Environmental and Social Due Diligence
- ESDD is an expert assessment for understanding 1) the risks and liabilities, and 2) the opportunities and locked value assets, that Environmental and Social issues may pose on a particular company, project, or investment by using the benchmark of a set of Standards.
- Most funds and lenders require that an ESDD is conducted before the financial close as part of the Project Finance Process.
- Both Seller and Buyer involved in an M&A prepare an ESDD to analyze the E&S Performance of an asset or a company.
- Triple Sustainability is well versed in providing such services to all the stakeholders involved in both processes.
Objectives in Sustainable Project Finance
What is an Environmental and Social Due Diligence for M&A?
It is an expert assessment for understanding 1) the risks and liabilities, and 2) the opportunities and locked value assets, that Environmental and Social issues may pose on a particular company, project, or investment by using the benchmark of a set of Standards.
ESDD Mindmap for M&A
All the keys to understanding the elements involved in an ESDD, as well as the relationships between them, are presented in the Mindmap.
When to do an ESDD?
When to do an Environmental and Social Due Diligence for M&A?
Depends on your role:
- Seller:
- As soon as the decision to sell has been made.
- Planning as early as posible to provide a good quality ESDD usually gives confidence to the buyer and tends to keep your price up.
- Buyer:
- As soon as the intention to buy appears.
- Starting earlier allows for adapting the scope but more importantly for mobilizing the consultants.
- According to CDC Group ESDD Review there are common shortcomings that should be avoided:
- A good quality ESDD is sometimes compromised by the time available prior to the deadline for submission of the investment for approval.
- Not allowing enough time or delaying until after approval can lead to consequences such as significant unexpected cost and inefficiencies, or missing the opportunity to influence a discount in price if E&S issues affect valuation.
Who is involved in ESDD?
Stakeholders are key in the ESDD process:
Knowing who has to do with an ESDD is key to understand the roles that each party may play in the process as well as the effects on them.
Stakeholders for Mergers & Acquisitions
The main stakeholders in an ESDD for Mergers and Acquisitions processes are as follows:
- Seller.
- Buyer.
- Community.
- Regulators.
Why an ESDD?
Practical Reasons
- If you are selling an asset potential buyers likely want to analyze your E&S performance. If you provide a solid ESDD report your initial price will be less compromised.
- If you are interested in buying an asset you should conduct an ESDD to identify risks and liabilities that may reduce the seller’s initial price.
Good Governance Reasons
- Strong ESDD can create an opportunity to add value by identifying areas for greater efficiency, or for improved relationships with suppliers or customers. It can enhance the reputation of the company and brand (CDC Report 2016).
- Conversely, poor ESDD can create cost to the business in terms of fines or shut-downs, or because it requires management time and resources to resolve problems. It can also hurt a company’s reputation, which may affect its ability to access new markets, attract future investors, customers and possibly employees (CDC Report 2016).
- For further information on good governance, please visit Sustainability Governance.
Risks and ESDD
Early identification and assessment of Risks
- FINANCIAL RISK: The buyer is unable to repay a loan due to social and environmental risks; or the seller cannot use the full price on other activities as the seller is claiming liabilities.
- LIABILITY RISK: Both seller and buyer may face legal complications, fees, and/or fines for rectifying social and environmental damage.
- REPUTATIONAL RISK: Both buyer and seller may reduce company value because of environmental and social liabilities.
Benefits and ESDD
Top Benefits of a Strong ESDD for M&A
- For the Seller: Any company interested in purchasing the asset will immediately trust the operation and generally will not reduce the initial price.
- For the Buyer: The process makes sure that no risk or impact is unattended in addition to the potential reduction in price in case non disclosed liabilities are detected in the buyer’s ESDD.
Scoping an ESDD
Setting the correct scope is critical
- Ensure that all relevant E&S issues are identified.
- Ensure helps identify a framework to manage relevant risks.
- Including relevant international standards and good international industry practices provides a good assessment of the assets from the ESG standpoint.
- According to CDC Group ESDD Review there are common shortcomings that should be avoided:
- Failure to allow for future growth such as acquisitions of new assets or expansion of the operation.
- Not visiting enough sites or visiting insufficiently representative sites.
- Not including upstream and downstream activities.
- Not including labor conditions of subcontractors.
Standards for ESDD
Applicable Legislation
- Local Regulations.
- State Regulations.
- International Conventions the country or countries are party at.
Equator Principles
JULY 2020
- Principle 1: Review and Categorisation.
- Principle 2: Environmental and Social Assessment.
- Principle 3: Applicable Environmental and Social Standards.
- Principle 4: Environmental and Social Management System and Equator Principles Action Plan.
- Principle 5: Stakeholder Engagement.
- Principle 6: Grievance Mechanism.
- Principle 7: Independent Review.
- Principle 8: Covenants.
- Principle 9: Independent Monitoring and Reporting.
- Principle 10: Reporting and Transparency.
IFC
January 2012. Performance Standards
- PS 1: Assessment and Management of Environmental and Social Risks and Impacts.
- PS 2: Labor and Working Conditions.
- PS 3: Resource Efficiency and Pollution Prevention.
- PS 4: Community Health, Safety, and Security.
- PS 5: Land Acquisition and Involuntary Resettlement.
- PS 6: Biodiversity Conservation and Sustainable Management of Living Natural Resources.
- PS 7: Indigenous Peoples.
- PS 8: Cultural Heritage.
April 2007. General Environmental, Health and Safety Guidelines.
2016-Onwards. Industry Sector Guidelines.
OECD
April 2016. Common Approaches
- I. Definitions.
- II. General Principles.
- III. Screening.
- IV. Classification.
- V. Environmental and Social Review.
- VI. Evaluation, Decision and Monitoring.
- VII. Exchange and Disclosure of Information.
- VIII. Reporting and Monitoring of the Recommendation.
References for ESDD
Recommended Links
- Sustainable Project Finance Explained.
- Sustainability Governance Explained.
- Sustainability Assurance Explained.
- Local Regulations Information. WorldLex as Service Provider.
- IFC Performance Standards.
- IFC EHSE Guidelines and Industry Sector Guidelines.
- Equator Principles Resources.
- African DB Operational Safeguards.
- Asian DB Safeguard Policy Statement.
- European Bank for Reconstruction and Development’s Environmental and Social Policy.
- Inter-American DB Sector Policies and Sector Framework Documents.
- OECD Environmental and Social Due Diligence.
- CDC Group Environment and Social Due Diligence.
- Recommendations for Climate Related Financial Disclosures.