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Private Equity ESG reporting – demonstrate value to investors

Through improved ESG management and reporting, Private Equity firms have an opportunity to identify and realise additional value across the investment cycle and communicate this more effectively to investors.

Through improved ESG management and reporting, Private Equity firms have an opportunity to identify and realise additional value across the investment cycle and communicate this more effectively to investors.

Investors are increasingly recognising the role of good environmental, social and governance (ESG) management in investment performance and are therefore looking for more, and better, information from their asset managers on these issues.

However, too many investment managers do not provide ESG information in a way that clearly communicates how key ESG issues relate to strategy, value creation and risk. As a result they are missing an opportunity to demonstrate how they are adding value to their portfolio.

This is particularly important for Private Equity, where longer ownership cycles than other asset classes mean a greater opportunity to identify and realise this value.

Ensuring ESG strategy is aligned with value creation and providing clear, comparable and reliable information to investors will improve fund performance and ensure that a fund doesn’t just report, but effectively communicates how they manage risk and add value.

Investors are looking for ESG information

Investors in private equity are increasingly including ESG issues in investment decision making and are asking harder questions of PE fund managers about ESG management at the portfolio and investee company level.

Where the key ESG issues for an investment are understood, the opportunities for value creation in the short and long- term become clearer and any related risks are more easily identified. This allows for more accurate initial valuation and a greater insight into the opportunities for value creation. Asking investee company management to report on a regular basis, and effective reporting by fund managers, will ensure more effective management of these issues.

In order to ensure these issues are properly considered, many asset owners have developed in-house specialist teams to assess the ESG performance of potential and existing investments. There has also been a significant increase in the number of investors that have signed up to the UN Principles for Responsible Investment (UNPRI) and the requirements of this will filter down to asset managers.

Most General Partners are not providing ESG information to investors in the right way

ESG reporting remains relatively new for much of the PE sector although some firms, like Permira and Actis, have been leading the way in reporting on ESG issues.

A good report should outline investment strategy in relation to ESG, as well as identifying the ESG issues that are material at the portfolio and investee company levels. This would include their relationship with corporate strategy, short and long- term value creation and risk management.

According to a recent report from the UNPRI, the quality of ESG reporting needs to improve. Most reports don’t provide historic or future trends, and the figures reported are often difficult to compare year on year and between companies. Calculation methodologies for metrics can be ambiguous and the scope of reporting can be unclear. Furthermore, ESG reporting is often only completed on an annual basis and is backwards looking, reporting what has happened in the past 12 months.

This may be because many funds haven’t yet implemented holistic ESG strategies at the fund and investee company level, or that reporting is still in its infancy. Either way, PE firms have an opportunity to identify and realise additional value across the investment cycle and communicate this more effectively to investors.

Don’t just report: Communicate

Historically, ESG issues have been managed in isolation from other drivers of performance and often in reaction to specific incidents or requests for information. ESG reporting has also followed a similar route, often being produced on an ad hoc basis, without any strategic context or comparative data.

This, however, is starting to change. Alongside a move towards integrated reporting in the corporate space, both investors and asset managers are now starting to consider ESG issues in the context of financial performance.  In doing so, firms need to develop a rigorous approach to ESG management across the whole investment cycle and articulate how the process adds value.

It is important to understand what the material issues are for each investment on a risk and opportunity basis, delineate these from the issues that may be raised by investors, and explain how each is being managed.

Using a robust reporting framework, such as the newly released GRI G4 or the UNPRI, will provide a solid platform to ensure that information is complete, material and comparable. Equally, it is important that the report presents the information in the best possible way so that it is timely, relevant and accessible to users. The output from the UNPRI for example may be information rich, but it does not necessarily highlight the key messages you may wish to communicate to investors.

To report effectively, it is important to provide a compelling narrative on the ways that ESG management is adding value across the investment cycle, backed up with robust, comparable quantitative data and case studies.

This way funds can ensure that they don’t just report, but communicate effectively to their investors how they are using ESG issues to deliver financial performance.

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