Japan’s Government Pension Investment Fund is on a mission. Last month, the $1.1 trillion fund’s executive managing director and chief investment officer Hiromichi Mizuno signed an open letter (with CalSTRS CIO Christopher Ailman and USS Investment Management chief executive Simon Pilcher) calling for a long-term approach to investment.
It made explicit the funds’ preference for “asset managers that integrate ESG [environmental, social and governance topics] throughout their entire investment process”. Preferred managers deliver on ESG, are transparent and committed to sustainable value creation, they said. It is clear: those yet to adopt ESG best practice, now is the time to do it. And this includes Japan.
Mizuno admits he did not always think this way. Speaking at the Accounting for Sustainability Summit held in London in December, he said three or four years ago he had little interest in sustainability. Today, GPIF, one of the biggest institutional clients in asset management worldwide, has “decided to use that leverage to affect the way this industry works”. And that means more responsibly.
Last year, the fund revised its investment principles to make clear reference to ESG integration across all asset classes, including private markets. And it will hold its managers accountable, Mizuno told the summit. While its exposure to local PE firms may be indirect, its influence is trickling through the market.
“Top-tier institutional investors … are setting the agenda,” says Ant Global Partners managing partner John Cheuck. As these institutions aim to match their peers on ESG, local LPs and managers are getting more interested and engaged in ESG topics, he says.
GPs investing in Japan are responding at differing levels of activity. This ranges from being reactive and only seeing ESG issues as risks, to integrating it throughout the decision process and post acquisition to make a deliberate effort to improve ESG, says Tokyo-based Bain & Company partner Jim Verbeeten. He adds most Japanese GPs fall somewhere in the middle.
Raising the bar
Firms like KKR, CVC Capital Partners and Bain Capital, which have implemented ESG programmes globally, are raising the bar. “Their Japanese offices are finding that their investment committees pay attention to these factors,” says Verbeeten. “The other driver is global LPs with high ESG standards that are asking local GPs about their policies.”
Tuck Furuya, chief executive and founder of advisors Ark Totan Alternative Company, who says the local PE industry is about 10 years behind Europe, adds: “GPs, especially those raising capital not only in Japan but also overseas, are more aware of ESG. Those GPs need to be thinking about it.”
“Blue-chip strategic buyers have high expectations of quality, ethics and ESG”
John Cheuck, Ant Global Partners
At Ant Capital, its ESG commitment stems from a desire to match best practice, says Cheuck. “A good investment strategy includes ESG, which improves values at exit. Blue-chip strategic buyers have high expectations of quality, ethics and ESG. It is also good for a firm’s reputation and ability to source deals. ESG creates a beneficial ecosystem.”
Adds Verbeeten: “The market is slowly starting to realise the benefit. The most advanced GPs understand that ESG can create value at a portfolio company. People are learning.”
NSSK has incorporated ESG from the start. “Today, ESG impact is part of our mission,” says Jun Tsusaka, NSSK founding partner. “Process-wise, we created a best-practice ESG long list and customise relevant ESG KPIs for our portfolio companies. It’s a continuous improvement process.”
Tatsuya Yumoto, partner at J-STAR, says his firm is very attentive to ESG and applies a checklist during underwriting, and reviews during the hold period. “I think this focus is still rare within Japanese private equity,” he notes.
Even firms active with ESG for a while have work to do. “We do have an ESG policy that we have been building and implementing over the past several years and want to continue to strengthen that,” says Advantage Partners representative partner Richard Folsom. “That is becoming more of an important aspect both for us, investors and the market place in general in Japan.”
The Principles for Responsible Investment, which will hold an event in Tokyo in October, has 77 Japanese signatories, of which more than half are investment managers. Following GPIF, more than 200 Japanese institutions have signed up to the Task Force on Climate-related Financial Disclosures (TCFD).
Koji Sasaki, T Capital Partners president and managing partner, says it signed up to the PRI in 2013. “For us it was a natural step. ESG accords with our investment philosophy to identify good companies that we can make better … Being a PRI signatory sends a clear signal to our investee companies.”
All talk, no action
However, Furuya cautions some firms are simply signing up without any follow through. “The easiest thing is to become a member … We warn LPs about GPs adopting ESG for show.” Investors need a better grasp of the positive impact of ESG on returns, he says, adding he has yet to see a Japanese GP with an ESG case study in its marketing.
The gap between awareness of ESG in Japan and its translation into tangible activity across the financial sector prompted the Sasakawa Peace Foundation to commission US-based The Investment Integration Project to conduct research on ESG in Japan.
“There is a big disconnect between the aspirational and the actual, which is not unique to Japan,” says William Burckart, TIIP president and chief operating officer, in reference to the financial community as a whole. “Most asset managers want to do the least amount for the most credit.”
That said, Burckart adds that a combination of TCFD and the UN’s Sustainable Development Goals, along with GPIF and Japan’s Financial Services Agency – which is revising its stewardship code to include ESG provisions – are galvanising the domestic financial industry. To date, it “remains generally unaware of sustainable investing”, according to the TIIP report.
For PE in Japan, there is an opportunity to take the lead. In a market where the largest proportion of deals by far are in the founder-owner succession space, with sellers inherently concerned about what a PE buyer plans to do with their business, adopting a formalised approach to ESG is clearly in their interest. For GPs, ESG excellence is a route to differentiation.