Not that long ago ESG, specifically sustainable finance, wasn’t really on many corporate agendas. However, today, most major PLCs have refinanced using green or sustainability-linked loan products. There’s been less traction in the mid-market to date, but momentum is growing as larger corporates are focused on improving the sustainability of their supply chain, which are often made up of SMEs and mid-market firms.
The influence of ESG on how investors and lenders approach decisions to support businesses was the focus of our latest M&A Corporate Community Dinner.
How can you use ESG to create value in your business?
Investors continue to focus on ESG and it’s not going away. Reputation is hugely important to investors, but demonstrating tangible proof of your credentials is daunting. How do you measure carbon? What is a 30-year goal? Most investors aren’t looking for immediate results. They want to know if you have the enabling factors in place to achieve the results. Fundamentally, it’s about showing that you care and are moving forward.
“Banks are not going to invest in businesses that aren’t showing constant improvement.” Joe Tager, Investment Director, LDC
Where ESG goes wrong is when it happens on one side of the business, and growth happens on the other side, but the two are not aligned. Most large companies across the supply chain are very focused on the sustainability credentials of the businesses they work with, so a clearly defined ESG strategy and achieving your sustainability goals should help you win tenders and deliver growth.
“Legislation changes behaviour. But if you wait for the legislation it’s going to be too late.”Chris Hancock, Chief Strategy Officer, Britvic
Sustainability-linked loans were brought in about 10 years ago. In exchange for exceeding KPIs linked to ESG, you would expect to receive a discount on your lending margin by 5bp – 15bp. If you don’t meet your KPIs you’ll pay a premium of the same amount. The difference between a sustainability-linked loan and a green loan is that proceeds from green finance need to be used on your own green project: solar panels or electric vehicles, for example.
Why are lenders so focused on ESG?
Banks have made public commitments to achieving net zero by 2050. Lenders’ scope 3 emissions are produced by their borrowers, which are approximately 700 times greater than their own scope 1 and 2 emissions. It’s the bank’s own net zero commitments that are making them more cautious about who they lend to and they are asking more questions about their customers’ sustainability story. This makes it difficult for banks to support high-emitting borrowers as the 'E' for environmental factors becomes increasingly important for them.
“Sustainable finance is here to stay. While interest and take-up may fluctuate, the overriding direction indicates that borrowers should take this matter seriously and proactively position themselves ahead of the curve.”Jon Bramwell, Director, Grant Thornton UK
ESG Maturity Index
How does ESG influence a lender’s credit approval process?
Every corporate borrower with the big banks is now required to undergo an annual transition risk assessment, an integral part of the credit evaluation process which demonstrates how ESG is becoming more embedded in credit decisioning.
Banks are very concerned about greenwashing and so their approval processes for sustainability-linked and green loans are becoming far more rigorous than they once were.
Our expectation is that sustainability-related performance will increasingly become an important determinant in the cost of credit and ultimately whether a business can access it or not.
The outlook on ESG
In a challenging economy and tough M&A market it may be hard to prioritise ESG, but what we’re seeing is that companies who have a clear ESG strategy (and can demonstrate progress) are still being bought at premium values.
“Your company will be a lot more valuable if you try a bit harder.” Usman Malik, Head of Business Services, Corporate Finance Advisory.