28 September 2022

Private equity's embrace of ESG

Private equity houses are increasingly considering ESG factors when making investment decisions, writes Valentina Falicheva

Valentina FalichevaPrivate equity investors have developed a more thorough approach to assessing the ESG factors that are now playing an important role in the global economy. Indeed, there is a stronger belief that sustainability is critical to value creation.

That being said, there is a need to better understand "climate risk exposure" as a specific ESG risk, or perhaps opportunity, to build into portfolio decisions.

The World Economic Forum's white paper published in April 2022 sets out key organisational changes that the private equity industry must make to achieve "grey-to-green" transformation and create sustainable solutions through investments. The white paper acknowledges that there is no 'one-size-fits-all' approach, but suggests private equity and venture capital leaders could contribute to fighting climate change by:

  • Managing 'grey', or high-emitting assets, rather than excluding these assets completely in an attempt to decarbonise portfolios;
  • Leading, creating and implementing sustainability practices within the portfolios of assets they hold. It is suggested that this can be achieved through full-ownership models, longer investment cycles, as well as a cultural shift across organisations to include the hiring of senior professionals with relevant climate change expertise; and
  • Embracing experimentation through small-scale pilots to test and refine internal processes which target climate change, and then rolling out the successful models across other portfolio companies.

The white paper also outlines opportunities for the private equity and venture capital industry to create value by implementing sustainability actions that can protect revenue, increase revenue or reduce costs, and as such, have directly quantifiable profit and loss (P&L) impacts. The implication being that taking such positive steps to address climate issues will lead to additional premiums at exit.

The above reflects PwC's State of Climate Tech report, which explains that ESG factors are of increasing importance to influential private equity houses. In particular, climate tech investment has shown very strong growth – over 200% growth in the first half of 2021 compared with the previous 12 months.

It is especially heartening to note that the UK has embraced this opportunity, with London being listed as one of the top five hubs for climate tech (along with New York, Boston, San Francisco and Berlin).

"News of a £100 million Planet Fund for start-ups developing climate-related technology has shone a spotlight on the UK tech sector"

The UK government's continuing commitment to meeting the world's decarbonisation challenge can be demonstrated by the ambitious 10 Point Plan on carbon capture, usage and storage that aims to mobilise £42 billion ($50 billion) of private investment by 2030 and paves the way for a green industrial revolution. As part of this plan, the UK government has provided about £7 million of funding in ground-breaking space technology to tackle climate change and predict disasters using satellites.

In addition to the above positive developments, the news that the British media group Sky is to back a £100 million Planet Fund for start-ups developing climate-related technology has shone a spotlight on the UK tech sector.

Another exciting climate change project has been launched by the new, UK-based technology investor Climate VC , founded by AI entrepreneurs and supported by an experienced advisory board (to include representatives from Greenpeace and Google). It aims to make a "gigatonne scale impact on climate change" by investing £35 million into carbon-reducing start-ups with the potential to collectively remove or replace one billion tonnes of greenhouse gases over a decade.

It recently invested in the renewable energy start-up Global OTEC, which utilises the temperature difference between warm surface water and cold deep water to produce electricity for tropical island nations. Another investment it made was into Tierra Foods, a company that is developing carbon-negative ingredients from under-used plants in Central America while regenerating land and restoring biodiversity.

The above demonstrates that the private equity/venture capital industry in the UK, together with its government, is embracing ESG investments, and climate tech in particular, and sees ESG as a fundamental driver of value.

It is a very welcome and long-awaited positive change, which also provides the opportunity for the UK to strengthen its position as a hub for climate tech investments.

Valentina Falicheva is a corporate lawyer at London-based law firm Collyer Bristow.


Collyer Bristow