In today’s economy, consumers are increasingly aware of how their investments – large and small – will impact the lives of their children and grandchildren. The environmental, social and governmental (ESG) returns on our investments are becoming as important as financial returns. Mirroring individual investment at a much grander scale, private equity (PE) investors are grappling with a similar sense of increased urgency to include ESG considerations as part of their portfolio building efforts. Gone are the days of making top and bottom line deals. PE is trending away from its dark days of quick turnaround investments; those with little to no research on ESG impacts; with demand for responsible investing at an all time high. The fact remains, however, that is PE could be doing more to ensure it is protecting the environment and tracking progress made.
A 2012 PwC survey of the PE industry found that 94 percent of respondents believed that ESG activities could create value. However, that same survey found that 47 percent of PE houses did not publicly report on their ESG programs or their responsible investing strategies, and 50 percent did not have policies guiding ESG and responsible investing. So where does that leave us as PE investors committed to environmental protection? PE must go back to basics and consider the following in the coming year:
- Creating partnerships with environmental experts. As PE investors, our experience rests more in understanding the financial risks of investing, and less in the full picture of long-term environment impact. The tendency for PE houses to be lean in their staffing means we must find experts – academics, advocates and researchers – that can help guide our investment strategies. A gold star star example of this kind can be found in the Carlyle Group’s partnership with the Environment Defense Fund. The two agencies, along with a third party consulting firm, created the EcoValuScreen, a framework which helps PE professionals understand where environmental liabilities and opportunities can be found within potential investments
- Designing specific, guiding investment practices that are focused on environmental responsibility. Adopting a systematic approach to environmentally sound investing can prevent the tendency to fall back on old-school, bottom dollar practices when making investments. When talking about motivations for social and environmental impact, David Hutchinson, the former head of UK investment banking at Dresdner Kleinwort, who now runs Social Finance, a non-profit “set up to improve third sector access to private financing,” told The Guardian that, “what you need to find is
capital that values the social impact being delivered and doesn’t just tolerate it. [This] is more than an extension of philanthropy.” To be clear, a first strong showing of commitment to ESG investing could begin with PE firms signing the United Nations’ Principles for Responsible Investing (PRI). Launched in April 2006, the PRI is an independent set of guidelines that encourages investors to invest responsibly to enhance and manage its ESG risks. There are currently about 1,800 signatories to the PRI.
- Assign financial value to environmental outcomes. It’s important to note that given the four to six year shelf lives of PE investments, it can be difficult to assign value to, track and share longer-term impacts on the environment. PwC found that with enough data, it is possible to establish “a link between ESG activities and intangible value.” To offer support in both assigning financial value to ESG factors and to share examples of PE ESG efforts, the INSEAD Global Private Equity Initiative released a report in 2014 for PE professionals interested in developing their own ESG policy frameworks. The report also case study-like overviews of PE firms and their portfolio companies who are sharing the responsibility of managing ESG considerations.