Globally, the market for sustainable financing has been growing rapidly on the back of green bond issuances. In 2023, it surpassed the $2 trillion mark. But the domestic green finance market in India is yet to develop, with most issuances having happened in the offshore market
It’s well known that capital is attracted to businesses that deliver a strong return with an acceptable level of risk. Traditional credit ratings have tried to evaluate such risks primarily from the perspective of a lender or debt investor. However, these ratings may not be that effective in assessing environmental, social, and governance (ESG) risks, which can have an impact on the business and financial performance of an entity not only in the long term but also in the short run.
An ESG rating is a comprehensive and relative assessment of the risk management practices adopted by a business entity to guard against the negative consequences of ESG factors.
It can be a reliable indicator of long-term and sustainable shareholder value, particularly since it includes a benchmarking of the ESG practices of the entity with those of its listed peers. There is a larger consensus among investors that businesses with healthy ESG practices can deliver robust and sustainable financial performance over the long term. This has been increasingly driving investors’ interest in ESG ratings, even in India, since it facilitates superior portfolio selection and consistent portfolio returns.
The correlation between ESG and financial performance has already been uncovered by research. Apart from the interest of equity investors in ESG Ratings, what is encouraging to note is that lenders are increasingly asking questions about ESG for taking larger and longer-term corporate exposures. Research proves that lending institutions prefer companies with higher ESG quotients, as it arms them with better mitigation for compliance risks arising due to ESG considerations.
Additionally, ESG is redefining business values and risks with growing concerns over climate, sustainability, and diversity. These considerations are increasingly being considered to shape investment decisions for mergers and acquisitions. It is being observed that acquirers and investment bankers are willing to pay a premium for any potential target that is high on ESG.
One interesting trend that we observe is the increasing focus on ESG among public sector companies in India. Most PSUs have started to push their ESG initiatives in the race to minimise GHG emissions and other ESG targets. However, the pace of adoption still seems a bit slow. India’s seven Maharatnas invested Rs. 25,000 crore between FY14 and FY20, which is said to be a mere one-tenth of their investments in fossil fuels. The investments required to make a transition from fossil fuels to green energy are an uphill task.
An analysis of over 1,000 top-listed companies shows that public enterprises have enhanced their average ESG scores by a CAGR (2019-2022) of only 8.37 percent, from 35.1 in 2019 to 44.67 in 2022. In comparison, private companies enhanced their average ESG scores by a CAGR (2019–2022) of 12.64 percent, from an average ESG score of 33.8 in 2019 to 48.31 in 2022.
Within different metrics affecting ESG scores, community support and development, transparency, water efficiency, and human rights generated the least CAGR (2019-2022) of 1.75 percent, 6.57 percent, 8.7 percent, and 9.41 percent among the PSUs, as compared to 3.5 percent, 8.45 percent, 31.73 percent, and 28.2 percent for the private enterprises.
Factors such as GHG emissions, waste, and employee safety generated a slightly better performance with a CAGR (2019-2022) of 18 percent, 14.5 percent, and 22.39 percent for PSUs, while private enterprises had the corresponding CAGR (2019-2022) of 37.51 percent, 29.4 percent, and 27.22 percent.
Globally, the market for sustainable financing has been growing rapidly on the back of green bond issuances. In 2023, it surpassed the $2 trillion mark. But the domestic green finance market in India is yet to develop, with most issuances having happened in the offshore market. The sovereign is trying to lead the way, with the Indian government having raised Rs 16,000 crore in FY23 and some of the municipal bonds currently being issued as green bonds.
PSUs must transform ESG into a strategic growth engine. Setting aspirational targets, overhauling ageing infrastructure, empowering their workforce, and forging deep stakeholder partnerships are non-negotiables. Decisive action unlocks a treasure trove: capital flows, mitigated risks, a competitive edge, and a legacy of sustainability. The choice is stark: become ESG pioneers or risk irrelevance. The future beckons; will PSUs seize it?
(Sankar Chakraborti is the non-executive chairman at ESGRisk.ai and the group CEO at Acuité Group.)