In today’s regulatory and market landscape, private equity leaders need to actively manage their financed emissions. A company’s greenhouse gas emissions affect its exposure to physical and transition threats, ability to attract capital, and capacity to meet climate regulations like the EU’s CSRD. Portfolio decarbonization enables GPs to address these risks and future-proof their investments.
Climate change is worsening, with significant repercussions for private markets. Today, portfolio companies must contend with new risks arising from an unstable climate and a transitioning economy: Droughts, floods, and fires are disrupting supply chains and threatening access to raw materials. At the same time, companies face growing scrutiny from regulators, lenders, and consumers over their environmental performance. The financial consequences are considerable: Without intervention, investor losses due to climate change are projected to reach $4T USD by 2100, according to .?
To future-proof investments, private equity leaders need to understand and actively manage their exposure to climate risk, starting with the greenhouse gas emissions in their portfolios.?
In this article, we’ll take a deep dive into portfolio decarbonization: what it is, why it’s important, and how GPs can begin to implement it.?
What is Portfolio Decarbonization??
The process involves actively managing emissions from portfolio companies.
From a climate disclosure perspective, financial institutions assume responsibility for the emissions in their portfolios. These financed emissions typically make up most of an investor’s total carbon footprint: On average, portfolio emissions are 700 times greater than a financial institution's directly generated emissions, .?
That means Limited Partners (“LPs”) and General Partners (“GPs”) who want to improve their own emissions profiles must focus on decarbonizing their portfolios. Portfolio decarbonization is the process of analyzing emissions data from portfolio companies (“PortCos”) and working to actively manage and lower these emissions. This is typically done through operational changes, low-carbon technologies, divestment from heavy emitters, and ongoing consideration of climate risks and opportunities in investment decisions.?
Why Should GPs Prioritize Decarbonization??
Managing risk, attracting capital, and complying with regulations.
Given today’s regulatory and market landscape, private equity leaders need to actively manage their financed emissions. The Private Markets Decarbonization Roadmap (PMDR) identifies three driving reasons for GPs to prioritize portfolio decarbonization:?
Risks and Returns?
As climate change worsens, physical risks to PortCos are growing. Severe weather and disasters like heat waves, floods, and drought lead to supply chain disruptions, scarcity of resources, and higher costs for raw materials. For example, severe drought in 2014 drove up the cost of crops like wheat, leading to a in certain regions. Even if climate events don’t directly affect a company, they can have a ripple effect, with increased financing costs and value chain impacts. To mitigate damage to operations and financial performance, funds need to address these physical risks. This is especially true for Private Credit Funds, where physical risks can lead to distress or default, and for Growth and Venture Capital, where climate factors can influence an entity’s potential to scale.?
Transition risks are growing, too. Companies that don’t adapt to an evolving low-carbon economy may see shrinking demand for their products and greater competition from “greener” companies. Those who make misleading sustainability claims or fail to adequately disclose their climate-related financial risks could face litigation, fines, and reputational damage. The fiduciary repercussions are real: Without intervention, climate risk could bring up to $62B USD in additional interest payments for corporations by 2100, according to a .
It’s not just about risk — it’s also about returns. Decarbonization can build a PortCo’s competitive advantage and long-term resilience. Companies that prioritize sustainability (for example, using more renewable energy than competitors) stand to win over consumers. An estimated 43% of US consumers consider sustainability among their top four purchasing criteria, and 75% of consumers in the UK, France, and the Netherlands are willing to pay more for sustainable products, according to . Sustainability commitments can further drive performance by drawing top talent: One survey found that expect their employers to take a stand on climate change.?
Carbon data can also reveal levers for value creation, according to Ben Saunders, sustainability principal at Apollo Global Management. A portfolio company’s emissions create a heat map that shows opportunities for commercial success and operational efficiencies. “It’s a starting point to dig for value creation opportunities,” Saunders explains.?
Access to Capital?
Environmental performance is playing a growing role in attracting capital from public and private markets, and companies in heavy-emitting sectors are at risk of losing investors. One notable example is the Church of England’s decision to , after citing the sector’s insufficient plans to align with Paris climate goals. In the US, New York recently announced divestment of state pension fund holdings from fossil fuel companies, saying, “We are restricting investments in companies we believe are unprepared to adapt to a low-carbon future.” New York’s fund, which manages nearly $260B USD in assets, has set a goal of committing $40B USD to sustainable investments and climate solutions by 2035. Many other US states are under pressure to follow suit.?
Mounting calls for divestment can pose a challenge for heavy emitters, who need capital to decarbonize their operations, but struggle to attract it from investors who don’t want to be seen allocating to “dirty” industries. This can result in stranded assets. If companies can’t attract follow-on funding to maintain their operations and meet debt obligations, private credit investors will be affected. More than , have now committed to divesting their assets from fossil fuels, or already are divesting.?
Meanwhile, as ventures seek new funding, they must be prepared to face scrutiny for their decarbonization metrics. A growing number of organizations are now publicly disclosing their greenhouse gas emissions: Between 2021 and 2023, the number of private equity-owned companies reporting to CDP, a global climate disclosure platform, . Transparency about carbon emissions is rapidly becoming a market norm.?
Regulatory Compliance?
As the world works to meet Paris climate targets, a variety of climate-related regulations have emerged. These range from energy efficiency requirements to carbon pricing and emissions trading systems, renewable energy incentives, supply chain risk management mandates, and climate disclosure regulations.?
Each of these regulations has fiduciary implications for PortCos. For example, Europe’s Corporate Sustainability Reporting Directive (CSRD) requires organizations to disclose their carbon emissions and conduct double materiality assessments — reporting not just on the risks they face, but on their company’s material impacts on the environment. Another EU law, the Corporate Sustainability Due Diligence Directive (CSDDD), mandates that organizations actively mitigate climate risks in their supply chains. Failure to comply with these climate regulations can result in substantial penalties and reputational damage.?
A Roadmap for Portfolio Decarbonization
The PMDR offers guidance for navigating challenges.
Managing financed emissions is a pressing imperative, but it isn’t easy. GPs must grapple with evolving regulatory requirements, data scarcity, unclear pathways to net zero, and growing polarization about the role of sustainability in investment decisions.
In 2023, with the support of Bain & Company, the Initiative Climat International (iCI) and the Sustainable Markets Initiative’s Private Equity Task Force created the Private Markets Decarbonization Roadmap (PMDR), aimed at helping GPs navigate decarbonization obstacles. The PMDR is voluntary and optional; it provides GPs with guidance on balancing decarbonization priorities with fiduciary duties, defining a clear path for reaching climate targets, and identifying effective decarbonization levers. Below, we break down five key steps for applying the Roadmap.?
Key Steps in Portfolio Decarbonization
1. Measure.?
To get a baseline picture of financed emissions, GPs should begin by calculating scope 1, 2, and 3 emissions across PortCos. This data will underpin future disclosure and decarbonization efforts, so it’s important to start by establishing a reliable system for calculating portfolio emissions.?
2. Map.?
The next step is to set clear, science-based targets for emissions reductions, then decide which initiatives and PortCos to prioritize. To accelerate progress, GPs should start by addressing sectors with the heaviest emissions.?
3. Reduce.?
Once goals and priorities are set, GPs can work with targeted PortCos and management teams to implement decarbonization strategies, like improving energy efficiency or transitioning to clean power sources.
4. Communicate.?
Each fund will need to determine how it discloses its climate performance information to stakeholders. If a fund is still working on identifying decarbonization pathways, it can start by sharing data just with LPs or internal stakeholders. If it makes a public decarbonization commitment, it can decide whether or not to share a specific emissions target and details on progress towards that target.?
5. Monitor.
GPs will need to track progress and continue to engage PortCos as they work to drive down emissions. Companies should be able to share robust carbon data and board-approved plans for decarbonization or transition.?
Challenges in Managing Portfolio Emissions
Cost, complexity, capacity.
One of the biggest hurdles GPs face is getting reliable data from PortCos. , formerly Senior Project Officer at CDP, explains that small and medium-sized enterprises that struggle with CDP reporting tend to face a common set of roadblocks: Cost (they can’t afford resources and tools to calculate their carbon footprints), complexity (emissions data is difficult to collect and calculate), and capacity (teams are often overextended and may have little to no prior carbon accounting experience).?
Technology has emerged to address these issues. GPs can share free carbon accounting software with PortCos to help them calculate emissions accurately and find support with data collection and analysis. They can then use that data to make informed decarbonization decisions.?
TPG is one example of a firm that is using technology to assess its financed emissions. Several entities in TPG’s portfolio (including a fintech firm in South Africa, a solar energy company in the US, and a financial services organization in India) recently used 麻豆原创’s free software to measure their carbon footprints for the first time. One company described the process as “practically effortless” — after data collection, emissions calculation took an average of 24 minutes.
Future-Proofing Through Decarbonization
The concept of sustainability in private equity is not new. In many ways, the industry pioneered the practice of embedding environmental considerations into sound investment processes. Many LPs already expect funds to measure the scope 1, 2, and 3 emissions in their portfolios. A GP's ability to understand and manage these emissions is increasingly important — it affects a company’s ability to respond to risks, attract capital, and comply with emerging ESG regulations. It’s not just about risk, though. Decarbonization can unearth opportunities for commercial success — and help GPs build value and fortify investments in a climate-altered world.?
