By Vanessa Rose – ESG (Environmental, Social, Governance) investing is one of the fastest-growing investment themes on the global corporate agenda with 77 per cent of institutional investors considering ESG factors “an integral part of sound investing.”
Between 2015 and 2020, ethical investing – to the extent that it can be tracked – grew tenfold. Morningstar reports that ethical ESG focused investors invested USD51 billion in ethical funds in 2020, vastly increased compared to USD5 billion in 2015. The investment world’s attitude is evolving from a negative screening approach to positive screening where investors are looking for funds with a robust ESG framework that promotes a proactive approach to making value investments that fuel the green transition and support sustainable economic models, rather than considering funds which seek only to avoid industries with unethical practices to be satisfactory for investment. This, we see, makes having ESG a critical growth factor for companies.
How to In the PE Environment
In reflection of the growing focus on ESG investing, the Cayman Islands government is now working on a legislative framework to implement ESG criteria across its financial services industry. As the jurisdiction is home to a significant number of private equity funds, the impact of ESG considerations on these structures is a crucial consideration.
Diverse groups of stakeholders, spanning investors to employees, consider the adoption and implementation of formal ESG policies the norm. In the private equity environment, responsibility for the creation, adoption, implementation, and ongoing evaluation of an ESG policy lies with the general partner. This can be challenging for general partners as there is currently limited guidance on what these policies should incorporate to ensure they adhere to effectiveness expectations while avoiding accusations of greenwashing. Further challenges come with the very specific investment nature of private equity investments, eliminating the ability to use a ‘one size fits all’ policy and a check-box approach to compliance. There is also an expectation that investor communications, the PPM and LPA, as well as management company websites, will include information on the ESG policy.
A recent survey by PwC noted the largest gaps between concern and action occurring in topics such as emerging technologies, future of work and automation and net zero – all critical in a post-pandemic environment. Meanwhile, regulated issues such as bribery and corruption, and occupational health and safety have relatively small gaps. General partners need to consider policies that will address these gaps and the perception of them.
- In the EU, the Sustainable Finance Disclosure Regulation, phase 1 March 2021, requires compliance with high level disclosure requirements.
- Sustainability risks: ESG events or conditions, such as climate change, that could impact the value of an investment.
- Principal Adverse Impacts (PAI): the negative effects an investment decision or advice might have on sustainability, such as carbon emissions and waste, diversity and inclusion, employee well-being, human rights, anti‐corruption, and anti‐bribery.
- Accurate sustainability claims: anyone marketing and promoting ESG characteristics or sustainable investments must disclose the accuracy of their statements.
Phase 2 is likely to be published sometime in 2022 and will include details on content, disclosure, and indicators.
Policy v Standards
A general partner needs to set clear and measurable objectives and put in place policies that define and guide its own practices and the incorporation of ESG factors into the investment strategy, due diligence and compliance processes of its funds. The next step is creating detailed, measurable standards around the broad policy goals. Standards make policies actionable.
Existing frameworks to consider:
Global Reporting Initiative (GRI)
The GRI framework covers topics such as environmentalism, human rights, and corruption. It rewards companies that practice healthy supply chain policies, clear communication, and mechanisms for controlling environmental emissions
The United Nations Sustainable Development Goals (SDGs)
The SDGs was adopted in 2015 to achieve a list of 17 defined goals by 2030 and is the United Nation’s manifestation of various sustainable development objectives
EU Guidelines on Reporting Climate-Related Information
Over 6,000 companies within the European Union receive these recommendations for reporting on climate-related activities.
The Task Force on Climate-related Financial Disclosures (TCFD)
The TCFD is an example of where the industry has voluntarily agreed to a set of ESG reporting standards. It largely dealt with in financial markets by the likes insurers and lenders and helps disclose opportunities and risks related to climate. TCFD has since recently been made mandatory as per the UN’s Principles for Responsible Investment.
Vanessa Rose, Fund Administration, Paget Brown Trust Company Ltd
Vanessa oversees the fund administration services team at Paget-Brown Trust Company Ltd. with responsibility for operational oversight, risk management and business development for the department. Vanessa has over 10 years’ experience in the Fund Administration industry, with extensive knowledge in private equity and hedge fund administration.
