Is ESG just a marketing label, or a legitimate engine for generating long-term value? While some experts have argued that ESG investing is largely driven by herd mentality and often amounts to little more than greenwashing, new research from British Columbia Investment Management Corp. and Stanford University shows that purposeful ESG integration can significantly boost private equity portfolio value.
The paper, “ESG Value Creation in Private Equity: From Rhetoric to Returns,” examines how sustainable investing augments returns. Using BCI’s $25 billion private equity portfolio as a case study, it offers a framework for enhancing private equity returns by integrating ESG considerations across the full investment lifecycle.
“Rigorous, financially driven ESG integration can materially enhance investment performance,” the authors concluded. (Rob Brown and Aniket Shah shared this sentiment in a column last year for Institutional Investor.)
BCI’s direct private equity portfolio has been able to demonstrate a “double-digit increase in net asset value strictly attributable to sustainability factors,” according to Evan Greenfield, head of ESG for BCI’s private equity arm, who co-authored the paper with Stanford researchers Ashby Monk and Dane Rook.
Speaking with II over video, Greenfield posited that ESG represents one of private equity's last frontiers for value creation, with “an abundant amount of green space” going forward. “There is material value creation emanating from integrating ESG with purpose,” he said.
BCI does not take the industry’s standard box-ticking approach to ESG. Instead, private equity team members ascertain how sustainability factors are relevant to their companies’ strategies based on discussions with management over core advantages and challenges.
“The industry has tried to make [ESG] into this cookie-cutter approach of scores and ratings,” Greenfield said. “That is not applicable to what we’re doing. What we’re doing is highly customized.”
The biggest challenge facing the industry is the “definitional void, which allows for ESG to be assumed under this political or ideological debate.” He explained: “It’s exceptionally challenging for investment professionals to integrate something that doesn’t have a unified definition.” (The paper defines ESG “as a set of societal issues that, due to their growing relevance, have become material to business performance.”)
To evolve ESG from a compliance exercise to a core part of allocators’ strategies that can demonstrably enhance returns, Greenfield suggests investors move from the jargon of ESG “to the language of finance,” which “is very well understood by most everyone in capital markets.”
