ESG stands for Environmental, Social and Governance. Any company which is doing well today and will sustain this ‘doing well’ long in the future will be mostly compliant with ESG. Let us break it down further for you.
The ‘E’ of ESG
‘E’ stands for the Environment. Not the business environment in which the company operates but the environment as in the use, preservation and conservation of natural resources. How can this have an impact on the stock?
With India getting more serious about climate change and pollution control, a company that has the best practices when it comes to the conservation of the environment is less likely to be impacted with regulations that could force plant shutdowns.
The ‘S’ of ESG
‘S’ stands for Social. Every business employs people. Large businesses often have thousands of employees working for them, from the factories to the head office. Thus, it is very important to look after their health, safety and well being.
Social also encompasses and affects you, the minority shareholder. How does the company treat the minority shareholders? On par with those owning, say, 80% shares who sold their holdings to a foreign company at a premium, leaving the minority shareholders to fend for themselves. A sustainable business is the one that has complete parity in treatment of those who may own 80% of the company or 0.008% of the company.
The ‘G’ of ESG
‘G’ is for Governance. This is the base, the foundation by which the company is judged. By governance standards we do not mean mere checkboxes on audits and following GAAP standards, but walking the talk when it comes to financial disclosures and implementing the best practices in word and spirit.
There are many examples of companies that claim the high moral ground, but on closer look fail the governance test. Large financial institutions in the past have also fallen prey to the temptation of cooking books, which sooner or later will be found out.
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The last word
One of the challenges that corporate India has to contend with and will continue in future (which is great for investors by the way) is the fact that regulations are going to get stricter and adherence to them is going to get tougher. Be it environment norms or impact on society or actual accounting bells and whistles.
If the company adheres to the highest standards of ‘E’, ‘S’ and ‘G’ then there is a three-fold advantage of investing in those companies.
> Since the company is already adhering to the highest standards of ESG possible in its field—it does not need to incur any additional costs and is on a safer wicket if the regulator tightens norms.
> Since tighter regulations may force non-ESG compliant companies to modify or even shut down operations, the ESG compliant company can take advantage of the situation to increase market share.
> Being ESG compliant enhances the reputation of the company multi-fold—amongst investors, customers and stakeholders alike.