The government responded to proposed changes to audit rules last month, suggesting significant reductions to proposed changes in financial statement review—and requirements for nonfinancial audits as well. What remains will include additional environment, social, and governance (ESG) workload, yet few business valuers have found a convincing way to include ESG data or analyses into their work.
A Big Four panel discussion in New York recently agreed that there is no empirical evidence to support including the impact of ESG factors in the cost of capital “denominator” when completing a business valuation. New studies about the relationship between value and ESG (all with regard to listed enterprises) have come to inconsistent conclusions, and, since most ESG factors are already contemplated in risk analyses, the likelihood of overvaluing a small enterprise because of social or environmental improvements is high.
The panel (Josh Putnam (Ernst & Young LLP), Manish Choudhary (Deloitte), Martin Mazin (KPMG), and Adam Smith (PricewaterhouseCoopers), with Myron Marcinkowski (Kroll) as moderator) agreed on one thing: that ESG quality should be reflected in the “numerator,” or cash flows, and not elsewhere. “If you can’t measure the benefits in improved operating results, ESG should not impact value,” one attendee commented.
The discussion was part of the recent ASA New York Fair Value Conference. A full recap of the conference is in the September issue of Business Valuation Update.