Impact Europe’s journey on catalytic capital began in 2022, when our organisation entered a partnership with the Catalytic Capital Consortium to help increase the knowledge, awareness, and use of catalytic capital to address critical social and environmental gaps across Europe.
This collaboration marked the start of an exploratory journey, fueled by three core ambitions; (1) Enhance knowledge about catalytic capital, (2) amplify its deployment, and (3) promote synergies between the impact space, mainstream finance, and the public sector around the concept. The findings of this research revealed new and compelling ways the concept of catalytic capital applies across the continuum of capital providers with additionality. The resulting whitepaper illustrates the benefits, challenges and barriers faced when deploying capital catalytically.
What is Catalytic Capital?
Catalytic capital intentionally fills gaps left by mainstream finance, in pursuit of social and environmental impact that otherwise could not be achieved. As a fast-growing subset of impact investing, it is a relevant approach to seeding, scaling, and sustaining impact-driven solutions in underserved and underfunded areas. It helps impact enterprises start innovative projects, build a track record to attract follow-on investors and support their long-term impact and financial stability, facilitating the testing and expansion of models that can create new markets.
Key Characteristics
By intentionally targeting a market gap, catalytic capital provides flexible financing conditions compared to the market, commonly including one or more of the following traits: high-risk taking, patience, flexibility, and concessionary.
Being additional by nature, catalytic capital providers fill investment gaps by accepting disproportionate risks, while risk accelerating the influx of other investors alongside or following its deployment.
This is combined by a patient approach, as forging lasting impact often demands time for experimentation, adaptation, and continuous evaluation. Also, by acknowledging both the variety of investment instruments that might be needed, as well as addressing the unique circumstances of each impact venture it takes on, catalytic capital shows to be flexible. Lastly, it tolerates concessionary returns, which is crucial in blended finance mechanisms, where catalytic capital portions mobilise resources from other funding sources with less flexibility in returns.
Who are catalytic capital providers?
All capital providers, from foundations to fund management companies, crowdfunding platforms and large financial institutions, covering the full spectrum of financial instruments: grants, debt, equity and hybrid instruments. Catalytic capital covers all these entities that have varying impact and financial risk appetites, governance structures and investment processes.
The value of catalytic grant-making
Grant-making plays an essential role in supporting impact solutions that are either not ready for repayable instruments or lack a viable business model at their current stage of development. Versatile by nature, catalytic grants can have two main roles: fuel revenue generation and/or test ideas for scale. Grant-making can facilitate key activities that help improve foundational skills of impact organisations equipped with potential revenue-generating models, supplementing their early-stage income and taking away the burden of short-term revenue generating pressures. It can also enable ventures’ strategic refinement and scalability of operations with the goal of achieving financial sustainability and ensuring long-term impact.
Catalytic Capital Outcomes
Catalytic capital has an exceptional ability to generate a wide range of outcomes at the investee and market levels. This is thanks to its providers, who have the potential to create a variety of medium- and long-term effects, both within their supported organisations and in the larger markets in which they operate.
At the investee level, catalytic capital providers enable early-stage ventures to grow, by providing room for innovation and proof of concept, which allows these organisations to build track records and attract follow-on funding. Catalytic capital also enables scaling ventures, while safeguarding impact: by providing funding tied to specific impact-related performance milestones, catalytic capital ensures founders' accountability and commitment to their mission. Practically, this enables ventures to avoid compromising on impact to attract funding from non-impact focused providers. Such was the case of Acumen, which provided early-stage funding to d.light, a high-risk high-impact venture in India and Kenya, supporting it through experimentation, failure, long-term growth and preservation of impact role.
Catalytic capital also operates at the market level, both through support to an investee that fills a gap and creates a new market, and by focusing on a specific gap and creating a solution at a higher level. Beyond filling gaps, catalytic capital promotes inclusivity through a variety of voices and perspectives, allowing for increased appetite in new ventures. It creates space for accelerators, incubators and other intermediaries to facilitate funding support systems between investors and potential impact ventures. Such was the case of Fondazione Cariplo in the creation of a new venture to test for scale, Fondazione Housing Sociale (FHS), that was adopted and scaled by Cassa Depositi e Prestiti, resulting in a social housing market in parallel to the ones developed by social cooperatives in Italy (page 39).
Catalytic Capital for Development
Large capital flows into low-income countries, yet the majority falls short of meeting the financial requirements of high-risk, high-growth impact ventures. Investors in these regions grapple not only with financial risks like litigation and currency fluctuations but also face impact-related challenges, such as difficulties deploying capital to organisations closely connected to the communities they aim to serve. Catalytic capital becomes crucial in mitigating financial and impact-related risks, emphasising the need for patient and flexible funding for low-income economies to thrive.
Development Finance Institutions, crucial in providing funding and expertise in low-income countries, are increasingly turning to blended finance to support impact ventures that would otherwise not be investable. They can deploy high-risk concessionary capital and mitigate risks to mobilise additional private sector investment.
Despite the proven efficacy of blended finance, European catalytic capital providers demonstrate the effectiveness and scalability of their model in addressing market gaps through public-private collaboration. Such was the case of Kampani, offering both capital and crucial expertise to catalyse investment and support early-stage ventures in low-income contexts.
Catalysing the Future
Although catalytic capital is gaining momentum in impact investing, the readiness of the ecosystem to fully leverage its potential remains uncertain. This is primarily due to its existent barriers. Challenges include misperceptions about its role, the lack of standardised assessment criteria, and the ongoing debate on measuring overall impact versus the specific contributions of catalytic capital. To this is added the hurdles of securing funding due to its inherent risk, placing constraints on investors aiming to prioritise these initiatives in their portfolios.
Despite these constraints, catalytic capital deployers have been leading the way in leveraging a range of innovative financial strategies and mechanisms to achieve impact that otherwise would not be achieved, thereby adding an essential layer of additionality in their investments. They have proven it effectively addresses gaps and shared their insights with the rest of the community.
However, there is much that remains to be done. While pioneers require more efficient and comprehensive resources and methods for directing strategies, we invite those who are unsure or not-deploying to read comprehensive resources like this white paper and start small. If you aspire to pursue investments that make enduring impact on existing gaps, there is no alternative strategy more powerful than deploying catalytic capital.