ESG is a phenomenon in the business world that is here to stay. It is a broad, amorphous concept that encompasses many areas of concern, and, like it or not, it has become a critical part of corporate counsel’s role in advising clients.
One area of particular concern is the role of ESG in mergers and acquisitions – how do you ensure that you are growing your company and not buying into a series of lawsuits and a reputational nightmare? Although ESG is an impossibly broad topic to cover, below we will provide an overview of why it is an unavoidable consideration in mergers and acquisitions, including:
What is “ESG?”“ESG” is a relatively new term that has no agreed-upon definition. The letters stand for “environmental, social, and governance.” Environmental concerns encompassed by ESG could include:
Although ESG concerns were previously viewed mostly as reputational – complaints by advocacy groups or others were handled as a public relations problem, it has increasingly become a legal problem. For example, the government has become increasingly involved in legislating and regulating ESG compliance, creating a regulatory minefield for uninformed corporations, and complaints by the public and advocacy groups have evolved from bad press or protests to increasingly creative legal actions filed against corporations, often based on the accuracy of their ESG disclosures. Reputational Risk Shareholders and investors care about ESG issues more than ever, and a failure to address ESG concerns can and does result in a negative reputational impact on companies. Buyers of corporate interests should investigate and consider any ESG concerns connected to the potential transaction, including 1) how to mitigate any reputational issues that may arise from the target company’s prior ESG policies, 2) ensuring that the target has appropriate policies in place, and 3) ensuring that the target company is making appropriate ESG disclosures that are in line with your core corporate values. Fiduciary Duties Directors have a fiduciary duty to act in the best interests of their shareholders and must consider the impact of ESG policies and disclosures on the business’s continued commercial viability and shareholder value. Financial LossesESG concerns pose a very real risk to shareholders that includes access to capital – lenders are increasingly demanding that businesses make ESG a priority and are taking ESG ratings and companies’ ESG policies into consideration when deciding whether to finance companies and the terms of financing. Reputational impacts from bad press can also impact potential investments as investors increasingly look to companies’ ESG policies and reputation when deciding where to invest, and ESG-related lawsuits can have a lasting impact on a company’s reputation as well as its financial stability. Regulatory ComplianceGovernments across the globe are increasingly regulating ESG-related issues and company disclosures. For example, the Securities and Exchange Commission (SEC) is moving to require climate-related disclosures in registration statements and periodic reports, and the Canadian Securities Administrators (CSA) has published guidance for investment funds related to companies’ ESG-related disclosures. Due Diligence and Avoiding ESG-Related LawsuitsBuyers must consider ESG concerns as part of their due diligence if they want to minimize regulatory actions, shareholder lawsuits, and lawsuits by third parties including environmental advocacy groups. Depending on the nature of the businesses and the jurisdictions in which they will be operating, buyers should conduct ESG investigations as part of their due diligence in any merger or acquisition, which may include examination of:
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