Business

Why family offices need to tread cautiously with impact funds as one comes under scrutiny

Arif Naqvi, founder and CEO of Abraaj Group, once preached the virtues of business as a force for good in the world. But as it turns out, he also presided over a $385 million fraud leading to his arrest at London’s Heathrow Airport in 2019.

Before its collapse, Abraaj claimed to be an impact investor dedicated to the social good in emerging market economies. And Family Capital has learned that a fresh scandal is brewing at another EM-focused private equity firm. Its directors are alleged to have misused funds provided by family offices active in the impact investing world. While the firm has denied the allegations, it’s still alarming news for the family offices involved.

In their eagerness to get “impact” money out the door, some family offices exercised imperfect due diligence and maintained little ongoing oversight

“We assume that just because people want to do good, that they’re actually good people. That is not always the case,” says Jacqueline Musiitwa, US-based lawyer and ESG advisor.

Musiitwa suggests that funding organisations need to take a hands-on approach. “It’s not that management teams can’t be trusted, but funders need to maintain significant oversight and involvement.

“Part of that means that they need to create teams of impact specialists within their own organisations. These teams can assess impact appropriately and clarify what systems are needed to monitor their investments.”

The fraud committed by Naqvi and his inner circle at Abraaj has become the subject of a new book: The Key Man, by WSJ journalists Will Louch and Simon Clark.

It is fundamentally a story about greed. As the authors say: “The real purpose of Abraaj was to pay fat salaries and bonuses to its executives.” But it’s also a story about how slick storytelling, showmanship, and moving in the right circles can perpetuate lies and conceal outright fraud for years.

In the last decade, “impact investing” has moved to the centre of global finance and investing, and Naqvi did too. “Impact” was his lodestar, or so the story went.

“Too much of what [the finance industry does] is driven by short-term thinking, short-term gain, instant gratification,” he told an audience in Oxford. “You can’t be driving a Range Rover through Soweto without doing something about Soweto as well.”

Global family offices, development finance organisations, and foundations chose to deploy capital into Abraaj funds, including the Gates Foundation and a string of government agencies. They believed that Abraaj was a company committed to changing the world for the better, a company with “impact” and “stakeholder capitalism” in its DNA.

Jacqueline Musiitwa

An outspoken evangelist for helping the world’s poor, Naqvi vowed to operate in a transparent manner. The reality was that internal controls at Abraaj were lousy and opaque. Naqvi also enjoyed a cozy relationship with Vijay Malhotra, the head of KPMG in Dubai, Abraaj’s auditor.

Over the years, the rush to build ESG into their strategies has led some fund managers to simply adopt the right language to embellish marketing materials and fundraising roadshows.

And in their eagerness to get “impact” money out the door, some family offices exercised imperfect due diligence and maintained little ongoing oversight. Insufficient questions were asked about private equity models, and whether they would end up putting money at risk.

So, how should investors respond to these risks in the sector? Is the rush to “impact” clouding judgment and due diligence checks?

“I actually applaud the fact that we’re finally recognising that money can meet purpose,” Musiitwa argues. “The challenge though is that we are chasing the story, we are chasing trends. If you are truly mission-driven, you will take a step back and focus on your theory of change. That will be your guide.”

It is worth reflecting on the collapse of Theranos, once a $10 billion biotech startup, following fraud committed by founder Elizabeth Holmes. Investors caught out included the DeVos and Walton families, Henry Kissinger, and Rupert Murdoch.

While Holmes never positioned “impact” the way Naqvi did, the Theranos story still presents funders with important lessons. “I was awestruck at the star-studded list of political and business titans [investing in Theranos] but also curious about what these individuals knew about blood testing,” writes Jamaal Glenn, a director at Schmidt Futures, an impact investment firm. “As we would all come to learn years later, they didn’t know enough.”

Glenn believes that the issue of funders getting duped will continue as long as funder company boards remain unfit for purpose in the 21st century. “Too many of today’s corporate directors lack the relevant experiences to meaningfully oversee executive teams, spot early signs of overreach, or steward their companies through coming business challenges.”

Musiitwa agrees. “I do think that the process of board diversification should be sped up. Hopefully, a diverse board can be used as an extra check when it comes to holding companies accountable.”

That remains to be seen.

 

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