Preventing poor ESG practices from costing you investors
By Leas Bachatene, CEO ethiXbase
The 2020s have catalysed the momentum towards Environment, Social and Governance (ESG) practice and enforcement. The importance of protecting people and the planet, and the role that businesses play in this has never been more high profile. Both seasoned and beginner investors are increasingly choosing funds with more sustainable stocks, rewarding companies that are incorporating broader environmental and sustainability metrics in their decision-making. By 2025, Bloomberg calculates that global ESG assets will exceed $53 trillion, representing more than a third of the $140.5 trillion in projected total assets under management. Here’s what you need to know to get ahead of the curve and to ensure your business remains attractive to investors.
How is ESG measured and scored?
Though there remains some discretion as to the exact scoring methodologies and frameworks governing ESG scoring and rating processes, some best practices have emerged. In most cases, ESG rating agencies rate companies based on information gathered from multiple sources including a company’s own data, Government data banks, the media, NGOs and other stakeholders. Questionnaires may also be used to gather further information from companies.
Verifiable ESG disclosures are expected to adhere to a specified set of mandatory and voluntary requirements as stipulated by standards agencies, including the GRI. Until ESG scoring becomes comprehensively legislated, the emphasis lies with businesses to be transparent about their practices. This allows stakeholders to compare performance, gain a clear picture of a company’s direction, and make long-term beneficial decisions.
However, as an increasing number of business-relevant legislative Acts are passed, such as the Modern Slavery Acts in the UK and Australia or the more recent Lieferkettensorgfaltspflichtengesetz (LkSG) in Germany, it’s more important than ever for businesses to start viewing ESG scoring as a mandatory business process.
How to improve your ESG reporting?
The first step to achieving good ESG reporting is to have a reliable, sustainable business framework in addition to choosing the right metrics. Taking steps that are recognised as being key to your company’s operation will shine through in ESG performance. This starts with integrating ESG data and an ‘ESG mindset’ into everyday business operations. Having this mindset will enable your organisation to create a platform for further enhancements in internal and supply chain activities.
Frequently reporting on processes used to meet ESG goals as well as any remediation action and methodologies that have been taken to improve your operations will help make accurate ESG judgments. Identifying exactly how your business is going to achieve your ESG goals is important to stay on top of. Analytics and data visualisation play a key role in this and can help your organisation identify which areas of your business need improvements.
Identifying the ESG gap in your supply chain is crucial and can be the difference between failure and long-term success. It’s fast becoming a fundamental business requirement to be able to prove that you are measuring authentic sustainability and social impact with genuine continuous improvement to gain trust and recognition in the market. Those that act now will reap the benefits, but those that delay will count the costs of inaction.
How can ESG ratings impact your stock?
There is a wealth of benefits in having robust ESG policies and credentials. A high ESG score correlates to increased profits. According to the MSCI World Index, the average cost of capital of the highest ESG-scored quintile was 6.16%, compared to 6.55% for the lowest ESG-scored quintile. For investors, companies with good ESG scores are thought to be well prepared to deal with future challenges, foresee beneficial opportunities, make better long-term decisions, and provide investors with a lower risk rating in times of uncertainty.
Conversely, a company that has a poor ESG score or has not implemented an ESG policy can experience significant financial and reputational impacts. This will ultimately damage the trust of consumers and investors, which can lead to reduced sales, funding, and investment.
Is ESG just another investment fad?
In short, no. Although ESG Investing has grown exponentially in recent years, with 2021 being a record year, it is only going to increase momentum. Companies that consider their ESG impacts are seen to be more resilient in times of crisis or legislative change.Although ESG is considered a “hot-topic” right now, very few changes have been made due to legislative requirements and most is voluntarily undertaken. Forward-thinking businesses that take the initiative and demonstrate to investors that a thorough SWOT analysis has been conducted and action taken will prove themselves to be an attractive and low-risk stock for potential investment. Increasingly, financial institutions are starting to display ESG ratings along with stock listings too, further demonstrating the growing demands of investors. With further ESG legislation on the horizon, ESG will be seen as a business imperative, and it pays to get ahead now.
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