From the standpoint of investors, impact is an additional dimension in investment decision-making in addition to risk and expected returns. In the case of donors too, impact matters. A donor is typically connected emotionally and psychologically to the intended impact of his/her act of donation. Conventionally, impact is measured in the context of the the UN Sustainable Development Goals (SDGs). However, Islamic financing demands a broader framework of the goals (Maqasid) of Shariah (MaS). Available research demonstrates that there may be a significant degree of alignment between the two. Confluence is a platform introduced by IBF Net to bring together impact investors and donors and project owners with a revealed intention to make a positive impact on society.
Any investment/donation can have a positive impact on society and the environment, but what distinguishes impact financing is the disclosed intention to make a positive social and environmental impact and then measuring the impact. Because intending and measuring impact is the distinguishing feature, the metric used is of critical importance. To help standardize measuring and reporting, the Global Impact Investing Network (GIIN), a non-profit organization dedicated to increasing the scale and effectiveness of impact investing, created the Impact Reporting and Investing Standards (IRIS), a catalogue of generally accepted performance metrics. IRIS is a catalogue of 621 generally accepted performance metrics. Impact investors use these metrics to measure social, environmental and financial results. IRIS is a free resource, and it provides a common language for the impact investing market. It makes it easier to compare both financial and nonfinancial investment performance. It also helps in accurately aggregating and analyzing results from a variety of impact investments.
Apart from GIIN, another serious attempt at developing environmental, social and governance (ESG)-based impact scores is by Refinitiv based on 450 metrics on ESG. ESG scores are currently being developed for companies in 76 countries based on official company disclosure on ESG metrics. While the two initiatives among several others involve fairly elaborate exercises at measuring the impact of projects and companies on the people as well as on the planet, the results may or may not be very relevant from an Islamic perspective.
Building an impact portfolio
Current practices and mechanisms relating to impact investments may be narrated as under the following steps (see Chart I):
1. The impact-conscious donor/investor donates to/invests in projects with potential impact.
2. Project invests in impactful projects (plantations/ambulance fleet/solar installations) and creates impact (carbon savings/ambulance miles/kilowatt hours).
3. Project monitors and measures impact and develops reports.
4. Project owner reports to donors/investors.
The pain points from the donor’s/investor’s point of view are as follows:
1. There is usually a time lag between investments in or donations to impactful projects and the realization of the impact (eg plantation or ambulance fleet or solar installations).
2. Since the impact measurement tools are selected and employed by the project owner, there is a moral hazard problem in the form of possibility of bias and overstatement.
3. The investor-donor may have little control not only over the impact measurement tools and mechanisms, but also on the timing and quality of reports furnished by the project owner.
4. Usually, there is a certain degree of lumpiness with the donation/investment requirements (not finely divisible), ruling out the possibility for the impact investor-donor to create a well-diversified ‘impact’ portfolio.
5. There are rigidities relating to the desired impact creation; the impact-investor-donor is usually not in a position to alter the nature of the impact (say, change the desired nature of the impact from environment care to healthcare or to renewable energy)
|Table 1: Confluence of goals|
|MaS: Protection and nurturing of:||SDGs|
|MaS1: Faith (Deen)||SDG16: Peace, Justice and Strong Institutions
SDG17: Partnerships for the Goals
|MaS2: Intellect (Aql)||SDG4: Quality Education
SDG9: Industry, Innovation and Infrastructure
|MaS3: Posterity (Nasl)||SDG11: Sustainable Cities and Communities
SDG12: Responsible Consumption and Production
SDG13: Climate Action
SDG14: Life Below Water
SDG15: Life on Land
|MaS4: Property (Maal)||SDG8: Decent Work and Economic Growth
SDG9: Industry, Innovation and Infrastructure
SDG10: Reduced Inequalities
|MaS5: Self (Nafs)||SDG1: No Poverty
SDG2: Zero Hunger
SDG3: Good Health and Well-being
SDG4: Quality Education
SDG5: Gender Equality
SDG6: Clean Water and Sanitation
SDG7: Affordable and Clean Energy
|Source: IBF Net|
Confluence: The Solutions Framework
Confluence is a platform introduced by IBF Net to bring together impact investors and donors and project owners with a revealed intention to make a positive impact on society. Phase I of Confluence measures the impact of project(s) from the standpoint of the MaS as well as the SDGs based on a broad set of metrics. Based on stakeholders’ perception and available information with respect to the selected impact metrics, the platform generates performance ratings/scores for the projects. Phase II of Confluence allocates ‘exchangeable’ social cryptos to projects creating impact based on transparent objective criteria. It allows impact-deficit projects to enhance their ratings through the Impact Exchange by acquiring impact units in the form of social cryptos from impact-surplus projects.
In a series of blogs, Dr Mohammed Obaidullah, the lead research economist with IsDB and the founder of IBF Net, writes extensively about the alignment or otherwise of the SDGs with the objectives of the MaS. A simple mapping of the MaS against the SDGs shows the high level of alignment or confluence between the two (see Table 1). The findings from such academic research are enhanced in the Confluence platform to develop a robust framework.
The Confluence platform identifies a set of metrics by adding to and revisiting available metrics to measure the SDGs (such as the IRIS and Refinitiv metrics) that objectively measure impact both from the point of view of the SDGs and the MaS based on research and text analytics. It then measures the performance of a given project using a relevant set of metrics; and then uses an algorithm to produce a rating score and/or a classification scheme. The rating for a given project reflects its relative performance against sector performance as a benchmark in terms of selected impact metrics. Where sector data is not adequate or unavailable, performance measure for the project is based on responses of stakeholders including the project owner. Ratings are placed on the blockchain and thus, are tamper-proof. These are shared with the market with continuity and enjoy complete transparency. The Impact Scoring Platform, besides being a stand-alone destination for investors/donors interested in obtaining an impact rating for projects, would also serve as a front-end application with crowdfunding platforms seeking to raise donations/equity resources. It can provide valuable data for Islamic donors and investors seeking to make a difference to the world while realizing their risk–return expectations.
In Phase 2 of the project, given the availability of alternative tools for measurement of environmental and social impact (eg carbon savings), the Confluence platform identifies and adapts a suitable method for measurement and conversion of such impact into social cryptos. Projects can earn/liquidate such cryptos representing various types of impact at the platform that now serves as an Impact Exchange to alter their risk–return–impact profile for the market. This platform serves as a marketplace for exchange or mutual transfer of such cryptos, and enables donors/investors to build their own profile in terms of impact. How does Confluence take care of the pain points for the impact investor/donor as underlined earlier? The Impact Exchange mechanism may be described as the following:
1. Project is in the business of creating impact (existing plantation company or healthcare nonprofit organization operating a fleet of ambulances or solar installations)
2. Project provides verifiable data on impact to (or impact is directly measured by) third party (Platform: Impact Exchange)
3. Platform converts impact into cryptos using a metric (such as CO2 savings or ambulance miles or kilowatt hours) and transparent accounting
4. Platform records impact on the blockchain in the form of cryptos (can no longer be tampered with or concealed)
5. Platform credits project with social cryptos in its social ledger
6. Donor(s)/investor(s) can now get the cryptos transferred to their accounts by making a payment of dollar-equivalent value to project, and
7. Such dollars are reinvested by project in the expansion of its impact-creating assets (new plants/ambulances/solar installations).
How pain points are addressed (see Chart II)
1. There is zero time-lag between donation/investment and impact, since impact creation precedes the donation/investment act
2. Impact measurement tools are employed by third party (platform) with no incentive to overstate/understate; project owner has little control over impact data generation (eg EID device on ambulance for tracking miles)
3. None of the stakeholders and players need to depend on reports provided by the project owner
4. Divisibility and granularity to impact assets is provided through social cryptos, and
5. Donor/investor can easily change the nature of his/her footprints across various sectors and design his/her preferred portfolio of impact-donations or impact-investments.
Linking up with social cryptos
The two processes of impact rating and impact exchange are then integrated at the Confluence platform and provide a way for a firm/project to alter their impact rating. Projects that get a low rating after being subjected to the first process can acquire social cryptos to instantaneously improve their rating. Projects that transfer social cryptos from their account for cash will have no downward adjustment on their ratings, since they are bound by the condition to reinvest the same in similar projects (eg in new plantations or expansion of the ambulance fleet).
Shariah perspectives on IBF cryptos
1. A major concern among Shariah scholars relating to cryptos is their possible abuse for speculation and gambling. Indeed, the concerns are not misplaced in the light of sharp volatility in the prices of cryptos in the private exchanges. Sold entirely based on expectations about steep after-market appreciation in prices, these tokens (mostly without any intrinsic value) have proven to be disastrous investments for the public. In order to examine a similar possibility in the case of IBF social cryptos, we consider two scenarios.
a. One, where the social cryptos are transferred between the parties at a single rate with no change in prices ever possible. This is a non-commercial scenario in the context of donors with no intention to make profits from price appreciation. There is no buying and selling (of tokens) taking place — from a Shariah point of view — at negotiated prices between any of the parties, even while the transfer takes place through the Impact Exchange. Social cryptos issued against actual impact units measured in terms of agreed metrics carry a fixed and pre-agreed dollar-equivalent value. They will always be acquired and transferred at this value. There is no possibility of ‘buying low and selling high’ for any party, ruling out any profit whatsoever. The possibility of ‘illegitimate’ profits is just not there, since there are no profits to be made in the first place.
b. Two, in this scenario, social cryptos are transferred between the parties at negotiated prices. In this case, the distinction between donor and investor disappears and the original donor is looking forward to making profits, even while it may plough back the same into the project leading to its expansion. It may be noted here that such profit-making would be similar to Waqf-making profits on their investments. Profits will be made only in the long term and not on the basis of short-term fluctuations in prices. Social cryptos are neither listed nor traded at any ‘external’ exchange, ruling out any significant volatility in conversion rates or a possibility of speculation or gambling. Social cryptos issued against actual impact units measured in terms of agreed metrics carry a fixed and pre-agreed dollar-equivalent value. Due to a clear benchmark for an ‘intrinsic’ value, they are always expected to be acquired and transferred around this value. There is no possibility of a purchase ‘without any intention to take delivery’ or a sale ‘without ownership and possession of the object of sale or transfer’. The final conversion of cryptos to fiat money also takes place at fixed rates announced by the platform from time to time. Thus, the possibility of gambling on price volatility is completely ruled out here as well.
2. The social cryptos derive their dollar-equivalent value from a transparent accounting process based on the economic and technical life of the impact asset (tree/ambulance/solar installation) and its expected performance during its useful life. It is a notional value used for social accounting purposes only.
3. The use of social cryptos allows the parties to focus on ‘impact’ that is now measured in terms of impact metrics (carbon savings/ambulance miles/kilowatt hours). Hence, the donor/investor who cares about impact is encouraged to donate/invest more, as he/she clearly sees the impact even prior to making his/her donation/investment.
4. The use of social cryptos provides divisibility to impact assets (trees/ ambulances/solar installations) and allows donation/investment in small amounts — of impact units (carbon savings/ambulance miles/kilowatt hours) — and thus, provides more ease and flexibility to the donor/investor. The donor/investor is no longer constrained by the lump-sum funding requirement that goes with financing a complete impact-making asset. Thus, there is a clear encouragement to impact creation through investment and/or benevolent and charitable acts in the line with the MaS.
I: IBF13 cryptos (carbon savings)
IBF Net and Yayasan Dana Wakaf Indonesia (Foundation for Islamic Endowment Funds Indonesia), popularly known as Green Waqf Indonesia, have entered into a landmark agreement under which IBF Net will create a digital portfolio out of green assets like trees planted by the latter on Waqf land in Indonesia and convert the carbon savings from these trees into green cryptos called IBF13 cryptos (number corresponds to the SDG). These cryptos reflecting real values to the economy will then be traded on the Impact Exchange created by IBF Net on the blockchain. The proceeds from the sale of the green cryptos will be channeled into fresh plantations.
The implementation of the agreement began with the plantation in Bogor, Indonesia where Green Waqf is planting about 10,000 tamanu trees on 100 hectares of Waqf land, with 50% of it under the management of the well-known Muhammadiyah organization, and the rest by various non-profit organizations. How much real value does a fully-grown tamanu tree brings to the economy? Tamanu trees reduce CO2 in the air in two ways. First, every time biomass production goes through the photosynthetic process, plants absorb CO2 as the main raw material along with water for this process. A mature tamanu tree with 100 kilograms of biomass production per year absorbs about 220 kilograms of CO2 in the same year in addition to the general production of biomass similar to other trees for the growth of stems, twigs, leaves and so on.
The tamanu tree also produces fruits which contain high oil that can be used as a substitute for diesel from fossil fuels. There is a further reduction of CO2 which occurs due to the replacement of fossil fuels by tamanu biofuel. Mature tamanu trees which can produce 50 liters of biodiesel per year will contribute to a reduction in CO2 of 144 kilograms per year. The combination of both forms of reduction stands at around 300-plus kilograms of CO2 per year, compared with just about 20–50 kilograms of CO2 savings per year in the case of typical fully-grown trees. The financial equivalent of such benefits in the form of savings in social costs are estimable according to well-accepted methods. Based on years of research into various plantation alternatives, Green Waqf has identified tamanu as one that can provide maximum social benefits in addition to financial benefits in various forms through the sale of by-products for the Waqf. In the long run, the project targets around 14 million hectares of land in Indonesia for such plantations, which otherwise cannot be subjected to any kind of cultivation.
The issuance of the green cryptos is based on measurable social benefits from each tree that now has a unique digital identity. The cryptos allocated to a project on-chain, now available for sale on the Impact Exchange, may be purchased by existing or future projects with low ‘impact scores’ to improve the same. Projects can now rebalance their risk-return-impact profile.
II: IBF03 cryptos (ambulance miles)
This innovation by IBF Net is motivated by Indonesian media reports about a severe shortage of ambulance services in the city of Jakarta. A surprising fact about DKI Jakarta as a province was that it has the smallest number of ambulances per hospital. Currently, Dompet Dhuafa Republika (DDR), a leading non-profit organization in Indonesia, operates a fleet of 17 ambulances to serve Jakarta and nearby locations. Under a proposed partnership, IBF Net offers to (i) tokenize the ambulance miles earned by DDR on its existing fleet of ambulances and (ii) tokenize every new ambulance that will be purchased in future to be part of the DDR fleet. This may lead to several possible outcomes.
The existing portfolio of ambulances of DDR can earn impact-credits in the form of ‘ambulance miles’ as they provide such services to the patients. These impact-credits can then be offloaded in favor of other organizations which make fresh donations against the impact-credits transferred to their accounts. These donations are ploughed back into the ‘ambulance portfolio’ to expand the ambulance services of DDR. The donating organizations can instantaneously improve their respective impact profiles through such an acquisition. They do not have to go through the rather lengthy (and perhaps less efficient and effective) process of actually setting up an ambulance service unit to create a footprint in the healthcare sector (SDG3). An organization without the specialized competencies required to efficiently operate an ambulance service can now create an impact in the healthcare sector.
IBF Net and DDR partner in the project with the following respective roles: DDR continues its healthcare/ambulance services provision as before, but undertakes to provide a ‘digital identity’ to each ambulance via fixing EID devices on each vehicle, closely monitoring the services in terms of ambulance miles and sharing this data with IBF Net at known intervals. It does what it is best at. IBF Net converts each ambulance mile earned by DDR into social cryptos and makes them available at its Impact Exchange.
A solution for the Islamic capital market
Islamic asset managers and investors currently incorporate Shariah-related concerns into the investment process using the tool of ‘negative screening’. This is a type of investment strategy that excludes certain companies or sectors from investment consideration because their underlying business activities are not Shariah compliant or that have a negative impact on society and the environment. In the context of impact investment, however, there is a disclosed intention to make a positive impact from the MaS (and SDGs) standpoint and then measuring the impact. Because intending and measuring impact is the distinguishing feature, there is a need to develop appropriate metrics and measure impact from the standpoint of the MaS (and SDGs). The present solutions aim to fill in this important gap in the Islamic capital market environment.
The Confluence platform measures the impact of project(s) from the standpoint of the MaS as well as the SDGs based on a broad set of metrics. Based on stakeholders’ perception and available information with respect to the selected impact metrics, the platform generates performance ratings/scores for the projects. Additionally, it also allocates ‘exchangeable’ social cryptos to projects creating impact based on transparent objective criteria. It allows impact-deficit projects to enhance their ratings through the Impact Exchange by acquiring impact units in the form of social cryptos from impact-surplus projects. By making available information to investors/donors on how a project may contribute to the SDGs as well as the goals of an Islamic economy in the form of the ratings/scores, this solution enhances informational efficiency of the financial system.
These solutions should further promote the adoption of Islamic finance principles in two major ways. They show the alignment between the noble goals of the Shariah and the UN SDGs, sending a clear signal about inclusiveness of Islamic finance and its relevance for the global community. Further, at the level of the Islamic investor, they mark a move from a minimalist strategy of Shariah compliance to a progression toward the noble Shariah goals of comprehensive human development.