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Private equity firms and the importance of committing to ESG investment

27 October 2020

Increasingly, PE firms have to prove that their policies at least match environmental, social and governance (ESG) criteria set out by Limited partners (LPs), some of whom have been at the forefront of ESG investment for several years. Some PE firms risk falling behind as comprehensive ESG rises up investors’ agendas, according to research.

What does the research tell us?

The majority of private equity firms are now making solid progress in making their portfolio of investments more responsible from an ESG perspective:

  • Almost two thirds (63%) of UK private equity firms now take into account ESG principles in their investments
  • 57% of PE firms clearly set out the changes they have implemented to make their investments more ESG-focused
  • 49% of PE firms are signatories of the United Nations Principles for Responsible Investment (UNPRI), the world’s most-recognised set of ESG principles
  • 48% of PE firms report in detail on the ESG impact of their investments
  • 25% of PE firms have a dedicated individual or team responsible for embedding ESG into the investment process
  • Only 29% of PE firms making a full ESG policy publicly

Why should PE houses act?

  • Attracting investment: More PE houses are aware of how having strong ESG credentials can act as a key competitive advantage. Firms that are able to demonstrate not just a commitment to ESG but data to prove the impact of their approach are now in a better position to attract investment. Investment consultants’ firms who act as ‘gatekeepers’ for institutional investors, are also paying closer attention to the ESG policies of PE firms and the substance behind those policies.
  • Performance: There is an increased understanding of how investing with an ESG lens can have a positive effect on returns. For example, there is a growing body of academic evidence suggesting that companies that prioritise ESG perform better in the long term on a number of metrics, including Return on Invested Capital ¹.
  • Attracting talent: Recent studies show that social impact policies correlates with job satisfaction. While this may not have an immediate impact on existing employees, it will become increasingly important to employees of the future. Strong ESG principles can enhance employee motivation by instilling a sense of purpose, and increase productivity overall.

Dom Stammers, Partner at BDO, says: “We suspect the next stage is that investors will not just want a commitment to ESG – they will also want tangible proof of how the private equity fund has actually delivered on that commitment.”

What should PE houses do?

  • Get started: It’s important not to be left behind and not to underestimate the attention policies such as ESG are getting currently. LP’s will soon start to notice if PE houses fall behind and are part of the third of firms not taking part.
  • Tone from the top: Ensuring that the ESG agenda is fed down through PE houses’ portfolio is vital. To write it on their agenda isn’t enough alone, portfolio companies should be able to tangibly demonstrate that they are making changes to follow ESG guidelines.
  • Embrace reporting requirements: Firms should find it helpful to use environmental KPIs to capture the link between environmental and financial performance. Updates to reporting requirements have been released to support this.

Our global team at BDO work across a number of different sectors with the skills needed to analyse your business from a number of angles, through a sustainability lens. For more information contact Dom Stammers.