Socially responsible investment is not a new concept. In fact, the roots of sustainable investment are said to date back as far as 1758 and globally, this type of ethical investing is on the rise.

While an increasing number of ethical or socially responsible startups are appearing in the region, the fact remains that it is still an emerging sector – one that has traditionally been viewed as a branding or marketing exercise rather than genuine ethical intent.

“Returns fill your bank account and money is naturally recycled into the ecosystem or community with a positive ripple effect,” says Abdulaziz B. Al-Loughani, managing partner at Kuwait-based Faith Capital Holding. “You’re able to invest in coding schools, build startup communities, invest in startups…etc. Social impact only fills [the] news.”

But this viewpoint is slowly evolving, as consumer attitudes shift to take into account the sustainability and transparency of business models. Ethical venture capital (VC) investment may be turning into something more than just a headline generator, with a business case to be made for prioritising socially responsible investing (SRI), and/or environmental, social and governance (ESG) at the heart of a startup’s best practices.

Without funding, these companies will not survive. So, should more venture capitalists make ethics a core aspect of their deal strategy? Or are returns more important than societal impact in the region?

“There are two potential answers to this: the politically correct answer and the honest one. The cold hard facts are, businesses are set up to make money and provide returns to their investors,” says Kunal G. Wadhwani, chief executive officer at Nakeiya Ventures. “For the VC market to mature, the VCs must answer to their limited partners.”

It is a returns-based and exit-focused business according to Wadhwani and so during volatile times, cash-on-cash returns are the absolute focus for the limited partners (LPs) and general partners (GPs). In other words, “risk capital requires a return,” he says.

Mahmoud Adi, founding partner at UAE-based Shorooq Investments agrees.

“We are commercial people. We are driven by financial success. But we also want to make sure that we are doing the right thing along the way,” he says. “For this model to work, you need these people to be incentivised commercially.

Otherwise, it can be difficult to generate great companies by focusing only on social aspects.

“VCs overall generate a lot of social impact, but at the core of it, you need the commercial incentives to drive the leaders of the company,” adds Adi.

Wadhwani admits that he is seeing more businesses take care of ethical aspects with more entrepreneurs applying a ‘social conscience’ to their business models.

Looking at the Middle East and North Africa (Mena) region, the UAE is leading the way with ethical investing according to a report by UBS, with 53 per cent of UAE investors having exposure to ethical funds. Out of these, the clear majority (93 per cent) believe they are not giving up performance by choosing a sustainable investment. Interestingly, 66 per cent of those UAE investors expect sustainable investments to outperform traditional investments, with sustainable investment growing over the next five years.

“In the current age, businesses are unlikely to go far without a triple bottom line approach prioritising people, planet and profits,” says Tushar Singhvi, director at the UAE-based CE-Ventures. “Societal impact and returns essentially share a dichotomous relationship – you need returns and a feasible strategy to make a business sustainable.”

For a business to grow and scale, it must have some sort of societal impact according to Singhvi and so startups ought to take greater effort to identify solutions for locally-relevant and universal problems.

“In any business plan, entrepreneurs need to be clear on the purpose of their business, instead of attempting to force-fit internationally successful businesses without bearing in mind the regional impact,” says Singhvi. “VCs can play a defining role in ensuring that startups find this critical balance between societal impact and returns.”

For angel investor Elissa Freiha, founder and managing director of UAE-based WOMENA, both aspects do not necessarily need to be present in all ventures.

“I think the new generation of entrepreneurs from our region want to contribute back into society and are looking at more innovative ways to develop their sustainable business models,” she says. “[Returns and societal impact] are equally important for this region, but that does not mean they need to co-exist in every deal. Financial growth and economic success can still be considered to have considerable social impact for our regional companies.”

Ramzy Ismail, director at Techstars Dubai believes that one should not be measured against the other.

“That is an outdated and flawed theory. Investors know that companies can be high growth and solve societal problems, which tend to be large market opportunities,” he says. “If you look at the UN’s Top 17 goals for a better world, you’ll see that many of those goals represent over $1 billion in market opportunities for entrepreneurs who can leverage technology [for good causes].”

For Wadhwani, “there is a difference between being ethically sound in your business practices, versus being a social justice warrior. The multiplier effect works for money, for good deeds, for macro-economics”.

Background Check

While more companies are questioning where their funding is coming from, should VCs take the time to ensure that a startup they are investing in is socially responsible?

For Freiha, it’s a firm “no”, while Adi believes that VCs “don’t have to pressure them into doing social good”.

He elaborates: “You definitely want to make sure that you are doing the right thing from an ethical perspective. It’s the responsibility of the board of the company to ensure we are engaged in good business and good practices.

“It is very hard – especially in the early stage – to put the right processes in place to ensure that every single thing is being done. To put the responsibility on the VC, especially in the early stages, is a stretch.”

Al-Loughani, however, believes that this should be checked at the start.

“Values are something we care about, and should be part of the VCs screening criteria; how you do business, plus ethics, should be flagged first before making the investment.”

For Singhvi, approaching the subject from an educational standpoint could be beneficial.

“In the traditional sense, VCs are often viewed as only funding sources for startups and are frowned upon for participation in the business. However, with the right approach, VCs can effectively go beyond capital investment to guiding a company on its operations and on adopting ethical business practices,” he says.

Ismail is also pro-education and awareness.

“More can always be done to educate, inform, and build awareness around the impact entrepreneurs and investors can have on the world, and what impact looks like for different parts of society,” he says.

Founders face many obstacles from survival all the way to success and beyond, so if ethical sourcing plays a part in the company’s survival, then founders ought to prioritise it.

“The job of the VC, beyond supporting with capital, is to try to leverage their networks, communities, and resources around those founders to be helpful. If there is board participation, then there is an additional set of standards,” he adds.

More Social Good, Please

If there is one thing everyone can agree on, it is that the region needs more startups that can enable change and social good. So, what would venture capitalists like to see more of?

“I'd like to see more women-led tech startups,” says Freiha. “They perform twice as better with half the funding and create 30 per cent more jobs. This is real change for our region.”

Singhvi advises: “Startups in the Mena region should focus on building businesses around local challenges, while remaining sustainable and universal in its application. This means creating solutions that are pressing within the immediate geography, but also relevant when exported to the rest of the world.”

But he admits that there remain issues with funding in the region.

“When regional startups continue to scale successfully beyond the Series B level, we see an influx of larger and more competitive rounds of finance from international VCs. Rather, VCs in the Mena region that can potentially offer more value in terms of market knowledge and strategic support, have a lot more to gain by being active in this space.”