California Climate Package: SB 219 & SB 252
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What is the ESG Data Convergence Initiative?
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The ESG Data Convergence Initiative (EDCI) is an open partnership formed by private equity firms, collectively managing assets worth more than $27 trillion. Established in 2021, the primary objective of this initiative is to enhance the efficiency of data collection and reporting practices related to environmental, social, and governance (ESG) factors within the private equity sector.
👉 In this article we’ll explore what the EDCI is, and how it is driving convergence around ESG metrics for the private equity sector.
What is the ESG Data Convergence Initiative?
During the Covid-19 pandemic, CalPERS (California Public Employees’ Retirement System) and leading global investment fund, Carlyle, brought together a small group of GPs (general partners) and LPs (limited partners) to discuss their primary challenges with regards to ESG data (environmental, social and governance data).
They determined that “despite the proliferation of ESG frameworks and ratings providers, there was still no standardized, meaningful, and performance-based data from private companies.”
This meant that GPs were struggling to keep up with the rising demand of ESG data requests, and because there was no standardized reporting, there was no alignment between these requests. This also made it very hard for GPs to evaluate whether or not they were making any progress with regards to ESG targets and issues.
It was established that they needed to find a way “to drive convergence around a standardized set of ESG metrics and a mechanism for comparative reporting to benefit all stakeholders in the private markets”.
Thus the ESG Data Convergence Initiative (EDCI) was born.
“ 👉 The ESG Data Convergence Initiative now has over 325 general and limited partner members, representing 27 trillion USD worth of assets under management. Over 2,000 portfolio companies are also included within the benchmark. ”
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The rise of ESG performance reporting
Over the past decade the private equity (PE) sector has doubled. In 2022, it reached its highest ever level of raised funds at $1.2 trillion, showing an increase of 14% from 2020. Yet, PE firms are less likely to report ESG performance than public companies.
This is for a number of reasons, including: lack of synchronization in terms of ESG tools, definitions, categories and frameworks; confusion over what ESG data to collect; lack of capacity and resources to collect the different data sources requested; and lack of awareness of what to do with collected data.
However, ESG reporting is becoming increasingly important. The growing interest from institutional investors in ESG reporting is reflected by a recent Natixis Investment Managers survey. It estimates that roughly 72% of institutional investors and 77% of GPs have adopted ESG strategies as of 2021 compared to 61% and 65%, respectively, in 2018.
GPs selecting funds attribute investor interest in ESG to heightened social awareness (75%), interest in a greener economy (42%), and climate change considerations (36%).
“ Mounting evidence shows the long-term financial risks of climate change. A recent SwissRe study estimates that 18% of GDP could evaporate in less than 30 years from its impacts. This is important to institutional investors who seek long-term value creation. ”
Yet, private equity investors face a significant set of data quality challenges in ESG reporting. Issues as broad as missing data, inconsistent data, partially reported data, and data complexity due to the use of many ESG frameworks have impacted ESG assessments. This has slowed the process of ESG evaluation for GPs, LPs, and their portfolio companies.
👉 To learn more about ESG reporting and criteria, check out our article on the topic.
“ By enabling investors to collect and assess ESG data across private investments, investors can more easily target ESG improvements, benchmark ESG positions, and analyse ESG metrics across portfolios. ”
The ESG Data Convergence Initiative aims
The ESG Data Convergence Initiative aims to support the implementation of ESG strategies and reporting in private equity funds. It was launched on September 30th, 2021 based on the efforts of leading GPs and LPs around the world.
The initiative represents the first time that the private equity sector has developed an overarching set of ESG metrics across key ESG criteria. The goal is to aid investor evaluations of ESG performance across their private equity portfolios by improving the quality of the ESG data available.
“ Aimed at a long-term impact, the EDCI supports ESG data transparency, availability, and comparability for private equity markets. ”
The EDCI outlines it’s four main aims as follows:
- Simplified data sharing process with investors - the EDCI uses metrics that are aligned with standardized reporting formats. The data is transmitted directly from the GP to the LP or investment manager.
- Benchmarking against peers - the data is aggregated across defined ESG metrics by a secure third party. Data is anonymous and helps to form industry wide benchmarks that GPs can use to track and compare their own ESG performance.
- Material impact - the ESG data creates meaningful statistical measures that link ESG and performance materiality.
- Future impact - aggregate data can be published in order to show how the ESG performance of private companies is evolving over time.
EDCI in more detail
In order to achieve these primary aims, the EDCI established six core categories for ESG reporting: greenhouse gas emissions, renewable energy, board diversity, work-related injuries, net new hires, and employee engagement. At launch there were also a total of fifteen different ESG metrics split across these categories.
The EDCI differs from traditional ESG frameworks, which present the principles, recommendations, and guidelines across a wide range of possible material ESG criteria. By identifying a limited set of common material KPIs for the private equity sector, a stronger set of decision-useful insights can arise from ESG reporting for the private market. The metrics included in the initiative aid standardization by limiting the number of key ESG KPIs from across a wide range of popular ESG frameworks.
👉 It is important to understand the aims of the project as an extension of the efforts of existing frameworks. It supports collaborative input from across the private equity industry to improve its guidelines each year.
Who can participate in the initiative?
Any private investor can participate by agreeing to support the initiative’s principles. Stakeholders supporting the project can also collaborate to improve the usefulness of the ESG data metrics.
👉 Greater participation supports the initiative’s aims of improving ESG data and using this data to foster a greater ESG impact across private markets.
What does it mean to be a General Partner (GP)?
General partners (GPs) often act as the private equity firm responsible for managing a fund made up of private investments. GPs have the right to choose the investments included in their portfolios. They also must acquire capital commitments from limited partners (LPs).
What does it mean to be a Limited Partner (LP)?
Limited partners (LPs) act as investors into a private equity fund, and are required to meet the minimum investment of $200,000.
For this reason, private equity is made up of institutional investors such as pension funds, university endowments, and insurance companies. Wealthy individuals may also act as LPs.
What are GPs and LPs committing to when joining the ESG Data Convergence Project?
GPs
To participate in the ESG Data Convergence Project, GPs begin by selecting which funds or investment strategies they wish to include in the project.
Next, they must ensure that their internal data collection systems track the core set of ESG metrics using the EDCI’s standardized definitions and technical protocols. This means that they must align with the Metrics Guidance as much as possible, and explain the reason behind any deviation.
GPs should make the information on ESG KPIs for the relevant funds/strategies available to LPs using the Project’s standard template. GPs should also encourage their LPs to directly participate in the Project.
Every year, on the 30th of April, GPs must send the ESG data to the initiative’s third-party aggregation system. The data includes the required ESG metrics and normalization metrics for the previous calendar year. The requested data should be anonymised.
👉 International management consulting firm, Boston Consulting Group, acts as the EDCI’s third party aggregator of anonymised data. It creates sector benchmarks, performs research and provides insights.
💡 Participants agree to public affiliation with the project and they have opportunities for serving on the EDCI Steering Committee.
LPs
Participating LPs are encouraged to align their GP ESG data collection requests with the six categories outlined by the EDCI, using the standard template.
They can also use their influence to encourage more GPs to participate in the project. Like GPs, LPs also agree to public affiliation with the project and they have opportunities for serving on the EDCI Steering Committee.
ESG metrics
The initial fifteen ESG metrics have since been expanded and there are now a total of seventeen metrics, split across the six different ESG categories.
- GHG Emissions Reporting: Scope 1 and 2 emissions are required; Scope 3 emissions are optional.
- Renewable Energy: Percent of renewable energy in use.
- Board diversity: Percent of women on the board (required); percent of under-represented minorities on the board (required in the US, but optional elsewhere); percent of LGBTQ members on the board (optional); percent of women in C-suite (optional).
- Work-related accidents: Number of work-related injuries; number of work-related fatalities; and number of days lost due to injury.
- Net new hires: Number of net new hires (organic and total); and turnover.
- Employee engagement: Reporting companies should state whether they’ve conducted an employee survey (Y/N), and provide the employee survey responses (optional).
These metrics were selected based on an overarching set of guiding principles, namely:
- Globally accepted: The metrics are globally accepted data points from well-recognized ESG frameworks.
- Meaningful: All of the metrics have a significant financial or social impact.
- Comparable: The metrics can easily be reviewed and compared across GP funds, portfolios, and portfolio companies.
- Dynamic: The metrics have the potential to promote more ESG activity over time as the benefits of reporting take hold.
- Straightforward: The metrics depend on data that is easy to collect and track. The metrics are also limited so that companies are not overburdened.
- Actionable: The metrics are tied to actions that GPs and portfolio companies have the power to control.
- Objective: The metrics possess a degree of clarity that does not invite lengthy interpretations.
👉 What is ESG data? Read our article to discover more.
What are the benefits of standardized ESG reporting for GPs / LPs / portfolio companies?
GPs
- The ESG Data Convergence Project uses the management capabilities of GPs to promote ESG competitiveness across portfolios, by attracting LP investors with ESG-oriented funds and investment strategies.
- Reporting across key categories and metrics also gives GPs a chance to specialize in key areas of impact and distinguish their portfolios from other GPs.
- The initiative also leads to a greater understanding of ESG performance compared to others in the sector and creates stronger and clearer portfolio company accountability.
- The simplified format for reporting minimizes the administrative burden of providing ESG data, so portfolio companies can invest more time into making ESG improvements.
LPs
- Transparency and accountability are key benefits of the ESG Data Convergence Initiative. Investors seeking data on the ESG profile of underlying investments can now access streamlined data in order to evaluate portfolio-wide ESG performance.
- The improved data can quickly demonstrate ESG performance over time by offering a consistent annually reported format.
- Investors seeking long-term sustainable investments can apply more than a single-factor lens to their investments. This enables investors to channel capital towards funds with long-term viability.
- With more rigorous ESG reporting that minimizes data gaps and inconsistencies, private fund managers can commit to stronger ESG targets and goals.
Portfolio company
- Providing LPs and GPs with ESG data incentivizes stronger ESG strategies in terms of ESG targets and goals. Companies can use the data to target areas for improvement.
- ESG-linked improvements align with a lower cost of capital along with higher valuations for companies that demonstrate ESG leadership.
- Companies gain familiarity with ESG reporting requirements for publicly listed companies, preparing them for future participation in public markets.
👉 To find out more about the benefits of ESG reporting, check out Greenly’s article on ESG criteria.
EDCI success?
The ESG Data Convergence Initiative means that the sharing and comparability of ESG data has never been easier. However, many believe that the initiative still has room for improvement.
One of the main criticisms levelled at the initiative is that the metrics often fail to cover the needs of all GPs and that additional data and metrics are often required to satisfy broader LP due diligence. Some believe that additional metrics should be added to provide more rounded ESG reporting.
However, it must be noted that the EDCI is still in its infancy, and is by its own admission, is a continually evolving initiative. Every year benchmarks and metrics are assessed, with the possibility of new metrics being created. The number of metrics included in the initiative has already increased from 15 to 17.
The EDCI has already seen significant success and has grown to include over 325 GPs and LPs. The EDCI benefits from the fact that it was created by some of the largest players in the private equity sector. It is also supported by the highly influential Institutional Limited Partners Association (ILPA). With this weight behind it, we can expect the EDCI to continue to grow and develop even further.
What about Greenly?
At Greenly we can help you to assess your company’s carbon footprint, and then give you the tools you need to cut down on emissions. Why not request a free demo with one of our experts - no obligation or commitment required.
If reading this article has inspired you to consider your company’s own carbon footprint, Greenly can help. Learn more about Greenly’s carbon management platform here.
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