The Indian economy is growing rapidly with increasing emphasis  on creating sustainable businesses, which are not only  profit-centric, but also focusing on responsible long-term investing. Sustainability is becoming a key priority for corporates around the world, linked to their company branding, strategy as well as the expectations of their stakeholders.

 

With an increasing focus on sustainability, the concept of “ESG investing” or “impact investing” can hardly be described as merely an investing trend, and is now seen as a major investment strategy ensuring sustainable, long-term financial returns. ESG investing, in simple terms, means investing based on not just traditional financial factors but also non-financial environmental, social, and governance (or ESG) factors. 

 

In the subsequent paragraphs, we have briefly discussed the concept of ESG, its key drivers in India, and its impact on the merger and acquisition (M&A) space.

 

ESG refers to a set of standards indicating an organization’s governance mechanisms, i.e., effective management of its environmental and social impact. ESG is not restricted to only environment and labour welfare protocols, but also includes cyber security, data privacy issues, occupational safety, health matters etc.

 

1. Key Drivers for ESG in India 

 

The key drivers for ESG in India are:  

 

(a) Regulatory drivers 

 

There are various laws that mandate ESG disclosures and compliances, including provisions under: 

 

(i) Companies Act, 2013 (such as CSR obligations, disclosures in the directors' report for conservation of energy, etc.), 

(ii) environmental laws such as the Water (Prevention and Control of Pollution) Act and Air (Prevention and Control of Pollution) Act (which stipulate procurement of various licenses, authorisations, etc., qualifying the business of the organizations for undertaking business operations under the scrutiny of the environmental regulators); 

 

(b) Higher valuation: 

 

India has witnessed an increased demand by investors for companies which are ESG compliant versus traditional (non-ESG compliant) companies. ESG is becoming a recognised risk factor in M&A and PE/ VC investments. Consequentially, this has led to better stock pricing and increased financial performance for Indian organizations.  

 

(c) Other considerations: 

 

The credit assessment by banks and other institutions lenders (such as CRISIL) evaluates the impact of ESG parameters separately while assigning credit ratings. ESG compliances are also driven by societal attention to climate change, envisaging a “green and sustainable” business vision that maximises profits over longer terms and which is aligned with societal values. 

 

 

2. Indian ESG regulatory regime and possible impacts on profitability or earnings or business. 

 

At present, there is no all-inclusive mandate in law that requires the statutory implementation of ESG principles. The extant ESG regulatory framework is broadly included under:  

 

(a) The Companies Act, 2013, which require: (i) companies meeting the prescribed thresholds to undertake corporate social responsibility activities; and (ii) to include a report by their board of directors on conservation of energy, along with the annual financial statement.  

 

(b) The SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, which prescribes Business Responsibility and Sustainability Reporting (introduced in May 2021), mandates the top 1,000 listed companies to annually disclose ESG- related information with effect from FY 2022-23. SEBI has also proposed a framework to regulate ESG ratings providers to ensure adequate transparency and regulated environment. 

 

(c) In addition, various other laws (such as environmental laws as stated above) stipulate stringent ESG related obligations for undertaking manufacturing processes, such as waste management, periodic quality maintenance checks, sanitization, etc.  

 

Failure in complying with such obligations entail hefty penalties being levied on the organization and the responsible persons. Non-compliance may even lead to interruption in business operations in certain cases (such as failure to obtain a consent to establish and/ or consent to operate prior to undertaking any business activities).