How Can An ESG Reporting & Rating Framework Help Investors Achieve Their Financial Goals?
Investors use a variety of methods in acquiring information to make investment decisions. Decisions were historically made based solely on performance, but today the goal is greater than just financial gain. Many investment professionals use information on their investment portfolios that includes financial and social information (including environmental, social and governance, or ESG).
What are Environmental, Social and Governance Investments?
ESG investment refers to the set of ethical criteria that investors use when evaluating potential ESG funds to identify the most viable ones to pursue . Environmental criteria evaluate whether an organisation is protecting its environment; this includes corporate policy that addresses global warming, or directly builds in operational learning from climate research, for example. Those criteria evaluate the management of employees, suppliers, customer relationships and the community in which the company works. Governance involves management of an enterprise.
Why are there ESG frameworks?
An ESG framework is used to analyse a company's risk, while other frameworks rely largely on a single investment portfolio to find biases or blind spots. Currently no common, comprehensive ESG framework exists, however, most of the existing ESG frameworks are focussed on environmental socio-economic risk factors for an organisation including environmental danger. This may include anything that impacts the environment or the human population. Examples include earthquakes, tsunamis, oil spills, and nuclear incidents.
Risk management: Companies with strong ESG practices tend to have better risk management systems in place, which can reduce the likelihood of financial losses due to environmental, social, or governance issues. This can help protect investors' portfolios from potential negative impacts.
Long-term performance: Research has shown that companies with strong ESG practices tend to outperform those with weaker practices over the long term. By investing in companies with strong ESG practices, for example in a business that publishes climate-related financial disclosures, investors may be able to achieve higher returns and achieve their financial goals more quickly.
Diversification: Including a mix of traditional and alternative assets in a portfolio, such as renewable energy, sustainable agriculture, and green infrastructure, can help diversify an investment portfolio and potentially increase returns over the long term.
Alignment with values: ESG investing allows investors to align their investments with their values, which can be particularly important for those who want to support companies that are working to address environmental and social challenges or are simply prioritising sustainable business practices This can provide investors with a sense of purpose and satisfaction beyond just financial returns.
Increased shareholder engagement: By engaging with the companies in which they are invested, ESG investors can help drive positive change within those companies and potentially increase the value of their investments. This can be done through activities such as writing letters, attending shareholder meetings, or joining shareholder advocacy groups.
Various ESG Rating and ESG Reporting Frameworks
There are many different types of ESG frameworks that investors can use to guide their investments. Some of the most common frameworks include:
The Global Reporting Initiative (GRI) Standards: These are the most widely used ESG reporting standards in the world. They provide guidelines for companies to report on their economic, environmental, and social performance.
The Sustainability Accounting Standards Board (SASB) Standards & SASB framework: These standards are designed specifically for publicly listed companies and provide industry-specific guidance on how to report on ESG issues that are material to a company's financial performance.
The Integrated Reporting Framework: This framework provides guidance on how to produce an integrated report that combines financial and non-financial information to provide a holistic view of a company's performance.
The Carbon Disclosure Project (CDP) Questionnaire: This questionnaire asks companies to disclose their greenhouse gas emissions and climate change strategies. CDP runs the global environmental disclosure system for business & subnational governments.
The Dow Jones Sustainability Index (DJSI): This index is composed of companies that score well on a range of ESG criteria and is widely used as a benchmark for sustainable investing.
The MSCI ESG Ratings: These ratings provide an assessment of a company's ESG performance and are used by investors to evaluate the sustainability of their investments.
The Sustainalytics ESG Ratings: A pure play ESG rating provider which also happens to be one of the oldest ESG ratings in the market. Sustainalytics was acquired by morningstar.
Which ESG reporting framework to use?
Ultimately, the choice of which ESG framework to use will depend on an investor's specific goals and priorities. It may be useful for investors to consult with a financial advisor or research different frameworks to determine which one aligns best with their investment strategy.
Companies which have a corporate responsibility plan in operation may follow a GRI requirement to construct it. More than 70% of all large companies globally use the GRI ESG reports.
Where to find ESG rating comparisons across different ESG rating providers.
Both institutional investors and private investors are looking more and more towards responsible investment opportunities. For that they need to compare financial performance and sustainability performance (including ESG risks) of various companies.
Given there is a lack of convergence when it comes to various ESG frameworks and ESG ratings, the results vary quite a lot. For example, Apple has an ESG score of A from MSCI (link) and 17 from Sustainalytics (link). KnowESG provides a comparison across the leading ESG providers for more than 1000 companies. For Apple Inc., as an example, you can find the ESG rating comparison here.
To find ESG rating comparison across different companies including sustainability reports you can use the search bar on top left of the website.
Given the growing interest in sustainable investing, many online resources are available to help investors navigate their options and make informed investment decisions. Some useful resources include websites that provide comparisons of various ESG frameworks and ratings, such as KnowESG, Sustainalytics, Climate Action 100+ Impact Monitor, and DJSI World Database.
In addition, there are numerous blogs and articles written by financial experts that offer insight into trends in the climate-conscious investment space and highlight best practices for sustainable businesses. For example, a recent article on Forbes discusses how climate change is influencing financial markets and offers tips for mitigating your portfolio's exposure to climate risks. Overall, there are many resources available to investors who want to incorporate sustainability considerations into their investment.