Infrastructure can result in loss of wildlife as environmental concerns are not often considered during design, planning or construction.
According to WWF, the building of infrastructure can block migration routes, make it easier for poachers to access land, and increase pollution, thereby imperiling species.
The Asian Infrastructure Investment Bank’s Environmental and Social Framework considers avoiding projects that may result in habitat loss. “Our mandate and mission is to finance and invest in infrastructure for tomorrow,” notes AIIB’s Joachim von Amsberg. “We have a commitment to sustainability: environmentally, addressing issues like air and water quality, biodiversity, pollution and climate change; financially and economically, focusing on projects with a sound return potential that raise economic growth and productivity; and socially, helping provide inclusive access, especially to those currently excluded from infrastructure services.”
Independent board members
Investors can have more of an impact if they request seats on portfolio companies’ boards.
In a company whitepaper, partners from Kartesia said: “With a long holding period of typically four years, a private debt fund can influence real change at a company. It can request a seat on the Board to enshrine its part in ESG matters or negotiate monthly meetings with either management or the company sponsor.”
Kartesia also makes clear in its sustainability policy that it uses monthly or quarterly meetings with management or shareholders to promote a commitment to ESG in its portfolio companies. “Kartesia always aims to be the sole lender and when this is not possible assumes the majority position and controls the negotiations on legal documents for the transaction,” said the firm’s partners. “As a result, Kartesia will maintain an open and ongoing dialogue with management.”
The pandemic has fuelled a rise in mental health awareness as people were forced to minimise social interactions.
Organisations have been expected to support their workers in navigating the impacts of covid-19.
For KKR, providing mental health support to its staff was a priority. The firm introduced initiatives, including virtual classes, a stipend of $300, a reimbursement benefit of up to $250 for fitness equipment, as well as dinner allowances.
In a note to staff, KKR said: “We heard about the mental and physical toll that this tough period is having on you. While we cannot undo the horrors of this global pandemic or the effect it has had on our communities, we do want to do all we can to support you during this unprecedented time.”
Firms also upped their diversity, equity and inclusion targets, following the rise to prominence of movements such as Black Lives Matter, which have put pressure on corporates to do more.
They help companies track their sustainability efforts and enable them to put the necessary measures in place to meet their ESG targets
Carmela Mondino, head of ESG and sustainability at Partners Group, explains: “Quantitative reporting through KPIs helps provide insights into how investors are fulfilling their commitment to building sustainable infrastructure. 2020 marked the third consecutive year Partners Group reported through our ESG KPI dashboards, which cover topics such as energy management, gender equality and board maturity. This year, we were able to report on 155 individual data points on our private infrastructure dashboard.”
Julien Duquenne, co-head of green and sustainable finance, origination and advisory for EMEA at Natixis Corporate & Investment Banking, adds: “KPIs are key to assessing the ability to report on any environmental and social benefits and the positive impact of the infrastructure being financed through bonds or project finance loans.
“They are also fundamental in the sustainable finance space where KPIs embedded into any ‘KPI-linked’ financings must be ambitious and meaningful to the activity of the borrower/debt issuer. These KPIs must be measurable and externally verifiable, ideally against science-based trajectories. GHG emission reduction pathways, for example, must be tested and monitored regularly so as to capture and monitor mid-to-long-term sustainable commitments of the borrower.”
Companies are under continuous pressure to create inclusive and safe working environments for their employees.
This is being fuelled by a rise in mental health awareness in the corporate world. Despite this, it appears that, generally, major investment managers are not acting as allies on labour rights. A 2021 report from PIRC found that less than two-thirds of policies set out social standards for investee companies, while fewer than a quarter make any positive reference to expectations on labour rights. This compares with more than two-thirds of policies that set out expectations on environmental standards.
Alice Martin, labour specialist at PIRC, says: “Whilst there have been well-organised efforts among institutional investors to align portfolios with carbon reduction targets in recent years, social standards, particularly in relation to labour rights, have been a blind spot.”
Nevertheless, Martin suggests some progress is being made. In 2019, Schroders removed Amazon from an ESG-friendly responsible investment fund, citing that the company did not meet the firm’s criteria of being socially sustainable. “There are signs that foundations are upping the ante on understanding the social implications of their portfolios and exerting influence on this,” Martin says.
This helps companies identify challenges from the onset to the completion of an investment, thus enabling them to make essential changes.
“Due diligence provides the manager with negotiating power that is useful,” says Coralie De Maesschalck, head of CSR and ESG at mid-market investor Kartesia. “The due diligence phase is critical because it is the chance to request management changes related to ESG at an early stage of a deal. It is also when we can get companies to understand our reporting requests.
“Our ESG questionnaire, for example, runs to four pages. We ask them to fill that out annually. Our thinking is that if they are required to complete it during due diligence, they are much more willing to update it each year.” She also argues that, as lenders, funds often have little or no direct influence over the strategic direction of the company, so strategic ESG due diligence is critical: “We have to identify ESG issues during the early due diligence stage because it is hard for us to ask for improvements later.”
From an assets perspective, Rick Walters, chief of standards and Innovation at GRESB, argues that management oversight has only really taken off in recent years: “Management oversight of ESG for infrastructure funds has always been strong, but until a few years ago, it was less common for infrastructure assets. Now we find that almost all assets have someone at a senior level with ESG responsibility.”
For years, infrastructure has been dominated by solutions that are harmful to the environment. A switch to nature-based solutions is now a priority
Nature-based solutions are often higher-quality, lower-cost, more resilient and more beneficial to society than maintaining, repairing or replacing grey infrastructure. Natural resources can also help to reduce loss of biodiversity and restore essential ecosystems such as wetlands, which can protect communities from flooding and other natural disasters.
Clean hydrogen is one solution that investors are becoming increasingly interested in – if developed properly, it has the potential to play a role across the energy mix, from energy storage, to fuelling transport, to heating homes.
Angus Taylor, Australia’s minister for energy and emissions reduction, argues that the use of hydrogen appears promising as the country looks to switch to cleaner energy sources. “We see hydrogen as an enormous opportunity for Australia to continue our strong position as an energy exporter and an energy superpower,” he says. “Australia is extremely well-positioned because of our natural resources [where] we can produce low-cost solar that can be complemented by wind, and [because] we have deep relationships with critical customer countries.”
Occupational health and safety
Before undertaking infrastructure projects, it is important to assess all the associated risks and ensure that appropriate safety measures are in place.
This will not only guarantee a successful project; it will also build a strong company reputation – one that stands the test of time.
Carmela Mondino, head ESG and sustainability at Partners Group, argues: “Occupational health and safety is central to infrastructure assets’ licence to operate. Transforming the culture around health and safety is an important way of creating long-term value and delivering positive stakeholder impact. At Partners Group, health and safety forms a key element of our annual portfolio sweeps to assess ESG topics of common relevance across our portfolio. We have improved the average lost time incident rate across our assets from 0.4 in 2018 to 0.1 in 2020.”
Overconsumption of plastic and the mismanagement of plastic waste are taking their toll, causing landfills to overflow and threatening vital ecosystems.
“There are more than 8 million tons of plastic entering our oceans every year,” says Simon Dent, blue investment director at Mirova Natural Capital.
One reason for this is that in some parts of the world waste management infrastructure is limited or non-existent, and so plastic waste is not managed properly.
Firms are waking up to this problem. In 2020, Mirova invested in Plastics for Change to accelerate the plastics circular economy and promote social change. In the same year, the firm also backed Recycling Technologies, a specialist plastic recycling technology provider.
“Creating circular value from plastic waste is a necessary step to help cut the scourge of plastic pollution reaching our oceans,” says Dent.
When making sustainable investments, managers must ensure measures and checks are in place throughout the process, from planning to exit.
Yasemin Lamy, CDC Group’s deputy chief investment officer and head of asset allocation and capital strategy, argues: “Most importantly, a fund manager pursuing impact should employ high-quality practices in how they work – from managing their own teams towards quality employment with diversity and inclusion to managing environmental, social, impact and governance risks in their portfolio. The best investors consider the value chain [from] start to finish.”
Lamy also says that as long as firms can demonstrate genuine intentionality and high-quality measurement throughout the investment process, there may be a lot to gain from having more fund managers in the impact space.
An increase in renewable energy would reduce reliance on fossil fuels, which would reduce carbon emissions. So, it should be a priority for LPs when considering new energy projects.
Alex Brierley, co-head of Octopus Renewables, explains: “Facilitating a successful transition to renewable energy is, in my view, the central pillar to achieving net-zero. The role for private capital to direct investment into this transition is critical. Encouragingly, we are seeing first-hand institutional investor appetite to invest in renewables infrastructure and the wider energy transition.”
A 2020 report from Octopus revealed that 80 percent of LPs surveyed planned to increase allocations into the sector over the following three to five years.
“Renewables infrastructure can present a compelling investment opportunity, targeting stable and predictable cashflows against a backdrop of heightened market volatility, along with attractive risk-adjusted returns,” says Brierley. “Against this backdrop, pension funds in particular look closely at renewables infrastructure as an ESG investment opportunity.”
Stonepeak senior managing director Hajir Naghdy says: “Renewable energy provides a critical pathway to rapidly decarbonise the global electricity sector and is an increasingly attractive area for investment, given continued economic and public policy tailwinds globally.”
Renewables are also needed to reduce power shortages as there is an unlimited supply. And with the UK’s recent energy crisis, this now seems more important than ever.
Maintaining social licence is critical to the success of infrastructure projects and services.
Gwenola Chambon, CEO at Vauban Infrastucture Partners, says: “Social licence to operate refers to the consultation and engagement process with stakeholders that enables us to ensure that our infrastructure projects are positively embedded in their local communities over the long term. This process comprises direct and transparent dialogue with all parties involved in order to fully understand everyone’s concerns and to ensure convergence of interests. This partnership must be ongoing over time as we need to keep pace with evolving demands and to constantly reaffirm the social utility of our infrastructure day after day.”
Adrian Dwyer, chief executive of Infrastructure Partnerships Australia, also believes planned spending should take greater account of social licence: “As we accelerate infrastructure investment and planning to speed the recovery, there is a major opportunity to innovate in the way we engage with communities and put social licence at the front of our thinking about infrastructure delivery.
“While physical distancing and barriers to face-to-face consultations with communities create challenges, they also provide an opportunity to transform the way we traditionally build and maintain social licence. When infrastructure developers and operators have the support of the communities they serve, they have more flexibility to innovate and experiment, which creates benefits for government, business and the community.”
Disclosure regulations such as the SFDR and the TCFD’s framework have forced companies to be transparent about their ESG risks.
Rick Walters, GRESB’s infrastructure director, says the EU regulations will require a “step change” in terms of transparency as it pertains to ESG criteria and the need for more aligned, comprehensive and quality ESG reporting.
They come as stakeholders are more concerned about the projects firms are investing in. If a company appears to be hiding something, it may be damaging reputationally and financially.
Elizabeth Seeger, KKR managing director for sustainable investing, adds: “In a rapidly moving landscape, where ESG and impact practices continue to evolve and stakeholder expectations around decision-useful information are increasing, the bar will continue to get higher. As a result, communicating transparently about challenges and progress through a multi-stakeholder lens will become increasingly critical.”
The number of industry participants that integrate ESG risk factors into their risk assessment and underwriting processes is growing.
Theresa Shutt, chief investment officer at Fiera Private Debt, says: “For both corporate and infrastructure debt, ESG metrics will become increasingly mandated by investors such that companies with good ESG practices will become preferred investments. Due to the higher intrinsic quality of those businesses, they will also outperform. There is now good data showing that prudent ESG underwriting provides better returns.”
Allison Spector, director of sustainability at Nuveen, agrees: “Consideration of material ESG factors and impact externalities, both positive and negative, will become standard practice. It already is at Nuveen. Collecting and using this data to inform investment due diligence and underwriting will become the norm for the private credit investment process.”
Voting rights for shareholders
Voting on key issues is a way for investors to demonstrate their commitment to ESG.
It is becoming commonplace for voting to be considered part of investors’ fiduciary duty. In October, BlackRock announced it was going to provide institutional investors such as pensions and endowments with the option of conducting shareholder votes related to their investments.
“We believe clients should have more options on how to participate in index-holding votes, if possible,” BlackRock said in a client note announcing the change. “We are committed to exploring all the options to extend our proxy voting options to more investors.”
BlackRock’s decision on proxy voting will begin next year and marks the first move by a major asset manager to give the ultimate owner of votes in a company the right to use them.
Waste management is becoming a pressing concern as the continuing rise in the global population leads to increasing demand for infrastructure.
According to the US Environmental Protection Agency, construction and demolition projects filled the country’s landfills with almost 145 million tons of waste in 2018. In addition, 75 percent of all construction waste from wood, drywall, asphalt shingles, bricks and clay tiles ends up in landfill. This has created a shift from disposing of waste via landfill to recovering valuable resources through recycling and energy recovery.
Firms are now realising the value of waste as a means to create energy. Edwin Yuen, senior private sector operation specialist at the Asian Infrastructure Investment Bank, suggests that in order for waste-to-energy to be effective, companies must think about reducing waste from the get-go. “WTE is only one part of a comprehensive, waste management plan,” he says. “Projects should begin with waste minimisation as a public policy, followed by waste recycling and WTE incineration, and ending with the remaining ash delivered to local landfills.”
A robust exit strategy allows vendors to maximise returns while minimising issues.
McKinsey & Co emphasises the importance of exit preparation throughout the ownership period. In an article, the firm’s partners stated: “The last critical step of the private equity investment process, the exit, can greatly affect the final return on investment. Even after years of doing all the right things – including taking a proactive approach to ownership, aligning performance incentives and being thoughtful about M&A – a poorly planned or executed exit can turn a good deal into a mediocre one.”
The firm argues that one of the most important elements of great exit preparation is constantly honing a well-developed, well-articulated and evidence-backed view of why an asset represents an exciting investment opportunity.
Youth and the future generation
Being able to predict trends and take the measures necessary to thrive during periods of change is key if firms are to ensure a sustainable future.
“Change is constant, and any responsible manager needs to have their eyes on the future as well as the here and now,” says Kit Hamilton, co-head of Macquarie Infrastructure Debt Investment Solutions. “That is how you ensure you are positioning the capital of your clients in a way that best mitigates risk, while still being able to identify and pursue the opportunities that come with change.”
Investing in the future is also arguably one of the key aspects of tackling the climate crisis, especially as the next generation will feel its impact more significantly.
Stéphane Ifker, senior partner at Antin Infrastructure Group, predicts that the future will be dominated by technology, and argues that firms must tap into this in order to bring about the energy transition. “In the context of climate change, scarceness of resources and decarbonisation, [portfolio company] Idex’s solution for Nice Méridia is a showcase for a smart energy network, using geothermal energy, a district heating and cooling network, and a smart grid,” he says. “Thanks to its ability to make the most of local energy sources, to optimise economic and environmental costs and to guarantee their performance in use, Idex has been able to anticipate the challenges of the energy transition.”
Net-zero initiatives continue to dominate the ESG agenda as the private sector races to reduce its carbon emissions in line with global targets.
Alex Brierley, co-head of Octopus Renewables, says: “Meeting the UK and EU net-zero carbon emissions targets will require unprecedented investment in low-carbon infrastructure across the region, with a large proportion of this green investment required from the private sector.
“It is pivotal that investment managers, regulators and policymakers work together to remove barriers to entry, structural issues, market failures and misaligned incentives that are currently holding back investment.”
According to Brierley, government incentives and industry collaboration are key to success, particularly on a global scale.
A 2020 Octopus report showed that more than two-thirds of global investors (68 percent) cite a lack of international co-operation as the number-one factor negatively impacting the energy transition.
“Once capital is unlocked, there also needs to be a greater focus on deployment,” Brierley says. “In our view, inward investment to renewables infrastructure is crucial but cannot be looked at in isolation. The sector is still relatively immature and so the need for large, diversified energy managers with an understanding of the entire energy system – from creation to distribution to usage – is essential to drive systemic change.”