Podcast transcript: The total valuation approach: quantitative and qualitative ESG impact valuation

11 min | 21 December 2022

Shailesh Tyagi
EY India Climate Change and Sustainability Services Partner

Silloo: Hello, this is Silloo, welcoming you to a new episode of the fortnightly EY ESG podcast series where we look at the most important issues that India Inc needs to deal with in their ESG, which is their environmental, social and governance journey. 

Today, we will look at the “total valuation approach”, which are essentially quantitative and qualitative ESG impact valuations. Long-term value is the value created for, and perceived by, stakeholders through the effective development, preservation, and deployment of strategic capabilities in line with the organization's stated purpose.

To explain the approach and take us through the importance and depth of the topic we have with us today, Shailesh Tyagi, Partner, ESG, Climate Change and Sustainability Services at EY. Shailesh specializes in ESG strategy and maturity enhancements, impact-based materiality assessments, decarbonization transition pathways, and safety performance management. He has over 20 years of experience in helping clients across various industry sectors and geographies. Shailesh has served several global and Indian clients in addressing their environmental, social and governance risks, and driving responsible investment agendas. Welcome to the podcast, Shailesh.

Shailesh: Thanks for inviting me, Silloo. This is a great opportunity to talk about a company's ESG performance through a four-dimensional lens. 

Silloo: Well, let us start with the very basics. Shailesh, it would be good if you could throw some light on what is long-term value and what does it mean for businesses today?

Shailesh: If we  look at the ways in which a company's value is perceived, it has changed; it is much broader now. For example, now every company wants to understand the externalities from an inside-out perspective. Let's take the example of climate change: companies’ operations, how they impact climate change and how energy transition impacts the company. That is a classic example. Overall, what we are talking about here are the intangible assets. Traditionally, you look at a balance sheet and you look at the profit and loss account and that is pretty much all. We have IFRS standards, and every company has its own set of standards. We look at the human capital impacts, both positive and negative. With human capital, we are talking about employees, relationships and social capital, and then we are talking about energy emissions, waste, water, and our natural capital. 

So, a company wants to look at how they are creating value, and how this value around these four capitals is perceived by stakeholders to the effective development, preservation and deployment of strategy capabilities in line with the organization’s stated purpose. This concept is very important, especially because what we have seen through the lens of the pandemic is that every single stakeholder understood the importance of this total value. At EY, we call it ‘total value methodology’. Essentially, it's about a corporate understanding of the value they are creating for the business, both positive and negative. 

Various stakeholders, including investors, want to incorporate ESG into their decision-making. They want clear transparency from companies around how this value is created, risks are managed, and opportunities are taken advantage of. Now, there are three layers of values to consider. When we talk about long-term value, there are tangibles and intangibles, which are externalities and value to society.

Silloo: That is very interesting. Shailesh, how would you define intangible value? What is it actually made of?

Shailesh: Traditionally, balance sheets do not capture the intangible value a company creates. Businesses usually look at tangible assets or financial and manufactured capital. But these are financial aspects: financial capital, where there is certain input into the business, enablers, outcomes and impacts. These are well-measured, managed and reported. But what about the intangibles? 

The intangibles, to answer your question, are intellectual capital. We are talking about natural, human, social, and relationship capital. Think about the business through  a through a four-dimensional lens. Physical capital would be factory, security, software, patents, etc. Human capital would be health, education, job skills, etc. The natural capital for, say, a mining company, would be mines, fields, private forests, etc. From a four-dimensional approach, these can be clubbed into private ownership, community ownership, and public ownership. 

There are various ways we can look at this, but simply put, every time we look at a company, we should not only look at the financial value it is creating but also the value it is creating holistically in an integrated profit and loss manner. 

A company’s externalities around relationships and across the value chain include customers, suppliers, regulators, investors… Human capital includes how they attract employees and retain them. 

For natural capital, here’s an example. We recently looked at copper and cement. How a company is managing its negative externality around greenhouse gas emissions. Do they understand the cost to the company and the world every time they emit one ton of carbon dioxide equivalent? And that is where we are looking at a total approach in terms of value creation. 

Now, to arrive at long-term value or LTV or total valuation, a company must consider three things: intrinsic value —— this can be seen from the company's accounts; shared value - exchanges with stakeholders; and externalities – value shared with the whole society. The higher the socio-environmental impact, the higher is that company’s total value.

Silloo: Excellent. Then how, Shailesh, according to you, should a company go about calculating its intangibles?

Shailesh: That is a great question. The surrounding science, standards and frameworks around financial capital, management, and reporting are pretty mature. When it comes down to total value or integrated profit and loss or long-term value creation, looking at it holistically, we have a framework and enough guidance. Many companies globally are already doing it. They are not only doing it successfully, but it is also helping them take informed decisions when it comes down to investing in the community or understanding the impact of their sustainability initiatives. It is also giving wider stakeholders a holistic picture of the value they are creating. 

Companies should use a comprehensive framework to calculate the value of their intangibles, and therefore the LTV. The first step is to assess the impact of externalities, such as water, emissions, air quality, etc. A dashboard should be created to capture these across geographies and business functions. The next step is to identify the gaps, especially with reference to ESG reporting and areas that can potentially offset greenhouse gas emissions. Companies should then look at growth plans through this lens. Stakeholder participation is needed to develop an impact pathway and value multipliers. Based on this data, companies can develop a long-term roadmap and a quantification methodology. 

A final word on this particular aspect of building a framework. Companies should look at good quantitative and qualitative externalities. It is a journey. They will move progressively towards qualitative aspects, but they need to take the first step, and a lot of companies in India and overseas are doing it successfully. 

Silloo: Given the different natures of businesses, how are various sectors adopting such frameworks? That would be interesting to know. What has been your experience here?

Shailesh: I am personally quite passionate about the subject. I have worked with a few people who are the pioneers in this space. I have spent a few years understanding the concept and helping companies, mostly in Australia and New Zealand, and now in India. 

To answer your question, many sectors have started calculating their long-term value in India. Companies in metals and mining, food and beverage, waste management, jute, and other sectors, are doing this. Globally, companies in energy, consumer goods and the banking sector are doing this. Some companies in fashion and water utilities have been very successful. They are doing extremely well in measuring and managing the overall value created. They have been able to develop tools to analyze and measure socioeconomic impact. Think about renewable energy technology on the value chain. We are talking a lot about net zero nowadays. That has certain levers such as decarbonization and renewable energy. One has to look at how that renewable energy technology is impacting the value chain, production capacity, employment and more. These are some of the examples.

Silloo: Excellent! This was indeed an engaging and a very informative conversation, and I am sure our listeners have found great value in all the insights that you have shared today, Shailesh.

Shailesh: Thank you, Silloo. Indeed, as always, it was an interesting conversation with you. Thank you.

Silloo: Thank you. With this, we come to the end of this episode. Visit our website www.ey.com/in to know more about the total value approach and access our ESG compass. And please do leave us comments on other such topics on ESG that you would like us to deep dive into. Thank you.