A state of confusion around ESG reporting requirements currently hangs over most private equity mid-market managers, posing a major challenge as these assets grow in size and number.Â
- 90% of portfolio companies face hurdles on ESG reporting, says survey
- Manual data collection can lead to missed deadlines, deal delays or failure
- Valuation uplift at risk if buyer demands for ESG data cannot be met
A state of confusion around ESG reporting requirements currently hangs over most private equity mid-market managers, posing a major challenge as these assets grow in size and number.
European private market ESG assets are expected to value more than EUR1 trillion by 2025 according to a recent estimate by PwC – accounting for more than 40% of the entire private market. But as AUM increases so are requests from LPs for information on these assets.
According to a new study from ESG measurement and reporting software provider KEY ESG ESG, surveying over 100 industry participants primarily within the mid-market, three quarters of private equity funds are already required to report on ESG data to LPs. And yet, some 90% of their portfolio companies say they are unsure of how to fulfil these ESG reporting obligations.
The most commonly identified problem is a lack of clarity on the data needed to calculate certain metrics and an inability to quickly and effectively track that data over time.
With many firms taking up to 12 weeks to collect ESG data, reporting deadlines can be missed, causing a potential asset sale to be delayed, or, in some cases, putting it at risk of failing completely, found the study.
A lack of budget and human capital is another hurdle identified in the study. Some 80% of GP survey respondents noted that the extensive ESG questions they receive from their LPs take considerable time to respond to and can use up resources that could be deployed to drive ESG improvement at the portfolio company level. Seventy per cent of the same respondents said greater alignment on ESG data would allow them to spend more time improving ESG performance and go deeper on a narrower set of material ESG metrics.
Regional regulatory differences are also creating headaches, even among established ESG practitioners. Over the past decade, 20% of GPs have independently begun to measure and analyse ESG metrics, but they are now struggling to align their in-house methodology with emerging industry standards. In addition, three quarters (75%) of GPs in the US say they are unclear which Europe-based fund regulations apply to them.
The financial argument for overcoming these challenges is clear though: the report suggests that portfolio companies managed with strong ESG principles achieve higher valuations and higher returns on exit. In the M&A market, prospective buyers are increasingly requesting more comprehensive ESG data as part of a sale, with 80% of fund managers now seeing ESG questions integrated into due diligence questionnaires. Being able to showcase strong ESG performance, backed up with credible and easily accessible data, helps speed up exit and supports the case for a premium at exit, said KEY.
Key Takeaway | A disconnect between GPs, LPs and emerging industry standards on ESG may slow exits or reduce a potential valuation uplift
