Tech companies and venture capitalists thrive at the cutting edge of innovation. Yet, compared to the buyout industry, VC remains behind the curve on responsible investment practices.
VC is small, so why invest responsibly?
Consider the nature of many companies that have received VC funding, such as Facebook. There can be huge impacts on society and the environment when VC-backed companies reach scale, and the next generation could be even more disruptive.
VC capital is often the first institutional investment these companies receive. Unfortunately, we have seen many occasions where VCs have failed to set companies off on a sustainable path, impacting employees, society, and investors further up the chain. While some VC firms are making progress, many are not aware of the need to consider ESG factors, or the value of doing so. There is widespread misunderstanding around basic terminologies, such as the difference between impact investing and ESG, too. A common industry misconception is that investing in areas like climatetech or cleantech is ‘integrating ESG’.
VC investments in tech do come with ESG risks, notably human rights risks – for example in gig economy companies. Despite this, a report by Amnesty International uncovered the almost complete absence of human rights due diligence by major VC firms. Moreover, few GPs have dedicated ESG professionals embedded into investment teams, meaning oversight responsibility often lies with personnel uninvolved in investment decisions, leading to little real action. Nonetheless, some venture capital GPs are beginning to incorporate ESG factors into their investment processes, and there are thriving communities of GPs and LPs pushing the agenda forward.
What drives VC to invest responsibly?
It's up to proponents to show skeptical, influential VCs that ESG is not a tick-box exercise, but how it can reduce risk and create value. In addition, talented founders are highly sought after and often ask investors for support on these issues. Providing them with ESG and sustainability expertise can be a competitive advantage that helps VCs win deals.
We are not asking VCs to burden themselves with the large ESG programs adopted by bigger buyout firms. But they do need some basics in place. A responsible investment policy or code of ethics at investee companies is a good start. On top of this, VCs could provide mentoring on how to build more sustainable businesses, innovate responsibly, and think through the stakeholder impacts investments might have if and when operations are scaled up.
The PRI has recently focused on VC, and will work with GPs and LPs on due diligence. We hope this will increase standardization during fundraising, lower the burden on GPs, and improve the quality of responses by being tailored explicitly to VC.
About
Peter Dunbar is the PRI’s Head of Private Equity. He previously worked in the asset management industry, spending a decade in the emerging market private equity business of Capital Group. Peter holds a BSc in Human and Physical Geography from Reading University in the UK. He is also a CFA charterholder.