Since the launch of the United Nations' six principles of responsible investment initiative in 2006, institutional investors are continuing to push for responsible investment and the incorporation of ESG (environmental, social and governance) factors into mainstream investment practice.
With the number of signatories to the Six Principles skyrocketing from 63 in April 2006 to 1,961 in April 2018, one thing is clear: ESG is playing an integral part in the investment decisions of investors and asset managers alike. According to a recent Global Sustainable Investment Alliance report, in 2016, $22.89 trillion of assets were being managed under responsible investment strategies globally – a 25% jump since 2014.
ESG Monitoring and Reporting Framework
In June of this year, the PRI (in partnership with ERM) published its ESG Monitoring, Reporting and Dialogue in Private Equity report. This is the final piece of its three-part programme to support Limited Partners (LPs) and General Partners (GPs) with incorporating responsible investment considerations across the three stages of manager due diligence, fund commitment and fund reporting. The report incorporates case studies from fund managers and investors, providing concrete examples of how the framework can be tailored and implemented.
In response to global demand for a more streamlined approach, the aim of the ESG Monitoring and Reporting Framework is to achieve a degree of consistency in LP and GP communication whilst acknowledging that there is no "one-size fits all" approach. CEO of the PRI, Fiona Reynolds, explains that the guidance has been designed with flexibility in mind; acknowledging the fact that LPs and GPs, particularly in the private equity industry, are at variant stages when it comes to their approach to monitoring and reporting on ESG integration. The Framework takes into consideration where funds are on their ESG journey, and seeks to promote continuous improvement, with the LP-GP dialogue remaining at the forefront of this process.
How is the Framework divided?
The Framework is divided into three sections: (i) Policy, People and Process, (ii) Portfolio and (iii) Material ESG Incidents. It allows for flexibility by introducing two levels of disclosure:
- "core" disclosures designed to elicit the key information that an LP can use to monitor its investments and assess the responsible investment performance of its fund managers; and
- "additional" disclosures designed to draw out a more detailed understanding of the responsible investment performance of fund managers and the portfolio.
The first section of the Framework focuses on the GP's ESG policies: how they have been resourced and implemented; and how they will be maintained and improved throughout the fund's life. The second section is portfolio-specific and looks at the risk and opportunity profile of the fund's underlying investments in the context of ESG factors, including the impact of investments on, for example, climate, air and water pollution, diversity or human rights. The final section looks to the GP to report on any material ESG incidents in a timely manner, to ensure open and honest communications between GPs-LPs on incidents that could have serious reputational and/or financial implications for the investment.
The Framework encourages immediate notifications of material incidents arising throughout the life of an investment, together with a periodic summary of such incidents, and also seeks to address how materiality may be determined.
Osborne Clarke comment
The PRI's publication is instrumental to all private equity and venture capital investors and fund managers, and one that will expectedly lead to positive changes in the way the industry monitors and reports on the ESG issues arising from its investment activities.