Imagine you’re looking for some new jeans and stumble across a company claiming to sell “sustainable denims.” You’re intrigued. But, as you scroll through their website, you can’t help but wonder if they’re really as eco-friendly as they claim. They have flashy photos and a lengthy mission statement about saving the planet. But what’s driving their green initiatives? Is it just a marketing ploy to appeal to conscious consumers? Or are they truly committed to reducing their environmental impact and promoting ethical practices? Are they actually walking the talk?

As investors, we understand that companies put a lot of time and effort into their sustainability presentations. Sometimes it can be challenging to fully grasp the key takeaways in a short amount of time. In our experience, it’s not uncommon for the first 30 minutes of a 60-minute meeting to be spent reviewing a rehearsed corporate presentation. This can make it difficult to glean new insights. Additionally, some of the information presented may already be available in the company’s annual or sustainability reports.

To improve our engagement process, we have created an informal “What-Why Framework” to better understand a company’s ESG practices and motivations. The framework helps us better assess a company’s sustainability practices. Our interactions revealed that companies typically fall in 3 categories of “What they are doing in ESG” and 5 categories of “Why they are doing it.”

What is the company doing in ESG?

1. CSR not ESG: Some companies may confuse CSR with sustainability, which can be misleading. It’s important to assess the authenticity of a company’s CSR initiatives but not confuse that with their sustainability efforts.
2. Remediating Negative Consequences: Many companies acknowledge their responsibility to remediate the negative impact of their operations. For instance, a company that heavily relies on plastic may launch a plastic collection and recycling initiative to mitigate its environmental impact.
3. Proactive Improvements: Certain companies proactively seek to improve their ESG performance through sustainable business measures. For example, a pharmaceutical company may invest in solar energy to reduce their carbon footprint or may actually reduce plastic use in their products.

While understanding their efforts is integral, through our conversations we also try to gauge, what is driving their sustainability.

Why does the company care about ESG?

1. Regulatory Requirement: Companies often don’t have a choice and need to comply with the law. What’s frustrating is when companies promote their ESG activities which were actually mandated by law.

2. Appeal to investors: Companies may prioritize ESG practices to appeal to investors who are increasingly valuing sustainable investing. However, some may use ESG initiatives as a marketing tool to attract investors without truly committing to sustainability practices.
3. Fear of Missing Out:  “FOMO,” or fear of missing out, can motivate some companies to pursue ESG goals simply because they see other companies doing so and don’t want to be left behind. It may not be a moral obligation or make business sense, but they want to follow the herd and avoid appearing outdated or uninterested in ESG issues.
4. Economic Sense: Some companies recognize that pursuing ESG goals can lead to cost savings or revenue opportunities. For example, we interacted with a textile manufacturer who has created sewage treatment plants to get a cheaper alternative for water. This not only saves water, but also makes economic sense for the business, especially in a country like India.
5. Moral Imperative: Some companies see their ESG efforts as a moral obligation to contribute to society and protect the environment.

Before any meeting, we conduct research and prepare pointed questions on topics such as carbon emissions, water stress, gender equality, and more that may be material for that company. Although we aim to cover as many of these questions as possible within a limited time frame, we recognize that it may not always be feasible. Nevertheless, having this framework in mind can be useful in understanding the true drivers of a company’s sustainability initiatives, and enables us to better assess their claims of being a “green” or “ethical” company.

This article is written by Dhruv Maniyar. As of April 2023, Dhruv Maniyar is Assistant Manager at IIFL Asset Management.

Disclaimer:

Disclaimer: Securities investments are subject to market risks and there is no assurance or guarantee that the objectives of the scheme/fund will be achieved. The views & opinions expressed herein are those of the author(s) and do not necessarily reflect the views or opinions of IIFLAMC / 360 ONE WAM Limited (Formerly known as IIFL Wealth Management Limited) and/or its subsidiaries.