About

Methodology

Authored by Professor Robert Gertner and research assistant Daniel Buckman, this paper explains what is happening “behind the scenes” of the IFI Tool and how its modeled outputs are grounded in a clear framework, clarifies the assumptions that drive the results, and helps users understand the Tool’s purpose as a resource for learning and exploration, not investment advice or a substitute for rigorous impact measurement.

The IFI Tool was designed to support users in exploring, at a high-level, the relative impact of incorporating impact-first investments into a portfolio of philanthropic assets. It provides illustrative outputs about overall impact and returns that are dependent on user-submitted impact and return estimates. Accordingly, it should not be considered a replacement for rigorous investment diligence and impact measurement and assessment.

How the IFI Tool Works

The IFI Tool allows users to experiment firsthand by modeling various options for shifting traditional investment dollars to impact-first investments, and/or funding impact-first investments from resources that otherwise would be part of an annual program of grants or donations.

The model is structured to show a side-by-side comparison between a Base Case and a New Case. The Base Case can represent a philanthropic asset portfolio without IFIs, a user’s current portfolio, or a basis of comparison between two strategies with different allocations or assumptions. The comparison allows users to see the comparative effect on both the impact generated and the value of the portfolio over time.

Throughout the model, all parameters are net of the internal costs and external fees associated with managing philanthropic and investment operations.

Measuring Impact

Before exploring the two primary sets of inputs, note as a preliminary matter that the IFI Tool uses what we are calling impact units as our measurement of impact. To have a consistent way of measuring impact across philanthropic giving, impact-first investments, and traditional investments, we assume each dollar of program budget for grants equates to one impact unit. Therefore, $100 in program budget equals 100 impact units. The impact of impact-first and traditional investments is then modeled in comparison. A philanthropic asset portfolio’s goal is to maximize overall impact units across its lifetime. This simplifying assumption of a single dimension of impact that is equal across all philanthropic giving allows us to make comparisons of overall impact across different allocations and assumptions about impact-first investments.

Model Inputs

Expected Internal Rate of Return (IRR) and Impact of IFIs

In order to make quantitative comparisons regarding the social impact of investments and grants, it is necessary to quantify and parameterize the relationships. In other words, the model requires users to choose specific values for the relative social impact of impact-first investments and philanthropic giving. Similarly, they must make specific quantitative assumptions about the financial return of impact-first investments relative to their traditional investments. In all cases, the expected internal rate of return (IRR) is net of fees and the costs of managing a financial portfolio and a portfolio of IFIs. The supplemental materials include examples that guide a user on how to think about reasonable parameter choices for different categories of impact-first investment opportunities.

The model does this in a very simple way. Users choose an expected IRR and level of impact relative to philanthropic giving examples (grants and other charitable contributions) for their IFIs. A user’s estimates for these two variables—the impact of an IFI relative to a comparable charitable contribution and the financial return of an IFI—will vary depending on the design of the given IFI.

Take an example IFI: an investment in an education loan program for nursing students. When considering the level of impact relative to grants, the key exercise is to consider what a comparable grant would be and to estimate the relative impact level on the target population. The comparable grant here would be a scholarship to the nursing students. A student-friendly program charging zero interest and providing complete loan forgiveness unless the students secure well-paying nursing jobs would still generate less impact than a non-repayable scholarship to the same students. But if the overall increase in the students’ socioeconomic status is similar in both cases, which is particularly likely because the loan repayment requirement is only triggered if the student is succeeding in a new job, the impact difference may be relatively small. The financial return, however, will be below 0% IRR because there is no interest rate and there will be some estimated rate of default and of students not securing threshold jobs. On the other hand, if a program charges a higher interest rate and does not offer loan forgiveness, the impact relative to grants will be lower but the return profile will be higher.

Note that the redeployment effect of IFIs—the fact that capital is returned by IFIs and redistributed—is explicitly modeled in the IFI Tool, while the other forms of impact value creation generated by IFIs should be factored into the user-selected impact variable.

Additional Model Inputs

There are three model inputs that consistently apply for both the Base Case and the New Case. They are:

  • Horizon: Users can specify the time horizon for the model, and the model will run the model for the number of years specified. The calculations made at the end of the model horizon are explained below. This would be the time horizon over which a user intends to estimate the effects of incorporating IFIs into their philanthropic investments.
  • Initial value of philanthropic assets: The IFI Tool defaults to a value of $100 million. When editing this number on the output screen, users must specify the approximate size of their philanthropic assets. For foundations or donor-advised funds (DAFs) that do not anticipate further contributions, this would just be its current market value. Other users would need to estimate the component of their overall wealth that they will devote to philanthropy over the chosen horizon.
  • Social Discount Rate (SDR): Just as a financial discount rate reflects compensation needed to choose “money later” over “money now”, the social discount rate estimates how much one values creating social impact today versus the same impact in the future. This matters because impact-first investments let you redeploy returned capital for future impact. Social discount rates enable making such impact trade-offs through time. The IFI Tool default view does not include SDR; it can be turned on through the output screen menu. If turned on, the SDR defaults to 3% to match long-term US inflation. Assuming program costs follow general inflationary trends, this essentially means being agnostic about impact timing—you’re simply adjusting for the fact that the same impact will cost more in the future due to rising costs. If one wishes to adjust the SDR, they should assess three key drivers. These parallel the key drivers of financial discount rates: inflation, time preference, and risk:
    • Changing Program Costs Over Time:
      • Will the same interventions cost more or less in the future?
      • Costs rising → Higher SDR (future dollars buy less impact)
      • Costs falling → Lower SDR (future dollars buy more impact)
    • Time Preference for Impact Now vs. Impact Later:
      • Do you value impact less simply because it happens later?
      • No time preference → Don’t add to SDR for this factor
      • Prefer impact sooner → Add increment to SDR
    • Future Impact Opportunities & Impact Risk:
      • Will there be better or worse opportunities for impact later?
      • Better future opportunities → Lower SDR
      • Fewer/riskier future opportunities → Higher SDR
      • Consider factors like: beneficiary prosperity growth, cascading effects of interventions, critical timing windows, and uncertainty about future conditions (impact risk)

The model also requires a set of inputs for each of the Base Case and the New Case. They are:

  • Expected net rate of return on philanthropic assets: This is the expected rate of return from traditional investments of your philanthropic assets (e.g., stocks, bonds, and other traditional investments) from a family office portfolio, DAF account, or endowment, after fees paid to external managers and advisors, as well as the internal administrative costs associated with managing the portfolio. This captures the net expected rate of return for the portion of your philanthropic assets that are not invested in IFIs.
  • Annual giving as % of total philanthropic assets: This captures the annual allocation to charitable giving from philanthropic assets.

The model allows for IFIs and another category that we refer to as Annual IFIs. For the model’s Standard IFIs, a percentage of the value of the philanthropic assets is allocated to the IFIs. When returns are realized, the portfolio is rebalanced to maintain this percentage. The characteristics of the IFIs are captured by four parameters. They are:

  • Percent of philanthropic assets in IFIs: As described above, this is the percentage of the philanthropic assets allocated to Standard IFIs.
  • Expected net rate of return on IFIs: This is the analog to the expected net rate of return on the financial portfolio, but for the IFIs. This captures the extent to which investing in IFIs leads to different expected returns than traditional investing.
  • Social value of IFIs/social value grants: This variable captures the relative social impact of each dollar of the philanthropic assets that is invested to IFIs compared to dollars allocated to grantmaking or other philanthropic giving. The model does not explicitly contain administrative costs or fees, so this ratio is a comparison of social impact for dollars allocated to grants or IFIs.
  • Duration of IFIs: This variable captures the number of years until the investment in IFIs is realized and can be reinvested. The model treats all cash flows as being received at the end of this period. As an example, if a $100 IFI made at the beginning of Year 3 has an expected rate of return of 5% and a duration of four years, the investment will yield $112.55 of cash at the beginning of Year 7.

Meanwhile, Annual IFIs have a somewhat different structure than the standard IFIs. This specialized case is included in the optional “Foundation Annual Giving” section of the Tool’s output display. Rather than an initial allocation from the philanthropic assets that is kept constant through rebalanced reinvestment, Annual IFIs are modeled similar to annual grantmaking. Each year a user-specified percentage of the philanthropic assets are allocated to Annual IFIs. Also, rather than rebalancing after cash flows are received, cash flows from Annual IFIs are all reinvested in Annual IFIs. Despite the different structure, the four variables are analogous:

  • Percent of program budget allocated to Annual IFIs each year: This is the percentage of the philanthropic assets allocated on an annual basis to Annual IFIs.
  • Expected net rate of return on Annual IFIs: This is the analog to the expected net rate of return on the financial portfolio, but for the Annual IFIs. This captures the extent to which investing in Annual IFIs allows for redeployment of capital compared to grants.
  • Social value of Annual IFIs/social value grants: This variable captures the relative social impact of each dollar of the philanthropic assets that are invested to Annual IFIs compared to dollars allocated to philanthropic giving. As with the standard IFIs, the model does not explicitly contain administrative costs or fees, so this ratio is a comparison of social impact for dollars allocated to philanthropic giving or IFIs.
  • Duration of Annual IFIs: This variable captures the number of years until the investment in Annual IFIs is realized and can be redeployed to additional Annual IFIs. As with the standard IFIs, the model treats all cash flow as being received at the end of this period.

Model Mechanics

The mechanics of the model are quite straightforward. The model makes the same calculations for the Base Case and the New Case.

At the beginning of each year, the philanthropic assets grow based on the user-specified expected rate of return for the market-rate investment and the IFIs. Grants or other charitable contributions (and Annual IFIs, if any) are then subtracted from the philanthropic assets based on the current value and user-provided parameters. In addition, if there were cash flows from IFIs in the previous year, new standard IFIs are made to rebalance standard IFIs to equal the user-provided allocation.

Social impact is calculated each year in the following way: dollars to the program budget are added to new Annual IFI dollars multiplied by the user-provided percentage that compares the relative impact of Annual IFIs to grant impacts. The impact calculation for standard IFIs is more complicated, as the impact is divided across the entire duration of the investment. As an example, assume that $100 is allocated to standard IFIs with a duration of three years and ratio of impact relative to grants of 0.6, and the discount rate is 5%. The total impact units from the investment is 60. This is divided over the three years to generate a present value of 60 units of impact in the year the investment was made. So we allocate 20 units of impact in the first year, 20(1.05)=21 units in the second year, and 20(1.05)²=22.05 in the third year.

Cash flows for both types of IFIs are all realized in the final year of their duration.

Model Outputs

The model allows users to compare the expected social and financial impact of different allocations of philanthropic assets to impact-first investments, traditional investments, and grants under any set of assumptions about returns and impact of impact-first investments.

The output measures for each of the Base Case and New Case are twofold: the total social impact of grants and IFIs over the entire time horizon, and the financial value of the philanthropic assets at the end date. The financial value of the portfolio at the end date incorporates the market value of financial investments and IFIs.

In order to make comparisons, total social impact and the final financial value of the philanthropic assets are each discounted at the user-provided discount rate.

Importantly, below the charts is the overall change in total discounted impact. The social impact and final financial value can be combined if we assume that at the end of the model horizon, all of the financial portfolio is immediately used for grants or charitable contributions. In effect, we assume that all investments, including all IFIs, can be liquidated for their market value and the funds are then used to make grants. This turns each dollar of the financial portfolio into one impact unit at the model endpoint. Discounting it back to the beginning of the model and adding it to the discounted impact of all grants and IFIs over the model horizon allows one to estimate a single measure of the discounted social impact associated with the allocations and assumptions the user provides.

Limitations & Further Research

This methodology subsumes a great deal of nuance regarding impact measurement and different, hard-to-compare theories of change on the impact side—as well as risk, correlations, and liquidity of financial investments. However, it is important to note that the IFI Tool’s objective is not to recommend specific portfolio allocations or impact investments, but to help people understand why impact-first investments may be an attractive strategy that they can research more fully in the context of specific philanthropic objectives.

Additional work can be done to potentially create benchmark figures for each category of impact-first investment across the two key variables discussed: impact relative to a grant or charitable donation, and financial return. This may include more detailed guidance and frameworks to inform these two key assumptions. The team researching and designing the IFI Tool considered creating a separate model and Tool for each category of impact-first investments, but the complexity required—as each category would have its subcategories and various sets of variables—did not fit with the broader awareness-raising goal of this project. The hope, for now, is that users who are engaged by the IFI Tool’s general illustration of the power of impact-first investing’s recycled capital and the case studies of example initiatives will delve deeper into specific investments they are considering and model those using the principles laid out in the IFI Tool and supplemental materials.

Importantly, the IFI Tool is an illustrative model to help consider the relative impact of IFIs within a portfolio. It is critical that the IFI Tool not be used for “impact washing,” or exaggerating the impact of an investment or service, whether for press purposes or to secure additional investment. This IFI Tool is not, of course, meant to be used as a replacement for honest, accurate impact measurement of investments and initiatives. Transparent impact assessments and measurement specific to the aims and results of a given project is required to demonstrate a change in the lives of those served by an initiative or investment.

For users with rigorous impact measurement systems in place, the IFI Tool is a helpful way to ideate—at a high level—about how to continue maximizing impact through new types of investments. It enables users to input specific assumptions from previous impact assessments and see how these translate to different portfolio-level impacts when reallocating between impact-first investments and other investments. Those without these systems in place can use the IFI Tool to better understand the potential impact of IFIs, but of course not as a replacement for prioritizing stronger impact measurement practices.

Traditional investments are made with the goal of earning market-rate returns. This can include impact investing that seeks market-rate returns, as well as commercial investing, financially optimized investing, or market-rate investing.

Impact-first investing is the deployment of capital to initiatives that prioritize impact while simultaneously generating financial returns, albeit often with lower returns than traditional investments. Impact-first investments, or IFIs, may at times project market-rate returns, but they generate the greatest level of impact when deploying capital to initiatives that are unable to attract traditional investors; thus, they typically anticipate lower expected returns or greater risk than market-rate investments.

“Philanthropic assets” and “philanthropic asset portfolio” are used as all-encompassing terms for the resources that an individual or organization has decided to put towards philanthropic purposes. This category includes funding set aside for grants or charitable donations, money held in donor-advised funds (DAFs), family office resources, foundation endowments, and other vehicles. The idea underlying impact-first investments is that if an institution explicitly or implicitly allocates some of these assets to philanthropic objectives, they should prioritize the overall social impact of that asset portfolio. To achieve that goal, one can use a combination of traditional investments, grants, and impact-first investments.

Fees represent the operational costs to source, evaluate, execute, and monitor opportunities across all types of capital, including traditional investments, impact-first investments, and grants. These costs vary by type, reflecting differences in diligence complexity, deal structure, and reporting requirements. All inputs in the model are meant to be net of any fees occurred to generate financial return and social impact. 

To have a consistent way of measuring impact across philanthropic giving, impact-first investments, and traditional investments, the IFI Tool assumes each dollar of a grant equates to one impact unit. For example, $100 in grants equals 100 impact units. The impact of impact-first and traditional investments is then modeled in comparison.

Philanthropic giving is the provision of money for a charitable purpose without any repayment or financial return. The most common examples of philanthropic giving are grants—generally made to nonprofit groups by foundations or DAFs—and donations made by individuals. Though “grants” are used as an example of philanthropic giving throughout the platform, the IFI Tool is designed to be inclusive of multiple forms of giving.

Impact-first investing is the deployment of capital to initiatives that prioritize impact while simultaneously generating financial returns, albeit often with lower returns than traditional investments. Impact-first investments, or IFIs, may at times project market-rate returns, but they generate the greatest level of impact when deploying capital to initiatives that are unable to attract traditional investors; thus, they typically anticipate lower expected returns or greater risk than market-rate investments.

Traditional investments are made with the goal of earning market-rate returns. This can include impact investing that seeks market-rate returns, as well as commercial investing, financially optimized investing, or market-rate investing.

The Social Discount Rate (SDR) is the rate used to compare the value of social impact achieved in the future to impact achieved today, reflecting the trade-off between achieving impact now versus in the future.

The IFI Tool uses “Annual IFIs” in the Foundation Annual Giving panel to refer to impact-first investments (IFIs) that are funded by substituting IFIs for a portion of a philanthropic asset portfolio’s annual budget for grants or other charitable contributions. For foundations, this generally means making IFIs out of the annual grantmaking budget.

When necessary to distinguish from Annual IFIs, the IFI Tool uses “Standard IFIs” to refer to impact-first investments (IFIs) that are funded by shifting funds out of philanthropic assets that would otherwise be invested in traditional market-rate investments.

In the context of the IFI Tool, “duration” refers to the time frame in which an impact-first investment would be expected to return capital to the investor, which could then be redeployed to generate additional impact. The model’s duration default of 8 years can be adjusted on IFI Strategy panel on the output screen. For examples of durations, refer to the table on the Investor Lens page.

The risk-adjusted market rate is the return one would expect to earn on an investment or set of investments given the level of risk if one were agnostic to impact. It measures how much return an investor demands per unit of risk, enabling more efficient evaluations of whether, given the risk profile, an impact-first investment is sacrificing financial gain. Most equity or equity-like investments use a long-term rate of return of around 7% as a common benchmark. Some investments—including some impact investments—aim for and achieve risk-adjusted market-rate returns. Others—particularly impact-first investments—may intentionally accept below-market returns to prioritize social or environmental outcomes. Understanding this trade-off helps investors align financial expectations with mission goals.

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