Additionality is an annoying word. Like most annoying words, it has two fundamental traits:
- It is impossible to say it without sounding like a tool; and
- There is no other word you can use in its place
Additionality is a term that I believe was first widely used in the carbon markets. It describes the concept of specific attributable added benefit of doing something versus not doing that thing. In the carbon markets this is very important as they are assigning monetary value to projects based on the specific calculable carbon impact of the funded activities.
Let's use a simple example. Say you need a fence, and I have some money with which to help that fence get built. Consider three options:
- Let's say you are the least handy person in the world, so I hire a carpenter to come build that fence for you. This has has clear additionality. We can determine with reasonable certainty that I helped you build that fence and we can calculate with some accuracy. Thanks, Pat! No problem, hypothetical fence needer!
- Let's say you are kind of handy, so I spend the same money to hire a policy institute to write a white paper on ways you could build your own fence and send you that report before you started. The additionality of this act is much hazier. Could you have built the fence without it? Is it in some way a demonstrably better fence for having been informed by my study? Some of this depends on how well you would have built it without the study, which is hard to know after the fact.
- Now let's say you already built the fence, and I come by afterward with some pizzas I bought with that money and applaud your fence building prowess. This has no additionality. The fence is already built, and no pizza party, no matter how awesome, is going to make it more-built.
The concept of additionality doesn’t work perfectly for everything: as you can see field building grants do poorly versus direct programmatic support, but it is generally a good way to weigh the relevant merits of different ways of spending your money. High additionality? Good. Hazy additionality? Let’s keep talking. No additionality? Get lost. Simple, right? But there is a point that some people don't get.
You Can Invest Money in a Project that Demonstrates Additionality and Still Have an Investment with ZERO Additionality
Maybe you are rolling your eyes at how obvious this is, but it is a concept that seems to blow past many people, especially with regard to impact investing. Let’s consider another hypothetical, this time an impact investment. Let’s say you care about increasing the supply of affordable housing in your home town of Cheboygan, and you have a million bucks burning a hole in your pocket. You can do one of three things with that money- build, buy or lend.
- Build - You use your own money, blood, sweat and tears to plan and build a 12 unit affordable housing complex on a site that no one else was interested in developing. Additionality is clear. There are 12 more units of affordable housing in Cheboygan than there would have been otherwise. Good work! Cheboygan thanks you!
- Buy - You buy an existing 12 unit low income apartment building (and let’s say for now that there were 2 other willing buyers who were going to maintain its affordability) Even though your money is now invested in affordable housing, nothing has happened to change the supply in Cheboygan. Zero additionality.
- Lend - You provide a construction loan to someone who is building a 12 unit building. Does this have additionality? Here’s where it gets tricky. If you were the only person willing to lend her the money, so the project wouldn’t have happened without your loan, pat your self on the back! Additionality! Or, if you lend to her at a below market rate that allows her to build 12 units instead of 8, give yourself a gold star! You have achieved additionality! (You may have also made a crummy investment if all the other lenders knew something you didn't, but hold that thought for now.) Now, let’s say instead you are a prudent lender and you are willing to lend her the money, but at the same rate and terms as two other local banks. She likes you and you like her, so she decides to take the loan from you. Congratulations, you have now invested in affordable housing, BUT . . . . no additionality. If you got hit by a bus on the way to closing the deal, she would take the same financing from one of those two other banks, build the same apartment building and charge the same rent. Her project has additionality (she created 12 units of housing for Cheboygan that would have not otherwise existed) but your investment has created no additional impact.
If you want clear additionality, invest in projects that wouldn’t happen without you and/or provide your investment on better terms than others are willing to provide. Easy peasy Alouisey, as we say in Cheboygan. But what if you have been tasked with producing a “market rate” of return as well? Why didn't anyone else want to lend her the money?
That’s my cliff hanger. And, um, sorry there wasn’t more profanity.