What is Environmental, Social, and Governance (ESG)?
ARTICLE | January 11, 2023
Environmental, Social, and Governance (ESG) refers to a set of standards for a company's operations that aim to ensure that it is responsible and sustainable from an environmental, social, and corporate governance perspective.
There is a growing awareness among consumers, investors, and other stakeholders about the importance of ESG issues, and they are increasingly using ESG criteria to evaluate and choose companies to support. This has led to a rise in demand for ESG-focused products and services and increased pressure on companies to improve their ESG performance.
What are the components of ESG?
The term "environmental" in ESG refers to a company's impact on the natural world, including factors such as greenhouse gas emissions, waste management, and the use of natural resources. For example, a company with a strong environmental track record might have policies to reduce its carbon footprint, recycle waste, and conserve water and energy.
The term "social" in ESG refers to a company's impact on society, including factors such as labor practices, diversity and inclusion, and community involvement. For example, a company with a strong social track record might have policies to support diversity and inclusion, provide fair wages and benefits to employees, and engage in charitable activities in its communities. Understanding these needs can also help a company build resilience against legal actions or poor employee retention.
The term "governance" in ESG refers to a company's internal policies and practices, including factors such as leadership, accountability, and transparency. For example, a company with strong governance might have a diverse and independent board of directors, clear policies for reporting and addressing misconduct, and transparent communication with stakeholders.
Who sets the standards?
Several organizations have developed standards and guidelines for evaluating a company's ESG performance. These include:
- The Global Reporting Initiative is a non-profit organization that provides a framework for companies to report on their economic, environmental, and social performance.
- The Sustainability Accounting Standards Board is a non-profit organization that develops industry-specific standards for disclosing ESG information.
- The Task Force on Climate-related Financial Disclosures is an organization established by the Financial Stability Oversight Council to develop recommendations for voluntary climate-related financial disclosures.
- The International Organization for Standardization is a global standard-setting body that has developed several standards related to ESG, including ISO 26000, which provides guidance on social responsibility.
- The Carbon Disclosure Project (CDP) is a non-profit organization that works with companies, investors, and governments worldwide to disclose and manage their environmental impacts, focusing on greenhouse gas emissions. CDP provides a platform for companies to report on their greenhouse gas emissions, climate-related risks and opportunities, and the actions they take to address these issues.
In addition to these organizations, several rating agencies and indices evaluate companies based on their ESG performance, such as MSCI, S&P Dow Jones, and FTSE Russell. These organizations use a variety of criteria and methodologies to evaluate a company's ESG performance and provide ratings or rankings that investors and other stakeholders can use to compare companies.
Guidance and Reporting Frameworks
It is helpful for a company to leverage a framework for its ESG efforts. At a high-level view, there are two categories of frameworks: guidance and reporting.
A guidance framework provides general guidance on how a company should approach ESG issues. It typically outlines the key principles and values a company should consider when making decisions related to ESG. It may also provide recommendations on how to implement these principles in practice. Guidance frameworks are often voluntary and are not necessarily tied to specific reporting requirements.
A reporting framework, on the other hand, is a set of guidelines that outline the information a company should disclose to provide a comprehensive and consistent overview of its ESG performance. Reporting frameworks often specify the types of information that should be reported and the format and level of detail that should be provided. Reporting frameworks may be voluntary or mandatory, depending on the context in which they are being used.
Which frameworks should we use?
There are many different frameworks available and selecting the right ones will depend on a company's audience, drivers, and resources.
It is important to consider who will read the disclosures and what they hope to understand about the company's efforts. Different stakeholders, such as investors and employees, may have different interests and priorities regarding ESG, so it is important to tailor the communication strategy to address these specific interests and provide relevant information and results.
What is your motivation behind ESG? Drivers can include increased scrutiny from investors, requests from employees, or the need to comply with government regulations.
Implementing ESG requires resources. Identifying and securing the necessary resources to commit to ESG disclosure can take time. It is important to take stock of what is available at the outset to determine what can realistically be achieved. If resources are limited, it may be necessary to focus on ESG disclosure frameworks with less stringent requirements or seek external sources of support, such as ESG consultants, to augment internal resources and provide additional expertise and insights.
How can ESG create value for our company?
Investing in ESG practices can create value for a business in several ways. First, implementing ESG practices can help a business to reduce its costs and risks over the long term. For example, by reducing its environmental footprint, a company can save on energy and resource costs and mitigate the risks associated with potential regulatory changes or natural disasters.
Additionally, prioritizing ESG issues can help a business attract and retain top talent. Employees are increasingly looking for companies that align with their values and positively impact society. By focusing on ESG, a business can differentiate itself from its competitors and create a positive work environment that can help to attract and retain the best employees.
Finally, ESG practices can improve a company's reputation and relationship with its customers, suppliers, and the broader community. This can lead to stronger relationships, increased trust, and better long-term financial performance.
This article is intended to provide a brief overview of ESG and is not a substitute for speaking with one of our expert advisors. If you are interested in pursuing ESG for your company, please contact our office for more information.
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