AMR Future Brief| How Have ESG Factors Become Essential for Modern Businesses?

The term ESG (or environmental, social and governance) is well-known in the investor community. It refers to a set of metrics used to measure an organization’s environmental and social impact. Over the years, it has become increasingly important among businesses in investment decision-making. Investing in ESG helps organizations reduce their environmental impact, improve social outcomes, and build better governance structures.??

Why is an ESG strategy important for businesses?

Companies that have a robust ESG strategy often perform better at managing risks related to environmental regulations, social practices, and governance scandals. For example, an organization with poor environmental practices can easily be subjected to strict regulation, which can ultimately impact its profits. Similarly, a company with poor social practices can face reputational damage, leading to the loss of customers and revenues. In addition, possessing weak governance practices can make businesses experience serious frauds and face other financial problems. Therefore, companies must consider these factors to make better-informed decisions about the best way to invest the company’s resources.??

Furthermore, these days, there is a growing demand from investors for ESG-compliant investments. Institutional investors, such as pension funds and insurance companies, are increasingly integrating ESG criteria into their investment processes to meet the expectations of their stakeholders and beneficiaries.??

In addition, governments and regulatory bodies worldwide are enacting laws and guidelines that encourage or require companies to disclose ESG information. Compliance with these regulations is becoming essential for companies to maintain their market recognition.??

Role of ESG in credit appraisal process?

Traditionally, the credit appraisal process was based on two fundamental assessments to estimate credit worthiness: financial and non-financial. Financial assessment involves analyzing historical and forecasted financial trends of key metrics, such as revenue growth, earnings before interest, taxes, depreciation, and amortization (EBITDA) margins, and debt repayment capacity.??

Over the years, as the world has become more socially and environmentally conscious, industry players including issuers, intermediaries, and banks are facing significant pressure to assess the influence of ESG factors on their activities. In addition, changing climatic concerns tend to have both financial and non-financial implications for organizations globally. These factors have potential reputational risk implications if not addressed appropriately.??

The United Nations-backed Principles for Responsible Investment (UN-PRI) also recognized that ESG factors affect borrowers’ cash flows and the likelihood of defaulting on debt obligations. Therefore, ESG factors have emerged as important elements in assessing the creditworthiness of borrowers. This view has been further reinforced by key global regulators pushing for mandatory ESG disclosures.?

For instance, the European Banking Authority (EBA) issued guidelines that require banks to assess the risks associated with ESG factors on borrowers’ financial stability, especially, the potential impact of environmental factors and climate change. In India, the Securities and Exchange Board of India introduced the Business Responsibility and Sustainability Report (BRSR) guidance in May 2021. These guidelines are built on previously issued business responsibility report guidance and mandate the top 1,000 listed entities to report their ESG-related disclosures in a prescribed format.?

Moreover, the increased availability of relevant ESG data is expected to ease the challenges associated with risk assessment frameworks of financial institutions, especially during credit appraisal. This will be further helpful for borrowers to assess the downside risk of credit investments affected by ESG factors.??

Visionary initiatives taken by Microsoft to reduce carbon footprint by 2030?

Several industry leaders across various sectors are increasingly prioritizing ESG factors in their strategies and operations. One notable example is Microsoft’s carbon negative initiative. The American-based multinational corporation and technology company has committed to becoming carbon negative by 2030. This means the company aims to remove more carbon from the environment, by altering its industrial operations.??

Microsoft plans to achieve this through various measures, including using 100% renewable energy, improving energy efficiency, and investing in carbon removal technologies. The company also introduced a $1 billion Climate Innovation Fund to support the development of carbon reduction, capture, and removal technologies.?

Unilever’s Sustainable Living Plan (SLP)?

Recently, Unilever, a British multinational fast-moving consumer goods company focuses on reducing its environmental footprint while increasing its positive social impact. The company has committed to ensuring all its plastic packaging is reusable, recyclable, or compostable by 2025. It also aims to make use of virgin plastic and emphasize on plastic packaging. Additionally, it plans to source 100% of its palm oil from certified sustainable sources. ??

Wrapping up, ESG factors are transforming the investment landscape by promoting more sustainable and responsible business practices. With the growing awareness of ESG investments, companies and investors have started considering ESG factors in their operations. These considerations would help them enhance their risk management capabilities and long-term performance, contributing to a more sustainable and resilient world in the coming years.???

To identify lucrative opportunities in the ESG factors industry, reach out to our esteemed analysts today! For any further queries, feel free to chat with them!?

? **?????????????? ????????????: Rosy Behera?

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