Private Equity firms move into climate impact investments

| min read
climate radar

Climate impact investing is gaining momentum. In our recent European PE Climate Impact Radar, we surveyed Private Equity (PE) firms about their readiness in managing the climate crisis. In this interview, Tobias Hartz explains the thinking behind the study and discusses how PE firms can use climate impact investing to strengthen their USP.

Tobias, what was your motivation for carrying out the study?

I’ve long been convinced that PE can have a positive impact on the transition away from fossil fuels. I also believe it can make a strong contribution to actively tackling climate change – one of the most pressing challenges facing society today. As an advisor to many European PE firms, I see growing momentum toward climate impact investing in the PE industry. This study is a compelling way to gauge the PE sector’s engagement on this crucial issue, which is close to our heart at Simon-Kucher.

PE firms now recognize that managing climate impact in their portfolio companies can drive value creation. For example, by reducing energy usage and making products more sustainable, they can help tackle climate change, while generating commercial value. At the same time, consumers are increasingly calling for companies to reduce their carbon footprints – creating demand-side pressure for PE firms with investments in the consumer sector.

Is climate impact investing essentially the same as sustainable or green investing?

Climate change may represent just one element of the ESG equation, but it’s arguably the biggest global challenge. Climate impact investing goes beyond simply deploying capital in line with “green” principles or seeking to maintain the status quo on climate change. It’s about actively seeking to make a positive impact; for example, by identifying ways to reduce the carbon emissions generated by portfolio companies.

Crucially, climate impact investing isn’t about financing only “green” portfolio companies like wind power or solar firms: pure-play green opportunities like these are thin on the ground and multiples are sky high. Often the greatest potential can be found in investing in companies that are not yet green by definition, but where there is a clear path to delivering genuine climate impact. This could be through optimizing their value chain or improving their product with regard to inputs and manufacturing techniques used.

How well established is climate impact investing in the European market?

Over the years in Europe, we’ve seen Venture Capital (VC) and PE move closer together in many dimensions. Some VC funds have grown very successfully over time and have also been moving into later-stage investments – the “lower end” of the traditional territory of PE.

At the same time, bigger PE investors have been setting up their own venture arms. The whole idea of climate impact investing is already well established in VC. Many new houses are entering the market, but existing firms are also expanding their investment hypotheses in this direction. And while VC players may be moving faster and more aggressively here, PE houses are now following hot on their heels.

The study points to a high level of ambition among PE firms when it comes to creating a positive climate impact. What are the key findings?

The study clearly shows that PE investors in Europe have a high level of ambition when it comes to creating positive climate impact. We found robust indication of a correlation between higher assets under management and a more sophisticated approach to climate impact. PE practitioners tell us that larger funds are typically moving faster on climate impact because their greater scale and deeper financial resources give them the power to specialize.

Three main groups of investors stand out for us here. The first group is the large, sophisticated investors with the scale, resources, and ambition to take climate impact investing seriously and integrate it into their processes. Many firms that weren’t originally founded as climate impact houses are culturally moving in that direction – and some are moving faster than others.

The second group is the typical small- and mid-cap investors that are not born climate investors and therefore tend to lack the scale and ability ‒ and sometimes the ambition ‒ to make a convincing move into this space. If firms in this group fail to move quickly and decisively, they risk losing their competitive edge in the market.

And the third group is the born climate investors: often smaller, more recently established firms that have put climate impact at the heart of their investment strategy alongside financial return right from the start. While these players have a clear strategy and a clear competitive differentiator, they face three key challenges: how to define and measure impact, how to create impact over the holding period, and how to combine their climate impact activities with their commercial or operational value-creation activities.

Did any of the findings of the study surprise you?

We weren’t surprised to find that all the survey respondents claimed to be interested in climate impact investing. But we didn’t expect to see some larger PE players moving so decisively and quickly – that’s very positive. That said, some of these firms may have started to address climate impact without first properly re-adjusting their general investment strategy, so they will now need to go back to the drawing board to put those foundations in place.

European PE today is fully embracing the concept of value creation. So firms that want to succeed in climate impact activities can’t afford to simply have a generic risk avoidance check in this area. Instead, they need to develop an individualized climate impact strategy that builds on their distinct heritage and is integrated with their general commercial value creation roadmap. This provides them with a robust USP in this rapidly evolving area of the market.

Interested in climate impact investing in PE? Start the discussion with Tobias Hartz today!

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