What it takes to demonstrate a company’s commitment to ESG

The recent investment directed towards companies demonstrating a commitment to climate change and workforce diversity has been fascinating.

In the three years to the close of 2020, money inflows have grown at a quarterly compound rate of 18 per cent in Europe, according to Morningstar, with assets under management reaching $1.34trn.

ESG funds captured $51.1 billion of new money in 2020 and more than double the prior year, according to Morningstar.

Fixed-income ETFs with an ESG overlay accounted almost for 25% of the total net inflow into fixed income ETFs listed in Europe last year. Their underlying index was developed in collaboration with the Sustainability Accounting Standards Board and uses an ESG scoring system developed by SPDR, SSGA’s ETF business.

SSGA has predicted that the global ESG ETF market could result in $1.5trn in assets under management by 2025, which is the European ETF market’s current size.

It’s clear that ESG investing is now capturing a substantial portion of the investor’s agenda and has become imperative for companies to have a solid ESG strategy in place and to communicate it effectively.

How do you make your ESG story attractive and capitalize on your ESG strategy?

Follow a framework

Investors rely on the frameworks, and the recommendation is to use the Task Force from Climate-related Financial Disclosures (TCFD) plus the Sustainability Accounting Standards Board standards (SASB)in your reporting.

Using these frameworks can help your company succeed in reporting on material ESG issues and relate the story in a transparent way.

CDP, the Climate Disclosure Standards Board (CDSB), the Global Reporting Initiative (GRI), the International Integrated Reporting Council (IIRC) and the Sustainability Accounting Standards Board (SASB), have co-authored an illustration of how this can work. The approach uses their current frameworks, standards and platforms, along with the elements set out by the Task Force on Climate-related Financial Disclosures (TCFD), to provide a running start for the development of global standards. The result is designed to enable clear disclosure of how sustainability matters either create or erode enterprise value.

It’s interesting to see that investors who are claiming to be “green” should also include new disclosures which, in turn, require them to have a clear understanding of the ESG standards of the companies they are investing in. The Sustainable Finance Disclosure Regulation (SFDR) requires financial companies and large investors to disclose the risk they face from environmental, social and governance (ESG) issues — such as climate change and human rights — as well as how their investments impact these same issues (a concept known as “double materiality”).

Additionally, The IFRS Foundation (the influential non-profit group that oversees the International Accounting Standards Board) indicated that it was on track to launch its long-awaited “sustainability standards board” in conjunction with the UN’s COP26 climate summit. This project is expected to provide a gold standard for ESG reporting.

After reviewing more than 500 comments from market participants, the IFRS said it intended to create a blueprint for corporate climate reporting which builds on the work done by the Task Force on Climate-related Financial Disclosures as well as the framework provided by the Sustainability Accounting Standards Board, Global Reporting Initiative, CDP and Climate Disclosure Standards Board.

Report on the financial impact

Companies need to be clear on the financial impact of climate change issues. They should account for any future economic impact, for example, permits to emit carbon, especially in sectors like the airline industry, oil and gas or steel. As it stands now, a company that declares emissions should disclose not only the estimated financial cost per tonne, but also the financial impact.

Increase your engagement level

ESG ratings are essential, but they can’t tell the full story. That is why developing an ESG presentation and speak to investors directly about your strategy and future commitments is key to constructive and coherent communication.

  • Be specific on how you are achieving your objectives. Companies need to explain how they will achieve these goals and the actions they are taking. Investors are looking to see a roadmap and a timeline.

  • Disclose information about your human capital and how you achieve diversity and inclusion.

Share information about your training and career development processes, as well as employee engagement objectives and scores, retention rates, and benefits programmes. It’s key to demonstrate current metrics and longer-term targets to show commitment to your human capital strategy.

Make sure the Board is fully aligned

The Board should be aligned and support the ESG strategy as well as being accountable for any divergence from it.

One of the Board’s accountability’s main aspects is to link ESG metrics into executive pay, and reporting and communicating these metrics promotes transparency and, therefore, makes the story attractive to investors.

Cevian Capital, Europe’s most prominent activist investor, has warned that it will penalise companies that fail to set environmental, social and governance targets when deciding executive pay, in a move it believes will deter “ESG box-checking”.

According to ISS ESG, the responsible investment arm of Institutional Shareholder Services, companies are starting to include ESG metrics in executive pay packages.

Fidelity International also recently called on companies to include “non-financial and stakeholder-focused factors” into their remuneration policies “where sufficiently robust metrics can be identified”. Research from Fidelity last year found that stocks with a good ESG rating outperformed those with a weaker rating in 2020.

Report on how your policies extend to third parties

A company should extend ESG practices to its supply chain and ensure its code of conduct aligns with theirs. There should be standard supplier policies in place and engagement practices. An example is Walmart, who, three years ago, discovered that is suppliers accounted for 90% of its carbon emissions. In response, the company has created a platform the scrutinizes suppliers. This platform has improved the company’s resilience. This is proof that business models with a long-term sustainability-focused strategy manage disruptions better than others.

Make your ESG strategy more transparent than ever

Whilst metrics are essential, communicating your ESG strategy is even more critical. Develop your ESG presentation and upload your policy to your website because investors expect clarity and commitment.

Detailed reporting and a comprehensive communication strategy are both key in sharing your story and attracting more investors.

If you want to learn more about how to communicate your ESG strategy effectively we are here to help:

Contact:

Lilian Filips
Lilian.filips@irconsultants.co.uk
www.irconsultants.co.uk