How ESG Factors Are Shaping the Role of Legal Experts and Lawyers in Corporate Decision-Making
Globally, environmental, social and governance (ESG) concerns have grown significantly in corporate boardrooms. These concerns have also permeated into deal-making owing to the fact that the risks, ramifications and results have become considerable.
The impact of ESG is being considered by all stakeholders with the advent of ESG ratings and the introduction of reporting requirements for listed entities, such as the U.S. Securities and Exchange Commission proposing new rules that require companies to disclose certain climate-related information, ranging from greenhouse gas emissions to expected climate risks to transition plans1. Similarly, Asian countries such as China, Malaysia, and Indonesia also require their largest listed companies to provide mandatory ESG disclosures.2
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ESG factors are increasingly gaining momentum in weighing the implications of business decisions and long-term plans. As climate change accelerates, businesses have started encountering new risks and opportunities. Reportedly, companies with better ESG scores have been awarded with greater access to capital, employee satisfaction, growth opportunities and customer retention.3 Therefore, since companies are focusing more on sustainability and responsible business practices, the role of legal experts and lawyers is also evolving owing to the following reasons:
(a) Disclosure and Reporting: ESG reporting has become a standard practice for many companies, driven by investor demands, regulatory requirements, and societal expectations. In India, the top 1,000 listed companies (by market capitalisation), from the financial year 2022-2023, are required to prepare a ‘business responsibility and sustainability report’ (or “BRSR”), containing detailed ESG disclosures.4 The BRSR is to form part of an annual report, which gets notified to stock exchanges, published on official company websites, and separately provided to shareholders. Legal experts therefore play a key role in ensuring accurate and reliable reporting of ESG-related information, minimizing the risk of misleading claims or omissions.
(b) Investor Relations and Due Diligence: In research conducted by PwC, nearly 80% of investors said that ESG was an important factor in their investment decision-making, almost 70% thought ESG factors should figure into executive compensation targets and about 50% expressed willingness to divest from companies that didn’t take sufficient action on ESG issues.5 As a result, it has almost become essential for companies to conduct an ESG due diligence (“ESG DD”) at a pre-deal stage, to mitigate the risks surrounding ESG impacts while also ensuring improved ESG performance in the long run.6 An ESG DD, among other things, focuses on (a) environmental issues such as a target’s pollution levels, exposure to extreme weather conditions, carbon management and use of scarce resources; (b) social issues like product safety, human rights, worker safety, diversity and inclusion; and (c) governance aspects such as accounting standards compliance, minority shareholder rights, succession planning etc, which are usually not covered under a traditional legal due diligence.
Lawyers generally tend to be at the heart of the diligence process and act as a nodal point. They assist in ensuring compliance, identify ESG risks and opportunities, prevent greenwashing, provide specialised advice, assist in climate, shareholder and regulatory litigation and assess the effectiveness of corporate governance policies. Companies should also consider as a preventative measure, to conduct ESG audits at regular intervals. Companies such as BlackRock7 and Citi8 have begun to conduct racial equity and anti-harassment audits to address racial inequalities.
(c) Reputation and Brand Protection: ESG-related controversies can significantly impact a company’s reputation and brand value. Legal experts can assist in managing reputational risks, handling crisis communications, and mitigating potential damage through strategic legal counsel.
(d) Stakeholder Engagement: ESG considerations involve engagement with various stakeholders, including regulators, investors, employees, communities, and NGOs. Legal professionals help navigate these interactions, ensuring effective communication, addressing concerns, and facilitating collaborations to achieve sustainable outcomes.
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Overall, ESG has permeated the legal industry and is of vital importance today. ESG compliance has become a key focus for legal advisors because of the interest shown amongst investors, consumers and government regulators alike. Lawyers must comprehend, adapt to the changes and keep themselves updated on ESG trends, managing risks, adding ESG clauses to contracts, performing due diligence etc.
AUTHOR
Saurav Kumar, Partner, INDUSLAW
References
- 1 The United States Securities and Exchange Commission, Proposed amendments under “The Enhancement and Standardization of Climate-Related Disclosures for Investors”, March 2022, (accessible from https://www.sec.gov/rules/proposed/2022/33-11042.pdf).
- 2 Monica Sun, “China refines ESG disclosure rules for listed companies” Herbert Smith Freehills LLP, July 2021, (accessed from www.lexology.com); and Frank Pan, “ESG Disclosure and Performance in Southeast Asia”, May 2021 (accessed from www.sustainalytics.com).
- 3 Business Standard, “ESG factors now part of lending decision by top banks globally: Crisil CEO”, July 2021, (accessible from https://www.business-standard.com/article/companies/esg-factors-now-part-of-lending decision-by-top-banks-globally-crisil-ceo-121073000869_1.html).
- 4 Securities and Exchange Board of India, “Business responsibility and sustainability reporting by listed entities”, circular no. SEBI/HO/CFD/CMD-2/P/CIR/2021/562, May 10, 2021.
- 5 PwC, “The economic realities of ESG”, October 2021, (accessible from https://www.pwc.com/gx/en/services/audit-assurance/corporate-reporting/esg-investor-survey.html). 6 KPMG, “2022 EMA ESG Due Diligence Study”, November 2022, (accessible from https://assets.kpmg.com/content/dam/kpmg/es/pdf/2022/12/EMA-ESG-Due-Diligence-Study_Web.pdf).
- 7 Fortune, “BlackRock pledges to conduct a racial audit of its business”, April 2021, (accessible from https://fortune.com/2021/04/06/blackrock-racial-audit-corporate-diversity-inclusion-race-at-work/). 8 Citi Group, “Citi Will Conduct a Racial Equity Audit”, October 2021, (accessed from https://blog.citigroup.com/2021/10/citi-will-conduct-a-racial-equity-audit/).
The views expressed here are personal and do not necessarily represent those of the organisation or the publication
