As governments and development finance institutions scale up delivery of climate finance commitments, the question of how to measure and ensure additionality becomes increasingly important.
This paper presents new methodological approaches for assessing the additionality of climate investments, developed by Climate Policy initiative (CPI) through ongoing work monitoring and evaluating the Climate Public Private Partnership (CP3). CP3 is a GBP £130m program, funded by the UK’s International Climate Finance, which invests in climate-focused private equity (PE) funds in developing countries. It has dual commercial and development objectives, and aims to demonstrate to the market that climate investment is feasible and profitable.
Although a clear definition is yet to emerge, the term “additionality” has become a key part of the climate finance lexicon in various contexts. One is in the context of commitments in climate agreements by developed countries to deliver “new and additional” resources to developing countries for measures taken to address climate change (UN, 1992). See Brown, 2010 for a discussion on this.
The other context is in terms of effectiveness. Public actors have a common desire and mandate to ensure that limited funds can bring about a transformation in the global development path to one compatible with less than 2° C of warming. Directing financial resources towards technologies and business models where the private sector is already investing at the scale needed is not effective. Limited public investments should be invested in transformative initiatives that have the potential to deploy new technologies, reach new markets, and leverage additional private investment.
The concept of additionality is easy to understand, but difficult to apply and measure. Assessing the additionality of CP3’s investments required us to create a tailored framework to examine the roles that the program played, and the contexts in which it invested in order to make a determination on the likelihood of additionality.
One particular focus was the commercial nature of CP3. The business case centers on the theory that by undertaking investments in commercial terms and proving that climate investments can be profitable, it could encourage the private sector to develop and invest. However, economic theory tells us that, in an efficient market where market returns are available, private investors would already be available to undertake these investments begging the question, “Can a program that achieves commercial returns be additional?”
This paper shows two approaches used to examine the question of additionality for CP3. One approach is qualitative, and uses a multi-criteria assessment (MCA) framework applied through case studies. The other is quantitative, and explores additionality through a composite index that assesses the investment environment in countries where investments took place. These approaches have different aims and are complementary, allowing evaluators the ability to assess the additionality of specific investments and also undertake portfolio-level assessments.
Key findings at a glance:
- The methodological framework in this paper provides a way to assess the additionality of climate investments through private equity. With some adjustment, it can also be applied to other types of finance.
- Conceptually, the framework is based on the assumption that an investment is additional if it represents a deviation from a business-as-usual scenario.
- The degree of deviation is assessed by exploring the barriers to overcome, and the roles played in overcoming them.
- An investor can demonstrate additionality by crowding in private finance, increasing a venture’s access to finance, showcasing new technologies or business models to a market, and raising the environmental and social standards of a venture.
- Higher return expectations and risk appetite mean private equity funds tend to target markets and sectors where investments are more likely to be additional. Development finance providers can continue to explore private equity as one of a mix of instruments to deliver on their goals.