Investor pressure drives regional venture funds to sustainability deals

Singapore

SOUTH-EAST Asia's venture capital (VC) firms are increasingly burnishing their sustainability credentials to meet heightened demand from their investors.

In 2018, management consultancy Bain & Co asked 136 private equity and VC firms to describe the trend of increased efforts on sustainability in South-east Asia, and pressure from limited partners (LPs) was the most-cited reason. Reducing reputational risk and consistency with the firm's values came close behind.

This year, a poll of 144 general partners found that 96 per cent have increased environmental, social and governance (ESG) efforts in the region compared to the past three to five years.

The same proportion said they will continue to do so in the next three to five years.

Indeed, the Singapore Venture Capital and Equity Association (SVCA) told The Business Times that it has been receiving enquiries from VC firms over the past year on how to incorporate ESG criteria into their upcoming funds.

Development finance institutions are the LPs leading the charge towards requiring VC firms to invest sustainably, association director Doris Yee said.

She expects pension funds and family offices to follow this trend closely, as changing mindsets about ESG investing become increasingly evident among the general public.

Joe Lin, director of investments at multi-family office Golden Equator Wealth, said: "The ubiquity of how climate change is a serious threat and the emergence of a more socially conscious millennial generation have spurred a paradigm shift in the priorities of investors, so there's an evident inclination toward long-term strategies that generate both good returns while also positively impacting society."

But one major challenge is the lack of consistent and reliable data - there is currently no real standardisation and transparency in ESG scoring.

"There is also a risk that ESG scores might be manipulated to beef up the virtues of an investment. But the field is still maturing and while still imperfect, is constantly getting better," Mr Lin said.

Joanna Goh, legal counsel and ESG officer at Vickers Venture Partners, explained that LPs typically review a fund manager's ESG policy and ask for annual reports on ESG compliance within the portfolio.

But what do the VCs demand from their portfolio companies? There is no standard at the moment, but a number of VCs have settled on the humble pledge.

Foo Tiang Lim, a partner at SeedPlus, said that startups they invest in sign onto an ESG framework, even though the framework is not used explicitly to assess deals.

The World Bank's International Finance Corp is an LP of SeedPlus' fund, thus necessitating SeedPlus to abide by ESG considerations.

Vickers' Ms Goh said the firm uses principles set out by the United Nations' Principles for Responsible Investment and the Universal Declaration of Human Rights as guides for their own policy.

"We do not expressly name these guidelines in our term sheet. Instead, we ask portfolio companies to sign our policy, which contains the principles we value," she said.

The good news is that South-east Asia is well-placed for ESG investment as most of the region is still undergoing development.

Raja Hamzah, managing partner of RHL Ventures, a Malaysian VC and multi-family private investment firm, attests to this.

"In South-east Asia, it is quite a unique space where about half the countries have a relatively low GDP per capita of below US$10,000. This means that a large proportion of investments have a sustainable angle... for example, P2P (peer-to-peer) loans, education startups, and micro kiosks," Mr Hamzah pointed out.

That said, ESG-angled investments are led mainly by Europe, and is still an emerging idea in Asia. A common concern by investors is that sustainable investing may eat into returns.

But ESG investments are not necessarily less profitable, according to Bain.

It highlighted that from 2014 to 2018, the median return for deals in ESG-related sectors in the Asia Pacific was 3.4 times; for deals in other sectors, the median return was 2.5 times.

Going beyond simply meeting ESG benchmarks, private-sector investors are also increasingly seeking impact investments that generate specific social and environmental outcomes.

SVCA's Ms Yee said that private equity firms have recently raised larger impact funds.

Last month, LeapFrog Investments announced the close of its third impact fund at US$700 million, up from US$135 million for its first fund in 2010.

UOB Venture Management said last week that it will launch its second Asia impact fund in the second half of 2019. The fund will make equity investments of about US$1 million to US$15 million per investee company.

While impact investments are making strides among private equity firms, VCs are relatively new to such deals.

Singapore-based Quest Ventures is one of the handful of venture firms dabbling in early-stage impact investing, where the risks are often perceived to be higher than at growth stage. Quest is expected to hit the first close of its US$20 million inaugural impact fund by end-June.

Even though it is early days, there are opportunities for VC firms to find startups that are change-making, said Vickers' Ms Goh.

Among Vickers' portfolio companies are RWDC Industries, which manufactures biodegradable plastic, and MatchMove Pay, which provides payment solutions in India and Indonesia that serve the unbanked population.

"VCs can assist portfolio companies with their ESG practices. They are equally well-placed in relation to impact investing," said Ms Goh.