ESG - Important Factors in any M&A Deal

If you’re looking at selling a company, or buying one, you need to be mindful of three letters: ESG, or environment, social, and corporate governance.

As ESG issues move to the fore in the business world, prospective buyers are examining ESG issues more closely when evaluating potential merger and acquisition deals. This is important for both buyers and sellers, because ESG issues may lead to disputes when merger and acquisition deals are being made.

Environmental

Environmental matters are becoming a key part of M&A: there is a growing focus on climate change and more governments are compelling organizations to focus on these areas of their businesses. It’s expected there will be more regulation, and this will have an impact on deals, their valuations, and potential disputes.

Environmental criterion look at questions such as whether a company pollutes or the kinds of sustainable practices it has implemented. Purchasers may compare a company’s representations and public statements about its environmental practices against the company’s reality – a mismatch between representations and practices may lead to issues, and ultimately a dispute, in a prospective M&A deal.

If your company has established sustainability practices, or ensures suppliers do, management will need to outline those practices and arrangements as it is a potential selling point for the company. If you don’t have this lined up, be aware that buyers might have questions.

Social

The social side of ESG involves how the company works with and impacts employees, customers, suppliers, and the community as a whole. Does the company have a good relationship with the communities where it operates? Is it a good corporate citizen? Are relationships with suppliers strong and equitable? Prospective sellers should be prepared to answer these questions, with data to support their answers. Prospective buyers should consider examining these issues.

Corporate Governance

Corporate Governance concerns the company’s leadership, including its internal controls and audits, the nature and quality of the oversight carried out by the company’s board of directors, and executive pay. Buyers will want to know about who leads the company and the reputation of that leadership. They will examine the makeup of the company’s board of directors – is there a balance between men and women, as well as diversity among members? Is there a range of expertise the directors bring to the table? They will examine executive pay, how it compares to the broader industry, and whether pay is equitable amongst the leadership. They will also want to know how effective internal controls are to ensure operations run smoothly and are cost-efficient.

Concluding Thoughts

To date, most reporting of ESG initiatives are voluntary and not standardized – which means companies can pick and choose the metrics that show them in the best light.

However, there are certain areas, particularly climate-related factors, where it is anticipated that standardized disclosure and reporting requirements will be introduced. Even if certain reporting requirements don’t affect your company directly, it may impact your suppliers and therefore, your company indirectly.

Even when there are no direct or indirect disclosure requirements, ESG concerns may find their way into your M&A deal. For example, a buyer might require a clause stating that no claims of sexual harassment have been made against any of the company’s current or former executives.

With those facts in mind, to protect your company and your deal you need to focus on providing accurate, supportable statements related to performance on any ESG factors. Expert deal teams like the professionals at BDO are well-positioned to assist prospective buyers and sellers in examining and responding to ESG issues in M&A deals.