Introduction
Every business has an impact, whether intended or not-intended and includes both positive and negative aspects. However, as the climate crisis deepens, governments and regulatory bodies all across the world are impelled into taking concrete steps to make businesses accountable for their impact on environmental and social factors and be held responsible for ensuring that their governance practices align with stakeholder needs and expectations.
ESG reporting informs stakeholders, including investors, customers, employees, and regulatory agencies, about an enterprise’s environmental, social, and governance (ESG) performance and practices. ESG reporting empowers stakeholders to make knowledgeable decisions about a company’s ESG risks and opportunities and its sustainability performance.
In this blog, we dive deeper into ESG reporting, its role, best practices, and the significance and benefits of investor relations for ESG reporting.
The Role of ESG Reporting
The need for reporting on the ESG impacts of a business is not solely driven by regulatory requirements. On the contrary, several businesses chose to disclose their ESG reports voluntarily because the demand up until now has been driven by the investors and the capital market.
The global investment toward low-carbon growth across 21 emerging markets amounts to nearly 10.2 trillion U.S. dollars.
The next generation of investors is inclined toward green investment that will make a positive impact on the people and environment and is aligned with their individual sustainability goals.
The sustainable development goals or SDGs adopted by the UN in 2015 have become a blueprint for businesses and investors to understand how they can contribute to those 17 goals and work toward the betterment of the people and the planet.
It is also a good platform for businesses to identify and establish sustainability goals for their organization and align their ESG initiatives and impact toward them in two ways:
- Reducing the negative impact
- Enhancing the positive impact
ESG reporting is a substantial step toward responsibly managing business impact and therefore preferred by both regulators and investors for their purposes. The subsequent argument in favor of ESG comes from its effect on the long-term success of the business which is another reason motivating investors to incorporate ESG factors into their decision-making, as found in an NYU study.
Let’s stop for a moment and account for what constitutes ESG factors:
Environmental aspects include a company’s resource consumption, energy efficiency, waste and water management, and carbon emissions.
The S of ESG is the business’s impact on its Social, that is -stakeholders, such as employees, customers, suppliers, and local communities within which it operates. It involves aspects like working conditions, human rights, involvement in the community, and product safety.
The G of ESG is the governance aspects, such as board composition, CEO compensation, shareholder rights, and transparency, and is related to a company’s management and monitoring procedures.
There is still a lot of speculation-ambiguity around ESG standards, what to measure, how to measure, and how much to measure as these standards are still being developed by bodies like ISSB in USA and EFRAG in the EU. In the absence of global baseline standards, ESG reports cannot be compared across companies and geographies.
However, continuous efforts are being made, and we hope to see more clarity soon.
And that brings us to the point of trust and transparency in the ESG reporting disclosed by the businesses in absence of any regulatory standards. As we will explore more on the aspect of challenges and criticism of ESG reporting later in the blog, it makes sense to bring the angle of “greenwashing” to the fore of this discussion. Greenwashing involves businesses making false or misguiding claims about their ESG initiatives.
Investors rely on the ESG information businesses choose to disclose. Therefore, when businesses break the chain of trust it impacts the entire capital market casting doubt and suspicion over the entire industry.
Businesses need to be responsible for the ESG communication they have with their investors whether it is through documents like ESG reports or other communication channels like annual or quarterly meetings.
We assert that trust and transparency will remain pertinent even after the implementation of standards and mandates.
But ESG reporting frameworks and standards are not completely nonexistent. In the next section, we gather an overview of the bodies helping businesses with frameworks and parameters in absence of a standard global baseline.
Overview of ESG Reporting Frameworks and Standards
GRI – Global Reporting Initiative, One of the most widely used frameworks for ESG reporting is the GRI framework for sustainability reporting in a standardized and transparent manner. It covers a wide range of ESG issues including climate change, biodiversity, human rights, labor practices, and governance, and enables companies to report on their ESG performance and impacts. With universal and industry-specific guidelines, the GRI framework offers a lot of flexibility in terms of usage.
SASB – The Sustainability Accounting Standards Board (SASB) develops and promulgates sector-specific sustainability accounting guidelines for publicly traded companies in the United States. One of the primary focus areas for SASB is to identify the ESG issues most material for the investors and help firms identify, manage and report on them.
SASB standards are comparable across the firms within an industry and are developed based on thorough research, consultation, and systematic stakeholder engagement.
TCFD – The Task Force on Climate-related Financial Disclosures (TCFD) was created by The Financial Stability Board to facilitate climate-related financial reporting. The objective of TCFD is to provide the capital market with clear, comprehensive, high-quality information on the impacts of climate change including, the risk and opportunities. As per The Task Force Climate-related Financial Disclosures report 2022, there has been an accelerated momentum toward climate-related disclosures, and 80% of companies disclosed in line with at least one of the 11 recommended disclosures.
While these frameworks help businesses in identifying their ESG impacts and developing their goals aligned with these recommendations, they also need to consider an important element of trust and openness in their ESG-related disclosures because the success of ESG reporting and investor interactions depends on it.
Investors must have faith that the data companies provide is reliable and comprehensive. Building confidence with investors and stakeholders can be facilitated by businesses that are open about their ESG performance and reporting procedures.
Companies that place a high priority on ESG reporting and openness can also gain better stakeholder engagement, increased reputation, and decreased risk. By providing transparent and reliable information on their ESG
Benefits of ESG Reporting for Companies and Investors
The recent Covid crisis and the numerous climate-related events like floods and hurricanes and the labor protests across Europe, Latin America, and Russia during the pandemic have been a reminder that businesses are impacted by environmental and social factors.
Investors understand this too and so are looking at the associated risks with the ESG impacts of an organization, the proposed double materiality in the ESRS elaborates on looking at how the outside factors impact the business (financial materiality) in addition to how the business, impacts the outside world (impact materiality).
As we discussed earlier, businesses that consider ESG factors are better positioned to achieve long-term sustainability and deliver improved financial performance.
ESG reporting also becomes a platform for the investors to share their sustainability goals and concerns with the organization and investors are in a position to influence investors to influence corporate behavior and encourage companies to adopt more sustainable practices.
ESG reporting is on the path to becoming a mandate in several jurisdictions, investors can ensure that businesses remain compliant by adopting ESG disclosures to remain compliant and avoid fines.
A robust ESG strategy improves the brand image of an organization and also adds to the personal branding of the investors.
Best Practices for ESG Reporting
The most critical aspects of ESG reporting are the authenticity and materiality of the disclosures. Businesses can adopt best practices to ensure their ESG reports meet compliance requirements and stakeholder needs.
Materiality assessment and stakeholder engagement- Businesses should conduct a materiality assessment to determine which ESG issues are most relevant to their business and stakeholders. This helps in setting reporting priorities and ensuring that stakeholders have access to information that is pertinent, valuable, and material to them.
Additionally, a constant channel of communication will help engage stakeholders, including investors, employees, customers, and suppliers, to understand their perspectives and expectations around ESG issues.
Integration of ESG factors into business strategy and risk management- ESG factors when incorporated into the overall business strategies and risk management, ensures that the decision-making process considers them with the required diligence. Considering ESG factors and impacts also assesses the business’s preparedness to address sustainability-related risks and opportunities.
Consistency and comparability of ESG disclosures- Businesses should strive to provide ESG disclosures that are comparable and consistent to assist investors and other stakeholders in gathering a clear picture of the company’s progress on ESG concerns and comparing performance across firms and industries.
Businesses can achieve consistency by following recognized reporting frameworks and standards, such as the Global Reporting Initiative (GRI) or the Sustainable Accounting Standards Board (SASB) (SASB).
Assurance and verification of ESG data – To increase the validity and dependability of their disclosures, companies should think about getting independent assurance or verification of their ESG data. Assurance or verification can be provided by external auditors, specialized ESG assurance providers, or other third-party experts.
The Role of Investor Relations
Most ESG investors hold their sustainability goals and ESG issues central to their investment strategies very closely as it resonates with the kind of investor they want to be identified as in the capital chain. And therefore, they are extremely selective in their choice of enterprise to invest in to ensure that the enterprise will closely align with their personal SDG and ESG goals as closely as possible while generating a robust ROI.
For enterprises, it means their communication with the investors has to be extremely transparent and continuous to ensure that the organization intends to devote both strategies and resources to align with their ESG goals.
To illustrate the point of an effective investor communication strategy let’s look at the recent update dated MAR 22, 2023 from the food giant Nestlé.
Nestlé invested in Enel North America’s Texas-based Ganado solar project and has promised to purchase 100% of the renewable electricity attributes to help power the company’s U.S. manufacturing facilities.
It is a massive investment and commitment toward their goals to halve greenhouse gas emissions by 2030 and to achieve net zero by 2050.
Nestle’s communication strategy with its shareholders involves answering their sustainability-related efforts through a sustainability committee and direct communication with its other stakeholders through video addresses by its senior leaders like Chairman and CEO. These direct addresses touch upon the ESG strategy of the business and information about the steps taken in that direction.
There cannot be one single strategy for building trust and transparency in investor relations and enterprises should work closely with their investors to understand their communication needs and how frequently they require updates and information.
Benefits of Strong ESG Reporting and Investor Relations
Businesses that work toward creating robust ESG reporting and cementing strong investor relations enjoy better market reputations and the trust of their stakeholders.
Improved trust and market credibility also means that businesses have access to capital at a reduced cost. According to Gartner, 85% of investors consider ESG factors to make their investment decisions. And 91% of the banks, 24 global credit rating agencies, 71% of fixed-income investors, and over 90% of insurers keep track of the ESG factors.
Ability to attract and retain top talent- Businesses that are pro-DEI (Diversity, Equity, and Inclusion) attract better talent. let’s take the example of Google, the most popular choice for IT employees, and for a reason. Google’s 2021 DEI report highlighted five key insights regarding changes in hiring practices, efforts to retain employees, systemic approaches to promoting racial equity, a focus on individuals with disabilities, and the importance of well-being solutions for everyone.
Positive impact on the environment and society- Businesses have always in an integral part of societies and civilizations therefore, they also have an onus toward the people and the planet and the ESG initiatives display their intention to be responsible and look beyond profit to include well-being for all. Sustainability goals are not for isolated groups but for the whole planet and people and businesses need to look at ESG reporting as an opportunity rather than an obstacle.
Challenges and Criticisms
One of the biggest challenges of ESG reporting is the lack of standardization which makes it difficult to compare and analyze data, businesses define their own ESG parameters and it varies across the industry and sometimes even within it making it very difficult for the investors.
The next issue with ESG reporting is the measurability of the impact and initiatives. Quantifying ESG factors are subjective and therefore more complex to quantify, unlike the financial metrics.
And lastly, the most cited criticism of ESG by the experts is “Greenwashing” of the ESG initiatives where companies claim to be undertaking ESG initiatives but only at the surface level and without making any substantial change. The experts fear that businesses cherry-pick the ESG goals and are driven by optics than concrete sustainability-related efforts.
And we elaborate on greenwashing with the example of H&M, the fashion retail giant, called out for greenwashing by The Changing Market Foundation which found in its report that a shocking 96% of sustainability claims made by H&M did not hold up.
Conclusion
As ESG reporting is steadily moving toward becoming mandatory, businesses need to view it as an integral part of their investor relations management. Investors are concerning themselves with the impact they want to create with their investment, and that will continue to propel the ESG momentum. Businesses can view this as an opportunity and leverage the benefits of integrating ESG strategy into their business operation for better risk management and accessing capital at a lower cost.
ESG reporting will help businesses identify opportunities and expand into new products or markets. ESG disclosures that are authentic and transparent will ensure a better reputation in the capital market and improved relationships with stakeholders while contributing toward business success and continuity.
