Private equity companies are increasingly betting that broad economic forces — underpinned by the growing acceptable of the need for businesses to operate sustainably consumer, employees and investors — will rapidly change consumer behaviours and attitudes, says Bain and Company in an online paper called The Expanding Case for ESG in Private Equity.

While the link between sustainability and growth is increasingly recognised, some skepticism remains. Almost 80 per cent of consumers say they are changing purchasing preferences based on concerns around sustainability, but only slightly more than a third of executives believe they will really jump ship over the issue (see chart).

The authors, Axel Seemann, Dale Hardcastle, Deike Diers and Jacqueline Han, argue that many firms aren’t waiting for ROI studies to conclusively prove the link between sustainability and success. “A growing segment of the industry believes that investments in sustainability, social welfare and good governance require a different calculus for now — at least if they want to get ahead of the game,” they write.

“In the few short years since ESG appeared on the scene, the industry has tended to view it as a sideshow — something good to do in addition to a fund’s normal business of buying and shepherding companies. Some firms have actually segregated these efforts into discrete funds wholly devoted to impact investing, where the goal is to generate social or environmental impact at market-rate returns.”

Now however, leading private equity firms, especially in Europe, are shifting away from discrete, segregated ESG initiatives and talking more about delighting customers, gaining market share, engaging employees and creating the best work environment, according to Bain.

“As with sector expertise or technology acumen, they have come to consider ESG a core part of what differentiates them as competitors, baking ESG principles into sharpening due diligence, building stronger value-creation plans and preparing the most compelling exit stories.”

Bain’s researchers argue that what had made private equity successful in the past is its “ability to anticipate future currents of value creation and to think more broadly about how they will reveal themselves. We believe this is one of those moments.”

The paper also notes an analysis of ESG performance among PE firms by EcoVadis, which provides business sustainability ratings to companies around the world. According to Bain, that research demonstrates that portfolio companies owned by US-based firms trail those owned by EU-based firms by 12 points.

“Yet even in Europe there is ample room to grow. Looking at sustainability factors only, the great majority of EU-owned portfolio companies haven’t launched meaningful initiatives. And the broader corporate world isn’t much further along. EcoVadis data shows that PE-owned companies and corporations are pretty much neck and neck when it comes to ESG maturity scores in both the US and Europe.”

How sustainability builds growth

As we reported last year, more than $US30 trillion has poured into global sustainable investments, up 64 per cent since 2014, according to a discussion paper by McKinsey and Company which seeks to describe how approaches to environmental, social, and governance (ESG) concerns build business value.

McKinsey and Co now says ESG links to cashflow in five important ways:

  • facilitating top-line growth;
  • reducing costs;
  • minimising regulatory and legal interventions;
  • increasing employee productivity;
  • optimising investment and capital expenditures.

Furthermore McKinsey and Company believes value at stake from risk-related sustainability issues is as high as 70 per cent of earnings before interest, taxes, depreciation, and amortisation.

In a paper published in November 2019, the management consultants acknowledge that the reason money is now chasing more sustainable harbours is a result of pressures brought to bear by customers employees and partners.

McKinsey noted at the time, “[It] has been driven by heightened social, governmental, and consumer attention on the broader impact of corporations, as well as by the investors and executives who realise that a strong ESG proposition can safeguard a company’s long-term success.”

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