Context: In India, ESG funds are witnessing a growing interest in the Indian mutual fund industry these days.

• There are currently three ESG schemes managing close to Rs 4,500 crore (two of these launched in the last 15 months), while at least five more fund houses have lined up new schemes. 
• ICICI Prudential Mutual Fund, which launched its ESG fund on September 21, has already raised over Rs 500 crore in its ongoing NFO. It is learnt that Kotak Mahindra AMC is set to come out with its ESG fund NFO soon and more will follow.

About ESG Fund

• ESG is a combination of three words i.e. environment, social and governance.
• It is a kind of mutual fund. Its investing is used synonymously with sustainable investing or socially responsible investing.
• Typically, a mutual fund looks for a good stock of a company that has potential earnings, management quality, cash flows, the business it operates in, competition etc.
• However, while selecting a stock for investment, the ESG fund shortlists companies that score high on environment, social responsibility and corporate governance, and then looks into financial factors.
• Therefore, the key difference between the ESG funds and other funds is 'conscience' i.e the ESG fund focuses on companies with environment-friendly practices, ethical business practices and an employee-friendly record.
• The fund is regulated by Securities and Exchange Board of India (SEBI).

What change can it bring?

• As ESG funds gain momentum in India, fund managers say companies will be forced to follow better governance, ethical practices, environment-friendly measures and social responsibility.
• Globally there has been a big shift as many pension funds, sovereign wealth funds etc don’t invest in companies that are seen as polluting, don’t follow social responsibility or are tobacco companies.
• In coming years, companies that do not follow sustainable business models will find it tough to raise both equity and debt.

Which sectors/companies will lose out?

• Industry insiders say tobacco companies and companies in the coal business may find it tough to make the cut; so will companies that generate hazardous waste and do not manage them properly. Besides, sectors that use a lot of water and do not follow best practices on its reuse, or companies that discharge untreated waste in soil, water or air will find it tough to get funds parked in them.
• Experts in the industry say there are conflicts at various levels and many investors worldwide who are looking at sustainable wealth creation do not wish to be associated with such conflicts. For example, while the global tobacco industry profits per year come to $35 billion, it is also a cause of nearly 6 million annual deaths and investors are growing sensitive to these realities.

Reason for Popularity

• Modern investors are re-evaluating traditional approaches, and look at the impact their investment has on the planet. Thus, investors have started incorporating ESG factors into investment practices.
• The United Nations Principles for Responsible Investment (UN-PRI) (an international organization) works to promote the incorporation of environmental, social, and corporate governance factors into investment decision-making.
• Companies with good ESG scores tick most of the checkboxes for investing, tend to mitigate environmental and social risks and tends to have stronger cash flows, lower borrowing costs and durable returns.

Road Ahead

• Although big in global investments,the scope for the ESG compliant companies to gain significant market share would be more compared to their non-compliant competitors. It will be on the safer side when the regulators come up with even more stringent rules.