Three letters have been on everyone’s lips for some time (not only) among investors: “ESG“. ESG stands forEnvironmental, Social, Governance and translates as “environmental, social and corporate governance”. Sustainability therefore no longer refers exclusively to environmental protection, but also to the social and corporate climate.
But what exactly does this mean for small and medium-sized enterprises and what impact does it have on transactions?
ESG, what is it and what are its objectives?
The aim is to use the ESG criteria to provide objective, comprehensible information on the extent to which companies pursue sustainable strategies at a social and environmental level and with regard to their corporate governance. The development of the individual criteria over time is quantitatively analyzed using various key figures and mapped in a uniform scoring system. The focus can be set individually by the companies. The ESG score calculated accordingly is then assigned to the respective company and can then be compared with the ESG score of other competitors.
ESG, is that even relevant for me?
There is a simple answer here: “Yes!”. Small and medium-sized companies are increasingly confronted with the aspects of ESG. ESG is no longer a flash in the pan, nor is it just a temporary buzzword used by the marketing departments of some DAX-listed companies to sell their environmental strategies more effectively. ESG will continue to gain in importance over the next few years. For this reason, small and medium-sized companies should already be addressing the issue of sustainability and see this as an opportunity to position their company for the future.
As mentioned at the beginning, it is not the goal (and often not even practically and/or economically feasible) to fulfill all ESG criteria equally. In order to make implementation manageable or if a criterion cannot be covered for industry-related reasons, it seems sensible to set priorities, pick out one ESG criterion and align the existing business model with it. The ESG criteria at a glance:
- Sustainable management: Long-term stability and healthy growth should take precedence over short-term profit maximization. A sustainable corporate strategy and planning reflect the sustainability agenda.
- Environmental protection: resource-conserving production and distribution of products and minimization of energy requirements as well as avoidance of unnecessary travel activities are the motto.
- Corporate management/corporate identity: Developing corporate strategies, making responsibility towards employees, customers and suppliers a top priority, practicing equal opportunities and supporting further training.
ESG & M&A transactions – Match or no match?
ESG criteria have a direct and indirect impact on the value of a company. Directly, for example, in that costs can be saved if resources are used sparingly and efficiently. But the indirect factors should not be underestimated either. Studies have shown that ESG compliance is already having a positive impact on a company’s reputation – and the trend for the future is rising!
Against this backdrop, it is not surprising that the topic of ESG is increasingly becoming the focus of investors and is playing an ever greater role in transaction processes. While the key issues in a company acquisition used to include the purchase price, the development of the company’s key figures and synergies that can be leveraged after a company acquisition, it can now be observed on the market that ESG aspects are increasingly becoming the focus of interested parties. One reason for this may be that the acquisition of a company that already has a better sustainability performance, for example, helps to improve its own ESG balance sheet. Even the acquisition of a minority stake can have a positive impact on a company’s ESG compliance.
Furthermore, a majority takeover offers the opportunity to fundamentally transform one’s own business model and the associated value chain towards sustainability. The review is carried out in particular as part of an ESG due diligence, which requires interdisciplinary expertise from the fields of transaction, IT, legal and energy consulting as well as auditing and compliance.
This part requires the company to be sold to be well prepared and to have a sufficient understanding of this topic. The prospective buyer checks based on data and facts. The company must therefore be able to provide sufficiently meaningful data and documents that show the status quo of the implementation of the ESG aspects relevant to the company.
ESG is also playing an increasingly important role in acquisition financing, e.g. in the case of full or partial debt financing. Here, the subjective assessment and ESG rating of the financial service provider is becoming increasingly important. Basically, the worse the ESG rating of the company to be acquired, the more expensive the financing; in the worst case, the financing will fall through.
Companies that have no or only an inadequate strategy in this area are at a disadvantage with certain groups of buyers and often have to expect discounts on the purchase price.
What remains to be said?
Developing and establishing a sustainable corporate strategy makes sense and protects the company from negative financial impacts in the future. Without an ESG-compliant business model, it will be increasingly difficult to run a successful business and sell a company in the future.
The author and your usual contacts will be happy to answer any questions you may have!
Christian Schon
schon@tigges.legal
+49 211 8687 284