Where were you in 2006? I was living with friends in a “beach house” in San Diego. Since then, I lived in China, went to grad school, shifted careers, married, and had two kids. So much has changed in my life over the past decade. The same cannot be said on the topic of valuing socially-focused financial institutions.
In 2006, Clay O’Brien wrote the first-of-its-kind paper on “Valuing Microfinance Institutions.” This paper surveyed members of the Financial Inclusion Equity Council (FIEC) – which was then called the Council of Microfinance Equity Funds (CMEF) – and concluded that:
- There was not enough transparency in terms of methodologies and benchmark data;
- There was a need for a more robust, standardized valuation methodology; and
- The social value of double-bottom line investments was not accounted for – or was accounted for negatively – in the valuation.
FIEC recently revisited the topic of valuing double-bottom line investments with its valuation working group to better understand how the topic has evolved over the past decade. What was found? Despite changes in the broader industry (new players, adjacent sector investments, etc.), very little has changed in terms of valuing financial inclusion investments. Our findings are compiled in a brief paper, Valuing Microfinance Institutions: Where Are We Now.
To put it in perspective, imagine trying to sell or buy a house with no pricing information on what comparable houses in the neighborhood have recently sold for. No property listing service like MLS showing historical purchase prices. No property apps like Zillow providing a helpful estimate. And no experienced brokers or agents to offer market intelligence. You would have no idea what the fair market value would be for that house.
Now imagine the house is for sale in a volatile market where no other houses have been sold for the past five years and no data is publicly available on prior sales. You would likely struggle to create a pricing model, relying on a lot of assumptions about how much you think the home and the neighborhood will appreciate in the future. Essentially, you’d be coming up with your “best guess” as to what that home might be worth.
For the most part, the above analogy holds true for equity investors in the financial inclusion sector trying to buy or sell a stake of their investments in a financial institution. To address these issues around transparency and comparables, FIEC recently launched a valuation database, allowing members to share valuation data anonymously with each other through a third-party academic institution which collects and analyzes the transactions, providing members with relevant, accurate and timely comparable valuation data.
To take the home analogy one step further, imagine that your home serves a social purpose that you value highly – for instance, it has solar panels on the roof. When you go to sell the house, those solar panels would limit your buyer pool to others who value the solar panels’ energy efficiency just as highly as you do (or at least to buyers who don’t mind the appearance of solar panels on the roof) – but the panels wouldn’t factor into the price they pay for your home.
The debate over whether or not to account for the value of the social aspect of a double-bottom line investment is one that still has no consensus among FIEC members. Even those who support explicitly pricing social impact have no mechanism within traditional financial valuation methodologies to do so.
At least in 2006, socially-focused investors were mostly valuing brick and mortar financial institutions. Valuations of investments in the financial inclusion sector have become even more challenging as investors venture into the land of early stage fintechs. How do you value an early stage business that could be the next Facebook or could go bust tomorrow?
Impact investors need more reliable valuation data and standard valuation methods to make sound investment decisions and to pursue their financial inclusion objectives.
Read more about the topic in the new report and let us know what valuation challenges you are facing in the comments.
Have you read?
Offshore Financial Centers for Financial Inclusion: An Aligned Industry or Oceans Apart?
A Tale of Four IPOs: Is Public Investment in Microfinance Becoming OK Again?
Microfinance Equity Investing: Different Context, Similar Issues