Five Key Takeaways From the Private Equity International Responsible Investment Forum Europe 2024

Sidley joined recognised private market leaders in sustainability for two days at Private Equity International’s Responsible Investment Forum (Europe) in London on 20-21 November 2024, engaging in conversations with institutional investors, asset managers, and advisers. Below are the top five takeaways from the event.

1. Don’t be fazed by a changing U.S. administration.

Several speakers at the Forum commented on the growth of anti-ESG sentiments in recent years. Some firms that were once eager to highlight their ESG credentials have scaled back their ESG-related disclosures or rebranded ESG, while others have become less vocal about ESG to avoid being on the wrong side of a greenwashing accusation. Following former President Donald Trump’s victory in the U.S. presidential election, it is expected that more asset management businesses may pivot away from ESG.

However, sustainability leaders believe that ESG will remain a relevant topic in private markets because the underlying principles of ESG align closely with the core tenets of a healthy business. Efficiently using resources, ensuring health and safety, and maintaining good governance all contribute to a business’s overall health and its ability to generate returns. The latest Deloitte and Tufts study (2024)¹ found that despite highly visible anti-ESG campaigns in the U.S., 83% of surveyed investors incorporate sustainability information into their fundamental analysis, and 79% have sustainability policies in place.

Takeaway: The market may well remain unfazed by the new U.S. administration. ESG will continue to be a core part of a steady, long-term transition towards a sustainable economy.

2. The ESG Data Convergence Initiative (EDCI) means that the sharing and comparability of ESG data has never been easier.

One of the main issues general partners (GPs) and limited partners (LPs) face is with regards to ESG data. The EDCI was launched by a consortium of GPs and LPs in 2021. It is a voluntary framework that seeks to standardise ESG reporting. The data collected allows GPs and portfolio companies to benchmark their current position and assess progress towards sustainability improvements while enabling greater transparency and more comparable portfolio information for LPs. The EDCI has been hailed as a “game changer” for ESG in private equity (PE), and more than 450 major GPs and LPs have already joined the initiative. However, the EDCI still has room for improvement — one speaker said that often additional data and metrics need to be added to provide more rounded ESG reporting, so it is not a “silver bullet.” Nevertheless, it is driving productive conversations between GPs and LPs.

Takeaway: EDCI has promoted the adoption of a set standard of ESG metrics and has provided greater transparency and more comparable portfolio information for LPs. However, it is not perfect. While progress has been made, there is a lot still to be done.

3. ESG is a key pillar in value creation.

Many speakers explained how integrating sustainability strategies has generated value for private market investors. A global investor in sustainable infrastructure said, “Sustainability adds value by increasing the buyer pool, and competition leads to outsized returns.” Despite the difficulty in quantifying the premium associated with sustainability and ESG metrics, one speaker said that an investment bank once claimed that there was a 0.5-1x premium over the competition if the business had an ESG halo. Another speaker said that their consultants claimed that it could increase EBITDA by 3% to 4%. As one asset manager tried to explain: “Instead of a number, consider this — the more you can show excellence, absence of negatives, you will have more competitive attention; the value of the company can only go up.” Conversely, those companies that did nothing on the sustainability side suffered upon exit.

Takeaway: ESG is not only a risk mitigation tool; it is also a value creation lever.

4. How can firms foster internal alignment and integrate sustainability into fundamental business operations?

ESG generally becomes a focus due to a confluence of pressures: (i) LP pressure in a challenging fundraising environment, (ii) negative incidents or issues with regulators, and/or (iii) pressure from employees and customers. The integration of sustainability into business operations is often a collaborative effort. One speaker said that when their firm decided to recategorise their flagship pan-European PE fund as an Article 8 fund under the Sustainable Finance Disclosure Regulation (SFDR), several partners came together to create a task force, devise a methodology and educate the firm on what it meant to integrate sustainability into business operations. By revisiting the firm’s mission (i.e., creating value for stakeholders), they were able to conclude that the PE firm could deliver on the mission only if they integrated good ESG practices. However, there can be challenges. Whose job is it to demonstrate ESG efforts? In a resource-constrained team, it can be difficult for firms to deal with legal and compliance as well as ESG.

When approaching management teams about ESG, it may be more effective to reframe it as a discussion around sustainability-related value creation opportunities. Most people understand the need for better long-term returns, better protection from risks, operational efficiency, good governance, paying employees well, and having responsible supply chains. One speaker posited that linking key performance indicators (KPIs) to the management team’s compensation would also be an effective way of incentivising the management team to focus on ESG issues. Additionally, having good Chief Sustainability Officers leading work on ESG at the portfolio-company level can make a big difference.

Takeaway: To foster internal alignment and engage key stakeholders effectively, firms need to know their audience and speak their language. Management teams need to see the value in these ESG initiatives. Reframing ESG as a discussion around driving efficiencies and bringing value is a good starting point.

5. PE firms now have a number of tools they can use to align with net zero.

• PMDR: The Private Markets Decarbonisation Roadmap (PMDR) was launched in November 2023 by the initiative Climate International (iCI) as a methodology for PE firms to start on their net zero journey. A speaker described the PMDR as “the de facto framework for decarbonisation.” Since its launch, the PMDR has been widely adopted and engaged with across private markets and has been downloaded 15,000 times. It is typically used in LP communications and annual reports. PMDR is easy to use and fill in — one speaker said it took as little as 10 minutes. PMDR 2.0 was released on 20 November 2024, addressing key insights and feedback from stakeholders, including further asset-class-specific considerations for growth, venture capital, and real estate. For PE firms that have not started on their net zero journey, PMDR allows them look past abstract numbers and understand the actual steps they need to take to engage with the portfolio to progress towards net zero.
• ESG KPIs: These numeric indicators are used to measure how well a company is doing in terms of its sustainability and ethical performance in different areas (e.g., size of the company’s carbon footprint, how effectively it manages its waste). KPIs offer a clear framework that enables companies to track their path towards sustainability goals and bring about transparency to LPs. When deciding on KPIs as part of business sustainable development goals, PE firms should consider global frameworks such as Global Reporting Initiative, United Nations Sustainable Development Goals, and the Paris Agreement 2015.
• SBTi: The Science Based Target initiative (SBTi) provides guidance in emissions reductions and net zero targets in line with climate science. SBTi is there for PE firms who want to validate and add credibility to targets along the way; it is the gold standard of target initiatives.

Takeaway: The private markets sector now has a platform to drive accelerated action toward net zero alignment.

¹ Joint research conducted by Deloitte & Touche LLP and The Fletcher School at Tufts University (March 2024): Investor trust in sustainability data; An opportunity for corporate leaders.