This webinar was hosted in partnership with ETCFO

ESG due diligence - One size does not fit all, says India Inc.

Last year at COP 26, India pledged net-zero carbon emissions by 2070. Businesses across the country have since announced their net-zero targets. The intent to comply with the ‘E’ aspect of ESG (Environment, Social and Governance) is powerful and now lies the road ahead to implement it in the way India Inc. does business.

Accompanied by the urge to “do something” to comply in spirit with ESG regulations, there is also confusion about where to start. The perceptions about ESG and its roll-out were discussed at a recent webinar, M&A Deal Momentum: Securing ESG Due Diligence Success in India, hosted by Datasite and ETCFO.

Dinesh Anand, National Managing Partner, at Grant Thornton moderated the discussion that looked deeper into ESG due diligence in India with panelists including:

• Pulkit Goyal, CFO, Honeywell Automation India
• Manish Singhania, CFO, ArcelorMittal Nippon Steel India
• Vidya Sarathy, CFO, 3M India
• Sashvat Rai, Director, Aavishkaar Capital
• George Belcher, Head of India, Datasite

For a start-up or an early-stage enterprise, it is fairly difficult to comply with the ESG checklist on day zero.

ESG contextual to business model and scale

For a start-up or an early-stage enterprise, it is fairly difficult to comply with the ESG checklist on day zero. However, what may help is a contextual approach that includes analyzing what the business model entails, assessment of the promoter’s near-term and medium-term priorities, as well as their long-term goals. How this company advances into a robust ESG-forward enterprise becomes an iterative process. Meeting goals and reassessing them eventually becomes well-baked into the construct of the enterprise.

Following this approach, as the start-up moves into a growth stage and eventually goes for an IPO, meeting ESG regulatory requirements such as the Business Responsibility and Sustainability Report (BRSR) required by the Securities Exchange Board of India (SEBI) become feasible. Hence, the right approach towards ESG aspects for the business in the early stages will be advantageous.   

The ‘E’ aspect of ESG plays an important role for companies that have manufacturing capacities and complying with domestic and international environmental standards is an absolute priority.

The Social or ‘S’ of ESG, which includes adherence to labor standards, human resource policies, vendor & supply chain management, employee relations, inclusion, and diversity are cross cutting, whether the enterprise is at an early stage or late stage.

Governance or ‘G’ aspect of ESG is a rather slow, intensive and a high-effort process that takes its time throughout the life of an enterprise. This includes the leadership at the company's board and the senior executive level, mechanisms for internal controls, integrity, and compliance practices of the company.

At an early stage, start-ups face governance leakages and an increasing number of governance components come into play when the enterprise begins to scale and the scope of organizational governance broadens. 

The importance of sustainability is not lost and businesses are trying to understand how to contribute toward that goal via value creation and not just ticking the boxes of a checklist or “greenwashing” for compliance.

Is ESG too big an animal to deal with?

There is a perception that ESG is landing as a huge undertaking on the CFO’s desk. The importance of sustainability is not lost and businesses are trying to understand how to contribute toward that goal via value creation and not just ticking the boxes of a checklist or “greenwashing” for compliance.

Currently, the common view is that ESG has a primary focus on the ‘environment’. The challenge is to integrate practices with laws around ‘social’ and ‘governance’ that already exist. The ‘social’ perspective also includes Corporate Social Responsibility (CSR) regulations that companies are required to comply with. Likewise, there is another set of regulations for ‘governance’ that also include anti-corruption, anti-bribery, anti-money laundering, etc.

Corporations in India have been reporting on these checklists in different compartments and now those have a unified structure with BRSR. This makes disclosures granular and enables measurement and comparability across companies.

Challenges would include collating data that provides non-financial information. Going forward, maybe after five years down the line, this reporting will generate a well-structured database of companies and their ESG journey. Even for customers and the public at large, this information will be a very positive outcome. The move towards structured ESG reporting practices could be a watershed moment. The monitoring tools that ESG requires can help companies and their management teams run their business better.

Companies that do not incorporate ESG into their business strategy may subsequently find investments becoming extremely elusive.

ESG, M&A, and due diligence

ESG-related information enables market participants, investors, and stakeholders to identify and assess sustainability related risks and opportunities in target companies. Consequently, the emerging focus area for the due diligence process is how investment money will be utilized. Companies that do not incorporate ESG into their business strategy may subsequently find investments becoming extremely elusive.

ESG compliance can potentially increase cost in terms of man hours and advisory fees. A Datasite survey of companies in APAC, including India, revealed that prep time for deals in the last two years has gone up from 30 days to 60 days due to the additional information or documents that need to be prepared for ESG due diligence.

The survey also revealed that the impact of ESG compliance has increased the average length of due diligence significantly from 6 to 9 months.  A look at ESG documentation per project on the Datasite platform showed an increase of 40% while keyword search for ESG terms has risen by 24% compared to the previous year.

In terms of value creation, a proactive ESG program improves a company’s top line and presents that data readily to stakeholders in case of any corporate activity such as an M&A or IPO.

Smart tools for ESG due diligence

In terms of value creation, a proactive ESG program improves a company’s top line and presents that data readily to stakeholders in case of any corporate activity such as an M&A or IPO.

There are many challenges in doing so, particularly in managing large volumes of information, and the collaboration with various parties. Technology can play a crucial role in overcoming these roadblocks and help streamline workflows.

For instance, smart tools enabled by artificial intelligence (AI) and machine learning (ML) will benefit both buy-side and sell-side parties in an M&A deal. For the sell side, AI helps organize and categorize hundreds if not thousands of files for indexing and storage in the appropriate folders.

AI-enabled advanced findings and annotation tools help track down red flags in the diligence process, as well as tag teammates and stakeholders to notify them about issues that need attention. Ultimately, there is no going around the fact that due diligence is always going to be a labor-intensive process. But companies can leverage M&A technology to streamline the process.