Case study by Direct Capital

  • A GP can ensure that ESG issues flagged during due diligence are properly addressed through active ownership in conjunction with the portfolio company’s management.
  • A GP can work with the portfolio company management to establish metrics to monitor ESG issues during ownership.
  • A GP provides quarterly updates to their LPs on any ESG issues identified during due diligence and ownership.

Company introduction

Direct Capital (active since 1994) invests into private companies in Australia and New Zealand. The firm provides capital to fund growth and business expansion, to complete acquisitions, to fund the business through to a public listing and to help business owners facilitate a change of ownership to their management team.

Integrating ESG strategy in the organisation

Direct Capital has a dedicated resource who supervises the integration of ESG, however it’s the investment director that is ultimately responsible for ensuring ESG issues are identified, monitored and addressed throughout the investment cycle. The investment directors are also key in providing the necessary information and feedback needed for the reporting cycles that underpin Direct Capital’s ESG efforts.

Integrating ESG strategy into the investment cycle

Direct Capital’s ESG investment framework includes both a topdown scan of ESG issues relevant to the company’s industry, and a bottom-up review of the target company’s internal ESG strengths and exposures. The framework requires investment directors to complete comprehensive ESG check lists while reviewing potential investments. Where necessary, Direct Capital engages external consultants to conduct assessments and to evaluate potential courses of action and their associated costs.

Due diligence

Direct Capital looks for both ESG risks and opportunities during the pre-investment stage in alignment with their belief that integrating ESG considerations has a potential impact on investment value. Broadly speaking, risks are more easily identified than opportunities but in some cases it is the resolution of a risk that can present the opportunity.

Direct Capital follows the route of active ownership by assuming a position on the portfolio company board. Within the portfolio companies, ESG issues that have been identified during due diligence are mainly addressed at board level rather than at the ESG/ CSR officer level. The board is able to give prominence to these issues and to allocate additional resources to tackle them.

Monitoring

In certain cases the issues identified during the due diligence phase are grounds to increase the monitoring of certain ESG issues. In one case the due diligence unearthed that a company had had some health and safety issues in the past. Based on this finding, Direct Capital decided to actively benchmark the company’s performance in this area against the entire industry in order to better monitor the situation. In short, when material ESG issues have been identified, Direct Capital will work directly with the board of the portfolio company to establish specific metrics to monitor these issues. In these cases Direct Capital will also exert influence on the portfolio company to report on ESG issues through board reporting and to regularly monitor alignment with industry standards or external regulations.

Reporting to LPs

Direct Capital publishes an annual ESG compliance document which is distributed to all LPs alongside the annual report. This ESG statement includes a detailed description of Direct Capital’s risk identification process and elaborates on specific ESG due diligences undertaken during that year. The report also gives an update on how previously reported risks have been managed. Direct Capital also reports to LPs on a quarterly basis and includes an ESG section on each portfolio company’s ESG plan and performance.

The ESG sections in the quarterly reports will provide information on any ESG issues identified during the preinvestment phase and on any new issues that might have arisen during ownership. Extra information is provided on occasions when LPs have expressed concerns regarding a specific investment. Most of the ESG issues that Direct Capital reports on have to do with employee safety and environmental concerns. The basis for the reporting to LPs is to provide investors with relevant and material ESG developments that have occurred within each company.

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