“A 2022 study by asset management firm Capital Group found that 89% of investors consider ESG issues in their investment approaches.
Additionally, there are around $2.5 trillion in ESG assets under fund management. With rising interest rates putting a damper on investment (including in Africa), scoring well on those metrics may become more important than ever.” — onafriq
In recent years, Environmental, Social, and Governance (ESG) factors have gained increasing importance for startups, especially African ones, as investors have placed a premium on sustainability and ethical business conduct. ESG is a lens that investors use to understand how viable businesses will be in the long term and what their impact is.
However, to African founders, understanding these principles and how to apply them becomes a game-changer that opens up new funding opportunities and enhances their business sustainability.
This article digs deep into ESG, highlighting some key metrics that African startups should zero in on to satisfy investor expectations through real-life examples of high-flying startups leveraging the ESG principles.
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What is ESG?: The Three Pillars
Environmental (E)
The environmental aspect is about how the organization engages with the environment and deals with issues related to climate change, resource management, and ecological balance.
It is imperative, especially for African startups in agriculture, energy, and manufacturing. Founders shall work towards limiting environmental destruction while creating positive impacts in sustainability initiatives.
Metrics for Environmental
- Carbon Footprint: Greenhouse gas emissions, direct and indirect, from operations.
- Energy Efficiency: Utilization of renewable sources of energy such as solar and wind with minimal consumption of energy.
- Water Management: This involves efficiency in water use, minimization of wastage, and avoidance of water pollution.
- Waste Management and Recycling: This includes waste minimization, material reutilization, and proper waste disposal.
“The Big Deal reports that there was an increase of 25% for African Climate Tech startups securing funding deals since 2021, while Partech put that percentage even higher at 37%. Both reports stated that 2022 was a big year for the tech sector against the domination of the Fin-tech, logistics and retail tech sectors with the climate-tech emerging as a rising star in deals being made, startups launching their products with large uptake from consumers and the impact the sector makes in creating a cleaner, greener and low carbon continent.” — The State of Tech in Africa 2023 report by The African Tech Ecosystem Accelerator
Example: Rensource is a Nigeria-based solar power startup that massively took off dependence on fossil fuels by developing renewable energy solutions. Its ESG benchmarks show quantifiable reductions in CO2 emissions from replacing diesel generators with solar alternatives for commercial clients.
Social (S)
Social factors deal with the interaction of a startup with society at large concerning labour practices, engagement with the community, and customers.
In Africa, where huge challenges in social inequality and access to services mark the continent, startups that align their mission with societal improvements tend to resonate more with customers and investors alike.
Metrics for Social
- Employee Diversity and Inclusion: Gender equality in hiring practices, pay equity, and opportunities for marginalized groups.
- Labour Practices: Fair wages, safe working conditions, and employee development.
- Customer and Community Engagement: Level of community impact, accessibility of products to underserved populations, and ethical marketing.
- Data Privacy and Security: Ensuring customer data is dealt with by the highest standards of security and privacy.
Example: Kenyan M-KOPA offers low-cost solar-powered devices on a pay-as-you-go platform for off-grid communities. Their social impact metrics are energy to over 2 million homes, health improvement because of reduced reliance on kerosene lamps, and gainful employment to thousands from the local communities.
Governance (G)
Governance factors include the quality of internal systems, leadership composition, board diversity, transparency, and business ethics within a startup.
A critical outcome in Africa is that startups with strong governance attract more investors because they guarantee at least a level of security concerning compliance, integrity, and strategic decision-making.
Metrics for Governance
- Board Diversity: Diverse background representation of skill set and experience on the leadership team.
- Transparency and Accountability: Financial reporting, audit practices, and stakeholder communication.
- Anti-corruption Practices: Include policies and practices that minimize corruption, fraud, and unethical behaviour.
- Executive Compensation: Policies of fair and transparent remuneration to top executives related to the business’s long-term success.
Example: Andela is a technology company that connects African software developers with companies worldwide. Its well-regarded governance policies facilitate diversity, transparency, and ethics in business conduct.
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They provide extensive governance reports to investors and maintain a very professional board of global business leaders, which enables them to attract large investments.
Why ESG Matters for African Startups?
- Securing Investment
This, in effect, means that startups with good ESG practices have an extremely high likelihood of gaining business investors, especially impact investors. In fact, according to a report by the Global Impact Investing Network, Africa currently ranks among the most attractive regions to undertake impact investing, and companies with clearly visible ESG practices are leading in securing this funding. Companies like Venture ESG have been in the front seat to fund startups that focus on implementing ESG agenda.
- Competitive Advantage
A strong ESG framework gives the company an edge in market space and investor space. Customers increasingly consider their products’ environmental and social impact, while investors consider ESG-compliant businesses to be less risky and sustainable. This competitive advantage, therefore, has better brand loyalty and long-term profitability as a consequence. - Risk Management
Startups can do this by implementing ESG principles, which pre-empt and limit a wide range of risks, from regulatory fines to reputational damage. A good example is a startup that may be able to mitigate foreseen future environmental risks, such as pollution or resource depletion, but isn’t well-placed to avoid future financial liabilities.
Steps to Integrate ESG in African Startups
If you are an African founder considering implementing ESG for your startup, here are actionable steps you could take:
- ESG Audit
Founders should check their existing business practices against accepted ESG standards. Note the startup’s strengths and weaknesses that need attention. According to the industry and business model, this first audit will give some direction on which ESG components to invest further. - Establish ESG Objectives and Metrics
Establish clear, measurable ESG objectives informed by global best practices and take into account what resources are realistically available to the startup. Founders should track key indicators on carbon emissions, employee diversity, and board governance, among other things, and publish periodic reports on their progress. - Embed ESG into Company Culture
ESG is not a checkbox; it’s part of the core of what a startup is doing. For instance, training all employees at different levels, from leadership to the frontline, on why ESG matters and how they all play a role in ESG for the company. - Transparency and Reporting
Periodic reporting of ESG performance to investors and customers; transparency creates trust and continuous improvement. ESG impact reporting is a new domain for most of the startups in this domain, showcasing their performance and hence can be a strong enabler to draw the attention of investors. - Engage with Impact Investors and Stakeholders
This collaboration opens new opportunities for funding and partnerships that focus on sustainability. Another way is by joining global ESG networks or even participating in accelerator programs offering resources to help improve their ESG impact.
The Other Side of ESG in African Startups
“To evaluate how ESG may affect African economies, one must consider two basic critiques: performance and legitimacy. The debate over whether ESG investment funds have higher returns than their non-ESG peers continues unabated, but there is little conclusive evidence that higher ESG scores lead to more profit. However, it is undeniable that ESG’s incorporation, compliance, and reporting requirements bring more regulation, bureaucracy, and higher costs, posing additional challenges to African companies. Also, using ESG criteria to measure performance may serve as a disguise for companies that underperform by other business benchmarks.” — GIS Report
However, it can be argued that in an African context and for startups with limited resources, this may not be the most pragmatic approach toward immediate survival. Many African startups must operate in infrastructurally lacking environments, with unreliable energy and pressing economic challenges.
ESG policies take time to implement, require financial investment, and call for a level of expertise that many startups lack. For some, growth, profitability, and market traction are more important than questions of sustainability or governance frameworks.
So, given these realities, should one expect African startups to apply ESG policies when most of them have just set off, or would breathing space be needed by allowing them to first focus on foundational business development before incorporating said principles?