In the world of private equity and investors, choices in composition of their portfolios are largely based on how ESG- proof a company is. In today's society, unsustainable business practices affect a company's future profitability.
Sustainability is no longer an afterthought in SME mergers and acquisitions either. In fact, it has now become one of the most important factors in a business acquisition. Whether it's the choice of whether to merge companies, knockout factors in a due diligence or as a topic at the negotiating table when it comes to guarantees and indemnities.
What are the factors that ESG affects?
- Risk management
Dealing smartly with ESG reduces risks, for example because costs can be saved in the long run, the company is less susceptible to fraud and its supply chain is more stable. More and more investors are taking this into account. - Reputation
The better a company performs on the ESG, the better its reputation. That ensures greater customer loyalty, and also makes the company more interesting to employees in times of staff shortages. Moreover, for SMEs supplying large corporations, they can only continue to serve those customers if they are ESG proof on all fronts. - Access to capital
Strong ESG performance makes it easier to raise capital and also discounts capital costs. Investors rate companies that focus on sustainability and social responsibility higher, and banks also pay attention. - Indicator of future success
ESG is increasingly seen as an indicator of a company's future success. Not only in large companies, but especially in SMEs. Companies that score well on ESG often have a better reputation, more stable operations, attract talented employees and are seen as reliable business partners. This leads to better operational performance, higher profits and more long-term value creation.
ESG in the different steps of corporate acquisitions
ESG plays a decisive role in corporate acquisitions at various stages of the acquisition process.
- Selection process and value of the company
On the buyer's side
Already when selecting a potential "target" - the company to be acquired - ESG plays a major role. The value of the target is increasingly determined by an answer to the question of how ESG-proof a company is. If a company leaves big stitches in the ESG field, the value of the company drops and a lower purchase price will simply be paid. After all, the new owner will then still have to make substantial investments. Think about insulation of the business premises, finding newer (more sustainable) suppliers or raw materials and correcting skewed remuneration policies.On the seller's side
As an SME entrepreneur, you have spent years building your business, perhaps even over several generations. Then you certainly don't sell your company to just anyone. Moreover, you also have an obligation to your staff, to hand them over well to a buyer who will continue to take good care of them. A company that is known to treat its staff badly does not seem like a good option then. But what about a foreign company from the US or Asia that you don't otherwise know? Perhaps it is not unwise to do some research into their ESG scores anyway.
- Due diligence
When conducting due diligence for a potential business acquisition, companies should consider ESG risks and opportunities. This includes assessing the environmental performance, social impact and policy structure of the target company. By including ESG factors in the due diligence process, potential environmental, social and policy risks and opportunities are identified in a timely manner. Analysis of these factors allows buyers to identify potential risks that could damage the value or reputation of the company they are targeting. - Purchase price determination
We mentioned it above. A low ESG score directly reduces the purchase price in business acquisitions. It does not mean that you have to be the best in class, but certain basic principles have to be in order. Otherwise, you run the risk of getting considerably less for your company than hoped for.
- Value creation
Suppose the ESG score of the company to be acquired is lower than yours as a buyer. Then improving that score after the purchase creates immediate value. Implementation of the buyer's ESG policy, and changes in that area with the help of the buyer, can realize cost savings, allow your company to operate more efficiently from now on, bring in better customers and discover new markets. The reverse can also be true. That the buyer actually adopts the sustainability efforts of the purchased company after the business acquisition and thereby creates value for his own company, for example by adopting a revolutionary new, sustainable, more environmentally friendly production method, purchasing different raw materials, etc. - Stakeholder Management
It was pointed out earlier: companies that score high on ESG are attractive employers for young and talented employees. The young generation has a great need for meaning even when it comes to work. They want to be proud of the company they are part of. Being conscious of the environment, living conditions and human rights is part of this. Those who have satisfied employees radiate this. This has a direct influence on how customers are treated. Having an eye for your company's impact on the immediate environment ensures that you have a positive image. It also ensures that you have fewer problems when it comes to licensing or other government interference, for example, environmental and environmental permits or exceptions.
In short, ESG is of critical importance to companies and investors and plays an increasing role in assessing a company's sustainability and responsibility. In the context of M&A and corporate acquisitions, ESG helps manage risk, create value and manage stakeholders.
How does LAW/FIRM help
We believe that sustainable companies are more successful in the long run, and that is exactly what we strive for. We are aware of the importance of ESG. In our due diligence, we conduct targeted research on it as far as legal aspects are concerned and we provide targeted advice on appropriate warranties and indemnities when negotiating the purchase agreement. Within the broader context of acquisition advisory, we have a network of advisors who can advise at the operational level and help implement changes in the ESG area. If you would like to learn more about the non-legal aspects of ESG within the context of corporate acquisitions, please read this article.
Do you have questions about this? Or would you like advice on integrating ESG criteria? Please feel free to contact Esther Tromp, (E: esthertromp@law-firm.international, T: +31655741267)