Understanding impact investing
Impact investing is a growing sub-sector of the venture and private capital market, where investors are funding businesses not only for their potential to generate growth and financial returns, but also for their alignment with impact objectives – typically an ability to create positive social or environmental impact.
Commonly, these investors will have a mandate that requires them to focus on factors such as clear sustainability goals, measurable impact metrics, scalable business models and strong tone from the top. With a focus on sectors like renewable energy, healthcare and ethical consumer goods, these investments align with consumer preferences for sustainability and companies with strong ethical working practices. As more buyers prioritise responsible businesses, companies that meet these investor expectations can attract funding while driving both profit and positive impact.
The consumer connection
Many of today’s consumers are placing more value on sustainability, inclusion and ethical practices, driving the demand for businesses and products that deliver positive impact with integrity. This shift in consumer focus has in part driven the growth in impact investors, fuelling investments in sectors like plant-based foods, education and clean energy.
What are impact investors looking for in a potential investment?
Impact investors seek out companies that balance financial returns with measurable social or environmental outcomes. They look for businesses with a clear mission aligned with sustainability, scalable models, values-based leadership and innovative solutions to global challenges. Measurable impact metrics, such as carbon reduction and social equity, are critical to monitor progress and desired effect.
Our research highlights that many businesses in the consumer and retail sector are not fully addressing environmental impacts: 43% of respondents measure their operational environmental effects, 35% measure the impacts of their immediate suppliers; and 27% measure the impacts of their subsidiaries. Furthermore, just 41% measure waste mismanagement and 39% track ecosystem degradation in their due diligence processes.
Two-thirds of C-suite leaders in the private equity sector (67%) identify increased investor demand for assets with no negative environmental impacts as an important factor in accelerating their firm’s environmental due diligence processes.
Key legal considerations for businesses seeking venture capital funding from impact investors
Securing venture capital funding from impact investors can transform a business, but navigating the legal complexities requires careful planning and expert guidance. Impact investors have unique priorities that extend beyond traditional financial returns. Managing these complexities involves incorporating impact goals and protections into legal documentation and ensuring a risk-based governance structure that aligns and incentivises the management of the business around these objectives.
Before funding
Building a coherent foundation before engaging with impact investors is essential. This means aligning your company’s mission with investor goals through measurable ESG outcomes, optimising corporate structures (e.g. PBCs or B-Corps), and ensuring intellectual property protection, regulatory compliance and financial preparedness.
Understanding and negotiating term sheets is critical for defining governance rights and investor control provisions. Impact investors require enhanced levels of due diligence, requiring detailed documentation on financial health, governance, sustainability practices, and alignment with ESG standards and frameworks. Demonstrating integrity, transparency and accountability is key to securing funding.
The investment process
The process of securing an equity investment involves detailed negotiations of formal agreements that shape a business’s future. Key agreements, such as the articles of association and investment agreement, define the relationship between the business and its investors. Balancing investor influence with operational independence is crucial. The requirements of different funders will vary, but typically we see several key features of investment documents involving an impact investor:
- The constitution of the company may include 'impact objectives' by way of expanded objects provisions in the articles, focused on social impact and characterising economic benefit as ancillary or secondary to the social impact.
- The investor may require the adoption of an 'impact plan' or similar as part of the more traditional business plan. This will include key short term and long term impact objectives and milestones. The achievement of these milestones may trigger further tranches of funding.
- Impact reporting obligations are commonly required to ensure the company provides continued and regular reporting and information in a form agreed with the investor. Reporting in this way allows monitoring against the agreed impact objectives.
- Share transfer protections are also typically requested, under which an investor has the power to divest of its investment outside of the pre-emption and other transfer restrictions, if the impact objectives are breached or the investment milestones are not met in accordance with the agreed plan.
- Governance structures, including board representation and veto powers, need careful structuring to allow investor oversight while maintaining day-to-day operational flexibility. Exit strategies, equity protections, and securities regulations also require attention to avoid legal or financial risks.
After funding
Once funding is secured, businesses must focus on maintaining compliance by reporting on the agreed impact metrics; meeting investor expectations as regards hitting future milestones; and preparing for future growth or exit opportunities in alignment with the investor's impact objectives. It is also important to remain alert to evolving regulations and best practice that may impact the businesses sector and operations. We offer generative AI-enabled horizon scanning service that can support businesses of all sizes in keeping up to date with relevant upcoming ESG regulatory and policy developments.
Transparent communication with investors is key in any investment. Regularly updating both financial performance and impact metrics will typically be a legal requirement under the investment agreement, but is also essential to maintaining strong relationships, which can lead to future funding rounds or smoother exits.
Conclusion
Successfully navigating the stages of impact investment – from pre-funding preparation to post-funding growth – requires expertise, foresight, and strategic planning. Every decision, from structuring governance to negotiating exit provisions, carries long-term implications and a demand for integrity. For businesses aiming to balance financial growth with positive social and environmental impact, addressing these legal considerations effectively is essential to optimise the desired outcome. A trusted legal partner can make the difference between a smooth funding journey and one fraught with pitfalls.
We have advised on numerous transactions in the impact investment sector, and have a good understanding of market practice and the legal structuring mechanisms that investors will apply.
In addition, we also have a dedicated Sustainability and ESG Advisory Practice that can carry out ESG due diligence and advise on ESG regulatory compliance, corporate governance and horizon scanning. Our services include awareness and preparedness for new and emerging legislation such as the EU Corporate Sustainability Due Diligence Directive, conducting human rights impact assessments and independent effectiveness reviews of ESG strategy and policies.
If you have any questions or would like to discuss any of these topics and what they mean for you and your business, please get in touch with our Consumer sector, Venture Capital and ESG experts.
We would like to thank George Robinson and Gabriella Rasiah for their contribution to this article.
