Impact Investors are not Funding the Patagonias of Tomorrow—and That’s a Problem

Harry Doull | January 24, 2019


The impact investing community does not always agree on everything. But ask any impact investor who the figureheads of the environmental movement that they look to for guidance are, and they’re likely to answer “Patagonia,” without skipping a beat.

Patagonia is a global apparel brand with roughly $1 billion in annual revenue and considerable environmental street cred. The Ventura, Calif.-based company and its leadership are now perceived as parental figures of the Certified B Corporation movement and to the new strain of regenerative environmentalism.

The individuals holding the $114 billion purse strings of “impact money” broadly share this view. However, and ironically, if Patagonia were starting up today and looking for financing, it would never receive funding from this group. And if it did, it wouldn’t become Patagonia as we know it, but something far less significant. That’s concerning because it means we are potentially missing out on the Patagonias of tomorrow.

Why is that? And what can we do to change it?

Educate and Lead

First off, it’s worth ironing out some misperceptions about what Patagonia is and isn’t. In many ways, it is a 20th century corporation. Patagonia outsources manufacturing of its clothing to contractors, primarily in Asia. It uses a variety of materials — not just organic cotton — which include petroleum derivatives. It is a for-profit company and far from perfect.

The big distinction is that Patagonia has been a pioneer of supply chain transparency, educating consumers on the reality of its business and the hard choices that need to be made and openly admitting when it falls short. (For example, it found that cotton has a bigger environmental footprint than synthetics). In doing so, Patagonia has created a measuring stick that other companies now need to compare themselves against, which creates a rising tide.

source: Patagonia

Since 1985, Patagonia has donated $89 million to environmental work. That’s not a bad score, and when you combine it with all the company’s non-cash environmental activity, like its activism in support of protecting public lands, you can begin to imagine how this might have had a systemic effect on environmental preservation.

Much of Patagonia’s environmental credibility comes from this involvement with grassroots organizations, including Patagonia Action Works, its new digital hub for grassroots activism. But more important than the dollars donated, more important than the legal battles with the Trump administration, Patagonia’s greatest contribution is its impact on our culture.

Patagonia has created an army of millions of environmentalists. When the company has been an early adopter of innovative environmentally friendly techniques and approaches, for example, around product lifecycle, it has been incredibly smart and effective in its communication to consumers.

By creating a sense of shared identity, a “cool factor,” and sensitizing parka buyers to technocratic topics like supply chain transparency, Patagonia has transformed the conversation around environmentalism and made it a defining part of many people’s identity. That shift is incredibly hard to quantify and to value in dollars and cents .

Why Wouldn’t Patagonia Get Funded Today?

Patagonia as a start-up would not receive funding from “impact” investors today. That’s not to say it couldn’t receive funding from venture capitalists or wealthy individuals (we’ll get to that), but the large pool of institutional investors with a mandate to grow profits AND impact would turn up their noses.

There are three reasons for this.

1. “The product is not the mission.”
This is a mantra you hear a lot in the impact investing world. What it means is that those investors would rather invest where each product sold to directly address the area of impact. For a consumer product, it typically means that the customers are the beneficiaries.
For example, selling an affordable water filter to communities with no drinkable water source: The customers are the direct beneficiaries of the impact.

Patagonia does not fit this definition. Its customers are mostly affluent Americans, not people for whom a jacket makes a life-changing difference. And despite all efforts and initiatives to reduce the company’s footprint, ultimately each additional product sold still has a marginal negative footprint on the planet.

2. “We don’t do philanthropic models.”
As I mentioned earlier, a big chunk of Patagonia’s impact — and the main driver of its credibility and ability to be lead activists — is through the vast sums it donates to environmental charities across the country.

There is currently a backlash in the impact investment community against consumer companies that donate large sums to charities, often pegged to products sold, total revenue or profits.

Adherents to this view have two main arguments for this.

Argument 1 : Abuse of this model by some companies.
One-for-ones and other philanthropic models have been easy targets of “greenwashing” — using marketing to promote the perception that an organization’s products, aims or policies are environmentally or socially friendly.

Argument 2: Building purpose at the core.
A corollary to the “product being the mission” philosophy is that you then don’t need to donate to charity because your business is already creating its own impact.

Both of these arguments have some basis to them but are ultimately dangerously over-simplistic. The fact remains that they are the conventional wisdom, and so … sorry hypothetical new Patagonia: 89 million schmillion.

3. “Political and cultural impact can’t be quantified.”
Impact investors are all about finding ways to quantify the impact of their investments. On principle, you can’t argue with that. If you can’t quantify the impact of your impact investments, how can you prove that you’re not just a 100% financially driven investor?

But in the case of Patagonia, the largest share of its impact is cultural, and to some degree political. There is no way to “A/B test” how different the cultural landscape would have been and what different micro-decisions millions of consumers, business leaders and politicians would have taken if Patagonia had never entered their lives.

That creates an issue that I will attempt to explain with the analogy of a forest. Imagine you are a philanthropist who has backed two reforestation programs. Twenty years later, you want to invest further into the program that has planted the most trees.

Program 1 has accurate tree planting data — they have planted 121 trees. They have a myriad of sub-metrics and Key Performance Indicators, which I’ll spare you. Program 2 just has this photo of what they’ve planted:

We don’t have a clue about the exact number of trees planted by Program 2, but intuitively we can say that it’s an order of magnitude greater than the 121 trees of Program 1.

This isn’t a perfect analogy, and you might be tempted to think that Program 2 doesn’t have its stuff together because it has no reporting in place. But you do know that your initial investment in Program 2 got a lot more impact than Program 1 — you just don’t know if it’s 100x, 1,000x or 1 million x.

This is a cognitive bias that I saw a lot during my previous life as a data analyst, especially among MBA-trained middle managers, who self-described as “data driven.” It is more comforting to work on something measurable — no matter how insignificant — than to take a risk on something large and unquantifiable, even if it is to provide a better outcome by orders of magnitude.

Patagonia Scorecard Summary

OK, so that pitch didn’t go well. But if it had, would baby Patagonia become the force it has become, the source of all our love and admiration as it stands today?

Independent Ownership Is Key
Patagonia, Dr. Bronner’s and many of the other companies leading the regenerative organic movement have one thing in common: They are independently owned.

Patagonia is almost entirely owned by its founder, and Dr. Bronner’s is still owned and operated by the Bronner family, three generations in. What they have in common is that they define long-term as multi-generational (vs. 5–10 years for Wall Street), and that they have the freedom to make decisions that go against conventional business wisdom. This means they are less likely to suffer from the cognitive bias described earlier, and can take into account people and planet — not just to drive business results, but as an end in itself.

This behavior and ethos, sustained over decades of business, is hard to find outside of entrepreneur-owned or family-owned business.

A lot of the messaging I see from “impact investors” is hard to distinguish from regular old private equity language. “Long-term” generally means five to seven years, and there is an intense focus on “exit.” You can’t create a new Patagonia with that kind of mindset.

New modes of finance attempt to align impact investor and entrepreneur incentives and allow businesses to operate in a healthier way.

If your goal is to offload your company to someone else in five years, you will make decisions that maximize value creation on that timeframe — not 10 years, certainly not 50 years. And that short-term pressure inevitably leads to shorter-term decisions around people and planet.

Institutional investors currently don’t typically think past their own timeline. The goal is to exit and cash out on a return after a few years. Once the company is out of the portfolio, it’s someone else’s problem and you move on. The turning point is not when the company exits, it’s when that institutional investor joins in the first place. That is when the direction of the company is defined.

So how do we harness this immense reserve of money, energy and goodwill — that brought people to even consider investing for impact — to break out of this cycle and create the real Patagonias of tomorrow?

What Would It Take to Fund the Next Patagonia?

First off, the world has changed a lot since Patagonia started in 1973. We’ve gone from the concept of a computer as science-fiction to an age of always-on commerce. The financial landscape and the speed to get a product to market and grow a company have increased exponentially. As a result, even if you have a slow-growth mindset, you have to move much faster than in the past — because it’s that much quicker for your competition to catch up.

As the steward of a company’s mission and vision, across customers, employees, shareholders, community and environment, entrepreneurs needs to partner with backers who 100 percent share their vision. They need to operate with a shared understanding of purpose, governance, vision, timeline and values. Finding that fit is no easy task.

Here is a collection of ideas floating around that deserve some attention.

New Modes of Financing
There is a false truism out there that there are “standard” term sheets for investment. Venture capitalists have successfully convinced lawyers and other participants in the investment process to push a model of financing that drives outcomes where shareholder gains are the only objective of the company, and specifically through an “exit.”

By holding pure equity (ownership) in the company, the only way this type of investor can achieve a return is either when the company is sold to a buyer or listed on the public markets (IPO).
Yet the idea that this type of investment needs to be the norm is — pardon my latin — bullshitto.

There have been countless instances of creative term sheets that create healthy incentives for companies to prosper and create positive impact — and critically, don’t make a company sprint toward the exit. There is a movement quietly growing to spread these ideas, and make more entrepreneurs aware that there is even a choice. Luni Libes has promoted a revenue-based equity model, and a collaborative effort between entrepreneur John Berger, Boma Investments and ADAP Capital has come up with a thoughtful similar concept called Performance Aligned Preferred Stock. Both attempt to align impact investor and entrepreneur incentives and allow businesses to operate in a healthier way.

Neither are a panacea — each business is different and needs to think uniquely about how to align its investors’ incentives with its own. But these alternative solutions deserve much more airtime and adoption. If one major institutional investor were to announce it was adopting a similar investment model, I have no doubt a wave of change would ripple through that community. This in turn would create a massive system change as a whole generation of impact-oriented companies would be set up to prosper, and potentially grow into future Patagonias.

More Early Stage Impact Investment
A closely related issue is the microscopic volume of institutional impact investment directed toward early stage social businesses (less than $1 million–$2 million in revenue). Startups in this phase looking for funding do not have access to debt capital either. The main players filling the gap are venture capitalists and “angel investors” — the majority of which view the world through a venture capital lens, in my experience — especially as the media has sensationalized that type of investing.

We need more leaders in the impact investment space to fill this void, set new norms for financing these early stage enterprises and create an alternative to venture capital for those profitable businesses that could become immensely impactful.

In particular, we need more infrastructure and networks for early stage impact investment like Social Venture Circle. They serve a critical function in bringing together those independent investors with purpose-driven entrepreneurs.

There is a big opportunity for university endowments to play a role in this space, especially if the schools have strong social entrepreneurship programs or MBA degrees with a sustainability or social impact angle.

More lenders like Accion (a nonprofit CDFI) are willing to lend something to very new socially minded companies.

Change the Culture
In today’s gilded age, in a period of great societal and economic transformation, we need consumer-facing companies with strong values that will drive this transition era toward an outcome that is regenerative.

The Certified B Corporation movement is tackling many major, complex issues, whether it’s diversity and inclusion, environmental remediation or worker empowerment. Fixing the incentives, culture and system around financing would have a massive impact across all of them. As a business leader, overhauling our economic system may sound overly ambitious and unrealistic. But what we’re talking about here are small changes that a small number of people have the capacity to make. They amount to a quiet, radical realignment of our economy. That is healthily ambitious and definitely not unrealistic.

There is so much energy out there: I am inspired by many of the people I have had the opportunity to meet in the field of social and environmental impact. So many people are devising new solutions, and many others have the appetite and money to make them a reality.

We have a whole new generation of entrepreneurs who are both idealistic and business-savvy. The opportunity has never been greater to make a decisive change in how the engine of business operates in the country and globally, and to give birth to many little Patagonias.

Harry Doull is the founder of B Corp luxury candle maker Keap and of SolarAid USA. This article appeared earlier on B the Change, a Medium publication run by the nonprofit B Lab.  


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