Why private equity could play a key role in the transition to net zero

October 26th, 2021

Why private equity could play a key role in the transition to net zero

Sustainability and climate change are making headlines as the UK prepares to host COP26, but what does it mean for private equity investors and the firms they invest in?

COP26 might be shining a spotlight on climate change and the broader ESG debate, but it’s an issue that’s been growing in importance and building momentum for some time. The UK Government has committed (and legislated) to achieving net zero emissions by 2050 and has established a number of pathways for industries and sectors to pursue that, and the Climate Change Committee is providing data to drive the transition through a series of Carbon Budgets.

Although the transition to net zero will vary depending on factors such as the type of business, its ownership model, its size and where it fits within the supply chain, all businesses are likely to feel pressure to change and adopt decarbonisation strategies. And that pressure will intensify as we move closer to 2050.

According to the British Private Equity and Venture Capital Association, private equity and venture capital managers could play a key role in helping businesses to transition. They are, it says: “well placed to drive change in business. By working closely with management and supporting a business with capital, expertise and networks, investors have demonstrated that they can drive improved growth and profitability for companies of every size and stage, across a very wide range of sectors and geographies.”[1]

Intensifying the effort

This close relationship is fundamental to pushing awareness and action on ESG if businesses are to meet net zero targets. Having a seat at the table and being a core part of the business decision-making process puts private equity investors in a powerful position to share experience and insight, as well as the expertise and connections alluded to earlier, that can boost innovation and help businesses transition. With many, particularly the large cap private equity firms already having their own well-established ESG principles and targets, there can be real value in these conversations.

Many of the largest players have been active in sustainability for some time. As the Taskforce on Climate-Related Financial Disclosures expands its reach and businesses are increasingly having to include supplier and portfolio emissions in their scope three disclosures, the need for investors to get on board will grow and will trickle down into mid-size and smaller private equity houses.

But it’s not just about managing and mitigating risk around non-compliance or reputation, or even the danger of being left behind, that’s motivating this increased focus on net zero. There’s now a real opportunity for net zero strategies to create and add value, help attract talent to an organisation and to attract custom. As Joe Barratta, Global Head of Private Equity at Blackstone points out, “We see ESG as one of the most important ways we can drive value for our portfolio companies going forward.”[2]

The transition won’t be easy. Many of the changes businesses need to undertake to reduce their carbon footprints and achieve net zero are capital intensive and some of that investment won’t see returns for many years, something that can seem to conflict with the typical investment term of private equity players. However, there are early mover advantages to be gained and increasingly, businesses that are seen to be moving ahead with a net zero strategy will be more attractive to investors and potential buyers.

BlackRock, which has been leading the charge in net zero investment, believes that it presents a ‘significant investment opportunity’. “We believe companies that are best prepared for the transition will provide better long-term returns, as they will be better able to function in an economy that looks vastly different from today’s,” they state in their investor guide.

Aligning with tomorrow

So, the appetite and opportunity for capital investment in net zero is clearly there and it’s also clear that government action alone is not enough to drive the transition. Business and investor commitment that reads the mood of those governments and anticipates customer and stakeholder trends is essential.

“There’s this entire system that needs to evolve,” according to Aniket Shah, Managing Director and Global Head of Environmental, Social and Governance (ESG) and Sustainability Research at Jefferies Group LLC, speaking on Citywire’s ‘The Wealth Show’ podcast recently. “Over time we need more investment to go into the transition and for that to happen companies need to put out credible transition plans.”

And that’s where private equity investors can add value to create value, by helping the businesses they’re invested or investing in to understand what net zero means for them across their products, services and operations, to create meaningful targets to mitigate risk and supercharge opportunity, and by improving the data, measurement and reporting around their transition strategies.

“COP26 is a big moment,” says Shah. It’s potentially a pivotal one, where more and more businesses will realise how net zero will impact them and be looking for investors that can support them financially and more broadly. But as Shah points out, it also has the potential to deliver fundamental changes for investors:

“[One of] the most important things from an investor's perspective that can come out of COP26 is… a clear globally accepted framework and standard around climate risk at the company level, around disclosure at the company level, and also around what does it mean for investors and banks and asset managers and so on to be net zero aligned.”


[1] https://www.bvca.co.uk/Our-Industry/Impact-Investment/Impact-Investment-in-Private-Equity-Venture-Capital
[2] https://www.blackstone.com/insights/article/qa-joe-baratta-on-technology-esg-and-todays-investment-opportunities/

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