Friday Letter: Now is the time for ESG

The pandemic and social protests of 2020 are spurring change throughout society and in the investing world. As a result, ESG-focused investing is on the rise in the US, according to the advisory service Different Funds.

I talked to a few people this week about environmental, social and governance (ESG) investing, and we all agreed that it’s often used as an umbrella term to include anything and everything related to impact investing, sustainable development goals, ESG and even at times diversity and inclusion.

While ESG is certainly a catch-all, here’s something else we all agreed on: interest in ESG is growing.

The folks at Different Funds, an advisory service that helps institutional investors to analyze and connect with venture funds and strategies, this week issued a report on ESG that says basically 2020 has made it difficult to ignore the need for more responsible investing. Authors Ellen Brooks Shehata and Jacob Tasto point to wildfires and hurricanes (fueled by climate change) as well as as social issues and protests in support of racial justice as drivers of more ESG interest.

In their report, Different found that the number of ESG-focused funds is on the rise. Since 2015, the number of VC funds raised each year by ESG firms quadrupled, up to more than 40 in 2019. The amount of venture capital raised each year by ESG firms has similarly quadrupled since 2015, up to $2.4 billion in 2019.

What’s even more remarkable about that is ESG funds are typically small, according to Different. The average fund size of an ESG firm is about $65 million, compared with about $124 million for non-ESG firm. Similarly, the median fund size for ESG firms is $35 million, compared to $50 million for the broader VC funds.

That small size certainly rules out a number of large LPs who don’t have the capacity to invest in such small sized funds, even if they are interested in ESG.

The good news is we’re seeing change, according to Mack Kolarich, a CPO at Different. “Institutional LPs are investing in funds outside of their norm,” he said.

That would certainly be a game changer. Of course, ESG funds are miniscule compared with the broader VC market, which is chock full of mega-funds and other large asset managers. But as Different says, “Without a doubt, ESG-lens investing is on the rise in US venture capital.”

Tell me what you think about ESG-focused funds and LP interest. I’m always happy to connect with investors and listen to thoughts and ideas. You can reach me at agoldfisher@buyoutsinsider.com and I’m open to voice and video calls, of course.