2023 Investment Trends: ESG and Technology Take Centre Stage

2022 was an undoubtedly challenging year for investors. Many saw the value of their portfolios fall, especially in the year's second half. However, 2023 has given investors signs of hope. From the undeniable pull of ESG initiatives to the transformative power of technology, private equity firms are embracing optimism and envisioning a more sustainable, tech-enabled future for their portfolio companies. 

Two domains have emerged as beacons of opportunity for private equity firms and private investors: ESG and technology. But these two domains are more than just fleeting trends—they are pivotal forces shaping the trajectory of investments and promising substantial future returns for those willing to capitalise on them.

2023 Investment Trends in Environmental, Social and Governance (ESG) Factors

Environmental, Social and Governance (ESG) factors have had no shortage of attention since they first came on the scene. Today, ESG considerations are deeply woven into corporate strategies, investment decisions and regulatory frameworks, and several trends are shaping its evolution this year.

Higher benchmarks for ESG achievements

Private equity firms, in particular, are recognising the long-term value and risk mitigation that ESG initiatives offer. In today’s climate of heightened scepticism, the ESG metrics of companies are being put under the microscope. This scrutiny is driven by investors setting higher benchmarks for ESG achievements, mirroring an ethical shift in consumer preferences. 

Consequently, ESG factors play a central role in guiding investment decisions and determining capital allocation strategies. For example, there is a growing interest among investors to address sustainability challenges that encompass multiple interrelated sustainability domains, including but not limited to a shift towards a low-carbon economy, social responsibility and robust governance structures. 

Data-driven approaches

More investors are realising the importance of data-driven approaches to ESG. The amount of available data on sustainable investing is extensive, meaning investors have the opportunity to quantify and measure ESG performance before choosing where to put their money. Consequently, a growing number of fund managers are incorporating ESG risk factors and policies into due diligence processes. 

In recent years, the granularity of ESG data has improved significantly. Investors can now gain access to platforms to dissect vast datasets, offering insights into companies’ ESG initiatives. With these tools, investors can dive deeper into the nuances of ESG metrics, identifying potential issues or areas of opportunity post-acquisition.

2023 Investment Trends in Technology

Although deal volume has reduced from the dizzying highs of 2021, technology continues to attract investor interest as companies look for ways to offset rising costs and margin squeezes. In Q2 2023, 21 private equity deals were announced in the British technology industry, worth a total value of $50.5 million. This is a decrease of over 50 per cent compared to the previous quarter. However, technology deals performed better in the US by their total value. 75 deals were announced in Q2 2023, worth a total value of $6.5 billion. What factors are fueling investor enthusiasm for technology deals?

Machine learning and AI

Despite total deal volume falling, investors still appear to be interested in particular tech market segments. For example, machine learning and AI have attracted significant attention over the last five years, and deal volume rose in this segment in Q1 2023. During the first quarter of 2023, machine learning and AI deals totalled $5.81 billion across 247 deals globally. 

Private equity firms and private investors are putting their money into machine learning and AI because of its impact on business operations. Firms can leverage AI to make more informed decisions, increase efficiency in automatable tasks such as data entry and some areas of financial analysis, utilise predictive analytics and create personalised experiences for customers and clients. 

But that’s not all—firms are also using AI to speed up the due diligence process by making efficiency improvements, reducing risk and leveraging predictive capabilities. Investors recognise the transformative potential of machine learning and AI, and it will likely remain at the forefront of investment strategies for some time.

Value creation

The sluggish market, largely attributed to ongoing macroeconomic headwinds, has led many firms to pivot to value creation rather than growing their portfolios. Many firms are focusing on value creation strategies that leverage digital technologies. For example, tech services companies focus on scaling or differentiating their companies in various areas, including the cloud, analytics or other digital services. Additionally, they are shifting their portfolios to serve tech-native customers and those continuously re-investing in digital capabilities. 

Private equity firms are also prioritising operational efficiency through innovative technologies, ensuring their existing portfolio companies are equipped to handle the current macroeconomic uncertainty and positioned to outperform as economic growth accelerates. This involves streamlining operations, optimising processes to reduce costs and fast-tracking digital transformation initiatives to improve performance. As the landscape continues to evolve, firms that focus on both value creation and operational efficiency by embracing technology are best positioned for future success.

Navigating the 2023 Investment Landscape

Despite its challenges, 2023 has revealed the ongoing importance of integrating ESG principles into business strategies, with an emphasis on data-driven insights. Regarding technology, while the overall deal volume experienced a downturn, specific segments, including machine learning and AI, have maintained investor interest. As 2023 draws to a close and we transition into 2024, both of these areas will likely remain focal points for forward-thinking investors.

Digital capabilities are a key focus in the investment trends of 2023. At Palladium, we support private equity investors and their portfolio businesses to define, design and implement digital capabilities. Working across the entire deal cycle, we help our clients identify digital opportunities and risks in due diligence and extract value through the development of new digital products and services.