Case Analysis of “CLP Group: ESG

Factors and Their Effects on Valuation”

Prepared for: Prof. Kaushik Ranjan Bandyopadhyay, ESRM

Prepared by: Group-5 (Abhijeet Kohat, Mohd Waheed, Parthib Choudhury, Shikhar Yadav, Vikas Kumar, Yash Sharma)
Being a “leader” in the industry, Paris Climate Agreement would increase CLP’s efforts on adequate
reporting, urgency for energy transition & climate change mitigation

Regulatory & compliance Energy transition Industry norms Pressure of being a leader

• Hong Kong committed to reducing • CLP must diversify its energy mix • Water treatment and fly ash use • CLP being a leader in Climate
greenhouse gas emissions at the to meet its GHG target and achieve to be prioritized to prevent change and sustainability they had
Paris Climate Agreement energy security, and at the same climatic impact to respond quicker compared to
time diversify plant portfolio their peers
• CLP must implement the
international GHG reduction • CLP being vertically integrated
strategy to achieve government entity they must transform all
goals three aspect of energy ecosystem
i.e., generation, transmission and
• The agreement mandates all distribution
countries to monitor, verify, and
report their greenhouse gas
emissions and revise their program
regularly, therefore CLP had to
disclose the reduction in GHG
emissions and have it audited by a
third party

Q1. What is the impact of Paris Climate Agreement on CLP?

CLP should be aware of multiple political, financial, environmental, social, and technological
macrotrends

National goals for climate change mitigation: Govts. are imposing Mandatory non-financial disclosures: Governments are imposing
national regulations based on international treaties sustainability reporting obligations

Investor’s focus on ESG: Investors are inclined towards including ESG Energy security: Increasing costs of fossil fuels due to political
factors directly into a company's valuation disruptions & increasing carbon taxes is a concern

Energy transition to clean options: Industry is switching from fossil Cheap alternatives: Renewable technologies are advancing rapidly,
fuel-based energy to non-fossil fuel-based economy making them affordable, reliable, and easy to adopt

Consumer demand: Commercial and retail consumers are motivated Advancing technology: Power companies are investing in technologies
towards procuring cleaner energy to increase the plant utilization & efficiency

Q2. What are the macrotrends in the industry that CLP should be aware of?
For any electric utility company, the environmental indicators along with the health & safety
indicators are its most material issues

High Employee development & wellbeing Human rights & ethics GHG emissions

Labor practices Occupational health & safety Energy management

Effluent & waste

Corporate governance & transparency Fly ash utilization

Importance to stakeholders

Environmental & social policy

Power quality & customer satisfaction Water management Disaster & critical incident risk management

Community engagement Operational efficiency & plant reliability

Indigenous people’s rights

R&D New technology utilization & future readiness

Employee diversity Fuel availability

Low Biodiversity

Low High

Impact on Business

Q4. What are the most material KPIs in the electric utility industry using the materiality matrix?
From our analysis we see that "Water Management” and “Energy Management” affect CLP’s core
business drivers significantly more compared to other indicators

Disaster &
Impact of ESG KPIs on core Effluent & Occupational
Water Energy Fly Ash Waste Critical Incident Human Rights Health GHG Emissions
business drivers Management Management Utilization
Management
Risk & Ethics
& Safety
Management

Access to labour Low Low Low Low Moderate High High Low

Access to natural resources High Low Low Low Low Low Low Low

Regulatory environment High Moderate High High High High Low High

Consumer demand Low High Low Low Low Low Low Low

Innovation High High High Moderate Low Low Moderate Moderate

Operational efficiency High High High High High Moderate High Moderate

Reputation High Moderate Moderate High High High Moderate Moderate

Average score 3.9 3.3 3.0 3.0 3.0 3.0 2.7 2.4

Note: For our framework, we have taken the scores as Low=1; Moderate=3; High=5

Q3. Make an attempt to project CLP's ESG KPIs based on business core drivers and/or valuation metrics? Are all three dimensions E, S and G equally important for CLP?
From our analysis we observe that, “Fly ash utilization”, “Effluent waste management” and “Human
rights & ethics” have greater impact on CLP’s valuation compared to other KPIs
Disaster &
Effluent & Occupational Critical
Fly Ash Human Rights Energy Water
Impact of ESG KPIs on firm’s valuation Utilization
Waste
& Ethics
Health Incident
Management Management
GHG Emissions
Management & Safety Risk
Management

New products High Low Low Low Low Low Low Low
New markets High Low Low Low Low Low Low Low
Revenue
Growth New customers High Low Low Low Low Low Low Low
Innovation High Low Low Low Moderate Low Low Low
Reputation/differentiation High High Moderate Moderate Moderate Moderate Moderate Moderate
Operation efficiency Low High Moderate High Moderate High High Low
Return on
capital / Cost Reputation/Price premium High Low Moderate Moderate High High Moderate Low
of capital
Workforce efficiency Low High High High Moderate High Low Low
Regulatory risk High High High High High Low Moderate High
Public support High High High High Moderate Moderate High High
Risk factors
Supply chain Low High High Low Moderate Low Moderate Moderate
Risk to reputation Moderate High High High High Low Moderate High
Leadership development Low Low Low Low Low Low Low Low
Management
Adaptability Low Low Low Low Low Low Low Low
quality
Long-term strategic view High High High High Low High Moderate High

Average score 3.5 3.1 3.0 2.9 2.6 2.3 2.3 2.3

Note: For our framework, we have taken the scores as Low=1; Moderate=3; High=5
Q3. Make an attempt to project CLP's ESG KPIs based on business core drivers and/or valuation metrics? Are all three dimensions E, S and G equally important for CLP?
On the face value, by comparing the ESG scores of the three companies, CLP Holding appears as a
“leader” on all the three parameters

Environmental Disclosures Scores Social Disclosures Scores Governance Disclosures Scores

100 100 100

79

64
59
54
52

29
23 28
14

0 0 0
2007 2008 2009 2010 2011 2012 2013 2014 2007 2008 2009 2010 2011 2012 2013 2014 2007 2008 2009 2010 2011 2012 2013 2014

CLP Holdings Hong Kong & China Gas Power Assets Holdings

Q5. Where does CLP stand on ESG relative to its peers?

That said, CLP Holdings’ better environmental disclosure scores than peers should be taken “with a
pinch of salt” as it could be attributed to peers’ inability to disclose information on key indicators

Performance on Environmental Indicators

CLP Holdings Hong Kong & China Gas Co Ltd. Power Assets Holdings Ltd

GHG intensity per sales 577.24 11.34 -

GHG scope-1 intensity per sales 573.79 10.48 -

GHG scope-2 intensity per sales 3.46 0.86 -

CO2 per sales 574.95 - -

Energy intensity per sales 1829.02 - -

Water intensity per sales - - -

Waste generated per sales 0.23 - -

NOx and SOx emissions per sales 1.01 - -

Environmental fines (count) 1 - -

Environmental fines ($) 9,508.5 - -

Q5. Where does CLP stand on ESG relative to its peers?

Similar argument could hold true for the social indicator

Performance on Social Indicators

CLP Holdings Hong Kong & China Gas Co Ltd. Power Assets Holdings Ltd

% women in workforce 24.80% - 16.80%

% women in management 17.00% - 16.60%

Women management-to-employees ratio 0.69 - -

Fatalities per 1000 employees 0.13 - -

Accidents per 1000 employees 0.53 - -

Lost time per employee 110.98 - -

Community spending per 1000 employees 1.59 - 333.33

Q5. Where does CLP stand on ESG relative to its peers?

On the governance parameters, where disclosing information is easier than E and S indicators, CLP’s
performance is only slightly better than its peers

Performance on Governance Indicators

CLP Holdings Hong Kong & China Gas Co Ltd. Power Assets Holdings Ltd

# of directors 14 9 12

% of independent directors 50.00% 33.33% 33.33%

% of women on board 14.29% 0.00% 0.00%

# of board meetings 6 4 4

Average board meeting attendance 94.19% 100.00% 93.05%

% of independent directors on audit committee 100.00% 100.00% 93.75%

% of independent directors on compensation committee 75.00% 66.67% 66.67%

% of independent directors on nomination committee 66.67% 66.67% 66.67%

Q5. Where does CLP stand on ESG relative to its peers?

ESG KPIs have varying impact on the income statement of a company, affecting the financial drivers
and valuation differently

ESG KPI Financial Driver

GHG emission Revenues

Water management OpEx

Waste management EBITDA

Energy efficiency Depreciation

Sustainable sourcing of raw materials EBIT

Occupational health and safety Interest

Human rights & ethics Tax

Disaster & critical incident management CapEx

Stakeholder management Provisions

Corporate governance & transparency Free Cash Flows

Q6. What are the possible ways to project ESG KPIs into financial drivers?
In our opinion, CLP’s base case valuation doesn’t reflect the ESG factors

Though CLP Holdings are disclosing their ESG information for many
years, they're yet to get integrated ESG factors in their valuation

There is no line item pertaining to an adjustment factor due to ESG

factors in the WACC calculation

We found through the secondary research, that banks incorporated

ESG KPI’s in 2021

Q7. Are ESG factors reflected in the base case valuation?

We recommend a 3-step method to integrate ESG factors into share valuation methods

Step-1 Step-2 Step-3

Focus on the most material ESG Analyze the impact of these material Translate associated competitive
issues factors on company’s performance (dis)/advantages in valuation model

Most material factors for electric utility company ILLUSTRATI

ON
ESG Factor Performance Peer Comparison Impact on value drivers

Environmental management Energy consumption per unit falling faster than peers Above industry average Cost advantage

Innovation management Increase in eco-products to comprise 50% of sales Leading in the industry Better growth & profitability as eco-friendly offerings have higher margins

Human capital management Declining injury and fatality rate Leading in the industry Cost advantage

Most material factors for electric utility company ILLUSTRATI

ON
Value driver Sales growth EBIDTA Margins Cost of capital Target Price

Benchmark Global electric utility: 3% 15% 8%

Company adjustment ex ESG Exposure to low growth segment: -0.5% +2% - USD 124

ESG adjustment Innovation management: +1% +1% - USD 19 (+15%)

Total 4.5% 18% 8% USD 143

Q8. How should analysts integrate ESG into share valuation models?
Considering CLP’s position as “Leader” in ESG disclosures compared to its peers, we have only
adjusted WACC
We conducted a scenario analysis by looking at CLP’s performance across 3 KPIs, which had most impact on its financial performance
Fly ash utilization Effluent & waste management Human rights and ethics

• Now, if a company was a clear leader across a range of ESG factors, then it was more appropriate to adjust WACC downward rather than adjusting specific cash flows. This WACC
adjustment reflected the favorable prospects for the overall firm value of clear ESG leaders

• And if the company was only focused on a specific ESG area, it was appropriate to adjust the relevant revenue or expense line items.

Scenario analysis for WACC adjustment

Base Value Value change % Adjusted Value Scenario

-1.00% 6.94% Addressing all 3 key ESG issues

-0.50% 7.44% Addressing the issue of “Fly ash” but not “Effluent” and “Human Rights”
 
 
7.94% 0.00% 7.94% Base case scenario
 
 
0.50% 8.44% Addressing the issue of “Human Rights” but not “Fly Ash” and “Effluent”

1.00% 8.94% No addressing any of the 3 key ESG issue

Q9. Should you adjust WACC only or growth as well?

Based on our scenario analysis, we would recommend selling the CLP shares only if they do not
address any of the 3 key ESG issues – Fly ash treatment, effluent treatment and human rights

Scenario analysis for WACC adjustment

Estimated share price Buy / Sell
Base Value Value change % Adjusted Value Scenario (upside/downside)% recommendation

-1.00% 6.94% Addressing all 3 key ESG issues 52.99% BUY

-0.50% 7.44% Addressing the issue of “Fly ash” but not “Effluent” and “Human Rights” 32.30% BUY
 
 
7.94% 0.00% 7.94% Base case scenario 15.79% BUY
 
 
0.50% 8.44% Addressing the issue of “Human Rights” but not “Fly Ash” and “Effluent” 2.30% BUY

1.00% 8.94% No addressing any of the 3 key ESG issue -8.92% SELL

Q10. If you/your team are equity analyst, what should be your recommendation on CLP’s shares?
ESG valuations are not robust because the impact of ESG factors can’t be quantified, and quality of
ESG disclosures vary by geography & business models

All ESG factors are not easily quantifiable

ESG valuation are not geography-agnostic and rater-agnostic

Shortfalls of
With varying geographies, the quality of ESG disclosure may vary
ESG valuation

ESG valuations may differ by varying business models

ESG disclosures are backward-looking and may fail to capture anticipated changes

Q11. What are the shortfalls of ESG valuation?

Thank you!