May 25, 2021
Alison Milman
Alison Millman is a senior in the College of Arts and Sciences studying Philosophy, Politics, and Economics with a minor in Sustainability and Environmental Management. In addition to studying environmental governance and novel approaches to social impact, she participated in the Risk Center’s Undergraduate Fellowship this year and gained exposure to important risk management, climate mitigation, and adaptation concepts and leaders.
As cities face the rising economic, financial, and social costs of climate change and extreme weather events, the pressure to develop creative strategies to increase resilience and infrastructure is building. The city of Washington DC’s Environmental Impact Bond (EIB) offering, the first of its kind within the United States, presents a new blueprint for capitalizing municipal resilience projects while better managing the risk associated with severe storms and flooding. This EIB, offered by the DC Water and Sewer Authority in 2016, is designed to allow the city to lower the risk associated with green infrastructure projects and facilitate construction of new stormwater management projects. One particular innovation in the structure of the bond allows a sharing of performance risk by linking the success of the stormwater management system to the payment amounts made to investors.
We spoke to Benjamin Cohen, Director of the DC-based capital firm Quantified Ventures, to learn more about the bond and Quantified Venture’s role in supporting the execution of the EIB. This interview has been edited and condensed.
Can you tell us a bit about the goals of Quantified Ventures?
Quantified Ventures is an outcomes-based capital firm. We enable governments, corporations, and health systems to purchase validated outcomes associated with the results they want to achieve instead of having to pay for programs, practices, and processes that may not produce intended outcomes. The outcomes-based approach drives additional environmental, social, and health impact by ensuring all partners to the transaction align on desired results, and through enhanced accountability associated with measurement and reporting of results. Our goal is to make ‘pay for success’ normal and boring.
Quantified Ventures has successfully developed innovative, replicable, and scalable outcomes-based financing models, including the Environmental Impact Bond and the Health Outcomes Fund. Our goal is to drive better outcomes for people and the planet by continuing to develop novel financial structures, scaling nascent models, and replicating the transactions we have already pioneered with necessary adaptation to the local context.
The DC Impact Bond is one of the more novel approaches to improving municipal climate resilience. Could you tell us a bit about it and explain why Washington, DC decided to go for this more innovative approach?
In 2016, DC Water pioneered the Environmental Impact Bond (EIB) market with a transaction designed to address three significant challenges:
- The District needed to reduce combined sewer overflows (CSOs) and pollution in local waterways.
- The District wanted to improve infrastructure-related decision making by rigorously and transparently measuring green infrastructure project outcomes.
- DC Water wanted to attract new sources of capital that were aligned with its mission.
The District had already made significant investments in gray infrastructure tunnels to manage stormwater and reduce combined sewer overflows and pollution. DC Water had an interest in nature-based solutions and green infrastructure, though these solutions did not have a track record and were of greater risk.
The EIB enabled the District to turn interest into action by financing nature-based green infrastructure projects, sharing some of the risk with investors, and ensuring the green infrastructure performance was predicted, measured, and reported on to improve future infrastructure projects.
Some governments see these types of bonds as more risky than other approaches and might be wary to attempt a project like the DC Environmental Impact Bond. Do you believe there were any unique conditions that led to the window of opportunity for this project (i.e., DC’s politics at the time, the risk profile of the city, news coverage of the issue of CSOs in DC, etc.)?
The District and DC Water had several attributes that made this the ideal candidate for the first Environmental Impact Bond. DC Water’s then-general manager, George Hawkins, was willing to innovate and was attracted to the positive externalities – public health, environmental, and workforce development benefits – associated with the green infrastructure alternative. The utility’s CFO, Mark Kim, understood the importance of sharing a portion of the performance risk of the green infrastructure with investors, making it a rational choice for the District to select innovation over the “safer” gray infrastructure option.
DC Water also has an organizational culture that is eager and willing to innovate at all levels, and a comfort with accountability and with blazing new trails in the municipal bond market. It is never easy to be a pioneer, and this is especially true in the municipal bond sector. DC Water opened the door. Since then, Quantified Ventures has been pleased to work with several other cities willing to be among the first movers on Environmental Impact Bonds.
Your environmental impact work at Quantified Ventures seems to focus on leveraging the financial market to transfer risk and provide capital for resilience projects (for example, the Wetlands Environmental Impact Bond and the Coastal Flooding Bond in Virginia). How did your team approach your first impact bond projects?
Quantified Ventures anchors our financial structuring work on three pillars:
- Keep it simple. This is very difficult to do with complex financial transactions that involve the prediction, measurement, and reporting of outcomes and often incorporate novel approaches without a long track record. We seek to improve the status quo, not perfection.
- Maintain low transaction costs. This will enable and encourage replication.
- Work backwards from the capital markets. We structure transactions that are familiar and attractive to investors.
One of the most interesting features of this bond is its linking of returns to the performance of the stormwater management system (the ‘Pay for Success’ model). Were investors supportive of this conditional payment system, even if it might threaten the amount of their returns? How has the performance of the bond and the stormwater management system changed or reinforced opinions on the Pay for Success model?
Investor interest in the DC Water Environmental Impact Bond was very high. Given its first-of-a-kind nature, the DC Water EIB was issued through a private placement with two investors – Calvert Impact Capital and Goldman Sachs Urban Investment Group – who had goals and values aligned with those of the District, including a desire to be more outcomes focused. The upside and downside risks were symmetrical, which enabled investors to quickly gain comfort with this three-tiered performance EIB model.
We have subsequently closed transactions in Atlanta and Hampton, VA, and have EIBs in the works in Buffalo and Memphis. These EIBs have opened up other sectors (e.g., agriculture, forestry, coastal resilience) to explore Pay for Success models with Quantified Ventures, thus significantly expanding the environmental applications of outcomes-based financing.
How can other municipalities and governments emulate the successful development of a bond like this one?
Municipalities that welcome innovation, accountability, and quantifiable approaches to resilience are strong candidates for outcomes-based financing. We increasingly see opportunities to pursue novel financing approaches for projects at the intersection of resilience, climate, and health. Quantified Ventures continues to seek out opportunities to transpose our models and methods to address new initiatives, such as ocean marine protected areas and land-based biodiversity initiatives.
And we continue to advance the Environmental Impact Bond model. We have worked through most of the challenges associated with Environmental Impact Bonds and can implement them with issuers quite efficiently. We have developed templated frameworks for Environmental, Social, and Governance (ESG) bond technical documentation, outcome quantification methodologies, and bond disclosure that streamline the development of EIBs. We welcome the opportunity to engage municipalities and governments who are practical optimists, like us, in conversations about what we can accomplish when we are willing to push beyond the status quo.