Importance of ESG for Startups

With slogans like “There is no Plan(et) B” gaining popularity around the globe, business enterprises have evolved to focus on the 3 Ps (People, Planet, and Profit) and not just on Profits.

Popular buzzwords like “environmental sustainability” and “social governance” are becoming more relevant to the business world, including startup enterprises. This is driving the emergence of Environmental, Social, and Governance (or ESG) in the business strategies of small and large companies alike. ESG-related policies have been adopted by over 60% of startups, while venture capitalists have increased their funding for ESG startups over the last five years.

Startup entrepreneurs are looking at ESG issues as building blocks for business success among today’s environment-conscious consumers. Middle-aged millennials are now spurring the growth in ESG ventures, with one-third of them investing in companies that factor in ESG issues (as compared to only 19% of Gen-Z consumers and 2% of the older “baby boomer” generation). 

What is ESG?

Speaking at the World Economic Forum at Davos, Nasdaq CEO, Adena Friedman, points out that, “2020 is increasingly looking like it may be the ‘tipping point’ year for ESG investing.”

ESG is primarily composed of the following three blocks:

Environmental

Where the startup enterprise focuses on environmental issues including climate change, air or water pollution, sustainable energy sources, and human health. These issues can vary depending on the business domain of the startup (for example, emission testing for car manufacturers or packaging material used in E-commerce startups).

A 2019 Morning Star report concluded that over 70% of Americans across generations have expressed moderate interest in sustainable investing. By reducing their environmental footprint, startups can thus attract customer interest and eliminate penalties due to any violations.

Social

Where the startups focus on a range of social factors related to inclusiveness, diversity in the workforce, working conditions, and safety measures for protecting customer data. Examples of socially conscious businesses include CSR initiatives, local community relations, philanthropic activities, “clean” financial records, and employing persons with disabilities.

An example of a negative “social” factor is the 2019 case of Steph Korey, CEO of AWAY luggage startup, who faced a media backlash following her verbal bullying of employees. On the other hand, a positive social image can lead to better employee productivity, customer loyalty, and healthy public relations.

Governance

Where the startups focus on better governance including their business policies, transparency, investor relations, and accounting. Companies with good governance indicate a healthy corporate culture, thus attracting more investors and job applicants. Apart from low employee turnover and high compensation, governance focuses on the accountability of higher management (or board of directors).

An example of a company with poor governance is that of biomedical startup Theranos which earned millions through a breakthrough in blood testing, which was later revealed to be a major scandal.

How do startup enterprises benefit from adopting ESG-friendly policies? Let us discuss their benefits.

4 Reasons why Startups must embrace ESG?

No matter which industry domain, ESG-conscious companies stand to benefit from these policies. Here are 4 reasons why every startup must embrace ESG:

  1. More investments

Speaking to the Venture Capital Journal, Christine Tsai, CEO of 500 Startups, emphasizes why startups must embrace ESG early on in their business journey. Apart from this venture investment company, many investors are now funding startups that provide environmental and social benefits.

As a startup business, you stand to gain more funding and investments by embedding ESG policies into your company culture and business model right from inception. On the other hand, modern investors look at non-ESG compliant companies as unsafe investment destinations as they are at higher risk of facing compliance-related litigations, bad PR reputations, or social backlashes.

  1. Talent attractions and retention

ESG-friendly policies are effective in attracting and retaining the best of young talent. A recent study found that over 40% of millennials would prefer to work for companies that are committed to environmental sustainability and social values. With millennials comprising 50% of the global workforce in 2020, startups need to cater to their core values and embrace an ESG culture right at the core of their operations.

Additionally, ESG-centric policies can also help in retaining the existing workforce. Around 70% of the millennials are likely to stay with employers with whom they share a common vision – while another 70% would even take a pay cut to work with an environment-conscious company.

  1. Better brand reputation

A 2021 Consumer Intelligence Series survey conducted by PwC found that 83% of consumers believe companies should follow the best practices in ESG, while 76% of the surveyed consumers plan to discontinue their association with companies that poorly treat the environment, employees, or the local community.

Startups with ESG policies can easily build a good brand reputation through positive PR. Through press coverage of its environment-friendly policies, early-stage startups can increase their brand awareness and their brand appeal to potential consumers. Additionally, ESG investment companies can also establish brand trust and increase their overall appeal to their consumer base.

  1. Lower risks

Given their smaller business size, startups are more vulnerable to market risks and negative brand perceptions when compared to larger and established companies. Financial frauds or negative media coverage can permanently damage newer companies that lack a strong “brand heritage” or values to fall back on.

ESG-compliant startups can go a long way in reducing market risks and scandals through better governance and practices. An added advantage is that smaller enterprises are flexible enough to inculcate ESG practices.

Conclusion

To be competitive and successful in today’s market conditions, startups need to adopt ESG-friendly policies early on from their inception. Startup workshops have increasingly helped businesses understand and adopt these policies. Businesses failing to be ESG-compliant can suffer from a negative brand perception among consumers, investors, and employees. There are tremendous business benefits of adopting ESG policies – and they can shape the future of our business world and environment.
You may also like to read our blog on how startups can increase the odds of long-term sustainability.

How to Know Which Funding Round Your Startup Needs to Raise and When

Getting funded is what startup founders want more than anything. However, getting it wrong can be costly. There are several factors to consider before committing to money. The stage of the company, industry, and business cycle can all have a massive impact on the amount of financing required.

According to HBSaccelerate, In 2017, over 70% of tech startups failed to exit or raise follow-on funding despite their growth.

If you are an aspiring entrepreneur looking to raise capital for your business, Demo Days are great to reach out to potential investors.

The general rule of thumb is that companies should raise sufficient funding for about two years before the next round comes along. Occasionally, this does not occur, either because of internal misdirection or mismanagement of funds. Additionally, it can also occur due to external factors such as market volatility.

Investor Chris Dixon takes this a step further and recommends adding a 50% buffer on top of your required funding to account for unexpected obstacles. 

Let’s consider the different stages of funding:

Seed Funding

Funding begins with the seed round. Business owners raise seed capital to get things up and running. Seed funding is typically used for product development, market research, and other logistical aspects. This is the idea phase of a startup where the founders are trying to perfect their product according to market needs. You will need to reach out to venture capitalists for tech startups to get started.

According to Crunchbase, seed funding investments can range from anywhere between $10,000 to $2 million. The equity given up for seed funding is generally between 10% and 20%.

Next comes funding rounds A, B, and C (or, in some cases, A through D). These funding rounds are all determined by the stages that a company goes through as it scales.

Series A Funding

This is the first institutional round of financing. It focuses more on startups with proven business models that can generate profits immediately. In Series A funding, investors are looking for a high return on investment (ROI). So having an efficient problem-solving idea is crucial to raise funds in this round.

Moreover, you also need to have a solid strategy for taking investments and turning them into long-term growth.

Round A investors are typically venture capital firms. According to Crunchbase, Round A investments can collect anywhere between $2 million to $15 million.

The company typically gives 25% to 35% of its shares to series A investors. However, in some cases, it can be as high as 50 percent or as low as 10 to 15 percent. Most of it depends on the market opportunity and the uniqueness of the solution the business is providing.

After the funding, the company’s working capital will usually last 6 to 18 months after the round is completed. 

If you raise a Series A, it is essential to understand how you will utilize that capital and what it will do for your business. Once you are clear on these goals, you need to raise enough money to help you achieve them.

Series B Funding

After the development stage, Funding Round B signals growth. At this point, startups are expanding and have a foundation of consumers that is steadily growing. Round B helps startups transition into well-established companies.

Series B is for acquiring capital to meet the growing demand for your product or service. The money is also used to expand on market research. Series B usually consists of funding between $7 million and $10 million. 

However, investments can far surpass that range. The behavior analytics platform Mixpanel raised over $65 million during its Round B.

However, there can also be bridge rounds. These do not count as series A, B, or C, but instead as intermediary rounds and serve to fill the financial gaps between main rounds. For instance, Dubai-based eyewear e-commerce company eyewa raised 2.5 million dollars in a pre-Series B bridge round.

If the startup needs additional money after it develops, it may need to embark upon a Series C funding round.

Series C Funding

The Series C round is for scaling the company’s vision and further expanding the business into new territory. Series C funding rounds are for businesses that are very successful and need more capital to continue scaling. Round C can also mean that startups want to further their success by creating new products or expanding their reach.

Typically, Series C funding amounts range from $30M to $100M; on average, this is $50M. A Series C round could be the last round regarding venture capital financing, depending on the business strategy.

On the flip side, the number of investment rounds a startup can raise after Series C is theoretically unlimited.

Series D Funding

Many companies finish raising money with their Series C. However, there are a few reasons a company may choose to raise a Series D. One generally goes for the Series D Round for financing a special situation, such as a merger or acquisition, and so is not in the normal venture capital financing progression. 

Companies that go for Series D funding do so either because they are looking to give a final push before going public or because they failed to achieve their goals during the Series C funding. 

Also, the range of money raised varies a lot here, and there are no fixed strategies on how much to raise. Most of it depends upon the circumstances and the willingness of investors.

Conclusion

The different funding rounds operate in essentially the same manner. In return for equity in the company, investors provide cash. The only difference is that investors make slightly different demands from the startup in different rounds. 

Nonetheless, seed investors and Series A, B, and C investors help ideas come to attainment. Series funding enables investors to support entrepreneurs with the proper funds to carry out their dreams, perhaps cashing out together down the line in an IPO.

And while this is a shared roadmap, it’s not the only defined path to success for businesses. Check out where your business and its valuation stands. This will help you gain a clear understanding of how much funds you should raise and when.

Also read our guide Pitching to Investors: Best Practices During the COVID-19 Crisis for more information that can help you. If you’re fundraising, check out our exclusive events tailor-made to your funding rounds.