By Diane Harrison
In January of this year, the World Economic Forum published an article, A Business Model for Sustainability, which highlighted a couple of key points relating to the growing interest in green business practices:
- Global finance is also inching toward sustainability. For example, environmental, social, and governance assets under management are estimated to be as high as $22 trillion dollars; $82 trillion is committed to the UN Principles for Responsible Investment; $32 trillion is pegged to carbon pricing; and even the market for “green bonds” is growing exponentially. This momentum matters because financial market support will be essential in achieving the sustainable development agenda.
- The Business and Sustainable Development Commission has estimated that meeting the sustainable development goals, or SDGs, could add some $12 trillion and 380 million jobs to the global economy by the end of the next decade.
Other data would suggest that business owners are sitting up and taking notice of the trend towards green. The Ethical Corporation’s most recent report, 2018 Responsible Business Trends Report, indicated that 69% of business executives surveyed said they are integrating sustainable development goals into their strategies.
With so much at stake for businesses to change focus on not just what they do, but how they do it, I recently spoke with an environmental scientist experienced in managing a range of business ESG issues. With 25 plus years of experience in business development, management and strategic planning, Marcos Carrington, Chairman & CEO of ESE Global Ratings, has the technical and operational expertise to address a range of issues surrounding the demand for ESG compliant business practices.
Q: Climate change seems to be a driver of many changes in regulatory policies, investment mandates, and corporate behaviors. What is your perspective on this focus, and what are some areas where a company may address this in its operations?
MC: Resiliency to climate change will increasingly factor into the decision-making process and play a significant role in guiding corporate behavior of global organizations and governments. Corporate initiatives that address climate change-related performance issues, and are intended to yield institutional outcomes, will catalyze cooperation between executive management and investors like no other issue has in the past.
When market participants consider the climate change issue, they often focus on carbon emissions. While that certainly is an important consideration, it is not the only one. The carbon footprint of a company’s product throughout its life cycle, the company’s vulnerability to climate change, and the impact of financing are all important concerns as well.
Beyond that, there are other topics in addition to climate change, that can have a forceful impact on corporate actions that impact management, investors, and other stakeholders. These include pollution and waste (toxic material disposal, packaging, electronic recycling), resource management (water rights, material sourcing, etc.), and proactive environmental initiatives (renewable energy, clean +tech, green building practices).
Q: What is the market size of ESG impact focus? Is this scrutiny a trend that is on the upswing?
MC: The size of the market depends on how one defines the ESG universe, but it is sizable. According to the US SIF Foundation, a leading non-profit research and education entity in the social investing space, the size of the market in the US alone is in excess of $12 trillion. Evidence suggests that the size may be as high as $30 trillion globally.
The growth rate in ESG AUM over the last quarter century in the US has been in excess of 13% per annum. That rate has increased dramatically as AUM has grown closer to 40% per annum in recent years.
Q: Why is it important to get to a universal standard for benchmarking a company’s environmental performance?
MC: Specifically in ESG, where a universal standard has not yet been adopted, a universal standard would create a generally accepted reference point to benchmark performance. Management, investors, and perhaps even consumers/customers, would have a basic point of reference and understanding of ESG performance, which can be complex.
The underlying factors affecting ESG performance can be daunting to analyze. The fact that there currently are a variety of performance metrics and indicators offered further complicates matters. It can be difficult to judge or compare results across, or even within industries, because data may not overlap, may be aggregated differently, or may not be available at all. A universal standard is required in order to facilitate true “apples-to-apples” intra-industry and inter-industry comparisons.
Q: In your opinion, what are some of the biggest challenges today for investors in terms of evaluating ESG factors?
MC: ESG disclosure and transparency, followed by the absence of a common ESG vernacular, presents the biggest challenge to impact investing. The industry lacks a standardized base of terminology, common agreement data standards, and generally agreed upon transparency requirements. In effect, ESG needs an equivalent for what GAAP provides to the accounting function.
Q: Can you elaborate on how the current practice of voluntary environmental reporting standards does not meet the investment community’s need for information analysis?
MC: “Compliance” to existing voluntary reporting standards only speaks to investors who have adopted that specific standard, thus limiting its effectiveness. That said, the investment community at-large will coalesce around a generally accepted standard that is fair for all participants.
Participants may have differing reasons for entering the ESG investing space. For example, some investors utilize ESG criteria as a way to enact societal change by directing their capital toward companies that provide solutions to environmental or other challenges. Another group of investors may simply want their investments to be consistent with their religious or ethical beliefs. There is another subset of investors that believes that investments in ESG-focused companies may provide superior long-term performance.
As a result, the fragmented nature of data, analytics, and metrics in the ESG arena, combined with inadequate corporate transparency and disclosure, fails to convey satisfactory information to any one, let alone all, of the investor groups mentioned above.
Q: Can you describe what a “purpose-built” ESG performance standardization effort might look like?
MC: The singular, foremost, focus of a “purpose-built” ESG benchmark should be to serve the natural environment by generating an outlook for normative improvements, which can be achieved by leveraging the capital markets.
A standardized ESG performance structure must satisfy the needs of a wide assortment of interested parties. These include professional money managers and analysts, individual investors, academic researchers, corporate executives, legal practitioners, regulators, non-profit watchdogs, and many others. These various users may have divergent objectives, different points of emphasis, and dissimilar needs. Nonetheless, since they all are operating in the same space, and most importantly, interacting with each other, it is crucial for all these groups to have a common framework to facilitate dialogue with one another and to markets and the public generally.
Q: Why will companies in industries that are inherently "dirty" buy into agreeing to ESG standards reporting?
MC: Due to the perceived impacts of climate change, we live in a hyper green social environment. At some point, every organization, large or small, will have to contend with environmental performance and ESG issues. Organizations that transact specifically, in “traditional polluting” or “dirty” sectors will find value in a benchmark that either provides greater visibility into their operational efficacy or provides a real reputability benefit.
Regardless of one’s political beliefs or personal convictions about the issues underlying ESG investing, the fact is that ESG is firmly entrenched as a permanent part of the investment landscape. Traditionally, ESG data and analytics have been employed in compliance and screening. For example, an investment firm may have a client mandate to avoid companies that do not meet a certain threshold of renewable energy use.
Going forward, ESG data and analytics will be applied to other purposes, particularly from the corporate perspective. Firms in so-called “dirty” industries, such as energy or mining, will be able to use to standard reporting to differentiate themselves from industry competitors. They also will be able to use it to compare operational efficiency across industry lines. A mining company, for instance, might be able to show its water resource utilization or waste management programs actually compare favorably to those of an auto parts maker or a computer equipment manufacturer. These types of intra-industry and inter-industry comparisons can boost brand perception and assist in the management of reputation risk.
Diane Harrison is principal and owner of Panegyric Marketing, a strategic marketing communications firm founded in 2002 specializing in alternative assets.