John Hodges, Director, Financial Services, BSR
A few weeks ago, I moderated a panel on environmental, social, and governance (ESG) integration in private equity at the Responsible Investor Europe Conference in London. This panel, and other discussions, highlighted the lack of consensus among investors on where the private equity industry is when it comes to sustainability.
I would advocate that the industry is “definitely somewhere.” This may sound a bit flippant, but a decade earlier, the answer to the question on how far the industry has come on sustainability could have been “definitely nowhere.” Unfortunately, much of the progress private equity has made is hard for the public to see because of the industry's confidential nature.
It is true that some companies have made initial public steps. Blackstone, Carlyle, and KKR, among other major private equity firms, have established ESG teams in recent years. Some firms’ websites now include basic ESG sections, and a few publish regular sustainability reports. When firms discuss ESG publicly, they often focus on their due diligence processes and assistance to portfolio companies on specific ESG topics, such as energy efficiency. In addition, private equity colleagues will tell you that a lot more is happening behind the scenes.
External guidance to the industry, such as the UN Principles for Responsible Investment-led ESG Disclosure Framework for Private Equity, has focused on best practices in ESG disclosure to limited partners (i.e. investors). The largest of these limited partners are corporate and public pension funds—many of which strongly support responsible investing. While important, limited partners are too often the sole focus for ESG disclosure, which is almost always shared with them confidentially.
Private equity firms typically own a controlling interest in their portfolio companies and therefore have tremendous influence on how these companies operate. Furthermore, many portfolio companies are well-known brands, such as Burger King, Dell, GoDaddy, Hertz, J. Crew, and Toys “R” Us, and come from industries with significant ESG impacts, such as consumer products, energy, information technology, and manufacturing. More than 17,000 U.S. companies are backed by private equity, employing about 5 percent of the total U.S. workforce. Yet, ESG disclosure by private equity portfolio companies is usually poor as well.
These portfolio companies have diverse stakeholders—employees, customers, suppliers, and communities—who are affected by their ESG performance. However, given the limited public disclosure by both the portfolio companies and their private equity owners, these stakeholders are unable to make an informed assessment of how well these companies are managing their sustainability impacts. This can lead to stakeholders assuming the worst.
Speakers and attendees at the Responsible Investor Conference underlined that until private equity firms fully disclose ESG impacts across the value chain, they will continue run the risk of negative public perception. To achieve a higher level of disclosure, I recommend that the private equity industry take three steps:
- Require that all portfolio companies have a minimum approach to ESG management and that they report publicly on their ESG efforts.
- Aggregate the real-world information that portfolio companies already disclose publicly, and use this to publish ESG reports that are useful to all stakeholders, not just limited partners.
- Use increased ESG disclosure to spur a more data-driven discussion about the industry’s beneficial ESG impacts, such as job creation, community development, and environmental preservation.
Private equity firms and their portfolio companies can have positive ESG impacts, but it is impossible for the full spectrum of their stakeholders to see them without consistent, publicly-available information on where the industry is when it comes to sustainability. As in many cases, transparency is the important first step to effective stakeholder engagement.