The meteoric rise of ESG into prominence has taken many forms to date—more expansive investment criteria, C-suite executive additions, and evolving return metric profiles are but a few examples. As the investment industry continues to cement the role environmental considerations play, expect performance metrics and even contingencies to play a role in transactions. Long mainstream, ESG is about to become part of the very fiber of merger agreements, says Morrison & Foerster.
“As LPs increasingly required reporting of ESG metrics by GPs, PE sponsors have increased focus on ESG throughout the investment cycle,” reads a year-end note from the firm. “Increasingly ESG terms (particularly around climate) are baked into the transaction documents.”
Competing for limited partner dollars could well force general partners to push portfolio companies to disclose environmental impact statements, adopt metrics to gage progress, and ultimately report standardized data against which GPs can be measured. This level of ESG disclosure is moving from desirable to a near-requirement. Routine private equity maintenance functions like portfolio balancing and platform differentiation could well include an additional social, governance, or environmental criteria in the months ahead.
Notably, Morrison & Foerster’s note also highlights another “stick” for PE seeking to demonstrate ESG bona fides: compliance. The firm sees ESG policies going the way of anti-money laundering, privacy, cybersecurity and Foreign Corrupt Practices Act as risks to be managed and addressed in strategies.