Sustainability, as a word, needs no introduction. Businesses today make varied attempts to demonstrate their sustainability inclinations. One of the key drivers towards this change has been the increasing demands from the global community of Financial Institutions (FIs).The FIs are no more looking at investment performance or the generally perceived component of ‘profit’ as the sole driver of investment decisions. Two other ‘Ps’ are considered equally important by these FIs and these are ‘planet’ and ‘people’ essentially meaning adoption of environmentally and socially conscious sustainability approaches. The non-financial elements of sustainability, related to ‘planet and ‘people’, have emerged not as feel good factors but have cascaded into the field due to the increasing pressure from multiple stakeholders – the government, the shareholders, the media, activists and the community at large. The FIs, globally, therefore are talking of Socially Responsible Investing (SRI) – aimed at long-term value creation and the generation of financial and sustainable value.
SRI formalization can be traced to mid-1990s. But the last decade has seen several initiatives to come up with protocols/standards to guide and manage SRIs. All such protocols/standards are based on the tenets of Environmental, Social and Governance (ESG). The most recognised among these are UNEP Financial Initiative (UNEP FI), Equator Principles (EP), UN Principles on Responsible Investment (UNPRI) and International Finance Corporation Performance Standards (IFC-PS). While UNEP FI and UNPRI are partnership-based, EP and IFC-PS are standards aimed at defining minimum ESG requirements. Many of the large FIs have partnered in these initiatives while some have customised internal ESG standards made available as their Codes of responsible investing. The importance being attached to the ESG standards can be gauged from the year-on-year increase in the number of signatories to the UNPRI which as of April 2016 (see figure 1) is over 1500 and the quantum of assets under management (AUM) has crossed US$ 65 trillion! The 84 Equator Principles Financial Institutions (EPFI), spread over 35 countries cover 70% of the international project finance debt in emerging markets.
The trend is visible in India as well, with principle-based investing being pursued by global FIs and European and North American equity investors. A report published in 2013 under the Sustainable Business Leadership Forum (SBLF)– an industry focused market development platform – estimated about `7,380 billion (US$134 billion) of assets under management by the ESG-focussed investors. While this contribution comes predominantly from the global investors and Development Finance Institutions, the Indian banks too have started to consider ESG risk mitigation. Formalization of the commitments to ESG principles by the Indian FIs are very few but the application of ESG in due diligence of projects to identify the risks and mitigate them is being practiced by a growing number of institutions. IDFC Bank Limited is the only Indian signatory to the Equator Principle while Yes Bank and Infrastructure Leasing and Financial Services (IL&FS) are signatories to UNEP FI. Not being a signatory to the international protocols/standards has not stopped Indian Financial Institutions in adopting their own ESG frameworks in line with international practices. For example, Small Industries Development Bank of India (SIDBI) has developed and implemented an Environmental & Social Policy which is governed through its ‘Environmental and Social Management Framework’ (ESMF). SIDBI’s ESMF covers the legal obligations under Indian environmental and social laws but additionally has included the World Bank’s safeguard policies and international standards. Since SIDBI deals primarily with Small and Medium Enterprises (SMEs) it has further developed sectoral guidance (presently covering 31 sectors!).
The Government of India has played a catalytic role in escalation of adoption of ESG practices in business by introducing related guidelines which have been subsequently made mandatory for some of the businesses to report about. The Ministry of Corporate Affairs in India introduced in 2011 the National Voluntary Guidelines of Social, Economic and Environmental and Social Responsibilities of Businesses (NVGs). In 2012, Securities and Exchange Board of India (SEBI) mandated the top 100 listed companies (based on market capitalization in BSE and NSE as on 31st March 2012) to submit Business Responsibility (BR) Report as part of their Annual Report. The NVGs, along with the BRR requirements present a robust set of tools and are amongst the most progressive policies globally for encouraging business responsibility actions and reporting.
The success of businesses today is dependent as much on meeting or exceeding the quality expectations of customers as on the multi-stakeholder expectations of a high degree of social responsibility. This is evident from the multitude of disclosure expectations – some mandatory while others voluntary. Going beyond the environmental and social regulatory frameworks, the expectations focus on natural resource abstractions, climate change impacts, social issues and social contributions to development. Besides direct operations, indirect operations in the form of responsible supply chain management are expanding the responsibilities businesses undertake. In such a scenario incorporating ESG principles and practices as the core management principles of the businesses area strategy for future growth. Successfully implemented ESG measures are a key indicator of the business’ foresight and management objective. It is now well established through multiple studies from leading academic and financial institutions that there is a positive correlation between an organization’s strong ESG ratings and its return.
A planned integration of ESG principles and practices can bring in competitive advantage. It can be utilized as a risk mitigation mechanism. However, it can be a game-changer for businesses in terms of accessing finance and impacting profitability in the long run.