Ignoring ESG? You might be leaving money on the table

When choosing how to deploy their capital, investors put a lot of focus on things like financial metrics and the strength of the team running the startup – and rightly so. These aspects can help determine if a company is worth investing in and will provide solid returns for shareholders.

But these aren’t the only important criteria anymore.

Making environmental, social, and governance (ESG) factors a part of investment strategies is increasingly important for understanding the full picture. Let me explain why ESG is critical for companies and investors, especially in Asia Pacific, and provide some practical tips for including ESG in investment decisions.

Image credit: Timmy Loen

1. Risks beyond the balance sheet

Effective risk management is at the heart of sustainable investing and while traditional financial metrics are essential, they often fail to capture a company’s full risk profile. ESG metrics provide critical insights into non-financial risks that can significantly affect a company’s performance.

In 2021, climate disasters affected over 57 million people across Asia Pacific. Imagine the financial impact on the firms or employees in this region.

Outdated tech might mean a facility consumes excessive energy, which has negative effects on environmental resources and increases operational costs.

On the “social” factor, consider an investee company that hires only from one gender – can it truly create products representative of a diverse society?

Tracking these risks is the only way to understand the strategies needed to manage them. Often, the data exists but companies fail to use it properly because it’s scattered across different parts of the organization. Even if there’s a decision-making process involving ESG data, it’s sometimes an exercise that is done once at the start of the investor relationship. Ideally, the data should inform decision-making over the long run.

2. Working smarter, not harder

Making ESG metrics a part of financial analysis provides a broader view of company performance and opportunities for efficiency gains.

For instance, by tracking information about sustainable packaging, retailers can save costs through reduced material use and waste. Similarly, tracking the number of workplace injuries and days lost due to injuries can contribute to better financial performance and lower risk when managed.

In Asia Pacific, companies face unique challenges, such as the lack of a common language that makes the understanding of global standards tricky. For example, the nuances of diversity, equity, and inclusion policies as well as demographic data tracking can vary significantly between countries, leading to inconsistent data collection processes.

Additionally, human error, lack of information, and overly complex data collection methods can result in poor data quality. An effective ESG strategy involves a clear and consistent approach to secure high-quality data, which is crucial for achieving the efficiency needed for desired investment outcomes.

3. Staying ahead of the curve

Forward-thinking private equity firms are increasingly focused on metrics that account for emerging risks. Issues such as cybersecurity are particularly relevant to Asia Pacific as technology becomes more sophisticated.

Practical steps for investors