The good news is that fund managers have a fast-growing variety of new ESG technology offerings from which to choose. The bad news is that there is little agreement about the metrics that need to be captured.
“The hardest thing to solve with respect to ESG is the fact there are no consistently agreed-upon metrics for what is ‘good’ and what is ‘bad’ from an ESG perspective, and what is valued and what isn’t,” says Howard Eisen, head of business development in fund services at TMF Group. “There probably never will be. Like the regulatory landscape globally, the approach is different in Europe, North America, Asia-Pacific and Latin America, with different people having different views of what’s important, and the same applies to ESG.”
Unlike for public companies, where data are available through securities markets and aggregated and extracted consistently with technology, for private equity the whole process is still more manual.
“If you’re a manager or investor, you should thoughtfully develop your idea of what’s important, make it defensible and then have the processes and technology to extract that data consistently across your investments, funds and investors,” Eisen says. “You can’t take a different view from fund two to fund three.”
The key is consistency. “You need to create the infrastructure that can go in and apply whatever metrics that you as a management decide are important, and then you have a track record of ESG compliance that you can talk to,” Eisen adds. “One particular investor or regulator may not agree, but you can’t please everybody any more than you can please everybody with your strategy.”
“You need to create the infrastructure that can go in and apply whatever metrics that you as a management decide are important, and then you have a track record of ESG compliance that you can talk to”
The first step to developing a tech-enabled ESG data model is identifying and articulating the data that need tracking. That requires discussion with stakeholders and may vary significantly across asset classes. “In real estate, for example, identifying the metrics and tracking the data can be easier because you are looking at things like carbon footprint, solar energy and pollution,” says Hugh Stacey, executive director at investor services group
IQ-EQ. “For venture capitalists investing in small, early-stage businesses it can be much harder to identify and source the relevant data.”
Before starting to track data points, a lot of thought needs to be given about where the value is in the data. “My big question to the industry is, ‘Why are you tracking this particular data point?’” Stacey says. “If you’re an LP and you are tracking 200 metrics, how are you tracking them across your portfolio? Are you applying consistency? And what are you looking to achieve with all that information? That discussion needs to happen right at the beginning.”
IQ-EQ’s proprietary ESG offering is called Compass. It aims to take the heavy lifting away from managers by collecting data from their portfolios, analysing it and presenting it in a digestible format. “Once we understand the data points that fund managers want to capture and their investors want to see, we can put that into dashboards and use those to show progress on a lot of factors,” Stacey explains.
The big challenge is in choosing the data points. “There are lots of regulations and lots of different reporting metrics, so people are a bit overwhelmed,” Stacey says. “We try to encourage people to go with the World Economic Forum’s data points, which they released to encourage consistent reporting of sustainable value creation. They have 21 data points at their core. We think reporting on fewer points but more consistently is better than tracking lots of things inconsistently.”
Keeping up with investors
Kevin Bourne is managing director in sustainable finance at IHS Markit, another information and analytics provider developing an offering to address ESG data needs. He says collecting and tracking the right data is just a starting point.
“As the ESG needs of both investors and regulators get more sophisticated, then what private equity managers need to produce is going to have to get more detailed and sophisticated as well,” Bourne says. “The underlying issue for managers that want to use ESG to differentiate themselves is that they need to get under the skin of it and move from reporting to understanding. It goes beyond ‘this is my portfolio and this is the information on what they do’ to tracking that in a meaningful way that differentiates a manager from
IHS Markit’s ESG Reporting Repository lets users view ESG data across multiple metrics for companies, countries and funds, as well as enabling mapping to a wide range of reporting standards, regulatory requirements and NGO frameworks.
Fund administrators and other data service providers are all moving quickly to assist managers with ESG tracking and reporting, but the market is changing fast.
“It’s a moving target as things come to fruition in other jurisdictions, following the lead of the EU,” says Donovin Pombo, fund services director at TMF Group. “There is going to be some leveraging of best practices and new requirements that are not yet set in stone. For managers, it is a bit chicken and egg… It is hard to get to the goal now without knowing what the parameters will be.”
Eisen adds: “The key is that the architecture that gets built must be flexible. You are going to have to create a framework to extract information from your portfolio, but you have to build in the flexibility to extract that data in a way that suits varied requirements of both investors and regulators.”
Already Stacey says PE managers are working to provide LPs with ever-greater insights. “Lots of our fund managers have started asking us to give their investors direct access into their ESG dashboards to supplement the quarterly reports,” he says. “On the private equity side, that probably means monthly updates, and instead of delivering a PDF with tables, they want to share interactive data that investors can play around with to compare and contrast. That will be a big theme going forward.”
Innovation is occurring at pace as managers look to dig into ESG data as a way to differentiate their offering, mitigate risks and boost returns. However, simply identifying the right data to track and the best way to collect it is a first step many are yet to overcome.