Towards the Institutionalization of Screening and Measuring for Social Impact: Implications for Islamic Finance

Blending the goals of private for-profit commercial ventures with those of philanthropic, non-governmental, and state actors has been a growing trend within the investment community in the 21^st century. Commonly known as impact investing within the finance literature, or social entrepreneurship in management (Olsen & Galimidi, 2009), participants in this space hope to create economic value for investors through a positive return on investment as well as social value by meeting a wide variety of other non-financial outcomes (e.g. poverty alleviation, economic growth, and public-goods provision). Nicholls (2007) argues there has been significant and continued demand for socially responsible investment within global markets. For example, private investment has outpaced individual government or multilateral aid in the last 20 years (Freierich & Fulton 2009). To meet this growing demand, fund managers have developed ethical screens to assess the fit between available investment opportunities and the established values/mission of the funding organization.

Despite the significant growth of impact investing in conventional finance markets, the growth of impact investing remains notably underdeveloped within the Sharia compliant financial markets. The difference between the growth of impact investing within conventional markets in comparison to Sharia compliant markets is especially surprising given the ethical requirements of Sharia law. Impact investments in the Middle East and North Africa (MENA) represent only 2% of all social impact investments globally (Simon & Barmeier, 2010). According to the 2014 Impact Investor Survey published by the Global Impact Investing Network (GIIN), very few impact projects in the MENA region pass investors’ initial screens, which indicates the region’s significant potential remains unrealized.

This paper examines the institutionalization of values/mission-based metrics for conventional impact investors to identify best practices and potential points of convergence with Sharia-based investment strategies. First, we review the current conceptualization and implementation of ethical screening and social impact assessment within the conventional finance industry through a review of extant literature and published industry documentation. We incorporate further insights from current practice by reporting results of interviews conducted with executives and fund-managers currently involved in the conventional impact investing community. Using a theoretical lens grounded in institutionalism, we then examine the degree to which these processes have become standardized within the conventional investment community.  This approach goes beyond a simple enumeration of current screens and measurement elements by highlighting the historical development of screening methodology and non-financial impact measurement.  We also devote significant attention to screening for alignment between the values/mission of the investor and the target investment.

In terms of current practice, we generally find that the Sharia based investment industry has been successful in institutionalizing and operationalizing Sharia into standard investment practices around both the form and substance of investments, but has yet to develop the appropriate mechanisms to institutionalize and operationalize the spiritof Sharia, the Maqasid-al-Sharia. We are argue that it is in this element of Sharia based investing where the development and implementation of values/mission based metrics and screens in impact investing has the most potential influence on the future direction of the Sharia based investment industry.

In examining the institutionalization process and the evolution of values/missions based metrics within conventional impact investing, there are three key forces that we have identified which could have significant implications for the institutionalization and operationalization of the Maqasid-al-Sharia into mainstream Sharia based screening and investment practices. We discuss in turn the external demand pull for positive screening, the active participation and leadership of well-established industry stalwarts as catalysts, and finally the intentionality and deliberateness of focus around the development and adoption of common metrics.

Moving beyond the industry itself, and turning to the state and society, the key potential value from the development and operationalization of values/mission based metrics and screens directed by the Maqasid-al-Sharia is the opportunity to better align Sharia based investment activities to the economic and social development needs of the state and society at large.  For example, a critical need for the MENA economies and their long-term success is the need to create jobs and support enterprise development, especially outside of the hydrocarbon sector.  Within the framework of measurement tools and metrics used in impact investing, job growth and enterprise development are commonly measured at the investment level, and not just at a national level, and therefore provides a tool by which to align the deployment and management of capital to create jobs and fund enterprise development. 

We conclude the paper by addressing the future of ethical investing, its skeptics, points of convergence between other religious frameworks with Sharia-compliant financial products, and next steps to create more robust economic development. 

Keywords: Islamic Finance, Social Impact Investing, Institutional Development

References

Freireich, J., & Fulton, K. 2009. Investing for Social and Environmental Impact. Cambridge, MA: Monitor Institute

Nicholls, A. (Ed.) 2007. Social Entrepreneurship: New Models of Sustainable Social           Change. Oxford: Oxford University Press.

Olsen, S., & Galimidi, B. 2009. Managing Social and Environmental Impact: A New Discipline for a New Economy. The Brown Journal of World Affairs, 15(2):43-56.

Simon, J., & Barmeier, J. 2010. More than Money: Impact Investing for Development. Washington, DC: Center for Global Development.