Green Spark in Private Equity: The Role of Investors

SKBI Newsletter | March 2026

Media coverage and policy makers in recent times have raised concerns that private equity ownership may generate negative impacts on workers, communities, and the environment. An SMU study examines whether ESG investors of the private equity industry (i.e., Limited Partners, or LPs) can help curb these negative externalities.  

Key Messages:

• When Private Equity (PE) firms experience environmental and social incidents in their portfolio companies, they face a decreased ability to raise subsequent funds.
• The decreased ability to raise subsequent funds is driven by ESG-concerned relationship LPs refraining from recommitting capital due to their innate ESG preferences or reputational concerns.
• These environmental and social incidents impose significant financial losses on PE managers, due to their reliance on relationship LPs for fundraising. It is difficult for PE firms to replace the lost commitments from these LPs with new investors.
• Using a legal reform of the New York Public Pension System as an exogenous shock to ESG-concerned capital to the PE industry, this study shows that PE firms take into account LPs’ ESG concerns when choosing portfolio companies.

Overall, the analysis shows that ESG-concerned LPs can mitigate PE negative externalities through capital allocation. PE firms internalize these ESG concerns when choosing portfolio companies and engage with portfolio companies to mitigate ESG-related risks.

 

Duevski, T., Rastogi, C., & Yao, T. (2025). Can limited partners mitigate negative externalities in private equity? Working paper. 

Commenting on ESG trends over the decades, SKBI Advisory Board member Elena Okorochenko noted that ESG appears to be facing a pullback in the current decade compared to the last. Some have termed this shift “greenhushing”, where firms intentionally under-communicate ESG goals or progress to avoid scrutiny, accusations of greenwashing, or litigation. 

Key Challenges:

• There is a time lag between how the social and political preferences shift over time, and how that shift affects PE positioning.
• The cyclicality of ESG poses an issue as the cause and effect of such externalities on PE are not yet deeply understood. It is still unclear which comes first and what follows after.
• Different regions are on differing levels of ESG adoption, and it would be interesting to explore how negative externalities affect PEs globally i.e in Europe which is a more advanced ESG market, or Asia where it is more nascent.

Overall, Elena highlighted the relevance and timeliness of Prof Yao’s research in the current landscape as “it shows clear evidence and implications of poor ESG reputation on the LPs ability to raise funds.”.