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From niche to mainstream: ESG in private markets

02 December 2020

With a growing spotlight on environmental, social and governance factors (ESG) in investing comes a set of regulatory and data challenges that private equity firms must face imminently in order to keep pace with the market. To discuss these challenges and the appropriate solutions with the media, Apex Group invited an expert panel to join its recent webinar, ‘ESG in private markets: from nice-to-have niche to must-have mainstream’.

Read Private Funds CFO coverage of the webinar here

ESG has reached the mainstream

Though ESG has been increasing in profile over many years, the focus in the past has largely been on purely environmental factors and risks. This year, world events have driven much higher awareness of social and governance factors, which now share equal prominence.

“The level of awareness has been escalated by the pandemic,” asserted our expert panellist, Alex Rhodes, Head of Mishcon Purpose at Mishcon de Reya. “Everybody is looking at their businesses, how they’re structured and how they’re run. How do you reshape your business, so that it is fit for purpose for the recovery coming out of this crisis?”

It is questions like this that demand urgent answers not just from the companies themselves but also from private market investors. Rhodes summarised the important function that investors play in driving the ESG agenda, saying, “The role of the financial services sector has been around the deployment of capital and the allocation of capital. The investment sector has been a major driver for setting standards and driving change in corporate behaviour.”

Four ESG data challenges in private equity

In fulfilling this crucial role, there are numerous challenges for a private equity fund. Andrew Pitts-Tucker, Managing Director at Apex ESG Ratings & Advisory, identified four specifically: “Firstly, there are a huge number of global standards. There are a lot of people vying for their position as best-in-class, there are many stakeholders using different ESG approaches and posing different data demands.” A fund might need to report on ESG to 20 different stakeholders but, ideally, will want to produce one report that can satisfy all of their criteria. 

The second challenge is data collection’. Pitts-Tucker described companies currently holding ESG data in everything from Word documents to physical lever arch files, where it is near impossible to use and compare meaningfully. As a solution, he said, “A system which allows you to collect data in a more user-friendly format is crucial.”

Once this challenge has been addressed, the next he identified is the question of, “Once we’ve got the data, how do we turn it into meaningful action, so we can work with our companies to make them better organisations for people and the planet?” It is in answering this question that firms can move their ESG activities beyond a box-ticking exercise.

This leads to the fourth challenge, of avoiding ‘greenwashing’ or purpose washing. Pitts-Tucker posed the question, “How do we ensure to our stakeholders and to the public that we’re not just doing something because it looks good? We want to really show them that we mean what we say.” This takes time and commitment, he says.

Keeping pace with regulatory developments

An important piece of legislation that many firms will be anticipating is Regulation (EU) 2019/2088 on Sustainability-Related Disclosures in the Financial Services Sector, which comes into force in March 2021.

Rhodes explained to journalists, “It requires firms to make strategic business and policy decisions regarding their approach to ESG, and then for that to be disclosed on the firm’s website and in pre-contractual and periodic disclosures.”

Rhodes and Pitts-Tucker agreed that in many ways, ESG is a label for a set of long-term risks that firms have always had to recognise and manage in making investment and operational decisions. But the nature of the ESG space, which Rhodes described as “slightly encoded and noisy”, adds complexity to the task of reporting and disclosure as described above.

Rhodes had praise for numerous private equity funds that are well prepared for this incoming regulation. “There are some businesses which are really set up and focused on this, and not just from a compliance-led approach but from a purpose-led approach, in the way they decide to do their business in every regard.” However, he cautioned that “the bulk are nowhere near ready, both in terms of really understanding what it means and being ready to swing into gear to comply with it.”

Two steps to prepare for regulation changes

Rhodes recommended two crucial steps for firms to prepare for the change in regulation. The first is for private equity investors to adjust their collective mindset to a new approach. This involves “getting your head around new concepts, for example, the concept of sustainability risk, which is defined as an ESG event or condition that, if it occurs, could cause an actual or potential material negative impact on the value of an investment.” For firms not yet operating with that in mind, it’s a significant shift in priorities, which needs to come from the top, and, Rhodes said, “there’s this new thinking that really needs to be worked through at a senior level.”

Rhodes’ second recommendation is a review of “the resource that companies need to allocate and the systems that they need to get on board”, which can sometimes be underestimated. “They will have to collate accurate and comprehensive information, not only on existing portfolio companies but also on ones that they want to invest in,” he continued, which can come with a substantial increase in workload and technological requirements. A helpful solution he suggested is “a platform that allows companies, in a cogent way, to prepare for the obligations as they’re coming in.”

Apex ESG Ratings

Apex ESG Ratings was launched to satisfy the growing demand for an ESG data collection and reporting tool that meets the needs of the private market sector. The product aims to be a catalyst for behavioural change in the investment process by delivering ESG data in an efficient and usable format. 

To understand more about how this can benefit your organisation and not just meet your regulatory obligations but drive meaningful action, get in touch with our ESG experts today.


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