Environmental, social, and governance (ESG), or sustainable development, is a broad field of consideration. It involves both social and economic considerations in addition to environmental issues. ESG is practiced by businesses and organizations who are looking to improve their financial health by ensuring they are taken care of on multiple fronts.
Environmental, social, and governance (ESG) is also a process of identifying, assessing, and managing the environmental impact of a company’s business activities. As the global economy matures into a more diversified one with increasing regional and global competition, companies will need to take ESG considerations into account to continue to grow and perform well. Companies involved in resource extraction have begun to include these criteria as part of their strategic planning.
Applicability of ESG disclosure requirements: –
ESG applies to any organization even if they are not in the business of industrial activity, not manufacturing any physical products, or do not cause pollution (E.g.: financial services).
With the introduction of new reporting requirements which applies to the top 1000 listed companies on NSE and BSE and other recognized stock exchange by market capitalization.
The Securities and Exchange Board of India (SEBI) insisted upon mandatory disclosure must be made through a new format, namely the Business Responsibility and Sustainability Report (BRSR). Currently, BRSR reporting is mandatory from FY 2022-23 but was voluntary for the financial year 2021-22. As regulations are being introduced all the time, it is always best to stay aware of new laws and the consequences for non-compliance
Progression of ESG Reporting: –
Regulations related to ESG are stated under various legislation which includes Environment laws (The Environment Protection Act, 1986, The Water (Prevention and Control of Pollution) Act, 1974, The Air (Prevention and Control of Pollution) Act, 1981, and Hazardous Waste (Management Handling and Transboundary Movement) Rules, 2016) as well as Factories Act, 1948.
The First provision regarding Environment, Social, and Governance (ESG) Reporting was introduced in The Companies Act, of 2013. According to section 134(3), Companies are required to include the report compiled by their Board of directors regarding the conservation of energy accompanying the annual financial statement, which is further described in Rule 8(3) (A) of the Companies (Accounts) Rules, 2014.
Accompanying this, Regulation 34(3) of SEBI (Listing Obligation and Disclosure Requirements) Regulation 2015 (LODR Regulations) also provides for companies to include disclosure of opportunities, risks, concerns, and threats as a part of their annual report, which was further amended under Regulation 34(2)(f) which introduce the BRSR framework in 2021.
The new guideline introduced succeeds earlier previous BRR (Business Responsibility Report) from the financial year 2022-2023.
Additionally, the Indian Banks Association (IBA) has also published guidelines for responsible financing regarding the integration of ESG risk management into the financial institution’s decision-making process, business strategy, and operations.
Factors to be considered: –
The ESG criteria are a set of standards for a company’s operations that socially alert investors use to screen prospective investments. Environmental, Social, and Governance (ESG) is a criterion used by investors for screening companies. Following are the few factors which a business must consider to attract/impress various stakeholders:
- Investors tend to seek value-based investment. They tend to invest in companies whose vision and products are oriented towards the conservation of the environment.
- Environmental criteria like the company’s usage of energy, steps taken for natural resource conservation, compliance with pollution standards, and steps taken to reduce it also need to be considered by the organization.
- Social criteria which consider the company’s business relationships with its various stakeholders. It examines how it manages relationships with employees, suppliers, customers, and the communities where it operates for instance, does the company donate a percentage of its profits to the local community or does the company encourage employees to perform volunteer work for the community?
- Compliance with all environmental regulations, government standards, and statutory obligations, non-compliance of which can result in financial and reputational loss of the organization.
- Statutory obligations and governance deal with a company’s audits, executive pay, leadership, internal controls, and shareholder rights.
Benefits of ESG:
ESG disclosures are highly relevant for all stakeholders involved in a business process:
- Investors – For investment professionals, a key motivation in the practice of considering ESG issues as part of their financial analysis is to gain a fuller understanding of the companies in which they invest.
ESG disclosures are relevant for investors for the following reasons:
- Including climate-related considerations in asset valuation and finance allocation processes and assessing how climate change could affect a company’s financial stability in the future.
- Determining the environmental and social impact of a company’s business processes; and
- Helps as a tool that is used by the investors to understand the behaviour of the companies and forecast the future performance of companies.
- Businesses – Companies performing on ESG practices have higher financial growth and optimization, lower volatility, higher employee productivity, and reduced regulatory and legal interventions. In case companies are not conscious, they not only stand the risk of losing profit-making capacity but also their market reputation. At the same time, ESG disclosures help companies in identifying opportunities for innovation that might yield high results in the future. They also help companies in reassuring their stakeholders about their values and respect towards responsible business. Also, businesses can use ESG disclosure as a marketing strategy.
- Consumers – Customers are more and more sensitive to current environmental, social, and political issues. That’s why ESG is important for consumers to the point that it has become a driver of their buying decision-making and gained a strong impact on their purchase experience. Consumers do not just look for functional benefits of products or services anymore, but also pay real attention to how brands act in terms of environmental sustainability, social ethic, and legal transparency.
How to prepare an ESG report:
MCA committee came out with a recommended format for the reporting called ‘Business Responsibility and Sustainability Report (BRSR)”. Two formats are recommended for the BRSR along with distinct guidance notes for each of them.
The format with a wider coverage version called BRSR comprehensive for the listed organizations, and a smaller version called BRSR Lite for the non-listed organizations.
Section A: General Disclosures:
The section covers the general information and basic details of the organization such as scale, size, sector, products, employee strength, CSR activities, etc. It also covers the organization’s activity near environmentally fragile and sensitive areas, protected zones, and socially critical areas such as water deficient.
Section B: Management and Process:
This section covers the commitment of the organization to the business responsibility by seeking the information related to the governance system, policies, procedures, and processes they have in place to address their responsibilities in line with the National Guidelines on Responsible Business Conduct (NGRBC) principles. This provides an insight into the managerial infrastructure the organization has to drive business responsibly.
Section C: Principle-wise performance:
The section requires the organization to disclose how they perform concerning each of the nine Principles and Core Elements of the NGRBCs. The organization will have to demonstrate objectively how it will meet the commitment to responsible business conduct. The information required in the section can be provided as two categories depending on the extent of the organization’s ambition towards sustainability as essential and leadership.
The BRSR Lite:
Since the organizations outside the top listed companies have no experience in non-financial reporting, expecting them to come out with a report that covers the elements listed in the comprehensive BRSR format will not be pragmatic and hence the committee has proposed the idea of a second format called the BRSR Lite. The Lite version was made to have the MSME organizations also be a part of the BRSR reporting
ESG reporting is critical for a growing economy like India, as it gives all stakeholders a chance to create an economic measurement system that goes beyond traditional financial measurement. By mandating ESG reporting for Indian corporations, SEBI aims to support the implementation of the Paris Agreement on Climate Change and the UN Sustainable Development Goals. All listed corporations and large unlisted businesses are expected to be subject to BRSR reporting requirements.