Why managers are feeling the heat on climate change

Many GPs have had a good crisis so far, but they need to be alive to LP sentiment on the big issues of the day.

When we canvassed the opinions of limited partners about how seriously private debt fund managers take climate change, the responses were not exactly a ringing endorsement. Just 4 percent told our LP Perspectives study that they strongly agreed fund managers were on top of the issue, with most opinion split on whether managers were sufficiently committed or not.

One thing is clear – if managers are not yet taking the issue seriously, they need to remedy that as soon as possible. In the immediate aftermath of the global pandemic, there was some suggestion that perhaps climate change issues might slip down the agenda since there were even more pressing issues to deal with. In fact, across all alternative asset classes, the opposite has happened with investors putting the issue higher on their priority lists.

Private debt, it could be argued, has up to now occupied the back seat when it comes to climate change and ESG. The expectation in sponsored deals has been that private equity firms can take a more proactive, hands-on approach to portfolio companies and are therefore the more natural catalysts of change. However, there is now a greater appreciation that lenders can take the steering wheel themselves – for example, through loans that have margin-related incentives for hitting ESG targets.

One of the things we are often told at Private Debt Investor is that the asset class lacks a uniform approach on ESG, with different funds catering to a wide range of investor types, all with varying demands and expectations. This sounds a little bit like a smokescreen and may effectively be little more than an excuse for managers not to get their act together and provide full-blown reporting and disclosure. There are moves afoot to remove the excuse, with the European Leveraged Finance Association, for example, striving to produce guidelines that everyone should feel able to sign up to.

In an Investing for Change report this week from consultants Mercer, the argument is made that if you already have a robust ESG framework, it allows you to bring experience and solutions to diversity, equity and inclusion issues. As Mercer points out, DEI is not just about fundamental issues of fairness – though it certainly includes that – but also performance. The report references a 2019 study from the National Association of Investment Companies which showed that, from 1994 to 2018, diverse funds produced out-performance based on several different measurements.

We are hearing a lot of positive sentiment from investors about private debt’s prospects, given how resilient it has so far proved to be through such a challenging period. But it is also apparent the asset class has some catching up to do when it comes to some of today’s most pressing issues. There can be no room for complacency.

Write to the author at andy.t@peimedia.com