Apr 13 2021
Market Reactions to ESG: What We Can Learn from Deliveroo

Capital markets are rewarding companies that explicitly account for ESG factors – and they’re also punishing organisations that get ESG wrong. While Deliveroo’s share price suffered a nearly 30% nosedive on its first day of trading, other businesses get away with lighter financial reactions from the market. What appears to be investors punishing a business for an ESG violation is just a repricing of that business for future risks based on ESG factors.

Kekst CNC examines what we can learn from Deliveroo about how the market prices ESG factors and what it means for financial communications.

Capital markets are rewarding companies that explicitly account for ESG factors. Fund flows into investment products with ESG mandates surged by double-digit percentages in 2020, reaching nearly $2 trillion in assets under management worldwide, according to Morningstar.

But increasingly, capital markets are also punishing organisations that get ESG wrong.

On March 31, UK food delivery app Deliveroo, one of the most anticipated IPOs of the year, saw its share price nosedive by as much as 30% during its first day of trading on the London Stock Exchange. Within minutes of the market opening, Deliveroo saw over £2 billion shaved off its IPO valuation of £7.6 billion.

Some of this poor performance was certainly due to its operational losses but many major investors cited ESG factors as the key factor in their decision making. The unusual dual-class share structure and Deliveroo’s treatment of drivers, who have previously held strikes over alleged poor working conditions, low pay, and lack of holiday and sickness provisions, resulted in some investors deciding not to invest in the IPO in the first place and contributing to a further lack of potential buyers when shares began trading.

Phil Webster, a portfolio manager at BMO, said, “You’ll wake up one morning and your stock will have halved because the government says this is not acceptable. I just cannot see past the workers’ rights. I think you are storing up a massive hole in the business model.”

But some businesses get away with lighter punishments from the market than others.

Boo-hoo’s share price proved to be remarkably resilient in the face of serious modern slavery accusations at two of its suppliers’ factories last July. But despite an initial plummet of over 50%, investors appear to forgive and forget quickly. The share price has nearly fully recovered in the subsequent 9 months.

Despite headlines on tax avoidance and packaging waste and multiple class-action lawsuits on wages and working conditions, the market has only given Amazon a financial slap on the wrist for its ESG issues. Amazon’s share price has doubled in less than a year and its market capitalization is bigger than the combined value of Exxon Mobil, Procter & Gamble and AT&T. In response, Amazon has intensified its efforts to tackle many of these environmental and social issues.

What do we make of this apparent market irrationality?

Market sensitivity to ESG infractions varies extensively based on both the issue and the business, as well as the gravity of the violation. While this sensitivity may appear inconsistent, there is logic behind it. The ESG violations that are punished most severely by the market are the ones that are financially material and pose future risk to the business.

What appears to be investors punishing a business for an ESG violation is just a repricing of that business for future risks based on ESG factors.

For example, future regulation that would impact profitability or asset optimisation, environmental risks that might impact operational optimization or consumer sentiment that could drive revenue generation.

What does this mean for businesses?

ESG is not about “doing good” in the world – the most credible and impactful ESG strategies are based on a systemic application of environmental and social risk analysis across the business model. Business strategy and ESG are inextricably linked – and investors know that. Leading businesses are already integrating the two and the market is ensuring everyone else is learning that lesson too.