Summary
THE LIGHTSMITH GROUP is a private equity firm pursuing superior financial returns along with measurable social and environmental impacts by investing in companies that address major societal needs. Lightsmith partners with growth-stage companies and helps the companies scale their solutions globally.
Focus areas include technology-enabled business services and solutions in the areas of energy, water, food and agriculture, and climate resilience solutions.
Lightsmith Climate Resilience Partners SCSp RAIF (“the Fund”) meets the qualifications outlined in the Taxonomy and is classified as an Article 9 financial product under the EU Sustainable Finance Disclosure Regulation (SFDR) through its support for climate mitigation and adaptation; assurance to do “no significant harm” to environmental or social objectives; and by requiring its portfolio companies to follow good governance practices, with respect to sound management structures, employee relations, remuneration of staff and tax compliance. Sustainability and ESG considerations are incorporated into every aspect of the investment process. The evaluation of individual employee and firm performance includes the sustainable performance of the Fund’s investments.
No significant harm to the sustainable investment objective
Environmental, social, and governance risks that could have a negative impact on the financial performance of the investments will be assessed, managed, and incorporated into the investment process through the application of the Environment and Social Management System (“ESMS”). The ESMS defines the Fund’s approach to integrating E&S safeguards and risk management and outlines the process for screening, categorizing, appraising, and monitoring the Sustainability Risks of investments. It adopts the IFC Performance Standards (2012) as its standard of assessment and incorporates the OECD Guidelines for Multinational Enterprises, the UN Guiding Principles on Business and Human Rights, the core conventions of the International Labour Organization on Fundamental Principles and Rights at Work and the International Bill of Human Rights. The ESMS includes policies and procedures for Lightsmith to follow regarding its own activities; roles and responsibilities for oversight and implementation; and integration of ESG factors into the investment process, including due diligence, investment decisions, investment agreement provisions, responsible ownership, and reporting. The ESMS can be viewed in English, Spanish, Portuguese, French, Arabic, and Malay.
The ESMS precludes the Fund from investing in high-ESG-risk Category A transactions, and because implementation of the ESMS is expected to help to identify and manage potential ESG risks, the negative effects of ESG risks on financial returns of the Partnership’s investments is expected to be substantially mitigated. In addition, the Partnership’s portfolio is expected to be highly diversified across industry sectors worldwide. It is not anticipated that any single Sustainability Risk will drive a material negative financial impact on the value of the Partnership and of its investments.
Through the application of the ESMS the Fund considers the adverse impact of investment decisions on sustainability factors related to climate, environmental impacts, social and employee matters, respect for human rights, anti-corruption, and anti-bribery. Companies are screened early in the due diligence process to identify possible principal adverse impacts that could harm achievement of its environmental and social objectives, including by screening activities against the Partnership’s list of Excluded Activities to determine eligibility. Based on the environmental and social assessment, actions make be taken to mitigate the principal adverse impacts and ensure adherence to international best standards which are disclosed through the Annual ESG and Impact Report. Portfolio companies are required to maintain policies and procedures designed to ensure that it has no known principal adverse sustainability impacts as outlined in the EU Taxonomy Minimum Safeguards and SFDR.
The ESMS identifies and manages environmental and social risks that could have a negative impact on the Fund’s investments. The Fund categorizes potential investments according to the environmental and social risks and the company’s capacity to effectively manage risks and impacts, including the ability to implement any required mitigation. Environmental and Social Action Plans (“ESAPs”) may be required when the assessment of the company’s business activities indicates that there are substantial environmental and social risks that should be addressed and/or mitigated. ESAPs define desired outcomes and actions to address the issues raised in the risks and impacts identification process with measurable outcomes and timelines. Action plans will prioritize and describe specific actions and deliverables that are required for the portfolio company to mitigate potential E&S risks to an acceptable level that align with international standards and best practice.
Through the application of the ESMS, the Fund considers indicators related to principal adverse impacts. Given that the Annex 1 is only applicable to entities, the Fund will report its consideration of PAIs through Annex 5) in its annual report.
Sustainable investment objective of the financial product
The strategy focused on growth-stage companies that offer technologies, products, and services that can help to assess and manage the risks and impacts of climate change globally contributes to climate adaptation and climate mitigation objectives. The Fund invests in technology-enabled business services and solutions in the areas of energy, water, food and agriculture, and climate resilience solutions and uses the ASAP Adaptation Solutions Taxonomy to ensure that the intervention builds resilience to a key climate vulnerability, risk, or impact.
Investment strategy
The Fund’s overall objective is to make sustainable investments that enhance climate resilience through scaling-up climate adaptation solutions while also seeking to maximize returns to Investors, specifically sustainable investments that assess and address the impacts of climate change.
Climate change is increasing risks and impacts across all sectors of the global economy. Natural disasters generated record losses of $340 billion in 2017, up from $175 billion in 2016. The United Nations Environment Programme estimates that the costs of adaptation could reach $300 billion per year by 2030 in developing countries alone. Even if global warming is limited to a 1.5°C target by 2100, the effects of climate change are projected to cause substantial risks and impacts across society and the economy.
Investing in climate resilience solutions is a large and growing need and business opportunity. The Fund has identified 20 market segments where companies have existing technologies, products, and services to manage weather volatility, physical disruption and damage, operational risks, and resource scarcity—the kinds of risks and impacts being increased by climate change. In 2018, $170 billion was estimated to have been spent on these solutions globally. That spending is expected to more than double to $380 billion by 2022. Although most of these companies do not describe what they do as “climate resilience” or “adaptation”, climate change is driving even faster growth in spending in these market segments, with the potential for $50-100 billion of additional spending annually.
CRAFT is the first private investment fund focused on climate resilience and adaptation solutions, according to a study by the Climate Policy Initiative. Despite the growing risks and impacts being increased by climate change, less than 5% of climate finance can be attributed to climate resilience or adaptation, and virtually none of that is systematic in the private sector. The Partnership seeks to generate attractive financial returns by investing in this underappreciated but rapidly growing market opportunity and address the need for climate adaptation and resilience by scaling up companies that respect minimum good governance principles and whose products and services can address the risks exacerbated by climate change.
The Fund has in place a due diligence process which includes a consideration of and legal review of documents and matters related to corporate governance, employee relations, tax compliance and general management.
Proportion of investments
All of CRAFT’s investments will be sustainability-related and in support of the environmental objectives of climate adaptation and / or climate mitigation. The minimum share of sustainable investments will be 100%.
Monitoring of sustainable investment objective
All portfolio companies are monitored and evaluated to ensure ongoing compliance with environmental and social requirements, including any mitigation measures, action plans and corrective actions. Information is obtained through several internal and external channels such as formal governance structures at the portfolio company, financial reporting from the portfolio company to the Fund, ongoing desk-based monitoring that utilizes publicly available news reports, industry insights, etc. to track changes in the operations and the local context that may affect the environment and social profile of the company.
Additionally, Lightsmith retains the ability to conduct periodic site visits on a randomized basis either directly or through a third-party consultant to observe and verify company reported information. The scope, timing and periodicity of the visits are commensurate with the significance and severity of the risks. The Fund will require Portfolio Companies to promptly report any environmental, occupational health and safety, public health and safety, or social event, incident or accident that occurs onsite that may have a material adverse effect, attract adverse outside attention, or give rise to material potential liabilities. Information surrounding incident reporting is considered sensitive business information and will be kept confidential. Reporting should include information about the nature, impact and effects of the incident, actions taken, and plans to be taken to remedy and to prevent future events.
Methodologies
CRAFT screens companies to ensure that they offer a technology, product, or service that helps its users address one or multiple key climate vulnerability/ies, risk(s), or impact(s) and build resilience (i.e., a “climate resilience solution”) aligned with the Adaptation Solutions Taxonomy and subsequent revision, the Climate Resilience Investments in Solutions Principles. To date, CRAFT has and will continue to maintain an active pipeline of promising companies that satisfies this criterion. In addition to climate rationale, CRAFT also screens for whether the company can track ESG and impact metrics, and the quality of its management, among other investment criteria. The CRAFT Fund is continuously screening and adding new climate resilience investment opportunities to the pipeline. High potential investment opportunities from the pipeline then undergo CRAFT’s rigorous due diligence and formal investment screening process. Investment opportunities that ultimately receive approval from CRAFT’s investment committee and satisfy confirmatory due diligence thereafter are executed by the CRAFT Fund.
Data sources and processing
In measuring its impact, the Fund focuses on measuring direct impacts that occur through increased climate change adaption and climate resilience and indirect impacts occurring from capital mobilization for climate action. Catalyzing impacts extend beyond the scope of the IMS. In addition, the IMS will measure a set of core indicators related to Economic Development for each investment, measure climate mitigation impacts on reduced GHG emissions resulting from the Fund’s investments; and disaggregate impacts based on gender, as applicable. The Fund will map all impacts including impacts on climate change adaptation and climate resilience, greenhouse gas reduction, economic development, gender, and biodiversity against the relevant Sustainable Development Goals to which the impacts contribute.
The Fund uses a limited number of data points by identifying Key Performance Indicators, which are mapped to the expected climate change adaptation impacts and other impacts of the investment. The metrics can be derived from existing procedures and processes at the Portfolio Company and do not require additional outside resources. The universal nature of the metrics will allow for reporting on a Fund level and will facilitate comparisons across companies. Lightsmith’s approach to measuring its climate-related impact is consistent with the Paris Agreement, the Task Force of Climate Related Finance Disclosures, and other approaches in climate change adaptation analysis that advance climate resilience and adaptation. Note that reporting on social and environmental impacts are incorporated as part of the Fund’s investment process and addressed in greater detail in the Environment and Social Management System and through the integrated Annual ESG and Impact Report.
Limitations to methodologies and data
Tracking climate change adaptation and resilience impact is complicated by the broad array of sectors and geographies to which adaptation applies, as well as a lack of commonly agreed impact indicators given the nascence of adaptation as an investment opportunity. The impact potential of each investment is likely to differ depending on several factors, such as the specific vulnerability addressed, sector of investment, and baseline characteristics of the target markets for expansion.
Lightsmith utilizes a logic model to estimate the direct climate change adaptation impacts derived from the availability and use of the intelligence, product, or service. This model helps identify the data to be collected and the key performance indicators (KPIs) to be monitored as part of the impact measurement process. First, a set of baseline indicators are established related to the “application” of the core technology, product or service such as the number of units in use, the number of customers using it, or the extent or value of assets benefiting from the use (e.g., hectares of land under drip irrigation). Climate change adaptation measures should link to the specific hazard or exposure that is incorporated in the vulnerability assessment. Key Performance Indicators (“KPIs”) are used to explain the output of what the business activities produce. These KPIs will be tracked at the time of the Fund’s investment and through to the Fund’s exit to establish estimates regarding the Fund’s incremental contribution. If the Fund can secure additional grant or technical assistance capabilities, further study could help deduce conclusions around outcomes, or achievements that occurred as a result of the Fund’s involvement in the Portfolio Company’s operations.
Due diligence
Through its Investment Process Policy, the firm has a robust due diligence process in place that considers the following: market opportunity; business model attractiveness, management, competitive position, risk/return, impact and ESG risks. Any violations of international standards regarding anti-money laundering (“AML”), know your customer (“KYC”), and environmental, social, and governance (“ESG”) will be grounds to cease consideration of an investment. A due diligence checklist is used to support the process.
ESG due diligence and management is incorporated into all stages of the investment process:
- Screening– All potential investments in the pipeline will be screened for “climate eligibility”: Does each investment help assess or address specific climate vulnerabilities? Populations, regions, and sectors whose vulnerability/ies will be assessed or addressed will be identified.
- Assessment – In due diligence, potential impacts will be estimated, KPIs defined, and ESG risks identified including governance practices, management structures, employee relations, remuneration of staff and tax compliance.
- Investment Decision– KPIs will be defined, a baseline established, and impacts will be mapped against SDGs; these will be included in the Investment Advisory Committee Memo and are considered in the investment decision.
- Investment Agreement– Definitions and data collection methods for reporting KPIs will be discussed and agreed with the portfolio company, including any parallel grant-funded activities to support vulnerable segments through portfolio company activities.
- Monitoring and Reporting– ESG risks and KPIs will be monitored during the holding period; companies will report through an Annual ESG and Impact Report. Periodic site visits will be conducted to verify reported information on both a routine and randomly selected basis. The Fund will track the proportion of its investments that are aligned with the SFDR and Taxonomy Regulation.
Several types of third-party consultants and advisors may be used, as appropriate, in the investment process. First, where necessary, the deal team’s financial modelling and analysis may be confirmed by a third-party accounting and audit firm and other confirmatory accounting and financial analysis. Second, the deal team may work with third-party background screening companies to complete KYC/AML analysis on key management team personnel. Third, the deal team may also contract with third-party environmental, social, and governance due diligence consulting firms as appropriate. Finally, the deal team may also work with third-party advisors and experts to develop and evaluate the appropriate indicators for measuring the impact of a proposed investment on climate resilience and adaptation, the Sustainable Development Goals, and gender impacts.
Engagement policies
Lightsmith seeks to ensure the effective participation of key stakeholder groups, including emerging markets investors and financial actors, engineering and data companies, and others representing the views of the private sector and NGOs in emerging markets. Lightsmith disseminates information and seeks input through various public and industry forums such as the Global Adaptation & Resilience Investment Working Group’s (“GARI”) meetings, climate workshops, and regional meetings in emerging markets. Public disclosure regarding investment activities is reported on a consolidated basis through the UN PRI framework. Lightsmith extends stakeholder engagement to its portfolio companies and maintains channels for its Portfolio Company management teams, Portfolio Company employees, and people living in communities in which the Portfolio Companies operate to communicate with Portfolio Companies or directly with Lightsmith. Lightsmith also maintains several communication channels with its Limited Partners (“LPs”) such as routine site visits and participation in investor meetings. Additionally, an annual report will be provided to all LPs regarding the implementation of the ESMS and the Environmental and Social performance of the Portfolio Companies.
Attainment of the sustainable investment objective
No benchmarks or indexes have been established in private equity strategies focused on climate adaptation.
