The Role of ESG in Startups
1. ESG Origins
The idea of integrating ESG principles in business practices first originated from the then United Nations (UN) Secretary-General Kofi Annan, whose vision was to create "a more stable and inclusive global economy." To fulfill this vision, the UN Global Compact was launched in 2000, which oversaw the publishing of a report in 2004 linking ESG adoption to greater corporate competitiveness in an increasingly globalized world.
While the jury is still out on whether any of the current implementations of ESG positively correlate with financial performance, companies should recognize their responsibility in increasing (or at least not diminishing) the stability and inclusiveness of the global economy.
2. The Role of ESG in Venture Capital
Ever since the first ESG report was published, there has been a growing appetite in public markets to increase ESG-related capital allocation, with PWC projecting a compound annual growth rate of such investments by over 12% until 2026. The report finds that most surveyed asset managers now consider ESG part of their fiduciary duties to shareholders - even amidst rising ESG compliance costs.
Meanwhile, this trend has also trickled down into the broader venture capital industry. It is driven by investors who recognize the importance of caring about the environment and society not just for its own sake but also to attract increasingly ESG-aware founders.
Communities such as VentureESG (of which Lifetime Ventures is a part) and the UN Global Compact's recent report on "Responsible Investment in Venture Capital" validate the growing interest. Despite the unresolved challenges, such as unstandardized ESG guidelines, which can be seen in both public and private markets, venture capitalists can play a meaningful role in having a positive impact on the environment and society. One of the ways startup investors can do so is to enable portfolio companies to understand and implement ESG best practices in their operations that lead to growth in their enterprise value.
3. ESG at Lifetime Ventures
At Lifetime Ventures, we care deeply about investing in startups with lasting impact in a world where humans and our planet can prosper for generations to come. Beyond our advocacy for meaningful ESG integration through communities as VentureESG, we integrate ESG into our investment process from due diligence to portfolio support process to provide an end-to-end service to ensure ESG in our portfolio investments.
More specifically, founders fill out our ESG Due Diligence Survey for us to understand which risk exposure they have in terms of their impact on the environment, society, and governance. While this process is not meant to make or break the investment decision, it helps us assemble an ESG action plan once the investment is made.
Here are some of the areas we ask in the ESG DDQ:
Once these are understood qualitatively and quantitatively, we help portfolio companies implement measures to improve their ESG profile. This is illustrated best by providing an example from one of our past investments.
For our climate-tech portfolio, we have prioritized the transparency and public accountability of the Scop 3 GHG measurement. We have created a climate policy for the climate-tech startup to implement both internally, as part of their operations, and externally, as part of their hiring process. While this is a light process given the pre-seed stage of the climate-tech startup, this policy implementation since the earliest stage has ensured that climate is engraved within their DNA and made them ready to further improve the measurement and reporting for the next stage.
4. SILJ Approaches to ESG in Venture
At Social Impact Lab Japan (SILJ), early-stage startup founders are strongly encouraged to incorporate an impact-focused approach to Sustainable Development Goals (SDGs). While the SDGs framework emphasizes the collective objectives of sustainability on the national and international level, the implementation of ESG principles helps businesses take action and create impacts that contribute directly to these macro goals. The 17 SDGs can be used to categorize ESG reporting and incorporating ESG in business workflows can often lead to long-term financial value, as well as provide competitive advantage for early-stage startups. SILJ encourages startups to embrace ESG for several compelling reasons, including access to ESG investment, talent attraction, and retention, as well as improved brand reputation. Incorporating ESG policies early on can attract a broader range of investors. In contrast, non-ESG-compliant startups might face higher risks in the form of legal issues, PR damage, or public distrust in the future. Additionally, the implementation of ESG policies would also help the startups provide a better and healthier working environment for all stakeholders involved.
Some of the notable startup companies we have worked with that implement ESG principles include Omohibito.co.ltd - a company that was founded by Moe Kaneko, which provides caregivers products and services that contribute to the social welfare of the aging demography in Japan; Revival LLC, a collaborative project by Huda Mohammed Faisal and Meguriwa that seeks to bridge Japanese and Bangladeshi textile heritage by crafting dresses, fabrics, and shoes from garment waste and employing local female labor force for the production process.
5. ESG Investment Outlook
The market for ESG investments is growing, from green bonds, social bonds, sustainability bonds, loans to the renewable energy sector, to regional revitalization funds. Japan Post Bank, for example, has set ambitious targets for ESG-themed investments, reflecting the rising importance of such initiatives. Impact Fund, such as GLIN Impact Capital or M-Power Partners, provides ESG investments in growth-stage companies that focus on social missions. JPX (Japan Exchange Group) has also actively advanced sustainability efforts by formulating Japan's Corporate Governance Code, providing ESG-related indices and ETFs, and selecting listed companies that promote women empowerment or employee health. More and more support for ESG integration from governments and the public sector is becoming available, which is actively promoting sustainable finance and encouraging asset managers and owners to allocate investments to companies that address social issues, such as through the proposal of new guidelines on ESG Public Funds by Japan Financial Services Agency (FSA) along with the provision of Code of Conduct for ESG Evaluation and Data Providers in December 2022. This support includes strengthening financial functions that facilitate sustainability initiatives and developing policies to enhance asset management capabilities for the country while providing assistance for the private sector to become successful and efficient in its ESG pursuit.
6. Conclusion
In essence, embracing ESG allows startups to align with global sustainability goals, attract investors and talent, enhance their brand image, and reduce legal risks associated with non-compliance. ESG and purpose-driven strategies can be synergistic, helping startups create a competitive advantage while contributing to a better world.
About Lifetime Ventures:
Lifetime Ventures is a Yokohama and Okinawa-based pre-seed/seed-focused venture capital firm that supports entrepreneurs aiming to create long-lasting businesses. Lifetime Ventures has invested in >50 startups to date, including Rehab for JAPAN, an AgeTech company that re-designs the lives of the elderly through rehabilitation, and UUUO, a B2B platform company that creates new distribution and resource management models for the fishing industry.
About Social Impact Lab Japan:
Social Impact Lab Japan was established as an incubator to ensure that impact entrepreneurs thrive both locally and globally. SILJ incubates, accelerates, and provides investment to impact entrepreneurs - who are driven by purpose - and catalyze them with support through training and mentorship. In Japan, SILJ has partnered with more than 60 universities and educational institutions around the country, hosted +500 events with a focus on social entrepreneurship and the UN Sustainable Development Goals, and acted as a force of inspiration for people to change the world into a better place.