KEY TAKEAWAYS
CSRD can help, but not soon enough as private equity firms struggle to provide regulators and their limited partners (LPs) with ESG data
As the Sustainable Finance Disclosure Regulation (SFDR) completes its first year of implementation, the European private equity market is still grappling with some reporting challenges and complexities that it has brought. This regulation, integral to the EU’s broader sustainable finance framework alongside the EU Taxonomy regulation and the Corporate Sustainability Reporting Directive (CSRD), is reshaping the dynamics between general partners (GPs) and limited partners (LPs) in private equity by mandating enhanced disclosures and consideration of sustainability risks and impacts.
There are over 2,500 private equity funds in Europe. Most are managed by private equity firms that have fewer than 500 employees, and are now faced with the decision to either comply or explain their stance on SFDR Principle Adverse Impact indicators (PAIs). Many are opting for negative PAI statements indicating a lack of consideration for PAIs. While this may partially satisfy the regulation, it does not stem the pressure they are receiving from their larger, institutional investors who are required to report on PAIs in detail. Furthermore, many do not explain why they don’t consider PAIs and when they plan to consider them, both of which are asked of smaller firms.
Large LPs who invest in private equity funds are required to put forth “best efforts” to obtain the data required to report on PAIs. In many cases, this may come in the form of requests to their GPs to provide the data on their investee companies. Fund managers who choose to supply their LPs with this data are consequently faced with the challenge of gathering and standardizing the underlying data (e.g. Scope 1, 2, and 3 data), and then calculating the PAI metrics (e.g. Emissions Intensity) at aggregated levels. In the case where the data is not readily available to them, they may choose to utilize gap-filling methods to help their LPs satisfy the regulation.
A smaller number of private equity funds that aim to be classified as Article 8 or 9 will likely voluntarily report on their PAI data to evidence their levels of sustainable investment, but the challenges of getting this type of data from private companies remain.
While the implementation of CSRD will catalyze the availability of sustainability for private companies, many organizations will not fall into scope until 2025 and this does not account for most private companies outside the EU. Thus, in the meantime, private equity firms need to establish comprehensive processes for ESG data collection, management, and disclosure. This involves not only adhering to current SFDR requirements but also preparing for future regulations and investor expectations.
