Incorporating Environment, Social And Governance Norms Into Indian Corporations

28th October, 2023 - 10:30 am Categories: Environment Law Practice News & Updates 0 Comments

Brief Introduction

Environmental, Social and Governance Norms emerged officially for the first time in an address by Kofi Annan, the then UN Secretary General.[1] Over the years, it gained importance all over the world. In India, there are various laws to govern environmental, employee well being and corporate standards. There is no law to essentially focus on ESG solely. In 2009, the Ministry of Corporate Affairs introduced ‘Voluntary Guidelines on Corporate Social Responsibility’ in 2009 thereby bringing to the forefront the idea of business responsibility. In 2012, SEBI introduced the requirement for the top 100 listed companies on the basis of market capitalisation to issue the Business Responsibility Report (“BRR”) which over the years was extended to the top 1000 companies. In 2021, BRR was replaced by the Business Responsibility and Sustainability Report (“BRSR”).[2]

Analysis

The Environmental, Social and Governance Norms arose as a worldwide phenomenon with increasing awareness on various rights ranging from clean and pollution-free environment to labour norms. Countries around the world began adopting and changing in order to comply with the same. The focus on such values whilst continuing to govern profit-based industries and companies has led to various positive changes.

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Need for ESG- The sole aim of a company is to ensure the profits of the shareholders. The investments being made by the buying of shares in the share market by the public is one of the important things which fuel the working of the company. Over the years, ESG and sustainable practices adopted by companies are one of the factors considered by investors before making an initial investment. “Green Finance” and “Green Investment” are novel concepts which cannot be ignored by Institutional Investor or Retail Investors. Retail Investors often, in developing nations, focus solely on short-term profits and not on the long-ranging impact of the activities of the company. Institutional Investors are slowly moving on to examine the compliance of the company to sustainable measures.[3]So, in the long run, incase the companies sustain short-term losses, the investors will back the same.

ESG isn’t solely about the environment and anti-pollution measures. A substantial portion is also about social inclusivity, labour norms and transparency in governance. Productivity and Innovations in companies increase when there is inclusivity among the employees. Heterogeneity in companies has proven to be effective in ensuring accountability to the public shareholders. ‘Real profits’ are gained economically and in terms of intellectual property being produced by the companies. The Norms are a golden standard which have ensured a move towards sustainability and profits. It is required considering the depleting natural resources would affect the input to various industries. The cycle of deteriorating inputs and outputs would be broken. ESG would also enable new innovations which would be assets under various intellectual property regimes.

ESG Norms would also be advantageous for labour classes and improvement against poverty as it is inclusive in nature to all sections of society. This would help in better engagement and potentially uplift certain sections of the society too.

ESG and subjectivity-The companies also will look towards engaging in activities which would help them in the future rather than looking towards helping society. Since profit is the main motive, there might be a focus solely on education schemes which will benefit the company in the long run. While this may seem like apathy shown by the companies against certain issues, the varying interests of companies might lead to shedding light on various issues too all the while benefitting the company.

ESG enforcements can lead to clashes between directors and shareholders. There are a range of issues in which the company can invest to meet the requirements of the law. However, the ideas and policies of shareholders and the directors might vary on which field requires more immediate attention thereby leading to a clash. While there is a contention, there is a need for discussions and the directors recognising that they are the representatives of the shareholders’ interests. Through this, ESG values can be given a definite road to implementation.

Politics also plays a major role in influencing the tide when it comes to environmental and social values. Certain governments emphasise on environment and liberal social values while certain others focus on conservative values. The ideology of the government cannot be ignored as rules and their compliance is directly influenced by the government. At the same time, public opinion can be swayed by the government as the trust in the government that was duly elected by the majority of the country is greater than a corporation working for profits.

For example- In the USA, under the Trump administration, there were views discarding theories of pollution and global warming which were increasingly expressed. There was a withdrawal by the government from various UN treaties and agreements too.  Inclusivity also took a hit in terms of conserving America against various immigrants. In such scenarios, companies which are working towards environmental conservation or inclusivity would get hit when it comes to investments.

The public image of the corporation and the prevailing values in society affect the shareholders and investors. The turning of tides might be risky for companies which do not have the backing to suffer losses. Further, in a globalised world, there are increasing pressures due to events which cannot be controlled.

For example- The Ukraine-Russia war has led to increasing pressure on the already suffering Indian economy. The scramble for oil and natural gases along with the increase in manufacturing costs of certain companies cannot be written off.[4] While the Government is enforcing CSR and compliance with ESG based on market shares, there is still pressure on companies to evolve whilst struggling to survive.

Subjectivity also arises in terms of the market in which the industry is based. For a technology-based industry, it is easier to comply with certain requirements in comparison to a manufacturing or an oil-based industry.

Problems with Compliance- Compliance issues arise due to the subjectivity involved. Every industry or company focuses solely on ensuring profits for shareholders. The real profits earned matter more than the public interest in most companies. However, the sudden wave of green investments and governments implementing rules for compliance has led to a façade of compliance. Several multinational companies have come under fire for indulging in the practice of “Green washing”.[5] In India, many companies have been suspected of green washing. The companies often proclaim investments related to ESG and later fail to comply with the same. Several criticisms have also been raised regarding the Corporate Social Responsibility enforcement by the Government on certain companies. The Government cannot intervene in every decision made by the board as it comes under the commercial wisdom of the company.

The practice has many defenders with the contention that the responsibility of protecting the environment or ensuring equality among workers is that of the Welfare State and the Government. The company as a private entity working towards profits would not invest unless there is a profit to do so. The Supreme Court of India has discarded this view by extending the duty of the director to act in good faith towards shareholders and the environment.The directors of a company under Section 166(2) of the Companies Act need to give back to society as a part of their duty.

ESG and COVID- COVID-19 and its effect on all sectors of the world need to be addressed. There was an increasing awareness of environmental and social care amongst the society. According to certain reports and surveys, many people looked into the compliance of major corporations in which they were shareholders or were looking to be one. On the other end of the spectrum, there is also pressure created in terms of the losses in earnings and productivity of the company. The increasing need to comply with ESG by the government can lead to strain in finances and thereby affect the earnings of the shareholders. It is a cyclic effect as the lesser the earnings of the shareholder, the lesser there is further investment or savings in banks which would have led to the creation of credit. While ESG would ensure investments to a certain extent, it is profitable only if the expenditure of the company is being covered by their investments. Otherwise, there would be an overall loss incurred.

Potential Solutions and Conclusion- There is ample evidence to point towards the positives in complying with ESG norms. ESG norms ensure the sustainability and long-term functioning of the company while giving back profits to the shareholders. However, problems arise with compliance and the subjectivity involved. A potential solution for the disadvantages would be the government conducting talks with market players and various industries to ensure that there is an understanding of the problems of market players. This would help in the effective compliance and following of the ESG rules. Further, the issue of ideology and public need would also be resolved this way. Green washing too wouldn’t become a problem as the industries wouldn’t have a need to put on a façade.In an alternative scenario where ESG norms are not implemented, there will be a certain fall in productivity due to a lack of natural resources, human capital etc. ESG is certainly the golden standard necessary for the future and can be implemented if minor changes in the approach of the government are adopted. Issues with enforcement and compliance should not lead to discarding the idea in itself. Rather, solutions can be worked out through the same.

Author: Srividya M S, in case of any queries please contact/write back to us via email to chhavi@khuranaandkhurana.com or at Khurana & Khurana, Advocates and IP Attorney.

[1]John Hale, Sustainable Investing events highlight Kofi Annans Legacy, Medium.com, (September 21, 2018) https://medium.com/the-esg-advisor/sustainable-investing-events-highlight-kofi-annans-legacy-a34d966500ff

[2]Arpita Garg, Indian Legal Regime for ESG, Mondaq.com, (June 14, 2022) https://www.mondaq.com/india/corporate-governance/1201560/indian-legal-regime-for-esg

[3] Robert G Eccles and Svetlana Klimenko, The Investor Revolution, Harvard Business Review,https://hbr.org/2019/05/the-investor-revolution

[4]Abhijit Lel, Russia-Ukraine war may expose 42 Indian firms to significant risks, business standard, https://www.business-standard.com/article/companies/russia-ukraine-war-may-expose-42-india-firms-to-significant-risks-moody-s-122042500422_1.html

[5]Adam Hayes, Greenwashing, Investoedia, (November 08,2022) https://www.investopedia.com/terms/g/greenwashing.asp