width="1244" height="673" srcset="https://brazilian.report/wp-content/uploads/2019/05/Map.png 1244w, https://brazilian.report/wp-content/uploads/2019/05/Map-300x162.png 300w, https://brazilian.report/wp-content/uploads/2019/05/Map-768x415.png 768w, https://brazilian.report/wp-content/uploads/2019/05/Map-1024x554.png 1024w, https://brazilian.report/wp-content/uploads/2019/05/Map-610x330.png 610w" sizes="(max-width: 1244px) 100vw, 1244px" /> In terms of area of operation, most businesses focus on green technologies (46 percent), citizenship (43 percent) and education (36 percent). Health (26 percent), financial services (23 percent) and urban issues (23 percent) also make it to the top of the list. The main profile of impact entrepreneurs is white (66 percent) male (66 percent) young adults (53 percent aged from 30 to 44 percent) doing business in the Southeast (62 percent). Women are a minority in this field. Only 20 percent of businesses have only women amongst their founders, and 8 percent have more women than men. Also according to Pipe Social, alongside women, non-white and young entrepreneurs face a more challenging path in developing their businesses ideas and fewer get to actually take the project from the initial idea and prototyping to the scalability stage. Since it is clear that there is a strong demand of enterprises that need funding to grow, there is also the need to attract more capital. <h2>Impact investors</h2> The current landscape in Brazil is home to decade-long enterprises and newcomers. One of the veterans on the topic is Leonardo Letelier, CEO of Sitawi Finance for Good. During the event at the London Business School, he highlighted that venture capitalists who turn to impact investment normally have a diversified financial portfolio. They might invest in safer assets, in riskier ones with higher returns, and can afford to have a share of their assets dedicated to boosting businesses with social and environmental impacts. On the other hand, the story is not the same for the target population which may benefit from these investments. “We tend to look from the perspective of the investors. For them, this is one deal in a large portfolio, for the community it might be their only opportunity,” he highlighted. Mr. Letelier argues that thinking only in terms of investment which will generate returns may not be enough. “To do what needs to be done in Brazil, it demands capital that will not return, investments alone will not solve the problem,” he warned. Since 2008, Sitawi provides consultancy services in Environmental, Social and Governance practices for companies and manages philanthropic and “evergreen” funds. In the latter format, they raise capital from different types of investors and lend it at lower rates. Once the capital is paid back, the cycle restarts. A more recent initiative that departs from the premise that philanthropy is needed is the George Soros-backed VRB. Created in 2016 in Brazil, it has BRL 362 million invested in funds from different institutions. Partnered with big players in the financial market, the sums donated come from the fees normally charged by fund managers. In this case, the 1 percent charged from investors’ profits goes back to the community. In this business model, investors do not bear the risk of the projects backed nor have their gains limited. So far, over BRL 3 million have been donated to projects aimed at improving the lives of the underprivileged population. In the 2018-2020 period, their focus is on public safety in Rio de Janeiro, education in São Paulo and a soccer club with refugees from Syria, Haiti, and Venezuela, also based in Rio. <h2>Open for business</h2> One way to expand the social impact of investments is by boosting the amount of assets under management. As occurs with regular transactions, attracting international resources is a key strategy. To lure UK-based financiers to allocate funds in Brazilian impact investment projects, Caio Megale, Secretary for Development & Innovation at Brazil’s Ministry of Economy, had a clear message: Brazil is open for business. “We are trying to create a government that is more than pro-business, that it is pro-market,” he said during the Invest4Good Brazil conference. Mr. Megale, who used to work at Itaú Unibanco bank before joining President Jair Bolsonaro’s administration, noted that Brazil has not offered a friendly environment for new or innovative businesses for a long time, but argued that the landscape has changed over the past two years. The regular pro-business official speech, however, has been unable to convince local businesspeople. The wave of optimism that boosted confidence levels once Mr. Bolsonaro was elected has faded way. <hr /> <img class="alignnone size-full wp-image-17879" src="https://brazilian.report/wp-content/uploads/2019/05/export-xylXe.png" alt="confidence in brazil economy" width="1200" height="800" srcset="https://brazilian.report/wp-content/uploads/2019/05/export-xylXe.png 1200w, https://brazilian.report/wp-content/uploads/2019/05/export-xylXe-300x200.png 300w, https://brazilian.report/wp-content/uploads/2019/05/export-xylXe-768x512.png 768w, https://brazilian.report/wp-content/uploads/2019/05/export-xylXe-1024x683.png 1024w, https://brazilian.report/wp-content/uploads/2019/05/export-xylXe-610x407.png 610w" sizes="(max-width: 1200px) 100vw, 1200px" /> <hr /> Forecasts for economic growth this year have also dwindled. Economists polled by the Brazilian Central Bank expected the Gross Domestic Product to grow 2.5 percent at the beginning of the year. After 12 consecutive weeks of cuts to this forecast, estimates have halved to 1.25 percent in mid-May. Mr. Megale told The Brazilian Report that the federal administration is working to create the necessary conditions for the economy to take off. “Overall, interest rates have fallen, inflation is stable, there is an agenda to reduce bureaucracy, the pension reform has been submitted and a tax reform being built,” he said. The underwhelming scenario that typically leads to pessimism among businesspeople and investors, however, is seen differently when social and environmental variables are brought into the equation. <hr /> <img class="alignnone size-full wp-image-17881" src="https://brazilian.report/wp-content/uploads/2019/05/export-okwAK-1.png" alt="gdp focus report" width="1200" height="800" srcset="https://brazilian.report/wp-content/uploads/2019/05/export-okwAK-1.png 1200w, https://brazilian.report/wp-content/uploads/2019/05/export-okwAK-1-300x200.png 300w, https://brazilian.report/wp-content/uploads/2019/05/export-okwAK-1-768x512.png 768w, https://brazilian.report/wp-content/uploads/2019/05/export-okwAK-1-1024x683.png 1024w, https://brazilian.report/wp-content/uploads/2019/05/export-okwAK-1-610x407.png 610w" sizes="(max-width: 1200px) 100vw, 1200px" /> <hr /> <h2>Challenges = Opportunities</h2> Brazil’s social inequality and poor quality of public services mean that substantial portions of its large population could be better served by innovative solutions – especially those tackling issues related to transportation, healthcare, education, housing, and financial services. According to Mr. Izzo, Brazil is one of the countries best suited for impact investment. “It is one of the largest economies in the world, with a huge domestic market but it is at the bottom of the list in wealth distribution,” he pointed out at the event in London. “From an entrepreneurial perspective, this is gold. Inequality means huge growth potential in the intersection of market opportunities and inefficiencies.” Adriana Marques has been an independent impact investor since 2014. According to her, some impact investments are “almost countercyclical.” That means that during a recession, for instance, this type of initiative or policy is adopted as a way to minimize the negative effects of crisis or as an attempt to boost the economy. “The fact that the Brazilian economy has undergone so many issues means that more people will need these services,” she said. That is the case of a chain of popular medical clinics. As people lose their jobs, they no longer have healthcare plan benefits, so there is a need for such services. Based in London, she also sits on the investment committee of Din4mo Ventures, which aims to connect investors to social entrepreneurs and help enhance the performance of startups that already generate revenue and social impact. One of these enterprises with a strong and growing demand is a firm that reforms homes of low-income families. Its goal is tackling the issue of Brazil’s 12 million “inadequate homes” that shelter about 40 million people. Building new ones is not the only way to solve the problem. Therefore, they help poor people renovate their homes to improve their living standards. So far, the business has promoted over one thousand improvements, impacting 3,800 people and spending on average less than a week on each work. <h2>Foreign perspective</h2> Convincing foreigners that Brazil is a good case for impact investments might not be straightforward. During the Q&A session at the London Business School event, a British investor who lived in Brazil during the 1990s, working for different financial institutions, asked about what he defined as three “elephants in the room.” “As a foreigner I know it’s hard to find reliable local partners, I’ve had so many experiences of people being ripped off or mistreated by Brazilian banks because they don’t have a local partner. The other has to do with the [former Brazilian President Fernando] Collor era, when accounts were frozen, no dividends. How to deal with that? And the final risk is the foreign exchange rate. It’s very risky getting your money out,” he said. Indeed, in March 1990, assets were frozen and people were unable to withdraw their savings. Since then, the Brazilian economy has been through some ups and downs but the economic policy has never walked in that direction again. Nevertheless, the country’s image still seems to be stained. Regarding his other concerns, the Brazilian investors in the room detailed that apart from the newly changed law for airlines, foreigners are quite free to invest in Brazil by themselves, especially compared to some other emerging market economies. When it comes to the foreign exchange risk, the answer was unanimous: hedge. Investors have financial tools to protect their portfolio against currency fluctuation. Although it increases the costs, this is a measure adopted by anyone doing business abroad, not only impact investors. <h2>Foreign investment</h2> This suspicious approach about Brazil is not at all a predominant impression. As many Brazilians have realized the opportunities of impact investments in the country, so have some foreigners. One of them is Brad Liebmann, an American fintech entrepreneur. He has founded London-based Simply Business, Europe’s largest online commercial insurer, which was sold for GBP 400m in 2017. As an angel investor, he has dozens of early stage technology companies based in North America and Europe in his portfolio. His next biggest move, though, is in Brazil. Mr. Liebmann is working on the launch of alt.bank, a São-Paulo based banking platform for the socioeconomic classes C, D, and E. After analyzing the world’s 26 most populous countries, he turned his eyes to South America’s largest economy due to four reasons: the large amount of people with no access to bank services; the high penetration of smartphones; the quality of the local regulators (in this case Brazil’s Central Bank); and the entrepreneurial spirit of low-income Brazilians. The endeavor has its obstacles. As a non-Portuguese speaker, the language was the first wall he hit. “Not only was I unable to talk to our potential customers without an interpreter, but people would not reply to the emails I would send in English,” he recollects. The solution and tip he gives to foreigner entrepreneurs is hiring local staff as soon as possible. His other insight has to do with a problem that haunts every business person in the country. “Do not get hassled by bureaucracy. Things take longer than they should. One alternative is to outsource paperwork service. Don’t let it get you down,” he advised. Although Brazil has not yet become the perfect place to invest, at least from this alternative perspective, the country has a lot to offer and much more to gain.

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Mario Braga

Braga is a journalist from São Paulo. He is an Erasmus Mundus Journalism scholar pursuing his Master’s degree at Aarhus University (Denmark) and at the London’s City University.

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Mario Braga