Technology-led activation of CDFIs to enable social impact

CDFIs and impact investing strategies

Interest is mounting, and a number of very large FIs have made multimillion-dollar grants and financing available to CDFIs. With a broad spectrum of capital investments, one FI recently announced a US$50 million community finance innovation fund, while another large FI is delivering over US$500 million in community financing.

Foundations and institutional investors that want to make an impact by directly investing in their communities as part of their growing environmental, social and governance (ESG) principles and investment strategies are finding investing in CDFIs attractive, as they can deflect financial risk by spreading investments over a diversified portfolio of loans, as well as monitor and manage risk and hold loan reserves.

Some of the world’s largest wealth and asset managers have also increased focus and attention on their impact agenda, with initiatives that include the buildout and further refinement of corporate social responsibility programs; innovative financing structures; and ESG and impact investing products, offerings and education. Given the broad umbrella that these initiatives span, it is often necessary for FIs to partner and align across their organization’s compliance, trading, operations, legal, marketing and distribution functions.

In addition, interest in CDFIs has expanded beyond FIs to include big tech. For example, in 2020, a large social media company invested US$100 million in the Opportunity Finance Network’s (OFN) new Finance Justice Fund to help close the racial wealth gap and accelerate the work of OFN member CDFIs serving rural, urban and native communities.

Measuring the impact of funding CDFIs

Increased public scrutiny for transparency and accountability has made it vital for FIs to measure the impact of the funding that they have disbursed/are disbursing through their philanthropic foundations and equity investments in CDFIs.

Although it is a challenging task, impact measurement begins with defining the positive social, economic and environmental impact that a CDFI seeks to create. Measurement can be accomplished by developing a framework that shows the intended relationships between investments and results. For example, a framework that shows that, if certain resources are available for a program, then the activities can be implemented; and if the activities are implemented effectively, then certain outputs and outcomes are the results or changes that occur from participation in a program. The outputs/data can be collected, compared and tracked against baseline data; they can be used to demonstrate the impact of the community programs that the CDFI is supporting and be subsequently reported out to investors and the public.

Common data and activation challenges

Advancing technologies are fundamental for CDFIs to increase efficiencies, better serve clients, and monitor financial and social impact. In the last few years, increased demand for services has fueled an industry call to start transforming the technology landscape to meet the expanding CDFI market.

Technologies designed for mainstream financial institutions do not meet the specific needs of CDFIs. Even customized solutions for the industry offer limited options or cannot be utilized for all phases of the lending cycle, including document storage, loan origination,  underwriting, closing, servicing loans and monitoring impact. Additionally, the cost to implement new technologies has historically been too high for these organizations that prioritize raising capital and supporting their operations.

To meet their technology needs, CDFIs have implemented a wide range of systems and technologies for accounting, loan management, impact measurement and customer relationship management. In 2017, OFN published a survey, CDFI Loan Fund Technology Landscape, with the findings showing that common software packages utilized by CDFIs include “loan management systems geared toward community development finance, customized spreadsheets and databases, and popular mainstream software packages, such as Excel, QuickBooks and Salesforce.”

In addition, when the pandemic took hold, the need for CDFIs to invest in new technologies became urgent, as they faced an increased demand to disburse emergency Paycheck Protection Program (PPP) loans to small business and improve their lending capabilities. Technologies that they utilized could not support these programs, and, in many cases, PPP applications had to be handled manually, with some organizations not having the capacity to effectively provide these emergency loans.

To assist CDFIs with their mission, some technology companies are stepping in to help. In 2020, a large FinTech, in partnership with a big tech firm, committed to bringing low-cost technology solutions to CDFIs to improve customer onboarding and support digital transactions. And, in 2022, another big tech firm invested US$4 million for OFN to launch a new “CDFI Technology Grant program,” aimed at supporting investment in technology innovations. At present, some CDFIs have started their technology transformation journeys toward more robust loan management systems, integrated systems, enhanced analytics, trend identification, workflow automation and impact monitoring. However, the technology transformation revamping journey has just begun for these organizations, providing impact investors with the opportunity to support an industry at the beginning of its transformation that aligns with their own mission and values.⁴