The ESG Paradox: Disruptive Risk and Investment Opportunity
Increasing environmental, social and governance (ESG) regulations continue to place significant strain on existing business models, causing most private sector players to resist and grudgingly comply with rising standards in their own industry. Corporate fear and reluctance is understandable; ESG trends create risk that some of the market space occupied today (e.g., standard efficiency appliances) could become obsolete. And it’s easier to shake one's fist in anger at the universe than it is to proactively take steps to ensure long-term viability and competitiveness.
However, for savvy institutional investors and conglomerates, the same broad ESG trends buffeting their and their customers' industries today create commercial opportunities for new investments that will allow for competitive differentiation in the mid- to long-term. ESG, like digital before it, will fundamentally reframe the basis of competition in industries. Either crippling the value proposition of existing players who choose to dig into their “proven” models or creating space for savvy ones to innovate into new customer needs emerging in their end-markets.
For savvy institutional investors and conglomerates, the same broad ESG trends buffeting their and their customers' industries today create commercial opportunities for new investments that will allow for competitive differentiation in the mid- to long-term.
The opportunity to solve for the major ESG considerations plaguing industries is most ripe for those companies providing product / technology and service solutions into several key segments:
1) Mining
2) Oil and Gas
3) Power Generation
4) Chemicals
5) Refining
6) Agribusiness and Foods
7) Automotive
8) Technology
9) Environmental Services
10) Transportation
For product / technology and service companies that serve the above industries, ESG will fundamentally change the where to play / how to win calculus for their existing businesses. Causing them to either stumble (or become defunct) as they fail to act vis-a-vis helping to solve for the ESG challenges their customers are facing or allowing them to get a leg up on the competition and / or create new market space through a purposeful investment in the R&D and M&A activity needed to address their end-customers’ most pressing ESG concerns.
To comprehensively take advantage of the ESG opportunity, savvy investors have to do more than just take a snapshot in time (e.g., developing an ESG framework / index). Instead, they have to pay attention to an existing asset or upcoming investment’s full life cycle, including:
1) Developing an investment framework that balances short-term profitability concerns with long-term sustainability ones (e.g., defining the market-centric sustainability-related KPIs most relevant in their target industries and ensuring that new investments meet those criteria)
2) Better integrating end-market ESG diligence into their commercial due diligence activities when evaluating new investments (e.g., determining whether a potential acquisition target’s portfolio will remain relevant due to Federal efficiency standards 5-10 years out)
3) Post-investment, establishing the governance models needed to ensure that, from a value creation perspective, end-market ESG concerns remain front-and-center within core business processes (e.g., Innovation and R&D)
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