A Sustainable Development Impact rating for infrastructure investments?

 

The 76^th Session of the UN General Assembly (UNGA) was in full swing in New York this week. The response to the COVID pandemic, the lack of progress on the Sustainable Development Goals (SDGs) and the urgency of climate action ahead of the COP26 summit have been the most prominent issues on the agenda.

As an infrastructure developer and investor in the countries that lag further behind on SDGs and are the most vulnerable to climate change, these issues could not feel any closer for our teams here at PIDG.

Infrastructure is at the very core of the triple challenge addressed this week in New York. Investment in regional transportation and logistics can be the difference between success and failure in achieving global vaccine coverage. Digital access is becoming essential for public health provision, education and business alike. Powering such access in rural areas is one of the enablers – already within our grasp – to reduce poverty and inequality. Ensuring that today’s infrastructure is both climate resilient and drives a transition to net zero carbon in the longer term is simply the only option in countries that contributed the least to the climate crisis but today face the most acute consequences and are the least prepared to confront them.

While integrating climate considerations in infrastructure planning and development is a smart long-term investment, it also requires higher upfront costs, adding to the complexities of investing in markets with systemic challenges that already make risk-adjusted returns unattractive to commercial capital.

 

That’s why I think that providing the right signals to the market is essential and we might be missing a trick

Stakeholders’ and shareholders’ pressure – combined with the emerging regulation in developed economies – is incentivising international investors towards lower greenhouse gas (GHG) emissions. Sustainable, climate related or green bonds and loans are growing also in emerging markets, and PIDG is at the forefront of building investors’ and entrepreneurs’ understanding and capacity, having launched first of a kind green bonds – for example in Kenya – and currently exploring local currency and guarantee solutions for several others.

While more work remains to be done on standards and verification to reduce the risk of greenwashing, it is clear that “capital with purpose” is on the rise and impact investing is not as niche as it used to be only three or four years ago.

However, most of the standards that are emerging in the infrastructure investment space focus on (mainly environmental) sustainability and on a “do no harm” approach.

This is obviously important but also problematic for low-income markets.

We know that we need private capital to urgently replace high emitting technology in industrialised countries and while policy incentives help, the risk-return profile is already conducive to capital allocation in those markets. But as we know first-hand, in any low-income market achieving global sustainability standards is going to require more cost and effort than elsewhere.

 

Should we account for a sustainable development premium?

Infrastructure assets in low-income and emerging markets are crucial to address extreme poverty and climate vulnerability and the socio-economic development of these countries. When infrastructure assets meet international criteria of environmental sustainability and health and safety and also deliver real progress in a country that lags behind on SDGs, should this additional value not be captured and made recognisable to the market?

If we stop at sustainability standards based on GHG emissions and do no harm, we ignore the fact that it is so much easier to set up a “green” investment opportunity in Europe or the United States than it would be in rural Nigeria, Sierra Leone or Chad (yes, PIDG invests there too).

But investing in renewable energy or water in rural Africa, especially if adopting a gender lens, will directly address some of the most urgent poverty, inequality and climate vulnerabilities on earth. That is totally unaccounted for at the moment.

This is why an enhanced Sustainable Development rating for sustainable infrastructure that specifically contributes to the SDGs where the needs are greatest could help.

 

Is a Sustainable Development or SDG market rating a possible response to align incentives?

Allowing infrastructure developers and investors to meet higher benchmarks of positive impact on people – through contribution to the infrastructure’s end users and wider economy – and planet – through deployment of innovative climate solutions – would be particularly useful when considering the need for blended finance in infrastructure investment in developing and emerging markets.  Such differentiation and recognition of a “positive impact premium” or “SDG premium” is particularly needed considering that to plug the infrastructure gap in developing countries, blended finance models involving some of the instruments that PIDG offers – like patient capital, guarantees or viability gap funding will be necessary. Capital for these instruments traditionally came from official development assistance that is currently under huge pressure, so we need to enable more capital with purpose from a broader variety of sources.

At PIDG we have developed a detailed methodology to quantify future sustainable development impact of investments – based on emerging best practice. This assessment guides capital allocation and portfolio management. We know that this approach is particularly suited to impact investors and others are developing similar scoring systems.

But at PIDG we also want to build a common language with the more commercial investors that we attract to frontier infrastructure markets and at the moment the Sustainable Development Goals provide our best shot at such common language. This is why we also developed a simple methodology to rate investments based on publicly available data on a Country’s progress on the specific SDG indicators that each investment contributes to.

The system is lean and simple. An investment in a country that lags further behind will rate higher than one in a country that is more advanced. An investment that makes a more significant and measurable contribution to a lagging indicator, receives a higher rating than one that can only show a looser “alignment” to the SDGs.

The system is not perfect but simple. If others think that this is a valuable idea and want to compare notes, we’d like to hear from you.

Sustainable development is not a new concept, but it is more relevant than ever when balancing the need for infrastructure, jobs and socio-economic development, with the need to limit GHG emissions, and protect and restore natural habitats and eco-systems.

We have a decade left to significantly reverse the climate crisis, and a (almost) decade left to meet the Sustainable Development Goals.