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The growing importance of ESG in M&A

The growing importance of ESG in M&A

Where are we now?
The focus on ESG is embedding itself in the psyche of consumers and investors and there is a real pressure on companies to actively contribute to the world outside them in a positive way. While before, this focus on social responsibility may have felt more of an add-on, it is now becoming an integral part of the functioning of a business. As a result, not having a comprehensive ESG policy in place that has been fully absorbed by the company can have a negative impact on the value of your business going forward, and this impact is only going to grow.

Where is the focus?
As people-led businesses, it is no surprise that the ‘S’ part of ‘ESG’ currently plays the most significant part in the media and creative industry. Having a diverse and inclusive workforce, including at board level, speaks volumes.
With climate change big on the public and political agenda, there is also significant pressure on businesses to offset their carbon footprint; demonstrating this is the regulation that requires all large unquoted companies to disclose their emissions in their financial statements.
Governance, meanwhile, perhaps because it’s less transparent, has had less of an impact on the way businesses are viewed – aside from where significant failures have led to huge reputational damage like in the case of Bell Pottinger.
Where is the pressure coming from?
Brands have a clear eye on ESG – it’s not just about what they are doing themselves but also what their suppliers and consumers alike represent. As a result, the pressure on agencies to meet certain ESG expectations, both themselves and in their own supply chains, is being driven by them through procurement.
We are increasingly seeing criteria put in place that agencies need to meet in order to be included on the pitch list, making ESG a differentiator that can give an agency the competitive edge. So, if you’re not where you should be with regards to this, the flow of work is likely to slow, which has a direct impact on the saleability of your business. This chain of events will become increasingly common as the criteria being applied increases.

Which acquirers focus most on ESG?
Institutional investors, such as pension schemes, will be at the heart of the change, forcing businesses they invest in, such as private equity houses, to meet high ESG standards. Private equity houses will therefore be at the helm of bringing ESG higher up the agenda when scoping out acquisitions.
Compelled by their investors to find assets that have conformed to certain criteria, we have already seen some examples of PE houses and PE backed businesses, as well as other trade acquirers, overlooking businesses and citing all male senior teams or significant numbers of oil companies on the client roster among the reasons. While these have been few and far between, there is no doubt that the acquirer spotlight on this will strengthen and, within five years, we predict that there will be a direct correlation between ESG and perceived value, especially given that the majority of transactions have PE involvement currently.

What will the future impact on valuations be?
M&A is very much cyclical by nature and ESG is being drawn up into this. If an agency is not reaching the right standards and is consequently being omitted from pitch lists, their client roster reduces and they lose value. Similarly, if an acquirer were to prioritise ESG and, upon due diligence, found a business lacking in this area it could compound their reasons for not going ahead with the sale; the withdrawal of a potential buyer takes with it the heat from a deal, making the business less competitive in the market.
As a result, businesses considering sale should not be lulled into a false sense of security that active engagement in ESG is superfluous to the process. The focus on ESG is only getting stronger – at present you can create value by hitting the right mark but, within five years, it will significantly impact both valuation and saleability if you don’t.