December 27, 2013
Interviewed by: David Snow
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Measuring “Impact”

Private equity firms increasingly are focused on impact and ESG, but how do firms measure and report these non-financial results?

Private equity firms increasingly are focused on impact and ESG, but how do firms measure and report these non-financial results?

Measuring “Impact”
Impact Capital in the Emerging Markets

David Snow, Privcap:
Today, we are joined by Jeffrey Bunder of EY, Patricia Dinneen of Siguler Guff, and Jeffrey Leonard of Global Environment Fund. Welcome to Privcap and thank you for being here.

We are talking about impact capital in the emerging markets, a topic of growing importance and interest to investors around the world. A big part of impact capital or ESG, however you define it, is the measurement of the impact you are having, in addition to financial returns. Jeff Bunder of EY, as you have worked with big private-equity clients around the world and as they seek to chart and measure the impact—environmental or social—they have via their private-equity investments, what challenges are they are encountering as far as measuring and reporting?

Jeffrey Bunder, EY:
The first time this came up, I got a call from a U.S.-based fund with a decent-sized office in the U.K. A call came from London, from General council, saying, “We need help, we have to provide some compliance audit for sustainability climate measurements for U.K. law and…just get it done.” That was many years ago—the initial introduction to something on the radar screen. If you move it and fast forward it in U.S., there still is no good measurement system, more people are talking about it and advertising it, there is a general discussion about the fact that carbon footprint is important. From a specific measurement standpoint, few funds are providing that level of detail, but they are talking about it. Importantly, they also are looking to hire consultants to help. It will be a matter of years until we have something more standardized. Europe is probably ahead of the game and, at some point, it will probably be universal but now it is in its infancy. We do compliance audits for funds in Europe; we have not received a request to do that yet in the U.S., but it will come at some point.

Snow: Jeff Leonard from Global Environment Fund, with regard to the issue of reporting environmental impact—how do you do it and why have you chosen to report the way you do?

Jeffrey Leonard, GEF:
When we started in 1990, we developed an elaborate, 20-page questionnaire that we sent to all of our portfolio companies, both on environmental and social issues. It is still consistent today; we have refined it as many other reporting regimes have come in and many of our LP’s are development finance institutions in emerging markets have developed their own questionnaires. Generally, on the ESG side, they want to look at it as a negative screen—you are not beating your wife, you are not doing terrible things—but we have always seen it as a positive aspect to delve into and we understand the quality and commitment of our management. It is a fiduciary obligation, like in the U.S., the chief financial officer has to sign the quarterly financial statements. We ask our board of directors in our companies to agree to uphold certain standards in the environmental, social governance area. We monitor that and we ask them to keep reporting to us on that. We are in manufacturing industries where you can have safety problems or other things, so you want to measure and monitor how your management responds to challenge.

Patricia Dinneen, Siguler Guff:
It is a due-diligence tool. Up front, a manager or an entrepreneur should specify the objectives explicitly—what is measurable, what matters to measure, and what things do not matter—and just focus on fewer rather than greater. I recently heard of one measurement—metrics that require 400 different parameters. That is ridiculous.

Snow: Was this an environmental or across the board?

Dinneen: Social, environmental, governance, labor practices, everything. Focus on the five or six measures that matter. How will you keep track of them, how will you enforce them, what happens when there is a violation and how do you make those tradeoffs?

Snow: Some standards are gaining currency—GIIRS, IRIS and others. Without getting into too much detail, can you compare and contrast them and talk about their adoption rate?

Dinneen: I am skeptical and I have looked at gears. It is work in progress. GIIRS have joined with Blabs; there is B-Analytics database with 1,100 companies, over 53 companies, 57 funds, and 2.5 billion assets into management. From that database, we may be able to look for pattern recognition, but the idea of a rating system based on imperfect subjective measurements is scary.

Snow: Back to the emerged markets, though the U.S. can argue about which side it is on now. Jeff, when you talk about regular way big private equity, what are the most sought-after forms of impact people are seeking to measure? It sounds like environmental sustainability is one. On the social side, is it job counting or how would you define what people what to measure?

Bunder: Yes, but it is overwhelmed by the green concept, by carbon footprint. The other aspect, growing a business, adding jobs is definitely helpful. They will trumpet that, but it is really around trying to be responsive to LP’s, as LP’s are asking for more information, providing more in the way of questions on the checklist or questionnaire. Certainly, we will see more focus around this. This will evolve like other areas—we talk about value creation that has not been around long, from an LP perspective. It has from a PE perspective—it is the business. But, as the LP requirements evolve over time, we will see more focus on this. Again, in the developed markets it largely has been around carbon footprint.

Snow: With regard to standards, in regular way private equity, where returns are paramount, there is no standard for how to report returns to your investors. So, it seems far off to have some definitive standard for reporting impact, but does that matter? Are there investors that know exactly what they want? Is it a firm-by-firm, situation-by-situation method of reporting the kind of impact that matters to Pat’s point?

Leonard: There is no standardization yet, but there is a general set of metrics people look for. From our perspective, we have seen that, once you get good at that and if you go into your companies realizing you are going to manager towards certain metrics and evaluate and benchmark and keep score, it becomes easier. So, like reporting anywhere else, many of our GEF has been SCC registered since 1992 and many fellow private-equity, mid-market firms are registering for the first time and are overwhelmed by their reporting and ADV filings—what they need to do, what they need to fill out. They just complain and complain and we say, “Not that it’s easy, but we are on top of this now, this is old hat for us.”

As that happens more and more, we will see convergence and, to the point Jeff made, what we see with the big private-equity firms is that ESG is very serious. They have hired full-time professionals to do it, not PR people—you are talking about deep environmental scientists, people who understand community development, if that is what they are measuring. Our ESG team, for example, has been meeting quietly with a group in New York, at least 20 of the big private-equity firms, all with their ESG heads. They are thinking ahead, thinking about how can we benchmark these things together, share data, and develop critical benchmarking objectives for all of our businesses. That is a big development.

Bunder: It has changed quite a bit. It used to be you and anyone in the firm would not necessarily have an understanding or appreciation for it. All of a sudden, again, largely due to EDF, getting involved with some pressure from limited, we have seen more. It is typical of private-equity funds—they looked at it, studied it and said, “This is good business but also, it can help generate returns.”

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