Stockholm (NordSIP) – Moved by low interest rates and propelled by the momentum of the Paris Agreement, ESG and sustainability concerns enjoyed unprecedented popularity over the last seven years. However, cash has once again become expensive, regulators have come into the fray to mitigate greenwashing, and policy-makers’ priorities have shifted to the shorter-term concerns created by Russia’s invasion of Ukraine. Much like the tech sector, the financial sector and the real economy, conditions have become tighter for sustainable investment service providers. As interest rates increase, the price of money increases, and investors have become pickier with their ventures, which has accelerated the natural consolidation process that every market goes through.
This trend which echoes across all sectors at the moment, reverberates also in the market for ESG service providers. Although for some time mergers, acquisitions and partnerships were the norm, the last year has seen some companies struggling to stay afloat. According to Nordic ESG service providers, tightening funding conditions will only allow the most competitive, lean and well-funded companies to stay afloat.
ESG Services Market Consolidation
Consolidation among ESG service and investment providers has been taking place for some time, a step often taken to ensure that businesses successfully scale up. In 2019, Sustainalytics took over GES, a Stockholm-based provider of ESG engagement services, only to be acquired by Morningstar. Meanwhile, Arabesque S-Ray announced it had received US$20 million from four new co-investors, Allianz X, Commerz Real AG, DWS Group, and Land Hessen. In 2020 DWS reported it had acquired a minority stake of 24.9% in Arabesque AI. Accenture joined these investors with a strategic investment in Arabesque S-Ray GmbH in 2021. ESG ratings proved to be very popular among credit rating agencies. In April 2019, Moody’s bought a majority stake in vigeo eiris, a provider of ESG assessments. At the end of 2019, S&P Global acquired RobecoSAM’s ESG Ratings Business. At the end of July 2021, Fitch invested US$6 million in startup Diginex, which uses blockchain and AI to help companies report ESG data. At the end of 2022, S&P Global then announced it had acquired Shades of Green business from CICERO. Even Santander acquired 80% of ESG consultancy, WayCarbon in March 2022.
However, all market consolidation has not allowed every ESG service provider to survive through partnerships and acquisitions. At the end of March, UK-based Clim8 announced it is closing down its climate investment platform. The company offered a sustainable investment platform that aims to provide a simple way to invest in multi-asset portfolios (shares, collective investment schemes, ETFs and bonds), with a focus on sectors that we believe will play a significant role in tackling climate change, including clean energy, clean technology, sustainable food, clean water, smart mobility and recycling. However, despite its success, the company was unable to find the necessary funding to continue to operate. According to a report by DAI MAgister, climate tech investment plummeted by 56% during the first quarter of 2023.
Similar dynamics appear to be at play in the Nordics. To understand the situation better, NordSIP reached out to Esgaia, Datia, SustainAX and INNORBIS.
Nordic VC-Backed Survivors
Both Esgaia and Datia offer interesting insights into the conditions experienced by Venture Capital (VC)-backed digital solutions ESG service providers seeking growth.
“Together with increasing interest rates, Russia’s illegal war with Ukraine has naturally had a negative impact on VC funding and evaluations not just in Europe, but globally, Esgaia not excluded,” says Anton Ljung, Founder and CEO of Esgaia, which provides a scalable engagement tracking software as an “easy to implement” plug-and-play solution for investors globally. Despite the economic environment, the company has been able to grow, according to Ljung. “Our software is now used by 35 institutional investors, representing a combined €3,5 trillion in assets under management, so things are looking good! We had a strong 2022 growing both revenue and clients by approximately 200 %, with continued growth in Q1 this year. As such, for VCs, we’re a more attractive startup today than 12 months ago. With our latest round in fall 2021, we continue to evaluate the need and opportunities for further funding going forward,” Ljung adds.
“The current economic conditions are not enough to stop the growing market demand for responsible investments,” says Juan Manuel Serruya, Co-Founder and CEO of DATIA, a Business-to-business (B2B) Software as a Service (SaaS) company that offers a monthly/yearly subscription that grants access to different ESG, SDGs, SFDR, EU Taxonomy and Stewardship management modules. The company offers traceable data and automated reporting tools that streamline the process of incorporating ESG data into the investment and reporting process. “For example, in Sweden, where Datia is headquartered, the Fund Selection Agency requires applicants to fully incorporate ESG into their strategies and processes and only Article 8 or Article 9 investment products will be selected. As our customers say ‘sustainable finance is now a must-have, not a nice to have’. Datia has not been looking for additional rounds of investment since closing the seed round with Nauta Capital in June 2022. But we notice that the funding market slowing down and capital going to stronger companies that can grow revenues and their impact in the world,” Serruya continues.
Nordic Self-Financed Survivors
SustainAX and Innorbis shed a light on the experience of market participants whose mainly consulting-based business model does not require outside funding. “SustainAX has a diversified product range within sustainable services driven by regulatory change. On the one hand, all investors have a problem in the non-covered tail of portfolios when it comes to ESG research. SustainAX provides complementary ESG analysis for portfolio managers to fill the gap left by the bigger providers like Sustainalytics. We also offer complementary services to our clients, teaching them about EU sustainable finance regulation and helping them implement it. It is a business model with a number of benefits, not least of which is scalability,” says Dag Messelt, founder and CEO of SustainAX.
“We have no outside capital. We are funded by operating capital. As a result, we have not felt the effect of the present economic conjuncture on the capital side. However, when our clients’ assets decrease because of monetary-policy driven valuation dynamics, they have lower revenues and adopt a tighter approach to their expenditures. Although we are optimistic about the future, the current economic downturn may slow the uptake process of new clients. We are not worried in the long term. We feel that we can navigate this environment because we are self-financed,” Messelt adds.
“I was presented with a number of buy-out options, which I decided to refuse because INNORBIS would have had to be absorbed by a larger organisation which would have acquired exclusive access to our know-how in exchange. I wasn’t interested in that sort of relationship and had a range of committed clients I was able to rely on, so I decided against it. However, the market is not easy. Unless you sold out or are committed and capitalised to remain an independent operator, ESG service providers are struggling to remain afloat,” Angélica Lips da Cruz, CEO and founder of INNORBIS, tells NordSIP.
The Way Forward
Fostering a vibrant sustainable finance market cannot happen in a vacuum and public support is crucial to helping new market entrants. “In our opinion, Sweden has a great ecosystem for early stage companies tackling sustainability challenges. In the very early days, Datia received support from Vinnova (Swedish Agency for Innovation Systems) and joined the early stage accelerator Sting in Stockholm. After Sting, Datia became a member of Norrsken, the impact hub working with climate & impact related startups. This early stage support provided enough funding to validate Datia’s idea and to prove to institutional investors that there’s demand for a next generation of ESG data solutions providers that bring transparency and better, smarter solutions to the market,” Datia’s Serruya adds.
Despite the consolidation already achieved in the market, ESG service providers argue that there is still plenty of room for growth. “While much is happening, there clearly is a big funding gap globally that we jointly need to address to e.g. reach many of the SDGs. With that said, the entrepreneurial community in Stockholm and the Nordics is flourishing in many ways, and there’s a lot of great efforts taking place to reduce barriers, enhance cooperation, and ultimately drive innovation,” Esgaia’s Ljung notes.
As the market for ESG services continues to mature, it has become increasingly difficult to be a small independent ESG operator, a reality that even those that have seemingly thrived in this environment acknowledge. But there is still some way to go. “The industry for ESG service providers is not very mature. A lasting economic downturn but there are a lot business models and a lot of companies that are providing a subpar product. The economic downturn and difficulty to access capital will accelerate natural selection process that separates the companies that have a valuable offering from those that don’t,” Messelt argues.
This does not mean that the entire industry is doomed or that interest is fading. It is, however, a sign that the market is maturing and that we are no longer in the far west. It won’t be pleasant for some participants but the hope is that the market will become streamlined. Among other benefits, this trend should help filter out greenwashing. That’s something to celebrate.
