Important Considerations For Companies of All Sizes and Positions in the Value Chain
The topics of business sustainability and ESG are dominating headlines. In fact, McKinsey Sustainability recently noted a fivefold growth in internet searches for ESG since 2019. These factors are now influencing company leaders to boost their ESG performance to optimize their business case and return on investment (ROI) levers within their operations and across their value chain.
Additionally, advancements in determining the ROI of sustainability continue to develop including NYU Stern's Return on Sustainability Investment (ROSI™) which seeks to quantify the full range of costs and benefits from embedded sustainability strategies. EcoVadis's Return on Sustainability: The Value and ROI of Sustainable Procurement outlines seven key layers of measurable value creation when companies commit to supply chain sustainability and how companies see a return.
As interest in ESG and sustainability measurement and reporting grows, so too does private equity (PE) investors’ interest in reviewing ratings as they evaluate companies. A PWC Global Private Equity Responsible Investment Survey revealed that 72% of respondents always screen target companies for ESG risks and opportunities at the pre-acquisition stage. Interestingly, 56% of respondents have refused to enter general partner agreements or turned down investments on ESG grounds – making the connection between ESG/sustainability and investing activity even more tangible.
By making ESG and sustainability ratings a top priority, companies can boost their enterprise valuation while lowering the cost of capital.
Improved Access and Cost of Capital
Sustainability makes business sense regardless of market conditions, as hundreds of studies have shown that sustainable equities outperform in a bull market and are also more resilient in a bear market.
When looking to improve access to funds and the cost of capital, it's important to keep three key considerations in mind: debt, credit lines and equity.
Debt: To understand the impact ESG and sustainability ratings can have on debt, let's consider an ING case study that demonstrates the benefits ratings can have on borrowers' securing loan success.
In 2017, ING Wholesale Banking launched its Sustainability Improvement Loan for non-listed companies to support the transition to new sustainable business models. It ties the interest rate on the loan (which could be a term loan, a revolving credit facility, or a guarantee facility) to the company's sustainability performance. ING believes sustainability performance needs to be validated and assessed by a third-party rating provider (such as EcoVadis).
Essentially, ING’s loan works to reward borrowers who rate well in sustainability by offering a reduction in the interest rate (clear ROI value). Conversely, any deterioration in the borrower’s sustainability performance affects an increase in the cost of financing. Therefore, ING’s loan system “makes sustainability pay,” as having a positive sustainability rating or setting ambitious sustainability key performance indicators (KPIs) increases a borrower’s chance of securing this type of loan.
Credit Lines (or Green Loans): Extending a company's credit line provides funds needed to grow the company and its products. In the case of Henkel, they broke new ground in their sector as it was the first to pursue innovative financing through a green loan (a loan that raises capital for green eligible projects). The loan had a total volume of $1.7 billion (€1.5 billion) and replaced the company's $790 million (€700 million) and $900 million (€800 million) revolving credit facilities. The new loan's interest rate links to Henkel's performance in three independent sustainability ratings, including EcoVadis. Securing this green loan was possible because of Henkel's commitment to sustainability.
Equity: There has been an increase in private supply chain investment, with multinationals choosing to invest in or outright purchase logistics companies to manage their production, shipping and distribution better. Some supply chains receive strategic investments from one or more customers.
Blackstone-managed PE funds recently announced the acquisition of Interplex, bringing together a global investment firm and a customized technology solutions provider.
The focus should always be "the stronger your suppliers, the stronger your supply chain," as building the enterprise value of your suppliers – in which sustainable practices play a crucial role – also strengthens your business. More information can be found in EcoVadis's eBook: From Risk Management to Value Creation: Now is the Time for Private Equity to Embrace ESG.
Applying Ratings to Capital Requests
Sustainability engagement builds value for any company – even if they are not listed on a stock exchange or part of a PE portfolio. In addition to the loan and financing examples above, SMEs – including the millions of private or family-owned companies that make up 70%+ of global supply chains – also receive requests for sustainability disclosure and transparency from their customers (e.g. as part of sustainable supply chain efforts) and need a way to communicate their progress.
Organizations need to understand realizing ROI gains from boosting enterprise value and reducing capital cost opportunities requires far more than just compliance: Their sustainability performance must improve to the point where their stakeholders perceive it as a strategic asset. This requires baselining and benchmarking sustainability practices and making the right investments in improvements that are material to their business. As you get to higher levels of performance, this can begin to create value in the form of better resilience, efficiency, higher productivity, improved sales and winning more customers, and higher valuations for funding or loan/financing terms.
So, choose your tools carefully for measuring and reporting your ESG and sustainability performance – and make sure to include the guidance needed to improve. EcoVadis offers organizations a firm sustainability reporting foundation and actionable guidance.
EcoVadis scorecards provide actionable insights into environmental, social and ethical risks worldwide. Using scorecards, stakeholders (including customers/procurement teams and/or investors) can obtain reliable ESG performance data on their trading partners and benchmark against other assessed companies. They can then use the insights and tools to guide their partners on an improvement journey creating business value and a better world for all.
Visit our Sustainable Finance page to learn more about how EcoVadis sustainability ratings are being used by companies to not only satisfy customer/buyer demands, but also as an important enterprise valuation tool to secure new debt or equity, facilitate trade financing and more!
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