Energy was one of the fastest growing segments within 2022’s record global M&A market, rising an impressive 25% from the year prior, according to the latest Arrowpoint Advisory data.
While this does tell a positive story as the markets opened up after the pandemic, 2022’s deal activity was slanted heavily towards H1, with H2 blighted by inflation, supply chain disruption, a tight labour market and the withdrawal of heavy fiscal support.
While Russia’s invasion of Ukraine has dominated the global energy M&A market, causing unprecedented price hikes and threat to global energy security, it has also strengthened the case for accelerating the green energy transition to promote greater energy independence.
This has provided new opportunities for private equity to play an increasing role in the sector, though there are fears, particularly within business communities, that the transition could stymy economic growth.
The green energy transition needs private equity
It is essential the UK accelerates its shift towards clean energy, while also maintaining both economic growth and security of supply.
Though the impetus is often placed on governments to find solutions, they cannot solve this problem alone.
In 2021, the International Energy Agency (IEA) estimated annual investments in energy infrastructure and technologies must nearly quadruple to $4 trillion by 2030 to hit net zero by 2050.
This is a significant funding gap that one government alone cannot fill. The missing ingredient could be private equity.
The energy transition has already accelerated interest across green tech – particularly hydrogen, solar and offshore wind, and battery tech and storage.
Even now, PE firms are funding this at all levels – from infrastructure and grid investment, through to designing heat pumps for home use.
Private equity’s notorious value-creation powers give it significant potential to take this to the next level and accelerate the global energy transition.
There are many positive incentives for them to do so – decarbonisation is consistently connected with positive economic outcomes.
Green energy businesses have arguably outperformed fossil fuel companies over recent years – and with lower volatility.
LPs are seeing a better return on investment in green businesses – and with consumers and investors increasingly focused on sustainability, this seems unlikely to change.
Meanwhile, growing regulation and negative market perceptions are making fossil fuels increasingly risky and less profitable.
Private equity’s full-ownership model also means LPs can have an even bigger impact by transforming, rather than divesting unsustainable businesses.
Private equity firms can bring in more sustainability-led senior roles such as Chief Sustainability Officers, for example, or set decision-making procedures to push portfolios more towards a net zero future.
Building private equity’s momentum
Around a third of global LPs have set net zero commitments affecting investment decisions.
What is missing are cohesive, industry-wide policies and cooperation to drive forward rapid transformational change.
Globally, 160 private equity firms, controlling $2 trillion in assets, have now signed onto the Initiative Climate International (iCI) – but this does not contain any kind of concrete goals or commitments.
Meanwhile, private equity firms have broadly rejected the $130 trillion Glasgow Financial Alliance for Net Zero, which was formed during COP26.
For private equity to build greater momentum requires intention, strategy and widescale collaboration between all players – LPs, GPs, regulators and industry bodies alike.
First, decarbonisation should become a central part of due diligence prior to a transaction.
Once a business joins a portfolio or is bolted-onto an existing portfolio company, decarbonisation should be embedded into board-level decision-making and value creation plans.
A decarbonisation roadmap should then be created with solid, scientific reporting targets.
Investment should be made in the right expertise and the right tools, to ensure portfolio businesses can hit the ground running.
There should also be solid knowledge-sharing processes to enable all portfolio businesses to collectively propel one another along towards net zero.
PE firms can also push incremental changes to create easy wins – from converting industrial fleets to EVs to putting better recycling systems in place.
Reasons to be cheerful
Overall, there are many reasons to be positive about the current energy market. There has been a great deal of progress and there is still plenty of growth potential – particularly in new green tech such as hydrogen, and solar and wind energy.
Pressures such as inflation, climate change and the situation in Ukraine are inevitably making the market more challenging. But the answer to many of these problems could lie in private equity, which has the potential to become a major driver in the green energy transition.
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