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Americas

On the Cusp of a New Era

Latin America’s next phase of impact investing must embrace the region’s specific challenges and opportunities, says Ahmad El Jurdi, Principal at Lightrock.

In recent years, Latin America has been at the core of a paradox within the global investment landscape. On one hand, the region experienced a significant downturn in funding in 2021, reflecting broader global economic challenges and investor hesitancy. On the other, 2022 and 2023 marked a period of rebound, particularly in private capital funding, with US$10.1 billion raised last year, according to the Association for Private Capital Investment in Latin America, reflecting a renewed sense of optimism among investors.

This resurgence was primarily led by seasoned fund managers who demonstrated resilience in navigating the tumultuous market. However, a glaring gap in impact-focused funds and a lack of late-stage funding mechanisms continue to hold back the full closure of the investment cycle within the region.

The financing gap confronting developing countries in their quest to meet the Sustainable Development Goals (SDGs) is staggering. Currently, it is estimated by the United Nations to be around US$4.3 trillion, this gap highlights the enormity of the challenge, with projections indicating that only 25% of the SDGs will be realised in Latin America and the Caribbean over the next six years. This means the region is one of the most significantly behind in terms of economic development.

Despite these challenges, venture capital (VC) and private equity (PE) funding constituted almost 45% of the funds raised in 2023 in the region, with VC accounting for over half of the number of funds. From the perspective of companies, however, investment volumes have plateaued since Q3 2022, primarily due to a turbulent macroeconomic environment, influencing both the volume and size of investments.

Against this backdrop, the FLII, Latin America’s flagship event for impact investing, has become a centre of activity, optimism and dynamism. Amid the bustle of this year’s gathering of over a thousand investors, held in Mexico City at the end of February, several key signals emerged, offering a glimpse into the evolving landscape of impact investing in the region.

Impact investing versus philanthropy

A crucial shift felt during the FLII was the growing recognition of the distinction between impact investing and philanthropy. In the context of the private sector, philanthropic grants have played an important role enabling early-stage firms to develop, test and refine products and services that are much needed in our region. However, for those firms to reach the scale needed to address the size of the structural challenges in the region, more sustainable sources of funding are required in the long term. Indeed, the region still faces immense challenges that require solving and present opportunities for purpose-driven entrepreneurs:

  • Healthcare and education: health expenditure of Latin American countries is at ~8.6% of GDP, while that of OECD countries is 60% higher at ~13.9%. Meanwhile the average PISA score for Latin America is more than 20% lower than the OECD country average.
  • Basic needs: only 18% of Colombians, 50% of Brazilians, and 63% Mexicans have access to improved sanitation facilities, contrasting with 100% of the Swiss and 90%+ of those in the United States.
  • Productivity: only 74% of the Latin American population (over 15 years old) has access to bank accounts, versus 97% in OECD countries. In addition, GDP per worker is ~three times lower versus OECD countries.
  • Climate: 60% of Latin American cities experienced heatwaves between 2011-2020, with 28% considered extreme events. Economic simulations indicate that not investing in solutions to mitigate climate change could cost 6% of Latin America’s GDP by 2025 and 20% by 2100.

However, it seems that among the founders and investors of FLII, these gaps are increasingly viewed across the region as challenges to be solved and opportunities to seize. Lightrock’s own experience chimes with this and we are seeing more ambitious founders seek our support to scale their impact.

Take one of our more recent investments, ComBio Energia, which is a renewable thermal energy business that aims to replace the use of gas and coal in generating steam for industrial applications. Helping companies make use of their biomass, that would be otherwise discarded, ComBio replaces clients’ boilers with modern and efficient facilities, which have already prevented 1.8 million tons of CO2 emissions. ComBio is currently addressing less than 1% of its market and is ready to scale its business and address the hard-to-abate industrial emissions.

Evolving funding landscape

FLII also highlighted a growing interest from global investors in Latin America, despite prevailing market challenges. Countries like Mexico, Brazil, and Chile were identified as presenting lucrative opportunities for impact investing, buoyed by the potential of the US’s nearshoring, Brazil’s large addressable market and favourable regulatory environment, on top of a growing number of institutional investors taking a fresh look at impact investing.

This trend is indicative of a broader recognition of Latin America’s potential to offer both impactful and financially viable investment opportunities. The participation from supranational organisations, such as the Multilateral Investment Guarantee Agency, large foundations that are based in developed markets and specialised impact advisors showcase the importance they are giving to building their networks and future pipelines in Latin America.

According to the Global Impact Investing Network, assets allocated to impact in this region have increased at a rate of 21% per year over the last five years, with nearly 300 funds now targeting the region. This places Latin America second among emerging markets for impact allocation growth.

However, discussions at FLII reflected the limited number of scaling specialists, which is a significant issue in the current ecosystem. These specialists are crucial for enabling early-stage innovations to mature and have a broad market impact. The few scaling specialists present at the event were seen as a positive indication of gradual improvements in the impact investing scene in Latin America.

Founder perspectives and integrating impact

An encouraging trend noted at the FLII was the importance of thinking about business sustainability from day one, while understanding the value of thinking about social and environmental impact when designing these business models. The consequence of these trends has been the increasing willingness of founders to welcome impact investors onto their cap tables, which reflects a broader integration of impact objectives into business models, supporting long term success.

Founders are progressively recognising the importance of securing the support of backers that can help integrate impact measurement and management (IMM) methodologies into their operations. Not only does this aid a mission-driven organisation in better understanding the impact of their operations, but it also has a catalytic effect on other investment. It gives confidence to those further along the value chain that this company or founder is serious about impact and able to report more than just financial KPIs to their investors.

Dive deep to drive forward

Reflecting on the takeaways from this year’s FLII, it’s clear that we are on the cusp of a new era for impact in Latin America. The challenges are significant, ranging from funding gaps to structural barriers, but so are the opportunities. Impact investing in Latin America is not just about financial returns; it’s about fostering sustainable development, addressing critical social and environmental challenges, and ultimately transforming the region, while ensuring an attractive financial return.

At FLII, the message for investment professionals was compelling: to drive forward the next wave of impact in Latin America, it’s crucial to dive deep into the region’s specific challenges and opportunities, aiming to enhance a stronger, more inclusive, and sustainable investment ecosystem.

This ecosystem thrives when we elevate those who are driven by the fusion of impact with returns. Being part of the Brazilian Impact Alliance at FLII highlighted that while there are significant players already adopting this perspective, the call is for more across the region to come aboard and help bridge the impact funding gap.

 

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