How to conduct a VC fund due diligence as an LP including ESG?

How to conduct a VC fund due diligence as an LP including ESG?

How do you conduct a GP (VC fund) due diligence including ESG as an LP

As a limited partner (LP) analysing potential venture capital fund (VC) investments can be a challenging task. You don't want to overburden the general partner (GP) with unnecessary questions, at the same time you want to be diligent, able to compare different investment options and not miss out on critical areas. This is especially true when it comes to analysing funds from an ESG (environmental, social, governance) perspective, which still is a fairly new field in VC.

The United Nations Principles for Responsible Investments (UN PRI) together with the VC industry driven interest group "VentureESG" developed a LP due diligence questionnaire (DDQ) with ESG incorporation specifically for VC fund investments. It is fairly light weight and separating it from its private equity DDQ, which is focused on later-stage growth and buyout investors.

It aids limited partners (LPs) in understanding a general partner's (GP) responsible investment practices as well as the ESG risks and opportunities to which their investments may be exposed.

The DDQ is designed to facilitate, rather than to replace the LP/GP conversation. It is meant to be used as a starting point for such dialogue by providing a baseline list of questions that LPs can ask GPs during the fundraising process.

🔍 Let’s take a look at the DDQ questions that are divided into six sections:

1️⃣ Policy and governance 👉 the questions recognize your governance, oversight, and policies for responsible investment.

1.1 Does your firm have a responsible investment policy (or equivalent)?

1.2 Who oversees responsible investment within your firm?

2️⃣ Fundraising 👉 defining your ethical investment responsibilities in fund documents.

2.1 Do you plan to include any formal responsible investment commitments in the Limited Partnership Agreement, side-letters, or other constitutive fund documents for this fundraise?

3️⃣ Pre-investment 👉 being aware of how you evaluate potential ESG risks and opportunities in your future investments

3.1 Are there any products, services, and/or technologies that you avoid investing in (i.e. exclusions), or to which you apply additional due diligence, due to responsible investment considerations?

3.2 Do you assess whether ESG factors and broader thinking around environmental sustainability and social responsibility influence a founder’s and/or management team’s approach to building their business?

3.3 Do you evaluate current or future ESG risks and opportunities in potential investments and systematically include their evaluation in your investment process?

3.4 Do you include any ESG or sustainability-related clauses in deal documentation (e.g. term sheets)?

4️⃣ Post-investment 👉 Recognizing how you contribute to the ESG risk mitigation and value creation efforts of the portfolio companies in your portfolio by integrating responsible investment practices

4.1 Do you incorporate responsible investment practices in your portfolio management activities?

4.2 Do you sit on or interact with portfolio company boards to influence and monitor how they manage ESG risks and opportunities?

4.3 Do you measure and monitor material ESG key performance indicators (KPIs) for your investments?

4.4 Do you incorporate ESG considerations when positioning portfolio companies for follow-on capital and/or exit?

4.5 Do you identify and/or act on sustainability outcomes related to portfolio companies’ operations, products and services as they scale?

5️⃣ Reporting and disclosure 👉 knowing how LPs may keep an eye on your ESG performance and make sure the fund is following the established rules and procedures, including declaring significant ESG incidents

5.1 Do you report and evidence progress on ESG performance, including data and targets, to LPs?

5.2 How do you manage and disclose material ESG incidents to your LPs?

6️⃣ Additional information

6.1 How do you identify and manage material ESG risks and opportunities within your own firm?

6.2 If applicable, describe any of your responsible investment practices not otherwise covered in this questionnaire.

For more detailed information check the below article: