Using numbers to win hearts and minds

Citizens reject PE’s value creation credentials. Could data help GPs tell their story?

The private equity manager who “supported” close to 90,000 jobs worldwide in 2016. The separate private equity manager who “destroyed” an iconic toy retailer in 2017 and left employees with “nothing”. An industry pumping $3trn into the US economy over the past five years. A “predatory” industry “monetising poor people” in the same country.

The fall of Toys ‘R Us saw LP freeze commitments to PE owners and sparked citizen campaigns against leverage

Anybody venturing into today’s global arena of private equity reputations would be struck by the stark polarisation in discourse. At one end, industry-sponsored campaigns paint the asset class as an economy grower and job creator. Academic theses are devoted to private equity’s value creation potential, the industry’s source of pride, while GPs and trade bodies add to the positive message through slick research updates that quantify the benefits.

At the opposite end, hardly ever intersecting with the first, runs a separate dialogue. Globally respected newspapers target the industry with investigations splashed across major broadcasters; infographics from news agencies delve into the social implications of industry deals “gone wrong”. Meanwhile, citizens, the ultimate target of all the communication efforts, voice their own unflattering views about private equity’s socioeconomic contribution online and at meetings with lawmakers.

Deep impact
Could numbers be the industry’s ticket out of the reputational quagmire, a way to reassure those its social licence to operate depends on? In recent months, experts have indeed urged private equity to use data to tell its value creation story.

Robyn Klingler-Vidra, KCL

GPs keen to explore this avenue could find inspiration in schemes from outside the private equity sphere, albeit with an industry twist. Robyn Klingler-Vidra, lecturer at King’s College London (KCL), teamed up with PE dealmaker Mark Florman to help the World Top 25 university measure its footprint. The system they conceived in 2013, aptly named external rate of return (ERR), started by looking into what existing data told and didn’t tell about organisations’ impacts on people and the planet.

From travel mileage of KCL researchers to impacts on the local community and staff satisfaction, information has been steadily gathered and digitalised by an analytics team using PowerBI and other data visualisation tools. “A system like this could help private equity standardise, tell a fairer story of its contribution, so that job creation and other stats feel more systematic, and less anecdotal,” says Klingler-Vidra.

A system [to measure impact] like this could help private equity standardise, tell a fairer story of its contribution, so that job creation and other stats feel more systematic, and less anecdotal” Robyn Klingler-Vidra, KCL

Lessons on value creation storytelling also exist in a certain market niche, where soundly documenting how investments transform businesses is not optional. Impact specialists including Bridges Fund Management have long been measuring and communicating how value is created. “Let’s say you state in your annual report that you’ve created a hundred jobs. That sounds great – but what kind of jobs and for whom?” asks Stefanie Kneer, manager of the GP’s in-house research team Bridges Impact+.

Mainstream private equity may still debate whether financial returns and positive impact are happy bedfellows, but Bridges sees the link — the firm calls it “lockstep” – and favours deals where it is particularly strong. At pre-selection phase, Bridges sets the impact bar, exploring how much positive change it can drive at a particular business and for whom, whether it is the best-placed investor to drive it and the indirect ESG impacts its backing will cause. Once on board, the firm then gathers quantitative and qualitative information to track how impact goals are being delivered. The data, processed through its B-Analytics platform, is reported to LPs through updates that recast impact goals based on progress to date.

Stefanie Kneer, Bridges

The popularity of ESG and impact labels throughout private equity, as recent LP surveys show, is prompting concerns around quality; “greenwashing” is a word that has come up in UN-backed reports. Both Bridges’ Kneer and KCL’s Klingler-Vidra believe a common language is essential if organisations are to monitor and disclose their footprint in a way citizens can trust. “Through ERR, we’ve come to realise there are more than 150 methods to measure impact. 150!,” says Klingler-Vidra. “What we need is a push, led by regulators, to standardise impact like the GAAP principles did for accounting.”

Job creation stats sound great – but what kind of jobs and for whom? … Shouldn’t we also ask those who are experiencing change?” Stefanie Kneer, Bridges

Klingler-Vidra’s own technology utopia for impact is a responsive platform where data is updated in real time, with AI picking up trends on sectors and geographies. “Whether in PE or elsewhere, you need a benchmark,” she adds. “Being able to compare impacts with other organisations would make this a much more powerful exercise.” For Bridges’ Kneer, the new priority must be engagement with those impact is happening to. “We tend to rely on measuring what we expect will happen, but shouldn’t we also ask those who are experiencing change? That’s what Bridges is now working on,” she says.

Numbers do lie
Crucially, the scepticism around private equity’s value creation is not limited to citizens; it extends to the LP ranks, with doubts looming over industry figures. “With disclosure, you can mask things as much as you disclose,” says a source inside one of Europe’s largest private equity LPs. “There’s an inherent bias in how KPIs are selected, a tendency for GPs to choose to disclose information that is neutral or where outcomes would look good.” According to them, job creation stats are a positive step, but they must be seen in the wider context of a GP’s strategy. LPs, they add, should ask GPs why particular KPI choices have been made. “The devil is in the detail,” they tell The Drawdown. “If you’re an LP, understanding the meaning and context of employment statistics from GPs can be very difficult and goes hand-in-hand with committing time and resources.”

While positively viewed on the whole, private equity was recently rated by LPs as fourth of five asset classes in terms of ESG quality

The LP source notes that some large and mid-sized GPs are producing “really good” data but market-wide consistency is lacking on what is measured and reported. “That is both good and bad,” they point out. “I’d rather have inconsistency where I can still ask for meaningful disclosures than consistency as a ‘greenwash’ type of framework followed by everyone, with high-level KPIs that don’t give the right information.” To them, both numbers and narratives are necessary when impact is reported. “Personally, I think it’s good to have more social data available but we need to think beyond numerical, financialised KPIs. On their own, a quantitative approach can narrow the scope of disclosure.”

There’s an inherent bias in how KPIs are selected, a tendency for GPs to choose to disclose information that is neutral or where outcomes would look good” Source at large European LP

 

Could private equity’s struggle to be transparent about – and act on – social implications put a strain on the GP-LP bond? The blurring of ethical lines creates fresh chances for GPs to land into controversial deals and as the Toys ‘R Us case shows, LPs are ready to put commitments on hold if unconvinced by a GP’s version of events. For the European LP approached by this publication, ESG is a deciding factor when considering a reup. “The quality of data concerns me. There is a wide gap between GPs leading by example and those who feel they can come up with the lowest common denominator, in order not to disclose more information than they need to,” says the LP source. “LPs can also struggle, though. Not many actively engage, some lack resources to analyse the information and respond to it – GPs can then rightly think ‘what is the point?’”.

A story with a happy ending

Academics, impact players, ESG-keen LPs; what’s in it for more mainstream GPs? Lincoln Jopp, partner and COO at Disruptive Capital Finance, is unconvinced by claims of LP interest in a GP’s socioeconomic footprint. “Given the very strong story we have to tell, in a way, I wish it came up more but it doesn’t,” he tells The Drawdown. “Whilst we have a beautifully crafted ESG policy statement in our data room, of the 200 or so co-investment inquiries we received recently, it was only asked for once.” Asked about data on value creation, Jopp points to the GP’s credentials. “Disruptive was founded by an environmentalist and is owned by a charity, so ESG, including the socioeconomic impact of what we do, is in our DNA,” he says. “If you know us, you know our values and standards.”

Given the very strong story we have to tell, in a way, I wish [our socioeconomic footprint] came up more but it doesn’t” Lincoln Jopp, Disruptive

It is not likely the two current private equity discourses – that of a value creator and a predatory industry – will reconcile into a third, more-nuanced discussion any time soon. However, some in the industry are showing readiness to meet critics halfway and walk the winding road to transparency, with steps made to disclose not just positive but also negative impacts. KCL’s Klingler-Vidra believes such a journey is worth undertaking for private equity. “The point is not for this to be a reporting exercise where we cherry pick what makes us look good,” she says. “Let’s see this as a chance to drive behavioural change, go beyond the moral judgment approach of good or bad outcomes and look instead at why things are happening, and how they can be improved.”