Leveraging Environmental, Social and Governance ("ESG") Initiatives to lower the Cost of Capital

Leveraging Environmental, Social and Governance ("ESG") Initiatives to lower the Cost of Capital

Many businesses struggle to somehow link increased equity flows or cheaper debt to their ESG strategy.

In this article, we look at how businesses can best leverage what they are already doing to truly benefit from their well-laid ESG strategies. ESG factors are playing a far larger role in the investment decision than they have in the past. There is also now a credible body of listed (REIT) sector research that shows how "ESG Leaders" have outperformed "ESG Laggards" over time. Investors are starting to take notice and are directing substantial capital flows towards ESG weighted equity and fixed income ETF's.

However, while investors are increasingly provided with research from the multiple ESG rating platforms, company executives are still unsure whether (or even if) their ESG risk strategy has any impact on their company's cost of capital. Furthermore, businesses are being inundated with ESG related questions that demand extensive qualitative and quantitative responses.

One can only sympathise with the c-suite of today. Not only do they have to deal with the annus horribilis that is 2020 and the shifting landscape that is sure to follow, but they also have to decide how many resources to allocate towards telling their ESG story. Here we want to differentiate between the allocation of resources to mitigate their ESG risks and the allocation of resources to tell the story; they are not necessarily the same thing.

To illustrate the point, we only have to look to the real estate sector and specifically the environmental risks associated with this immovable asset type. In my experience, most real estate executives understand the environmental risks associated with climate change and the transition to a low carbon economy. Not only do they understand the risks, but given some country’s unstable energy supplies, excessive energy inflation and the recent water supply and water treatment stresses, businesses have actively introduced initiatives to mitigate these risks. Unfortunately, these activities do not speak for themselves and companies have to spend a disproportionate amount of key resources’ time consolidating information in order to quantify and report on the ESG impact.

Many businesses will struggle to categorically link increased equity flows or cheaper debt to their ESG strategy. Given the moral imperative, it would be highly irresponsible for them to state that ESG is not a current priority. So how can they best leverage what they are already doing for the maximum benefit?

The first thing to do is to recognise that the ESG discussion is primarily a risk mitigation conversation. We propose the following three steps to move the conversation:

  1. Understand the language and methodology of ESG rating companies. Identify which of the issues within each of the ESG pillars, for your sector, that carries the highest weightings within the rating methodology.
  2. Talk directly to the issues identified in step 1 above and couch your responses in the language of risk. Highlight the risk to income you have identified and the activity you have implemented to mitigate those risks. Make the information clear and easy to find. The superior ESG research companies will reference a large proportion of their information from non-company sources so don’t be shy about stating the obvious.
  3. Get your data in order and automate as much of your reporting as you can. By consolidating your data, you enable comparative analysis and benchmarking and unlock the potential of efficiency savings that come from it. By automating your reports, you free up key resource time so they can focus on extracting those efficiencies. You also introduce the protocols and governance required as a bare minimum for ESG reporting.

Most complex-market countries are arguably behind the curve when it comes to sustainable investment.

But ESG ratings are having an increased influence on the allocation of capital, particularly as large asset owners are provided with the tools needed to assess the ESG tilt of their internal and external mandates.

CEO's are required to demonstrate that they not only understand their ESG risks but are actively mitigating those risks.

From a capital allocation perspective, the maximum benefit can be achieved by talking the language of the rating agencies, focusing on the issues that carry the most weight and automating reporting that feeds off the data already available within the organisation.

Meraqi is able to assist your business achieve ESG-compliance, as follows:

  • Evaluate the market in which you operate
  • Review all and any ESG strategies already in place
  • Apply an international best practice ESG checklist to your business and property assets
  • Annual review and evaluation, to evaluate your ESG strategy

About the Author

Jonathan Yach, MRICS

Jonathan Yach, MRICS

Jonathan is a 35 year real estate services and management veteran, with hand-on management experience in the complex markets of South /East African and India