ESG catches up with financials in due diligence, says Aon

• Industry experts outline approaches to identify risk and improve disclosure in today’s complex dealmaking landscape.
• Contributors advise Environmental, Social & Governance (ESG) and digital considerations now equal financials in due diligence.
• Quantifying digital performance and cyber risk vital in ensuring scale of target business.

Aon, a leading global professional services firm, launched a report into value creation and risk in M&A, providing clear strategies for buy- and sell-side dealmakers to follow in light of the complex nature of M&A today.

The report identifies three features of due diligence unfamiliar to dealmakers just a few years ago, and provides advice on how to tackle each with enhanced insights: 

1. The prominence of Environmental, Social & Governance (ESG) considerations,
2. The centrality of digital technology to most business models,
3. Ferment in public markets.

Based on interviews with 21 industry experts, the report highlights the rising influence of these complexities on M&A and in turn how these factors require new ways of thinking about value creation and risk.

The emergence of specialised ESG due diligence to create value

The report calls for a new approach to ESG due diligence, which now goes far beyond box-ticking, requiring the same level of detail as financial considerations. Part of this includes understanding ESG risks that are undeniably difficult to measure and quantify amidst ever-changing goalposts in the context of climate action and constant market shifts.

Thinking about ESG in material terms is key, according to the report. This means embedding ESG targets within the business as with financial targets, so it becomes more than an abstract concept in the due diligence process. Adoption of taxonomies and regional directives that support sustainable investments, such as climate-based thresholds, are a big step forward in shaping the evolution of ESG diligence.

The impact of digital performance on due diligence

With digitally enabled business models set to account for 70% of new value in the global economy in the next decade, the report explores the buy-side focus required on digital assets and capabilities of the target business. Obtaining a thorough analysis of its technology stack, digital KPIs and cyber risks will be critical in determining and achieving business forecasts as bidders assess whether to make an acquisition.

The report outlines the importance of digital performance in understanding the potential for scale, as systems in place must be capable of handling greater activity as well as integrating future acquisitions. Understanding this rests upon scrutiny of the target's existing infrastructure including servers, cloud footprint, and use of open-source technologies.

The new dynamics of public markets

A recent surge in Special Purpose Acquisition Companies (SPAC) activity is presenting unfamiliar risks for deal participants, according to the report. And beyond that, demands of activist shareholders are on the rise, with a knock-on effect on management decisions to sell or buy. 

Public markets are harder to navigate today, with crusading shareholder groups making their influence felt in areas like ESG. The report outlines how dealmakers can navigate this complex landscape, understanding how corporate decisions and new dynamics in public markets are being shaped today. 

Alistair Lester, Global Co-CEO of M&A and Transaction Solutions at Aon, says: “Gone are the days of solely focusing on the P&L, cash flow and balance sheet to understand deal value - this report shows that traditional approaches to due diligence are no longer enough. Today sellers and buyers must assess a business’s ESG practices, digital capabilities, technology and IP just as closely as they scrutinise financials. To do this, external specialists or new hires will be required to provide expert insight, using public and client-specific data to help quantify and value assets, identify and mitigate risks, and ensure proper disclosure.”