Originally Published: https://www.bluegreenadvisors.com/news/Private-Equity-Responsible-Investment-Policies
In Brief:
Analysis of 100 EU mid-market PE firm responsible investment policies identified three best practices for integrating ESG effectively: establish clear ESG governance structures with defined roles, conduct comprehensive ESG due diligence throughout investment lifecycles, and implement robust, standardized ESG data collection and reporting to inform decisions, ensure compliance, and drive sustainable value creation.
From our analysis of 100 Responsible Investment (RI) policies from mid-market EU private equity (PE) firms, we've identified three essential practices for effectively integrating Environmental, Social, and Governance (ESG) considerations. Implementing structured governance, comprehensive ESG due diligence, and robust data collection enables PE firms to embed sustainability across their strategies, operations, and portfolio companies. For those firms seeking to establish foundational practices, iterate current processes, or lead in the sector, the examples provide key learnings.
1. Clear ESG Ownership and Governance
Responsible Investment (RI) requires clearly defined and transparent governance structures within PE firms. Effective governance establishes accountability, drives consistent decision-making, and ensures thorough ESG integration throughout the organization:
Defined ESG Roles: Oversight extends from General Partner (GP) boards through investment committees to partners down to individual asset levels. Appointing an ESG Director or dedicated ESG team internally enhances accountability and coordination across functions, without necessarily executing tasks directly. Many RI policies specifically describe ownership and responsibilities at the firm, fund, and asset level.
Example: Inflexion Private Equity assigns ESG accountability explicitly across its organization, establishing clear roles within the GP Board, ESG Director, and ESG Officers at portfolio companies¹.
Policy Integration and Implementation: PE firms extend ESG governance beyond policy creation, embedding sustainability into core strategies and operations. In nearly half of the RI policies reviewed, ESG training and onboarding processes are established and mandatory making them critical for effective ESG integration.
Example: Many firms not only mandate ESG training for internal teams but also require portfolio companies to adopt ESG best practices as part of their onboarding².
Portfolio ESG Requirements: More than 90% of RI policies assessed require ESG accountability at the asset level, resting either with the board of directors or the management teams, or both.
Example: In many examples, if not already in existence, portfolio companies are typically required to appoint ESG leads within the first 100 days post-acquisition to drive sustainability goals³.
2. Comprehensive ESG Due Diligence
Effective ESG integration requires thorough ESG due diligence throughout the investment lifecycle, placing ESG issues on equal footing with traditional financial metrics. Nearly all RI policies reviewed describe where ESG fits within pre-investment, during ownership, and after exit. Compliance with regulations like the EU’s Sustainable Finance Disclosure Regulation (SFDR) further underscores ESG due diligence importance, supporting risk management, value creation, and investor obligations.
Early Integration and Screening: Identifying ESG risks and opportunities early guides resource allocation and prevents misalignment with investment targets. Every RI policy assessed noted the critical nature of embedding ESG in early due diligence.
Example: ESG screenings are conducted alongside financial evaluations, carrying equal weight, providing balanced insights to investment committees. Specialist external advisors frequently support this assessment using frameworks well-known sector frameworks or proprietary models⁴.
Specialist ESG Assessments: Nearly half of RI policies mention the use of external ESG specialists to assist in accurate risk and opportunity identification, acknowledging sector, geographic, and cultural nuances. In most cases, PE firms will not have the depth of expertise to assess the nuanced nature of ESG risks and opportunities for every target.
Example: Latour Capital systematically performs external ESG due diligence, using external consultants to determine and incorporate principal adverse impacts (PAI) and industry-specific analyses, even requiring Environmental Impact Assessments for certain investments⁵.
Integration: ESG and financial findings are reported jointly to inform balanced decision-making processes and ownership strategies and embedded into the ownership stage. The overall goal is to ensure the ESG risk maturity of the asset improves over the lifecycle of the investment.
Example: ESG due diligence results directly feed into post-acquisition action plans, with nearly 75% of RI policies noting integration of ESG articulated within initial 100-day strategies⁵.
3. Robust ESG Data Collection and Reporting
Consistent, investment level quality ESG data is essential for effective decision-making, regulatory compliance, and performance improvement at both PE and portfolio company levels:
Standardized ESG Reporting: Half of RI policies assessed note that PE firms implement standardized ESG reporting across portfolios, and internally, meeting the need to align with regulatory frameworks like SFDR and facilitating investor transparency. The use of AI based platforms can significantly reduce the cost of ESG data collection and analysis.
Example: Annual ESG assessments using third-party frameworks (e.g., TCFD, PRI, UNGC) are standard, enabling consistent reporting and benchmarking. In one example, using a specific 3rd party service provider and receiving an assessment from them within the first year of ownership is written into the terms of the investment agreement⁶.
Compliance and Regulatory Assurance: Proactive adherence to ESG regulations enhances investor confidence and mitigates risk, limited assurance on ESG reporting is becoming the baseline standard. However, for PE firms and their assets to have full confidence of revenue growth, capital structure, OpEx efficiencies, full assurance and controls measures should be implemented.
Example: A quarter of RI policies noted that PE firms engage third-party assurance providers to ensure robust ESG data verification aligned with regulatory expectations, such as CSRD requirements⁷. In one example, ESG objectives made up 20% of the management team's compensation bonus structure at a portfolio company.
Strategic Integration of ESG Data: ESG data directly informs financial and strategic decisions within portfolio companies, influencing revenue growth, operational improvements, and capital optimization. Half of the RI polices mention a requirement for ESG data submission and reviews for the portfolio company, some as frequently as quarterly. Only a quarter of RI policies note that internal PE firm ESG data reviews take place.
Example: Innova Capital integrates ESG data into its strategic planning, requiring portfolio companies to set annual ESG objectives and regularly report progress⁷. For the Article 9 fund, 'Grey to Green', by Argos Wityu, the PE firm has set a requirement that the portfolio reduces its GHG emission by 7.5%, making environmental objectives on equal footing with financial objectives.
Establishing clear ESG governance, implementing thorough ESG due diligence, and ensuring robust ESG data collection significantly benefit private equity firms. These best practices facilitate informed decision-making, regulatory compliance, and sustainable long-term value creation. Those PE firms taking a leadership role in responsible investing have leveraged those three best practices to a large extent.
¹ Inflexion RI Policy, 2024
² Altor Responsible Investment & Ownership Policy, 2024
³ Litorina Responsible Investment Framework, 2023
⁴ EY, How ESG due diligence lowers risk and boosts value for Private Equity
⁵ Innova Capital Responsible Investment Policy, July 2024
⁶ Argos Wityu Responsible Investment Policy, March 2024
⁷ NorthEdge Responsible Investment Policy, March 2024