Global M&A trends and risks
Powerful new forces shaping in the M&A landscape
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Global | Publication | January 2023
In April 2021, a survey of 34 limited partnerships by the African Private Equity and Venture Capital Association showed that 97% considered it important to take ESG factors into account when making investment decisions.1 Such a focus on ESG is partly driven by investors, suppliers, customers and local stakeholders requiring ESG to be a principal factor in the terms of any investment or contractual relationship.
Telecommunications and digital infrastructure industries have attracted significant attention for their role in advancing ESG, particularly over the COVID-19 pandemic where the importance of internet connectivity as a social contribution was underscored. The industries include companies providing fixed and wireless telecommunications services (such as mobile network operators, virtual mobile network operators and internet service providers), as well as those companies that build out the infrastructure on which telecommunication and internet networks rely (particularly mobile telecommunication towers, fibre and cable networks, data centres and marine cables).
A strong telecommunications and digital infrastructure sector can help towards digital inclusion and the achievement of many of the UN Sustainable Development Goals. Reliable internet connectivity and communication channels facilitate access to education and employment, and can reduce income inequalities. Internet of Things (IoT) technologies which rely on a robust infrastructure can help towards agricultural growth and food security, and studies have found links between telecommunications infrastructure investment and gender equality. Digital infrastructure provides an opportunity for countries to accelerate development by underpinning technologies such as mobile money payments, blockchain applications and telehealthcare. According to the World Bank, a 10% increase in mobile broadband penetration in Africa would result in an increase of 2.5% of GDP per capita.2
For many investors, such benefits are key in driving their investments into digital infrastructure and telecommunications. This is helped by burgeoning ESG frameworks and regulations, such as the EU’s Taxonomy Regulation, which makes data processing, hosting and related activities eligible for the climate mitigation and climate adaptation objectives.
Despite being a net ESG contributor, the telecommunications and digital infrastructure sector is not perfect. The power consumption of digital infrastructure assets such as data centers, mobile communications towers and fibre networks is clearly significant and can have adverse environmental impacts without sources of renewable energy and sustainable cooling. This is particularly true in geographies that lack reliable power connection and where inefficient diesel or battery powered solutions are relied on to satisfy stringent uptime requirements. With an estimated 1% of global electricity being used towards data centres and transmission networks, investors are looking into sustainability factors when investing into such companies. Furthermore, for operations in Africa and the Middle East where ESG frameworks and uptake have come to the fore later than in other parts of Europe, for example, the breadth of ESG requirements for companies to come up to speed with at pace, is significant.
So how do investors navigate the ESG implications of investing in what is a necessary asset class for the development of emerging markets in Africa and the Middle East? And can companies hoping to raise capital use their ESG credentials to facilitate this?
For telecommunications and digital infrastructure operators in Africa and the Middle East looking for investment, it is important to understand the ESG footprint of the business, and be able to substantiate statements made in marketing materials such as the information memorandum. This will help investors initially familiarise themselves with the headline ESG factors relevant to the business. It will also help managing relationships with customers and partners who are also increasing their focus on ESG impacts when doing business. For example, hyperscalers are increasingly focused on the ESG credentials of their local partners, as are enterprise and cloud customers of local data center providers. Notably, Microsoft has pledged to become carbon neutral by 2030, Google states that it already is carbon neutral and has pledged to become carbon free by 2030, and MTN has pledged carbon neutrality by 2040.
Upon investment, many investors will require the implementation of effective and robust ESG policies and procedures which allow impact monitoring, measurement and reporting on various different factors that contribute to the ESG “picture”. This includes having for example an ESG action plan, an ESG management system and the qualified personnel responsible for the implementation, operation and maintenance of those systems. For telecommunications and digital infrastructure companies this can be wide ranging, covering areas such as Corporate Social Responsibility, Anti-Bribery and Corruption, Anti-tax Evasion, Fraud Management and Investigations, Conflicts of Interest, Whistle Blowing, Anti Money Laundering, Economic Sanctions, Law Enforcement, Health and Safety, Procurement and Supply Chain Management, Human Rights, Risk Management, Land Acquisition and Management, Environmental Systems, COVID-19, and Community Engagement.
Different investors will have different requirements for such policies and procedures, in part driven by the ESG legal requirements which apply to those investors, and it is therefore likely that policies put in place to satisfy investors in one financing round will not necessarily satisfy investors in subsequent financing rounds, and often these points are not open for negotiation by the investors. Adopting new policies and procedures will require increasing management time, which should be factored in by companies looking for investment.
Companies seeking to raise finance from ESG-focused investors should also consider the penalties associated with breaching policies and procedures implemented. Investors will often owe obligations to their own investors (be it government funds (in the case of Development Finance Institutions (DFIs) and multilaterals), pensions, banks, or private institutions), and may be regulated in the jurisdictions in which they are located, or otherwise have reputational concerns that they are keen to manage. As such, they may impose heavy penalties for breaches of the ESG framework. This could include an event of default under the funding provisions, which would result in the investee company not being able to draw down further debt or equity investment, or even a put or call option in favour of the investor, which would require the company or other shareholders to purchase its shares for a specified value or for other shareholders to sell their shares for a specified value.
As such, it is important that investee companies appreciate the obligations they are accepting, the management time and cost required to put in place and operate practical frameworks for compliance and any impact that compliance might have on the budget and business plan. Such compliance may not be limited to the company’s own operations, but may include that of the company’s supply chains, which will require scrutiny of suppliers, contractors, construction partners and agents.
The legal and regulatory perspective also needs to be considered. There are a large number of emerging laws and regulations that impose ESG requirements and standards, most notably in Europe. These include, for example, the proposed EU Corporate Sustainability Due Diligence Directive (CSDD). Under CSDD, larger companies operating in the EU will be required to undertake ESG related due diligence extended to their global value chains. Moreover, companies are increasingly being required to report publicly on their ESG-related risks and risk mitigation procedures by a diverse array of laws including the EU Corporate Sustainability Reporting Directive (CSRD), UK Modern Slavery Act, and new legislation in a number of countries that will mandate Task Force on Climate-Related Financial Disclosures (TCFD)-aligned climate disclosures. The impact of these laws will be felt beyond the countries where they are enacted, and by counterparties across the globe who do business with companies that need to comply with this patchwork of legislation. Other examples include how companies importing goods into EU, for example, could be presented with a carbon tax bill to offset their carbon footprint under the European Green Deal. This is particularly pertinent as 31% of Africa’s exports go to the EU.3 Similarly, the Green Deal will have implications for Africa as European countries will have to utilise breakthrough green technology innovations to remain compliant, whilst some African countries will struggle to adopt these often costly emerging green technologies. This may become more relevant as the increased internet connectivity across Africa will have a knock-on effect on the growth of e-commerce, logistics and other digital services.
The regulatory landscape varies greatly between different African and Middle Eastern countries, but it is clear that governments are supporting the agenda with a growing focus on ESG-related regulations that apply across different sectors. For example, the carbon tax framework in South Africa requires tax to be paid by certain carbon emitters, while tax-free allowances incentivize companies to embrace cleaner and greener technologies. In 2011 the first Code for Responsible Investing in South Africa (CRISA) was launched. It aims to encourage institutional investors to integrate ESG matters into their decision making and a successor to this Code is already planned. As governments look to do more to promote ESG transparency and prevent greenwashing, regulations are likely to be introduced which both companies and investors in the regions will have to monitor closely.
As such, what does the future evolution of the ESG landscape for African and Middle Eastern telecommunications and digital infrastructure companies look like? Trends include major companies in the industry setting goals for “net zero” for between 2030 to 2050, with most signed up to the GSMA Climate Action Taskforce. Trends seen in other geographies include the issuance of green and sustainability bonds by companies such as Orange, Telefonica, Verizon and Vodafone. Orange, for example, launched a sustainability bond for €500m earlier this year to finance projects that reflected the group’s ambitions in the green and social fields (including the fight against climate change). These trends are already being adopted and adapted in Africa and the Middle East where, for example, in 2019 Vodacom became the first South African telecommunications company to secure an ESG loan with Standard Bank South Africa, whereby the interest rate Vodacom pays on the loan is directly linked to the company’s ESG performance.4
What is expected, however, is that ESG measures will be mandated by local and international authorities in the future. For the telecommunications and digital infrastructure sectors in Africa and the Middle East, this means that sooner or later effective ESG measures will have to be introduced and followed meticulously. In this respect, those companies and investors that start implementing ESG measures early have a clear head start in the market.
Finally, as businesses continue to embrace their ESG compliance obligations, it is also worth noting the positive role that the digital infrastructure sector will play in terms of helping companies everywhere to gather the critical data and information they need from across their value chains to manage and report on their ESG risks. This will remain one of the biggest challenges for companies to rise to in the years ahead.
The government recently announced the removal of the controversial “sunset clause” from the Retained EU Law (Revocation and Reform) Bill (the Bill). This means that the automatic revocation at the end of 2023 for all remaining retained EU law (REUL) will not occur.
Nina Varumo is a freelance portrait and documentary photographer based in Stockholm. A recent project of hers Kvinnor till sjöss (‘Women at sea’) is on ongoing photo series highlighting the working life of female seafarers in order to change the stereotypical image of what and who is a seafarer.
© Norton Rose Fulbright LLP 2023