Environmental, social and governance (ESG) considerations permeate every business. While much of the commentary on ESG in the business context is often targeted at publicly listed companies, there is an increasing expectation by consumers, investors and society for companies of all sizes and across all industries to address and respond to ESG, including early-stage companies.
While early-stage companies generally have limited financial and human resources and time, early investment in and consideration of ESG practices can have a significant, long-term impact on a company’s profitability and reputation, talent retention and appeal to potential acquirers or investors. Studies have shown that investors reward companies investing in ESG practices with valuation multiples as much as 19% higher than median performers. A strong ESG proposition can also facilitate top-line growth by enabling start-ups to tap into new markets and opportunities, reduce costs, minimise regulatory interventions, increase employee productivity, and optimise investment and capital expenditure.
Notwithstanding these upsides, many founders see an inherent trade-off between investing in ESG initiatives and achieving business growth and profit. Often ESG-related spending – such as a capital expense to reduce energy use, to implement robust data privacy policies and practices, or to improve working conditions – is seen purely as a cost, and not as an investment. By not considering and embedding ESG practices from the outset, early-stage companies may miss the opportunity to capitalise on the long-term benefits associated with companies which have a strong ESG proposition.
We have identified a number of ways that early-stage companies can act now to ensure that they are equipped to respond to growing ESG expectations, whilst still maintaining the flexibility to adapt and align with the changing needs of their operations and future strategic goals.
Governance
Naturally, the ESG proposition for each early-stage company will differ depending on its operations, financial resources, human resources and overall strategic goals. However, it is important to ensure that an early-stage company’s governing documents reflect its strategic direction and ESG goals. To achieve this, early-stage companies can consider amending their constitution, or adopting charters and policies, to more closely align the strategic direction of the start-up with its ESG initiatives.
Framework and action plan for identifying opportunities and addressing material ESG risks
Early-stage companies may wish to consider devising a framework for the identification of opportunities and material ESG risks, specific to their business, and an action plan to address these. This framework and action plan should define expectations and goals, establish methods to assess and track ESG metrics and strive for transparency with stakeholders as to progress. These tools will also help to guide decision-making and align employee behaviours with the company’s goals and values.
When developing an ESG action plan, it is important to optimise stakeholder engagement throughout the process to identify high-priority and high-impact ESG risks and opportunities to focus on. We know that each early-stage company has a myriad of stakeholders that influence the way it operates – from customers, suppliers, distributors, regulators, governments to shareholders and investors – so we recommend prioritising engagement with those stakeholders who have the greatest influence and interest in the company’s ESG processes. For many start-ups, this will be its people, as they are engaged in the day-to-day operations and hold significant influence and interest in the sustainability of the start-up’s operations, as well as its investors.
Collaborating with investors
Venture capitalists should also take the initiative to work with start-ups to implement ESG strategies, as they often can influence their strategies and operations by virtue of their investment and board representation. Navigating ESG risks and opportunities can be overwhelming for early-stage companies, and this is why venture capitalists who have the expertise and experience in growing new companies and helping them make critical management decisions play an important role in integrating ESG thinking into their activities. Venture capitalists also have the opportunity to improve their overall risk-return profile and align with the increasingly ESG-conscious expectations of their own investors by assisting the start-ups they invest in to implement ESG strategies – a win-win!
Establishing an ESG action plan that addresses the material ESG risks and opportunities for a start-up early in its corporate life can help guide management decision-making and employee behaviour as the company grows and matures to build a more sustainable business. By taking the above steps, emerging companies will be well equipped to respond to ESG themes, address evolving stakeholder expectations, and ultimately deliver long-term value.
McCullough Robertson’s start-ups team, together with McR ESG, can provide emerging businesses with the legal and non-legal support required to address these steps, and explore the unique opportunities that ESG brings.
For further insights on this topic refer to the article ‘The ESG Proposition for Start-ups and Venture Capitalists’ (2023) 50 ABLR 421 in the Australian Business Law Review published by Thomson Reuters.