Political strategies

ESG Disclosure Strategies in Indian Capital Markets

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IIn an innovative shift and in line with a broader strategy of growth and risk management, national and international institutional investors place great importance on the portfolio of companies with a positive track record of performance on environmental, social and governance parameters (“ ESG”). Seeking to capture the benefits of long-term value resulting from factors such as greater social license and reduced regulatory intervention, ESG-focused funds manage over $35 trillion in assets and whose total assets under management (AUM) is expected to reach 33% of the global market. AUM by 2025. In response to such a fundamental shift in investment culture and to facilitate positive ESG behavior, traditional legal structures have been challenged and forced to evolve. Witness the emergence of enhanced disclosure standards and consumer dispute discourse in the European Union and the proposed ESG Disclosure Simplification Act, 2021 in the United States.

Compared to relatively consistent ESG governance models in the North, the Indian model suffers from misplaced priorities and an ineffective enforcement and accountability strategy. India’s top 1,000 publicly listed companies by market capitalization are required to disclose voluntary annual disclosures of their performance on a common set of ESG metrics prescribed by the Securities and Exchange Board of India (SEBI). This obligation only extends to listed companies, regardless of their sector or scale of activity. The main punitive consequence, once these reporting requirements are made mandatory, is the imposition of monetary fines. In line with the current Indian economic perspective of facilitating stakeholder value through socially responsible businesses, it is essential to design an effective legal structure to facilitate positive ESG behavior.

I discuss below four key propositions that use India’s securities and disclosure framework to achieve this ESG objective.

First, everything Companies seeking to access Indian capital markets should, regardless of their listing status or market capitalization, be required to disclose their historical ESG practices and risk mitigation processes in their prospectus. This would serve the triple purpose of (i) negating information asymmetry between issuers and ESG-focused investors by shining a light on companies with low ESG credibility and their concomitant risk mitigation strategies; (ii) impose an obligation of due diligence on subscribers who are mandated by the SEBI to verify the accuracy of the information provided in the prospectuses; and (iii) extending criminal and civil liability to issuers and their key management for inaccuracies in the prospectus, a concept of liability that already applies to issuers accessing public markets in India. The SEBI and the Indian stock exchanges would, as part of their routine review process, be required to assess the adequacy of this information and the extent of due diligence carried out before authorizing a capital increase.

Second, the mandatory reporting requirement should also apply to unlisted companies (depending on the potential ESG impact of their activity) regardless of their intention to exploit the market. Several private Indian companies either (i) retain their private status while conducting full-fledged operations in impact sectors, or (ii) choose to list on foreign stock exchanges; in both cases, isolating themselves from Indian conformity. To counter this regulatory vacuum, private companies in risky sectors should be required to publish key ESG indicators in annual reports to shareholders.

Third, to appreciate material sectoral differences between companies in areas of risk, namely ESG practices, it is essential that SEBI develop separate sectoral disclosure guidelines as opposed to the current “one size fits all” model. To respond to individual company circumstances, SEBI must formulate a model that assigns varying weightings to ESG metrics across different industries. For example, a mining company should make longer claims on ethical labor sourcing and raw material sourcing, while a tannery should do so on effluent discharge and waste treatment. .

Fourth, ESG performance should – for companies operating in sectors with high environmental and social impact, such as mining and construction – be subject to a continuous disclosure obligation (such as quarterly, such as insider trading and takeover reports) to stock exchanges and shareholders. reports, no matter how small. This will allow ESG-conscious investors to monitor their performance continuously and holistically. This is crucial given that many ESG-focused investors are long-term and short-term funds that have the ability to quickly transfer capital to better-performing companies.

Although aligning internal business processes to meet the expectations of this revised structure may be costly, primary research and market dynamics have established the likelihood of an overall increase in stakeholder value through an improved and defined ESG disclosure and accountability regime.

Devarshi Mukhopadhyay

Bombay