The way the world invests has evolved. Investors are seeking to evaluate more than simply the promises of exceptional financial performance.
Today, when companies are looking to gain access to funding via IPO, the intangible aspects of their story are also put in the spotlight. Elements such as corporate culture, sustainability, and innovation are measured, requiring them to be incorporated within the traditional reporting systems. Capturing these is not easy, especially with the different sets of frameworks.
Sustainability reporting, particularly Environmental, Social, and Governance (ESG) has become an increasing matter of interest for companies. Having the IPO prospectus, backed by the impact and social value that a company creates, makes a great case for attracting more interest, better talent, and potential investments.
The EY Climate Change and Sustainability Services (CCaSS) survey (2020) of institutional investors, indicated that 98% of investors evaluate non-financial metrics for investment decisions, and 72% do so in a structured manner.
But, let us look back and reflect on what ESG is and how it gradually became such a huge factor in the financing and investment world.
What is ESG?
ESG became popular in the 1960s with the trend of eliminating or excluding investing in stocks of entire industries deemed as unethical such as tobacco, ammunition, or goods from conflicted regions. However, the term ESG itself gained a prominent role with the ‘Who cares wins’ report back in 2005, endorsed by the UN Global Compact and various financial institutions. Since then it has become a baseline for structuring data and reporting, as well as evaluating investments in companies.
The three words - Environmental, Social, and Governance include some of the following categories:
- Environmental: Carbon emissions; Air and water pollution; Green energy initiatives; Water usage; Waste management; Supply chain and sourcing; Environmental protection; Biodiversity;
- Social: Employee gender and diversity; Human rights; Fair labor practices; Health & Safety; Anti-corruption; Impact on local communities;
- Governance: Corporate transparency; Board members diversity; Corporate governance; Business ethics.
Why is ESG important?
Companies' operations affect the environment, people, and wider stakeholders. There are multiple benefits to providing more transparency on this front by including ESG aspects, such as the alignment of internal operations, highlighting sustainable competitive advantages, and attracting better human capital.
In a nutshell, an ESG report will involve details about how companies are tackling risks and opportunities surrounding their scope of activities. It shows awareness of the pros and cons within a sector, along with metrics on the impacts those have created during a certain period. Essentially, it also acts as a communication tool that can differentiate the company and speak of its value creation process.
This is especially important as we see the rising needs of end-users becoming more aware and making eco-conscious decisions. Together with the pressing regulations arising from governments and initiatives related to attacking climate change, resource inefficiency, and enabling circularity, it is becoming clear why ESG is getting significant traction.
The numbers speak for themselves. 2021 has been a record year for ESG, with an estimated $120 billion flowing in sustainable investments, doubling the $51 billion of 2020.
Reflecting on the recent COP26 (November 2021) and why this is important, two outcomes are worth mentioning. The first is the confirmation from the Glasgow Financial Alliance for Net Zero (GFANZ), a coalition of more than 450 financial institutions with combined assets of around $130 trillion dedicated to reaching a net-zero future by aligning their operations and investments with this notion. Second, the establishment of an International Sustainability Standard Board (ISSB) as part of the IFRS; to develop a global baseline for disclosure standards on climate and other ESG matters. This means that ESG reporting is becoming more standardized and will better meet investors’ expectations.
Examining the ESG aspects within your supply chain.
The only way to start acting is to carefully decipher all the ESG aspects of a business. Proper research of the sector, competitors, and already existing benchmarks would set the basis for the identification of potential risks and opportunities.
Going forward, that would mean a deep understanding of companies’ supply chains and suppliers/buyers will result in goals and commitments carved in companies’ policies. Mapping your supply chain is one way as to how this can be accomplished by getting a real grasp on:
- Your input sources, by implementing responsible supply chain management.
- The sustainability and performance of your and your suppliers’ operations.
- Workforce policies and respect of labor and human rights.
- Setting ethical governance practices and proper internal structure.
In addition, setting proper industry benchmarks to follow and compare against in a solid timeframe is another way to move forward.
While this indicates a good start for a responsible business, we must not forget that greenwashing is still an ongoing issue. Using the scrutiny around the ESG momentum can intentionally or unintentionally lead companies to declare and state information that is not correct just to portray themselves as compliant and environmentally friendly.
Once the data and metrics are available, how do we make sure they are reliable and easy to communicate? Here is where it becomes essential for companies to build trust and ensure their ESG data collection, strategy, and disclosures are backed with mechanisms that can provide full traceability, and support the audit trail. This is where technology adoption, especially blockchain can be a game-changer.
How blockchain helps with ESG?
Blockchain can set the foundation that provides a flow of reliable data across a supply chain. It can provide significant support in making sure the relay of information is credible and transparent.
For instance, when it comes to organizations with complex supply chains such as electronics or automotive manufacturers, the main way to evaluate ESG progress would be through proper auditing of existing records. However, ESG or sustainability reports are usually published on a yearly level, leaving no room to get significant data on how the numbers were reached. In addition to that, this brings the question of the consistency of data. How do we know it is trustworthy and hasn’t been modified? Or tampered with?
This is where deploying blockchain can support by bringing in trust and data security. It essentially boils down to supply chain traceability. Records on the blockchain are decentralized, meaning they cannot be hacked; they are traceable, as data transaction history is available; time-stamped with any change being recorded and can be transparent if companies decide to enable that.
Availability of these records can bring multiple benefits, including in-depth knowledge about your supply chain; increasing compliance, and showing more responsible business actions.
It not only provides a way for the company to communicate its efforts but also gives material for evaluating partners, suppliers, and stakeholders involved in your business. For already listed companies or pre-IPO ones, it can act as a big advantage, as it makes the auditing aspects easier.
In essence, transparency is widely recognized, but the transparency of your ESG reporting is becoming a must. Blockchain can be the leverage technology that supports wider ESG values and gives a source for evaluating a company’s impact versus its results.
What does this mean for pre-IPO companies?
If you are a private company wanting to undergo the IPO path, make sure your unique business idea is profitable, and also creates a beneficial effect on the surrounding environment and community.
Implementing ESG strategies around your core business model is not just a way to attract more investment, but a way to contribute to a more sustainable economy and create long-lasting positive impacts.
Considering financial metrics and ESG data can significantly improve the decision-making process; combining this with blockchain as a tool to showcase transparency and ease auditing can be of indispensable value.
It is not going to be a straightforward path, but making the first step of integrating it within your agenda and company systems can surely be seen as an enabler to some of the long-lasting promises that an IPO prospectus contains.