This informal CPD article on ESG ratings: Achieving a common ground was provided by FBRH Consultants, who aim to help businesses gain value by operating in much cleverer, sustainable ways.
ESG ratings: Achieving a common ground
Sustainability is increasingly at the centre of global attention, due the impacts of the climate crisis and a host of other challenges faced by humanity in the 21st century. As a result, companies and their stakeholders are turning their attention to the various standards that are used in sustainability reporting and, more specifically, to ESG (environmental, social and governance) ratings. Currently, however, they remain complex for many, not least in the investment sector.
What’s at stake?
ESG ratings often influence stakeholders’ decision making, or how organisations manage their supply chains. And, in financial markets, ESG ratings also have an impact on investors and responsible investment strategies. Strong ESG ratings can attract capital and help fund managers find possible investments. In this market there are Credit Rating Agencies (such as Fitch), benchmark administrators, data vendors (for example, Bloomberg) and specialised firms, such as EcoVadis. These various ratings often interact and boundaries between them are not always clear-cut.
What do ESG ratings measure?
There is, at times, confusion as to what ESG ratings assess. Is it a company’s sustainability risks? Is it its impact? ESG ratings actually focus on risk and financial materiality, i.e. a company’s exposure to sector-specific risks and how the company deals with them. Sustainability, however, concerns both risk and a company’s impacts on society and the environment - it has two sides. Impact materiality, in other words, is, in the case of ESG ratings, missing.
Looking for consistency
Obtaining consistent ESG ratings is not always easy. They are based on complex data from three very different areas - environmental, social and governance -, analysing numerous topics for which data may not be readily available (sustainability reporting remains new to many organisations out there). In addition, rating agencies assess thousands of companies from very different sectors, on a truly wide range of ESG topics. Inconsistencies in company ratings are, consequently, expected to emerge, which means increased attention on the ESG ranking agencies.
Double Materiality and GRI: Strong Ratings and Impacts that are Measured and Managed
The Global Reporting Initiative (GRI), provider of the world’s most widely adopted sustainability reporting standards, collaborates with the many organisations engaged in the ESG rating space. As a result, GRI-based sustainability reports - and the metrics and information contained in these reports - are increasingly being used in such ratings.
At the same time, the way rating agencies work is changing, as the whole sustainability reporting and standards setting sector is increasingly regulated. In this context, GRI and the IFRS Foundations’ International Sustainability Standards Board (ISSB) collaborated to help ESG ranking agencies be based, for their work, on a single set of information for the data they need. This baseline is founded on two pillars:
- The first pillar relates to the financial implications of sustainability topics on value creation by businesses. This is the financial materiality pillar, on which the ISSB standards will focus.
- The second pillar concerns a company’s impacts on society, the environment and the economy. This is the impact materiality pillar, focused on the environmental and social impacts of a company’s business activities. The GRI Standards address these outward impacts by any organisation.
Together, these two pillars - offering a double materiality approach - can provide rating agencies with data for both sustainability impacts and sustainability risks. Reporters, data users and other stakeholders will thus benefit from increased consistency and transparency in ESG ratings, which will now be based on this more complete, double materiality perspective.
The benefits to society, economy and the environment of better ESG ratings will be considerable. Companies will be able to measure their impacts more consistently and manage them accordingly, minimising their negative impacts on society or the environment and increasing positive ones.
We hope this article was helpful. For more information from FBRH Consultants, please visit their CPD Member Directory page. Alternatively please visit the CPD Industry Hubs for more CPD articles, courses and events relevant to your Continuing Professional Development requirements.
