Covid-19 challenged the resilience of French companies and industries by mobilising substantial financing. At the same time, the desire of private investors to finance the real economy has increased. To meet this dual need, the French government created the France Relance label last October. The aim is to meet the equity capital needs of French SMEs and ETIs, which have been particularly hard hit by the health crisis. In addition to directing French people's savings towards these investments, the label requires funds to respect a set of environmental, social and good governance (ESG) criteria. This label is an opportunity to highlight the integration of ESG criteria into the financing of SMEs and STIs managed by private equity funds.
New European regulations are challenging financial players on the transparency of their reporting. Private equity players, who until now have not been subject to the market's reporting obligations, will be faced with the problem of accessibility of data for the evaluation of ESG indicators.
The adoption of ESG criteria concerns all financial players, including those in private equity. We can see that both management companies (GPs) and investors (LPs) have shown a real enthusiasm for responsible investment.
This near-unanimous support for ESG integration shows just how sustainable finance has become a new standard for private equity. A triple motivation for GPs:
Among the concrete actions taken by management companies to implement ESG strategies, the creation of a dedicated team is cited by 35% of management companies surveyed (40% in France). Some management companies have more advanced ESG strategies, based on the labeling of their funds. This is the case for Demeter, 3 of whose funds have been awarded the GreeFin label.
486 of the 1,400 private equity management companies are signatories to the Principles for Responsible Investment (PRI). Created in 2006, in line with the Sustainable Development Goals (SDGs) and sponsored by the UN, these 6 principles provide investors with a framework for bringing the extra-financial closer to the financial. The PRI provide signatories with guidelines to help them develop an ESG strategy, as well as reporting templates (ESG reporting for institutional investors, ESG evaluation questionnaires for holdings). For an asset management company, being a PRI signatory represents both a means of structuring its ESG approach and of formalising and communicating this approach to its partners and prospects.
Please note: no organisation is responsible for verifying the action plans put in place by management companies to honor their commitments following their signature of the PRI, which may call into question the real alignment of actions with the GP's SRI objectives and strategy.
Initiated in 2015 by five French asset management companies, this initiative is the result of a growing awareness of the need to act to contribute to the COP21 objectives on limiting global warming. Thanks to shareholder engagement, GPs have voting powers that they can exercise at the general meetings of their portfolio companies. This enables them to participate in certain strategic decisions, such as reducing greenhouse gas emissions. This initiative has been taken up by a number of French asset management companies, becoming a working group of the France Invest commission. This mobilisation of asset management companies on climate issues was then reproduced in various European countries, forming the International Climate Initiative (ICI).
This French initiative, at the origin of a European movement, is an excellent example of the dynamism of the Paris marketplace in one of the ESG themes. Other movements also exist, such as the Charte Parité homme/femme, initiated by the French private equity association France Invest. It was this association that worked to build the first founding framework for Sustainable Finance and Private Equity.
In 2017, the association published a list of recommendations and ESG indicators specific to PE to encourage the construction of a responsible investment policy. The aim is to create a common base of indicators to facilitate communication between GPs and LPs.
Implementing an ESG strategy for a GP involves evaluating its holdings:
Among the tools provided, ESG questionnaires enable GPs to integrate ESG into the three phases of investment:
This initial framework was drawn up in advance of the regulations, and is now set to evolve.
Stakeholders are awaiting further clarification from the European Commission regarding the Taxonomy and SFDR (Disclosure) regulations scheduled for implementation in 2021. These European regulations will force all financial players to take action to achieve concrete, measurable and transparent results. As a result, GPs will have to rapidly redouble their efforts to provide extra-financial reporting that complies with the new regulations by the second half of 2021.
PE players are faced with a number of specificities that complicate the integration of ESG criteria into their investment decisions, and therefore also into their reporting. As a reminder, this asset class includes all unlisted companies, from young start-ups to international ETIs. Depending on the fund's strategy (Venture, LBO, Growth, etc.), the manager invests in companies of varying sizes, maturity levels and resources. Unlike listed companies, these companies are not obliged to publish their financial or non-financial information. Additional work is therefore required to collect this data from the various companies included in a PE portfolio, so that it can then be used.
Due to the difficulty of accessing data, PE players prefer indicators based on the social and governance pillars rather than the environmental pillar, which is very popular on the listed market. Indeed, GPs, who are in direct contact with the companies in their portfolios, can gain a better insight into the governance in place. On the other hand, environmental indicators seem more complex to calculate. This is not to say that they are neglected, but the methodology for calculating the indicators in this pillar is costly and difficult. These constraints represent real obstacles for all players, but even more so for private equity players. Portfolio companies do not necessarily have sufficient resources to access information on the sustainability of their activities.
For example, calculating a waste treatment indicator requires :
These steps therefore require an investment in training a resource or using an outside service provider, which is "substantial for a small player just starting out".
While it is difficult for portfolio companies to provide their GPs with this precise information, the same applies to the latter, who must analyse and then communicate this information to the LPs in accordance with the new regulations. This creates an imbalance, since the new regulations impose reporting obligations on the GPs and not on the holdings. Thus, if the participations are unable to provide all the expected data, it seems difficult for the GP to integrate them into the regulatory reporting that will be required in 2022.
Generally speaking, data processing is one of the main issues facing ESG today. Given the structure of private equity portfolio companies, this problem is magnified for this asset class. The Taxonomy and Disclosure regulations aim to reduce the problem of data quality (transparency of methodology, data source) by imposing a major task on financial players, which seems even more complex for private equity players.
LPs and GPs have demonstrated a shared ambition to develop ESG within private equity, creating a real French dynamism. This has been made possible thanks to the work of France Invest and other global initiatives that GPs have joined to guide them in their approach. This initial framework will be reinforced by the implementation of Disclosure in March 2021, imposing constraints on reporting. This highly ambitious timetable raises many questions about how GPs will react and the resources they will put in place to comply with the regulations. The coming months will therefore be closely watched, and promise an acceleration of ESG best practices in this asset class.
WeeFin supports management companies specialising in private equity in building an SRI strategy at entity and fund level. Thanks to our expertise and our knowledge of best market practices, we offer :
