A GHG Data Guide for Private Equity Investors Article
More than 140 of the largest asset owners in the world have committed to achieving net zero investment portfolios.
The pressure on private equity firms to decarbonize their portfolios is only growing. Consider:
- Limited Partner (LP) commitments to Net Zero. More than 140 of the largest asset owners in the world have committed to achieving net zero investment portfolios. For asset owners with large private equity allocations, recent research finds that 60% of the world’s 25 largest LPs have already set portfolio-wide net-zero goals.
- Climate disclosure regulations. An estimated 60,000 companies globally are now subject to carbon reporting requirements that include material Scope 3 emissions under the EU’s Corporate Sustainability Reporting Directive (CSRD). In addition, public companies in the US will need to report material Scope 3 emissions as part of the US SEC’s proposed climate disclosure rule. This means that all suppliers to public companies – including private ones – will need to develop carbon emissions baselines.
- Investment industry regulation. EU’s Sustainable Finance Disclosure Regulation (SFDR) applies to any PE manager fundraising in Europe. Expected updates to the regulation will place increased focus on portfolio and fund-level greenhouse gas (GHG) emissions disclosures. Investor disclosure expectations are likely to expand to other markets, including the UK and US.
As the pace of change intensifies, more and more general partners (GPs) are recognizing that the carbon transition presents a significant investment opportunity and that having a climate transition plan is increasingly an expected part of most exit strategies, whether via an IPO or a private sale. But seizing that opportunity with your portfolio companies means taking the first step: creating a data strategy.
Building Your Data Strategy
Developing a high-quality emissions baseline for a private equity portfolio is challenging yet essential. Here are the key steps for getting started:
- Prioritize which portfolio companies to engage with
- Choose your method for partnering with portfolio companies on data collection
- Leverage emerging standards for metric selection and GHG calculation
Prioritizing Your Portfolio Companies
With limited resources, a smart bet for most GPs is to identify the companies whose emissions data collection is most urgent and useful. There are a range of criteria that GPs can use to prioritize their companies:
- Exit date. If a company will be brought through an IPO in the next couple years, more focused engagement makes sense, especially if the company is in a carbon-intensive sector.
- Regulatory obligations. Consider which companies face near-term disclosure requirements, including for frameworks, such as the Streamlined Energy and Carbon Reporting regulations in the UK or the EU Emissions Trading Scheme.
- Response to customer requests. A portfolio company may be encouraged or even required by its customers to provide its emissions data, which is likely due to its role in the supply chain and contribution to customers’ Scope 3 emissions.
- Investment value. The GP may wish to prioritize portfolio companies with the greatest investment exposure.
- Influence. The GP may choose to prioritize those portfolio companies with which they have the most influence (i.e., an ownership stake or board representation).
Data Collection Methods
PE investors can approach GHG emissions data collection in a few ways:
- Doing the work themselves, by using an internally developed model to calculate emissions using energy and other activity data reports from portfolio companies.
- Working with a third-party service provider that supports collection of raw energy use data from portfolio companies and that provides support in selecting emissions factors to make an initial emissions calculation. This calculation can be estimated with incomplete data initially and improved over time as internal capacities and processes are strengthened.
- Purchasing an off-the-shelf accounting tool to be used by their portfolio companies.
Given the wide range of carbon maturity within portfolio companies, most GPs benefit from adopting a nuanced strategy that leverages two or more of these approaches. For instance, one might group portfolio companies based on their carbon maturity and business structure. Some portfolio companies may already be calculating their emissions and have an established relationship with a third-party carbon software platform. Others that are less far along could be asked to share their energy data directly with the GP or a third-party advisor so that they can provide the necessary emissions factors and advise on how best estimate data to close gaps. For portfolio companies whose emissions are primarily in the supply chain, an outside service provider with Scope 3 expertise and an efficient data collection platform may be what’s needed.
Relevant Standards for Private Equity Carbon Accounting & Target-Setting
While work is still underway to converge private equity metrics on the broader set of ESG factors, methods for GHG emissions accounting and goal-setting are further along:
- Carbon accounting. ERM and the Initiative Climate International (iCI) have developed a greenhouse gas accounting and reporting standard for GPs. The standard represents a practical application of the GHG Protocol and the Partnership for Carbon Accounting Financials (PCAF) Standard to private equity investing, with guidance for calculating all 3 scopes of emissions, attributing GHG emissions from portfolios to GPs and LPs and aggregating fund-level emissions.
- Target-setting. As private equity investors continue along their journey, they may also look to developing portfolio-level carbon reduction targets. The Paris Aligned Investment Initiative (PAII) has developed a scientifically robust framework and guidance for GPs that support the setting of net zero targets by 2050.
ADEC Innovations: Your Carbon Accounting Partner
To truly establish a robust carbon data strategy, private equity firms often turn to specialized climate and ESG service providers like ADEC Innovations.
ADEC offers a range of services, including:
- Data Collection and Verification: ADEC can assist in collecting and verifying climate, ESG and impact data from portfolio companies, ensuring accuracy and compliance with reporting standards.
- Data Analysis and Reporting: ADEC provides advanced analytics and reporting capabilities, helping you derive actionable insights from your data.
- Progress Tracking: ADEC Innovations can help you track and measure your progress toward ESG and impact goals, including carbon emissions reduction targets.
- Stakeholder Communication: Effective communication with stakeholders, including potential buyers and regulatory bodies, is crucial. ADEC can support you in preparing climate and ESG reports and disclosures.
As private equity investors embark on their ESG and impact journeys, building a robust data strategy is essential. Establishing common metrics, gathering accurate data and engaging portfolio companies are critical steps. By integrating ESG and impact into your investment strategy, you’ll not only meet regulatory requirements but also contribute to a more sustainable and prosperous future.
For more information https://marketplace.adec-innovations.com/private-equity/