7 Questions on The Future of ESG Investing with Will Chignell and Joshua Brunert

Joshua Brunert:

It’s a very mixed bag. You have some leaders out there who have acknowledged the importance of sustainable investing, both to their clients and the value it provides to their wider stakeholders. These leaders are taking the bull by the horns and achieving greater granularity in their analysis and driving change, however they are a small minority.

Recently, there’s been a majority who are waking up to the seriousness and are starting to think about how to get their ESG programs going. Particularly in their response to the regulations that are starting to emerge, and the increasing investor demand they are facing.

However, there still exists a sizeable minority that is trying to pretend ESG doesn’t exist and that it will be a fad that will go away. These firms are really in danger of falling behind the pack. Whilst even those in the middle are starting to fall behind some of those leaders. Ultimately, those who are fully integrating ESG in their investment strategy will thrive in this competitive landscape and end up benefitting the most.

Will Chignell:

On another note, the climate conference is only going to accelerate attitudes around sustainable investing, from being a nice to have to a must have.

This is driven by four factors: investor pressure, regulatory pressure, and employees forcing change from the inside out and wanting to work for purpose-driven businesses. Lastly, a general understanding that there are significant societal and environmental challenges, and that people’s value sets are being transferred to boardroom decision making. While private equity might traditionally be a little behind, we are seeing a significant acceleration towards sustainable investments.

Joshua Brunert:

The main challenges are a lack of knowledge, lack of resources, and a lack of time.

The key thing in terms of knowledge is that most private equity houses have slim operations relying solely on investment professionals. Too often, we see ESG as a secondary part of their job. This means that individuals and teams have to upskill themselves and navigate rather complicated regulators or investor requests.

In terms of resources, Apex Group often speaks to firms that simply do not have the manpower to comb through, and assess, hundreds if not thousands of ESG data points across their portfolio.

Beyond this, investors and regulators’ requests are becoming more and more frequent. Hence the reporting obligations are becoming more and more urgent.

That is why Apex Group delivers solutions that fill all three of these gaps.

Will Chignell:

Another set of challenges we see includes accurate, relevant methodology and the capability to measure your performance, versus self over time and versus sector. The United Nations 17 Sustainable Development Goals are also good indicators to measure against.

Secondly, making sure that the data is accurate. This can only happen through an intuitive tailored platform, which then supplies extremely high-quality client data. If you don’t get good data, the ‘garbage in, garbage out’ principle rears its ugly head.

The third challenge is to ensure that the solution to drive change is end-to-end.

And the fourth challenge is to get external verification. It is not acceptable anymore for private equity houses to ‘mark their own work’. We are seeing an increasing demand from LPs wanting external verification. This underlines the integrity and validity of the data and the reports.

Joshua Brunert:

In terms of regulations, what they are doing is setting a minimum standard for ESG disclosures. Further, we’ve seen that they have caused a reduction in ESG assets under management in both private and public spaces due to managers having to align to more stringent regulatory demands.

However, we are also now seeing a competitive streak in that clients are all being asked, are they SFDR compliant? The fundamental factor is that if you want to raise capital in 2021 and you say “no” to such questions, you are in danger of losing out to fund managers that say “yes”. This is now creating a competitive environment in the private equity space, where if you want to raise new funds, you have to be aligned with these regulations.

The trend in both private and public markets is that the SFDR regulation will set a benchmark that other regulators are also following. There are emerging regulations from the UK, Hong Kong, and the US that all align quite closely with the SFDR.

Will Chignell:

The bite-sized takeaways are that GPs need to know what is relevant for them. They need to prepare proactively, rather than scramble reactively and engage with reputable ESG specialists. This will not only ensure efficiency but also a market-leading advantage. Regulation is coming down the track, so be proactive, and as a result, gain an advantage over your competitors.

Will Chignell:

It’s crucial to get buy-in across the firm or at least at the decision-making level. Often speed and depth of analysis are hampered by lack of buy-in.

Have a clear understanding of the value of engaging meaningfully in this area.

It’s important to self-assess and understand what your footprint is, again in a meaningful and responsible way.

Create a reduction and mitigation plan.

Lastly, if you are going to offset, it is important that offset is not seen as the answer in totality and that you engage with reputable offsetters. At Apex Group, we have chosen only a few of the offsetters we assessed, ones that know their area and practice a philosophy of excellence.

Joshua Brunert:

People often look for shortcuts and the easier option rather than tackling the key underlying issues.

We recommend that:

1. You get the actual data from companies and do not make assumptions because at the end of the day, how can you drive change if you are just making assumptions about a company without engaging with it.

2. Understand the level of detail you need for the ESG task at hand. The key thing is that these companies are facing similar pressures from their customers, wider society, and government regulators, therefore investors can help them to meet all these demands by kick-starting an effective ESG program.

The direction of travel is very clear. To address the challenges of the world today, more ESG data is going to be required. It’s going to have to be of better quality and it’s going to have to drive meaningful change. Furthermore, the leaders of the pack are acknowledging that, and that’s what we’re helping them achieve. Apex Group is getting those in the wider majority to understand why these issues are important, and working with them to get on the ladder and start moving in the right direction.

Will Chignell:

Moreover, with increased interest in sustainable investing comes increased scrutiny. In addition, with increased scrutiny sometimes comes occasional cynicism around green and purpose-washing. Those that do take shortcuts will get found out. The penalties, whether it be reputational or otherwise, are significant.

In our view, it’s not good enough to just report. All stakeholders, whether they are employees, consumers, LPs, want to see a progressive, positive, measurable journey, and that is important. Apex Group creates Gap reports which provide a roadmap towards positive change, so the client is able to measure progress in a meaningful way.

Will Chignell:

The problem that GPs typically face is that when they have several LPs, all the LPs’ requests are slightly different, and many GPs have struggled under that burden.

For two years, we have been talking about consolidation. We do a consolidation of 12 or so leading standards and regulations into our data set. This means that when our clients report to us, they can align themselves to multiple different frameworks and regulatory requirements in one place. Moreover, this means that those who have taken the leading initiative can use our service to send these reports to their LPs and head off all of these multiple requests, by reporting in a way that is aligned across multiple different facets.

Further, reports have been third-partied verified as well through our analysis, and that’s becoming crucial. In terms of that GP and LP interaction it shows that the GP isn’t marking their homework and that they’re doing their proper due diligence when it comes to ESG data.

The good news on this topic is that it is not one driving the other. The will to measure ESG comes from both LPs and GPs. Hopefully, they uniformly create an accelerant that is a benefit for the industry.

Joshua Brunert:

LPs are generally asking the questions and the GPs are often responding in kind. GPs are a bit more reactive, and the LPs are a bit more proactive in leading the way.

Speaking more to the standardization debate, regulation will bring a level of standardization that’s hard to escape, particularly on quantitative metrics. We are also seeing those metrics translated into LPs requests, so I think a level of standardization is going to be key for GPs to report to. Additionally, it is worth noting that individual GPs will always have their nuances and their strategies, so there will likely be degrees of flexibility on top of that standardization.

A key concept here is that of ‘double materiality’, which is informing GPs and LPs alike. Essentially, it entails both looking at what is material to the financial performance of an investment, as well as what is material to the wider world and key stakeholders. The second bucket requires a level of standardization. Your core metrics on emissions, diversity, corporate governance etc., are quite standardized. But what is financial material to a company or to an investment management strategy could be slightly different. Hence, you will see a combination of convergence on core areas in parallel to divergence across specifics in industries and sectors as a matter of course.

Will Chignell:

I am very positive about the future of private equity and have seen enormous progress in the last 6-12 months. Some research by Apex Group around carbon footprints globally seems to confirm that – nearly all the private equity firms that took part in the research said they either have plans already underway to be carbon neutral or are planning to so. I am hoping that every facet of ESG will be embedded within every element of decision making, making more risk-resilient, sustainable, valuable, profitable companies.

Joshua Brunert:

It is important to highlight that ESG is about good business sense and improving risk-adjusted returns in the private equity space. Companies and investors that take their responsibility seriously will thrive over the next 5-10 years, and those that do not will fall behind. Because in 5-10 years, there’s not going to be less regulation in this space, there’s not going to be less investment in sustainable solutions, and there’s not going to be fewer companies that can ignore social pressures. Everyone knows what the direction of travel is.