● Ease of starting a business
● Level of investor protection
● Level of contract enforcement
● Ability to mitigate insolvency
Many of these characteristics are implemented in analyses done by the World Bank's Doing Business project.4 The data here are very understandable and comparable across different topics using the World Bank's country ranking system.
For impact investing, additional metrics should be considered. One important metric is the Human Development Index (HDI), which ranks countries by submetrics of human development. The lower the HDI, the greater the need for impact investments. General sectors can also be targeted at the country ranking level. For instance, if healthcare is a focus of the impact investor, then an index such as one measuring maternal mortality could be integrated into the analysis. The goal of the analysis is to understand on which countries to focus active sourcing efforts.
To delve deeper into creating such a country ranking method, open the file Country_Ranking.xlsm from the website. This workbook contains multiple country ranking data sets and a method to synthesize the data into usable output. Ultimately, an ordered list of countries that exhibits the qualities an investor is seeking should be discernable from the analysis. To get there, though, the starting point is the underlying data.
In this analysis, there are six independent worksheets that contain data sets relevant to investors and some specifically to impact investors:
1. Inv protect: This data set focuses on investor protections. Many countries differ in their attitudes toward investors and the levels of disclosure, board of director liability, and the ability of shareholders to take legal action against companies. Most investors will want transparency, low legal liability for the assigned board director, and the ability to navigate negative situations through legal action. Countries are ranked by the composite level of investor protection for investments in the listed country, with 1 being the best and 189 being the worst.
2. Start business: The ease of starting a business can be indicative of how well a government facilitates the needs of entrepreneurs. This data set ranks countries based on four metrics: the number of procedures required to start a business, the time it takes to register a firm, the cost to register based on fees, and also equity required.
3. Contract enforcement: For both debt and equity investors, contracts transform conceptual and verbal agreements into a common understanding. More importantly, if one party deviates from that understanding, there should be a strong and efficient legal system to mitigate the situation. This data set ranks countries based on three metrics related to contract enforcement: the time it takes for dispute resolution, the cost of working through such a dispute, and the number of procedures required to achieve resolution.
4. Insolvency: Important for debt investors is the ability to lay claim to a company's assets if it becomes insolvent. Debt holders often invest with a priority over the company's assets and accept a lower return proposition than equity holders for such privilege. However, if the ability to recover value is diminished or difficult the reduced return may not be worth it. The insolvency data set looks at the time it takes to close a business, the cost of closing the business, whether the business is sold off in pieces or as a whole, and, very importantly, how much money a claimant recovers given insolvency.
5. HDI: If the prior four categories were the only data sets to include in this sourcing exercise, the top countries would primarily be developed economies that have less widespread need for impact investing.5 For an impact investor the developmental need is a priority and should be reflected in the analysis. To facilitate this, the Human Development Index (HDI), a statistic created by the United Nations Development Programme (UNDP), is used to rank countries. It scores countries based on life expectancy, education levels, and standard of living.
6. Maternal mortality: A sector-based investor may want to include his or her specialty in the analysis. In the example provided, a healthcare oriented investor can assess the development and need for maternal care in a region. Any other specialty can be similarly integrated depending on investor focus.
NOTES FROM THE FIELD
In 2005, while I was working for Citigroup, we were looking to fund investment in a certain Eastern European country. The investments would be mortgage related and required a high degree of certainty regarding contract enforceability and bankruptcy protection. As part of the deal team, we noticed that the laws were very loose in these regards. We engaged in local country due diligence and met with federal government officials who told us, “Don't worry, we will be changing those laws in the next few months.” After a lengthy plane ride home, we sat around a conference table the next day, and someone asked the best follow-up question, “If they can change the laws in just a few months in our favor, can't they change them just as quickly against us?” The investment was never made.
Data Aggregation and Weighting
Once the data are loaded, it should be aggregated on a single sheet. The Data Agg sheet does just this by listing all potential countries with the relevant rank to the right. Note that there is a guide to the rankings in row 6, called Target. This is to keep track of whether a high or low number indicating a weak or strong rank is desirable. For instance, a country with a low score for contract enforcement means that it has a high standard of contract enforcement. This is desirable for most investors. However, a low HDI rank indicates a very developed economy and may not be the best country for an impact investor. Figure 2.1 shows the top part of the data aggregation.
Figure 2.1 Country rankings are aggregated and prepped for weighting.
Once the country data are aggregated, a weighting method can be applied to layer in the investment thesis preferences. Effectively, a weighted average score is needed. However, one needs to be cognizant of whether a high value or low value is desirable. In this example, for five of the six metrics it is desirable to have a lower score. To work with the weighting method of having a higher percentage influence a higher rank converting the low scores to a high score is necessary. Conversion can be done by subtracting the count of countries for each data set by the rank for all of the factors except HDI. With the correct ranking figures, a weighted average can be calculated by multiplying the weights by the ranks.6 Figure 2.2 provides an overview of the weighted calculations.
Figure 2.2 The aggregated data and a weighted value for each country are calculated.
Controlling the Analysis
The weights can be adjusted depending on an investor's investment thesis. A scenario selector system is ideal for setting up various weighted cases. Figure 2.3 exemplifies such a system, which will be used in other analyses throughout this book.
Figure 2.3 A scenario selector system allows the user to enter investor preferences and toggle between scenarios.
Results
Once a scenario is selected, the Data Agg sheet calculates the appropriate statistics based on the weights and the results can be summarized. The Summary sheet shows the top 25 countries that are produced from the combination of the weights selected. Additionally, a heat map of the relevant characteristics is displayed so a user can see what is driving the results. Figure 2.4 shows the top 15 results for a global equity impact investing scenario.