Perspectives on ESG-linked Financing Tools

By: Megan Starr and Sam Lukaitis
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ESG-linked financing aligns investment and sustainability outcomes in innovative ways. We’re proud to be an early adopter of integrating environmental and social considerations into financing arrangements. Megan Starr, our Global Head of Impact, and Sam Lukaitis, a Director in our Capital Markets Group, discuss our firm’s evolution in the ESG space and the impact the firm has on elevating the ESG agenda across the private equity industry.

Why is Carlyle interested in integrating ESG considerations into its financing arrangements?

Sam Lukaitis: We increasingly see ESG incorporated into financings across the corporate investment grade world demonstrated by the growing number of green bonds, green loans, and other green “use of proceeds” deals. But the leveraged debt issuance coming out of the private equity ecosystem has been historically slower to engage with ESG themes in the same way. That has changed over the last couple of years as ESG continues to grow in prominence across industries, a trend that has accelerated recently with the pandemic.

At the same time, we work alongside several portfolio companies with sophisticated sustainability strategies, such as Jeanologia, a developer of eco-efficient technologies for the denim industry, and Logoplaste, a manufacturer of rigid packaging solutions, and consistently consider how to drive further progress. We therefore saw a real opportunity to take these strategies and formalize them into the portfolio companies’ capital structures for the first time, and thus created new, financially accretive methods to incentivize even stronger performance on quantitative ESG metrics.

Megan Starr: These financings are prime examples of three of our ESG priorities. First, our firmwide framework for identifying material ESG issues in due diligence is grounded in the Sustainability Accounting Standards Board (SASB) standards. This framework provides our investment professionals with a structured guide for focusing on the most material ESG issues during the investment process. These issues, in turn, have formed the basis for many of the ESG-linked financings we’ve structured. 

Second, Carlyle is focused on driving positive ESG change over time at our portfolio companies and we believe ESG-linked financings provide an effective tool to further structure that change thesis into our deals. This is how we incentivize additional progress on material ESG issues that are important across our portfolio, from climate change and the energy transition to diversity and inclusion, and resource efficiency.

And finally, we continuously assess what is next in the ESG space. As previously mentioned, there is a concept of dynamic materiality in the field of ESG as new, important issues constantly emerge for companies to notice and manage. We’re eager to innovate by using the traditional tools of private equity and these financings are a great example of how we take a creative lens to advance the intersection between profitability, environmental, and social outcomes.

How long has Carlyle focused on ESG integration and what are the milestones achieved so far?

Sam Lukaitis: In the last few years, we believe Carlyle has really pioneered integrating environmental and social considerations into financing arrangements of portfolio companies in Europe. Examples include Jeanologia (2018), Logoplaste (2020), Flender (2021), and Acrotec (2021) highlighted on to the left.

There has been a unique angle to each of these transactions. We secured pricing on the company’s debt tied directly to material environmental ESG factors, such as water (Jeanologia) and CO2 (Logoplaste) savings. On the Flender transaction, we incentivized management to accelerate a business line that helps to deploy wind power, while at Acrotec a “green use of proceeds” was structured into its revolving credit facility to help incentivize capital expenditure projects with a significant environmental benefit.

While each financing was structured differently, these loans all seek to align incentives and reward management teams for positive environmental progress.

Megan Starr: More recently, we have looked at ESG-linked financings at the fund level. In February 2021, we secured the largest ESG-linked private equity credit facility in the U.S.—a $4.1 billion facility for our Americas Corporate Private Equity platform. In this facility, the price of debt is directly tied to our goal of having 30% diverse directors on the boards of Carlyle-controlled companies within two years of ownership. We believe this is the first facility of its kind to focus exclusively on advancing board diversity and we believe it is a critical issue for us to prioritize.

AlpInvest has also secured an ESG-linked credit facility for its Co-Investment Fund VIII. The results are tied to objectives at both the fund and AlpInvest level, providing an effective incentive to further ESG integration across AlpInvest’s business and through its wider spheres of influence.

What are the benefits of these transactions for the different stakeholders?

Megan Starr: On a macro level, ESG-linked financings further incentivize strong progress on material ESG issues and drive better financial outcomes for our portfolio companies and our key stakeholders. Our portfolio companies are excited by these structures. Management teams are increasingly focused on sustainability and recognize its importance in creating business value. These transactions create tangible examples of aligning business priorities with quantitative ESG metrics. We believe that progress on environmental and social targets clearly leads to costs savings. We’re excited by the broad uptake and to see companies using these transactions to further their sustainability strategies. Anecdotally, we’ve also seen increased demand for debt issuances that have this ESG linkage, which is another helpful outcome.

Sam Lukaitis: Management teams across our portfolio are keen to strengthen and highlight their impressive sustainability credentials. Now, we can provide them with an effective tool to formalize these concepts into capital structures and the increased external visibility has been empowering and rewarding for these businesses.


Read more about Our Approach to Impact in our 2021 Impact Review

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