Finova Consulting

Introduction

As we step into 2024, an important question arises for Startups: What could be the key competitive advantage in their fundraising strategy to ensure success in raising funds?

In my perspective, the answer lies in sustainability. The way your business operates, particularly in its specific region, involves various environmental activities and impacts social communities. In today’s world, it is essential to consider not just the profitability but also how a business affects these areas. A responsible approach towards environmental and societal contributions is becoming increasingly vital. Hence, early-stage founders must understand and integrate Environmental, Social, and Governance (ESG) principles. ESG readiness is not just a compliance measure; it significantly enhances a startup’s appeal to investors.

In this article, we’ll begin by exploring the fundamentals of Environmental, Social, and Governance (ESG) criteria and how businesses can prepare to meet these challenges. We’ll delve into what investors typically seek in terms of ESG aspects and discuss the most effective strategies for implementing ESG policies, even for startups. By understanding and applying these best practices, startups can position themselves attractively for venture capital investors. So, stay with us and continue reading to learn more about integrating ESG into your business strategy!

01. ESG Readiness Program for Startups of all Size

ESG stands for Environmental, Social, and Governance – three crucial areas increasingly influencing investment decisions globally.

Environmental– examines a company’s ecological impact,
Social– How a company manages relationships with employees, customers, and communities,
Governance– How good are leadership, company policies, and shareholder rights?

ESG readiness means embedding these aspects into their business model and operations, which not only demonstrates responsibility but also aligns with investor expectations for sustainable and ethical business practices.

02. ESG- Why matter for early-stage and mid-stage Startups

The short answer is actually YES. Given the changing startup ecosystem, there is a need to generate a competitive advantage with other players in the market but also create a sustainable business that will scale up in the long term.

The main point lies in the ESG approach as it may mean different with different businesses based on a startup’s industry, scale, and operations.

The key is to identify areas where the startup can make the most significant impact or where it faces the highest risk.

Let’s take an example, a tech startup might focus more on social and governance aspects like data privacy and ethical business practices, while a manufacturing Startup might prioritize environmental factors.

Internationally, frameworks like the Global Reporting Initiative (GRI) and the Sustainability Accounting Standards Board (SASB) provide guidelines for different industries, which can be adapted to the Indian context. To know more about what these guidelines are and what ESG approach is best suited to you, please fill out the form and our team come back with a complimentary ESG report for you that suits your set-up and requirements.

03. International regulatory frameworks and Indian Startups approach

Globally, and increasingly in India, regulatory bodies are emphasizing ESG compliance. The International Accounting Standards Board (IASB) is developing a separate board for ESG integration, reflecting this global trend. In India, SEBI (Securities and Exchange Board of India) has introduced ESG reporting requirements for the top 1,000 listed companies. These developments indicate a shift towards more stringent ESG norms and reporting standards. While there are no mandatory regulatory requirements for early-stage startups we generally encourage our investors to minimally comply with a few standards in the financial modeling to get investor attention.

04. VC Investors and ESG Policy

Investors have an objective to increase return on investment. Given the past historical business trends, it is evident that a business that is more eco-friendly and more socially responsible is more likely to grow in the long term.

So, this attracts Investors to invest in sustainable businesses which are more likely to grow in the future.

A strong ESG proposition can attract more investment, as it indicates the startup’s commitment to long-term sustainability and ethical operations. Investors generally look for transparent ESG disclosures, concrete sustainability strategies, and evidence of ESG integration into the business model.

05. How ESG can be incorporated under the fundraising strategy document?

ESG Assessment and Strategy: Conduct an ESG assessment to identify key areas of impact and risk. Develop a strategy that aligns with your business goals and ESG priorities.
Implement Sustainable Practices: Incorporate sustainable practices in operations, such as energy-efficient processes, ethical supply chains, and responsible waste management.
Strengthen Governance: Establish strong governance structures, including ethical policies, transparent leadership, and shareholder engagement.
Community and Employee Engagement: Foster a healthy workplace culture and engage with local communities to build social capital.
Regular Reporting: Maintain transparency by regularly reporting on ESG initiatives, progress, and challenges.
Continuous Improvement: Stay updated on ESG trends and continually improve ESG practices.

As you may notice, ESG involves costs in the short term. While implementing the above ESG strategy there can be a cost-benefit analysis for the estimated cost to incur for sustainability and reporting and how it will benefit the long-term purposes under the financial modeling.

06. The Road Ahead: ESG and Future Funding

For Indian startups, being ESG-ready is not just about securing immediate funding but also about building resilience and credibility for future growth. The global shift towards sustainability means that future funding will increasingly be channeled towards startups that demonstrate a strong commitment to ESG principles. By incorporating ESG into their core, startups can position themselves as forward-thinking, responsible, and sustainable businesses, attracting not only investment but also loyal customers and talented employees.

07. Best Practices to Build an ESG-Ready Pitch Deck

For startups looking to attract investment, incorporating ESG into their pitch deck is crucial. Here’s how you can do it:

Highlight ESG Vision: Clearly articulate how your startup’s vision aligns with ESG principles. This could be through your mission statement, business model, or the problem you are solving.
Showcase ESG Initiatives: Include specific ESG initiatives or practices you have implemented. This could range from sustainable supply chain practices to employee welfare programs.
Demonstrate Impact: Use data and case studies to show the impact of your ESG initiatives. Quantify your environmental impact or social contributions where possible.
Discuss ESG Goals: Outline your short-term and long-term ESG goals. This shows investors that you are committed to continuous improvement in ESG practices.
Address Governance: Investors are keen on good governance. Highlight your governance structures, ethical policies, and compliance with regulations.

08. Best Practices to Build ESG in Financial Modelling

Incorporating ESG factors into financial modeling involves:

Quantifying ESG Investments: Assign costs to ESG initiatives, like sustainability programs or social welfare activities. This could include initial setup costs and ongoing operational expenses.
Forecasting Long-term Benefits: Model the long-term financial benefits of ESG initiatives, such as energy cost savings from sustainable practices, improved brand reputation, and increased customer loyalty.
Risk Mitigation: Include ESG as a risk mitigation factor. For instance, strong governance can reduce regulatory risks, and social initiatives can decrease employee turnover rates.
Scenario Analysis: Conduct scenario analyses to understand the financial impact of different ESG strategies. This helps in identifying the most cost-effective and impactful ESG initiatives.
Presenting to Investors: Articulate how ESG initiatives contribute to long-term value creation in the pitch deck. Highlight any ESG-driven competitive advantages and how they translate into financial performance.

09. The Role of ESG in Startup Valuation and Growth

In the startup ecosystem, valuation is not just about current revenues or profits; it’s increasingly about future potential and sustainability. Here, ESG plays a pivotal role. Startups that demonstrate robust ESG practices tend to have a higher valuation because they are seen as less risky and more sustainable in the long run.

Moreover, ESG readiness can drive growth by opening doors to new markets and customer segments that prioritize sustainability. It can also foster innovation as startups look to solve environmental and social challenges, leading to new products or services. In the Indian context, where socio-environmental issues are prominent, startups that address these challenges can tap into a vast market potential.

Investors, too, are increasingly mindful of the long-term risks and opportunities presented by ESG factors. They are not just looking for compliance but for genuine integration of ESG into business models. This shift is evident in the growing number of ESG-focused funds and the increasing ESG mandates among traditional investors.

10. Common ESG Challenges for Early-Stage Startups and Overcoming Them

Early-stage startups often encounter specific ESG challenges, including limited resources, lack of expertise, and prioritization conflicts. Here’s how they can overcome these hurdles:

Limited Resources: Startups may find it challenging to allocate funds for ESG initiatives. Solutions include seeking grants specifically aimed at sustainability projects, and starting with low-cost initiatives like reducing energy consumption or implementing recycling programs.
Lack of ESG Expertise: Many startups may not have in-house ESG expertise. Overcoming this involves leveraging external ESG consultants or collaborating with non-profits and industry groups focused on sustainability.
Balancing Priorities: Startups often juggle multiple priorities, and integrating ESG can seem daunting. The key is to view ESG not as an add-on but as integral to business strategy and operations. This means embedding ESG into every business decision from the start.
Measuring Impact: Accurately measuring ESG impact can be complex. Startups should start with simple metrics, like tracking energy use or employee diversity, and gradually adopt more sophisticated measurement tools.

11. Cost Benefit Analysis for ESG Policies

While initial ESG investments might seem like an extra cost, they often lead to long-term savings and benefits. For example, investing in energy-efficient technology can reduce long-term operational costs. Similarly, focusing on employee well-being can decrease turnover rates and associated hiring costs.

The long-term benefits also include enhanced investor appeal, as many investors now prioritize startups with strong ESG credentials. Additionally, ESG compliance can open up new market opportunities, particularly in sectors where sustainability is a growing concern among consumers.

Conclusion

ESG readiness is an invaluable asset for early-stage startups in future years, not just for attracting investments but for sustainable and ethical business growth. By understanding and overcoming common challenges, integrating ESG into financial models, and recognizing long-term value, startups can effectively leverage ESG for success. For Indian startups, embracing ESG is a strategic move that aligns with investor expectations, regulatory trends, and market demands.

By embedding ESG into their core, startups can secure a competitive edge, attract investment, and embark on a path of sustainable and responsible growth. As the world moves towards a more sustainable future, ESG readiness will be a key determinant of a startup’s success and longevity.

Connect and Collaborate for a Sustainable Future

Are you an early-stage startup looking to integrate ESG principles into your business model? Do you seek guidance on making your venture more attractive to investors through sustainable practices? At Finova Consulting, we specialize in aligning startup strategies with ESG principles, ensuring your business is not just investment-ready but also future-proof.

If you’re interested in learning more about how ESG can be a game-changer for your startup, please reach out to us at connect@finovaconsulting or fill out the Contact Form.