Expert explains why start-ups need an ESG strategy to unlock funding

Why start-ups need an ESG strategy to unlock funding

Jasiel Martin-Odoom, Senior Investment Associate, Unreasonable Group

Ever wondered why some start-ups seem to outperform their competitors and attract more funding? One of the differentiators is often Environmental, Social and Governance (ESG) reporting. 

As the climate crisis accelerates, companies of all sizes have an obligation to build a more

sustainable future by committing to important goals that help achieve positive climate action.

ESG provides the framework that holds companies accountable to these environmental goals and also ensures they follow good social and governance practices.

But demonstrating a robust ESG strategy is not just for your company’s social responsibility, it also plays a critical role in unlocking funding by positioning you as an attractive investment opportunity.

Importance of an ESG strategy

An ESG strategy involves analysing a company’s ‘Environmental’, ‘Social’ and ‘Governance’ risks. This includes assessing and measuring the impact of your environmental management, air pollution, water and energy etc. for ‘Environmental’, equality, privacy and security, health and safety, human rights etc. for ‘Social’ and corporate behaviour, risk manager, anti-bribery and corruption for ‘Governance.’ 

To attract investment, a start-up needs to incorporate ESG capacity into the structure of the company. In the early stages, your company may not seem very risky from an ESG perspective, but any unidentified ESG issues will likely scale as quickly as your start-up if they’re not addressed. This is something that investors will be watching out for and may deter them from investing. 

Lowering financial risk

From an investor’s perspective, start-ups that have sustainability as a core value and demonstrate a solid ESG strategy, are a lower risk. An ESG strategy indicates that a company is less vulnerable to potential regulatory violations or lawsuits and better able to adapt to meet the needs of the transition to a green economy. Especially as scandals around poor environmental, social or governance can have a huge impact on a company’s bottom line and its future in the market.

The Boohoo scandal from a few years ago is a case in point. When Boohoo’s lack of governance was exposed by an undercover Times investigation revealing workers at some of its Leicester factories were being paid as little as £3.50 an hour, fund managers and retail investors sold their shares to distance themselves from Boohoo due to its worrying lack of governance. While the company isn’t a start-up, this scandal demonstrates the impact inadequate governance practices have on the investment community. 

Assessing your impact

With many companies claiming to have an ESG strategy, an investor’s role is often determining whether the ESG strategy has merit. Third party ratings like B-Corp Certification are useful signals, however a start-up needs to go beyond certification, to identify, measure and track its impact across ESG. The United Nations’ Sustainable Development Goals (SDG), for example ‘Ensure sustainable consumption and production patterns,’ and ‘Reduce inequalities’ provides useful metrics by which start-ups can begin tracking their impact. 

Furthermore, as two-thirds of investors see ESG criteria as core to their decisions over the next three years, and Silicon Valley is now declining investment if ESG risks are not adequately addressed, founders need to be aware that failing to disclose how your business is compatible with the green economy or failing to demonstrate how it has adequate social and governance practices, could result in less funding. 

However, the pressure is not only on start-ups to care about ESG; Limited Partners and funders of VCs are increasingly requiring VCs to have a clear focus on ESG as part of their investment thesis. With diverse founders disproportionately starting impact-focused businesses, VCs may also find that a committed focus on ESG will help diversify their pipeline. 

Helping start-ups stay ahead of the curve

As society’s awareness of environmental and social issues continues to grow, it’s clear that greenwashing is no longer an option for any sized company. For start-ups, being a first-mover as an ESG focused outfit will help attract VC funding and give you a strong competitive advantage.

This not only includes creating a solid ESG strategy to show that you’ve reduced the inherent reputational risks in your business but also taking the extra step and measuring the impact by collating the right data points to demonstrate that you are low risk. 

So, to engage investors, unlock funding and stay ahead of the curve, ensure you create, track and report on your ESG strategy, as soon as possible after setting up your business.

Unreasonable Collective is a leading impact investor and part of The Unreasonable Group which accelerates the growth of high impact companies that are solving humanity’s most pressing challenges.