Move Beyond the ESG Hype. Here's a Sustainable Business for Wealth Creation

2016 was a year of introspection for the global textile industry, and for the investor community.

The US retail giant - Target Corporation cut all its ties with Welspun India. It alleged Welspun was using cheaper non Egyptian cotton for supply of over 700,000 sheets and pillow cases, that were labelled as Egyptian cotton.

Target Corp had to phase out thousands of products from its shelf and ended its years long relationship with Welspun.

Welspun India had failed to provide and prove the traceability of Egyptian Cotton that was promised to its client.

The event led to detailed investigations by Welspun's other customers like JC Penny, Walmart, and Bed Bath & Beyond.

The damage was not just limited to big dent on these big retailers' and Welspun's credibility and business prospects. In a short period, the stock of Welspun India crashed by over 55%.

The retailers themselves were slapped with lawsuits. They were charged of failure to do audits on the quality of sourcing and compromising buyers' interests.

Events like these have destroyed marketcaps in a matter of a few days. And have made the investors cautious of qualitative parameters in investing.

The rise of the sustainability theme and ESG (environmental, social, and governance) based funds have made companies also conscious to come across as compliant players across the value chain.

The market regulator is not far behind. It has mandated the top thousand companies by marketcap to include business responsibility and sustainability report (BRSR) in their annual reports.

It's common these days for the managements to devote a few slides to this in their quarterly and annual presentations.

However, it is one thing to pay lip service to the theme, quite another to integrate it in business to ensure wealth creation in the long term.

A case in point is Adani stocks amid the Hinderburg controversy.

These stocks were part of over 500 funds that touted ESG narrative, either as direct holdings or part of the index tracking funds.

Amid the allegations of fraud and ensuing meltdown, some of these stocks have been removed from sustainability indices. And there has been a wealth erosion of huge proportions.

This incident in this context is not a one off. Similar issues have happened with companies like Nestle and Johnson & Johnson.

Events like these have exposed ESG funds' shallow strategy and the grey areas in their stock picking framework.

So, should you ignore the ESG aspect in your investments? To be sure, I don't put in an ESG constraint in my stock picking process. There have been cases when I have recommended even cigarette stocks.

For me, the key is transparency in the business and management communication, a business model that promotes growth without undue risk.

I do not check the ESG score. But I do enough diligence to ensure that the business is run in a way that puts it on the path of sustainable growth.

My team and I look for companies that offer products/services with sustainable demand and competent and transparent managements.

It all boils down to - sustainability and financial performance (profits, growth potential, return ratios, balance sheet strength). Last but not the least, we want a margin of safety in valuations.

My latest recommendation in Hidden Treasure is a good fit on these parameters.

This smallcap company has emerged as a key outsourcing partner at a time when global supply chains are undergoing massive shifts and global economies are looking beyond China.

Its unique business model makes the company asset light. It has placed it well to scale tremendously with margin expansion.

With a revamp in the business strategy, its revenue in last five years have grown at a CAGR (compound annual growth rate) of 14%. The CAGR in the net profits stands at over 70%.

The growth has come along with a lean balance sheet. And nearly 5x improvement in return ratios.

The stock scores well on ESG parameters. But the reason I have chosen it is the strong network effects on its platform that make the business more robust as it scales up.

Further, the business comes with interesting optionalities. A certain percentage of its capital is allocated to investing in early-stage ventures.

The focus areas of these ventures are innovation and sustainability. These are not random investments, but offer strong synergies and value addition proposition in the core business, by helping the company and its clients stay ahead of the curve in future trends.

In case any of these becomes big, the company will also have the optionality to monetize these investments.

Hidden Treasure subscribers could access the recommendation report here.

To know more about my views on investing opportunities and themes that I find interesting in 2023, join me on 25^th and 26^th February at the Equitymaster Virtual Conference. I would love to meet and interact with you there.

Warm regards,


Richa Agarwal
Editor and Research Analyst, Hidden Treasure