Free Environmental, social and governance reporting demands proof of corporate social and environmental credentials, and pressure is mounting for companies to act.
Responsible companies have been around since the dawn of capitalism, but in the last half century or so the concept of a social contract between business and society has taken on new prominence.
Corporate Social Responsibility (CSR) is the idea that companies should act in ways that enhance society and the environment instead of damaging them. A socially responsible business might aim to adopt sustainable production processes, for example, or allow staff paid time off work to volunteer for local charities.
Nobody forces businesses to adopt CSR practices, but it is increasingly in their interests to do so. According to one study, 88% of consumers in the US and UK want brands to help them live more sustainable lives. Further research suggests that millennials and the generations that follow them want to support businesses that share their social and environmental values.
COUNTERING ACCUSATIONS OF SPIN
Organisations are keen to advertise their CSR credentials, but what they do and how they record it is up to them. Corporate CSR measures can be genuine and impactful, but difficult to measure. The self-regulatory nature of CSR and a lack of consistency in reporting have led to accusations of corporate spin and ‘greenwashing’, and a sense that CSR has become a marketing tool for promoting symbolic gestures. For that reason, CSR is increasingly morphing into ESG.
Environmental, Social and Governance (ESG) is an evolution of CSR that adds hard data to company pronouncements. Businesses do not just talk about their sustainable production processes, they prove it. ESG covers environmental impact, company culture and leadership – it takes into account diversity, inclusion and board composition, as well as green or philanthropic measures. While consumer pressure for more responsible business is still being applied, ESG shows that it is evolving from a voluntary ambition to something that is increasingly necessary.
Joyce Bruce is sustainability and CSR manager at UHY Fay & Co in Spain, and says ESG reporting is one of the firm’s fastest growing areas. “In the Spanish market, some large companies – above 250 employees – are required by law to provide non-financial and sustainability reports. Almost all companies, and generally those with over 50 employees, are required to have and register a gender equity plan.”
Joyce adds that ESG reporting, while clearly beneficial for corporate reputations, is often a prerequisite for participation in larger supply chains. Andrea D’Amico, partner at UHY Audinet Srl, UHY’s member firm in Italy, agrees that regulatory and consumer pressure for sustainability is filtering through the procurement process. “Large companies are imposing strict compliance requirements regarding sustainability on their production chains,” he says. “So it is a matter of survival.”
In Malaysia, UHY group managing partner Datuk Alvin Tee has detected a greater focus on ESG since the start of the pandemic. “ESG practices have been more robust since Covid,” he says. “The pandemic has led to the adoption of more sustainability-focused business models. There are changing expectations of the role business plays in improving society and protecting the environment.”
The pressure for ESG reporting is also coming from another, more unlikely, source. In 2020 the European Securities and Markets Authority (ESMA), the EU’s securities markets regulator, published its Strategy on Sustainable Finance, which set out how the organisation aimed to embed ESG factors in its work. ESMA chair Steven Maijoor said financial markets were at a point of change and that sustainability factors were ‘increasingly affecting the risks, returns and value of investments’.
This is an increasingly worldwide phenomenon. Datuk Alvin Tee says the Malaysian government is playing a greater role in ensuring the adoption of ESG initiatives by the corporate sector, often through the promotion of sustainable investment. The aim is to ‘facilitate and encourage greater growth of SRI (Sustainable and Responsible Investment) funds in Malaysia’, he adds. Despite the fact that ESG is a relatively new concept in the ASEAN region, he believes the adoption of ESG principles is capturing mainstream investor attention.
Authorities have been joined by major investors in realising the value of sustainability as a driver of value. In May, Black Rock, the world’s largest asset manager, published an ESG Integration Statement, outlining its ‘firm-wide commitment to integrate ESG information into our investment processes’. Black Rock isn’t the only asset manager taking this approach. Investments that take ESG analysis into account now amount to a third of total US assets under management, while global ESG-data driven assets hit USD 40.5 trillion in 2020. Three quarters of institutional investors now consider ESG factors an integral part of sound investing. While some investors may be keen to promote environmental and social responsibility for their own reasons, all of them want the best return on investment. There is a growing sense within the investment community that sustainable businesses are simply the safest bets.
Figures seem to support that view, at least for now. A market report published in April by S&P Global found that many ESG exchange-traded funds outperformed the S&P 500 index average in the year to March, in some cases by a factor of two. Some commentators say evidence is mounting that an ESG focus gives funds a competitive advantage.
Others urge caution. Adam Wing, a financial advisor with UHY Financial Planning, a service offered by UK member firm UHY Hacker Young, argues that long-term data on the performance of ESG funds is still thin on the ground, and that there is no guarantee that they will continue to outperform the market. Nevertheless, he agrees that impressive recent performance has pushed ESG-focused investing into the mainstream.
“Over the longer term it remains to be seen whether ESG fund managers will identify the companies that will prosper in future, but with many more people thinking carefully about where to invest their savings, ESG investment is no longer a fringe area,” he says.
Legislative changes will only add to the appeal of ESG-focused funds. “In the UK, financial advisers will soon be required to ask clients about their attitudes towards ESG when advising on suitable investments,” says Adam. “Younger investors are often seen as driving demand for ‘greener’ products. But these changes will mean investors of all ages will be asked to consider how their money is invested, and whether they want to bring ESG factors into the investment mix.”
It’s not just publicly traded companies that stand to gain from increasing regulatory and customer focus on responsible business. Private investors do not need to be especially environmentally or socially minded to see the appeal of organisations that stay a step ahead of environmental and diversity laws and appeal to a growing number of consumers. In a recent study, 72% of private equity managers said they always screen target companies for ESG risks and opportunities at the pre-acquisition stage.
Investors using ESG as part of their screening criteria are likely to become more typical as regulations tighten and more consumers make purchasing decisions based on a company’s overall ESG credentials, including supply chain sustainability.
A GROWING DEMAND
It is no wonder, then, that the UHY global network has seen an increase in ESG and CSR-related requests from client businesses. In Italy, Andrea and his team are seeing a growing demand for the preparation and auditing of non-financial reports, and helping businesses prepare tenders for EU-funded projects, which are increasingly focused on sustainability. UHY Malaysia offers clients tailored consultancy that includes setting KPIs for ESG initiatives and ESG reporting.
In fact, ESG is becoming increasingly important in wider company reporting, with three quarters of year end reports setting out clear purpose beyond making money for shareholders, according to one recent study of 50 FTSE 350 companies. There is a wide disparity in the quality and depth of non-financial reporting. Accountants are key to ensuring sustainability information is always accurate and transparent, and the profession – through bodies like the International Federation of Accountants (IFAC) – is pushing for consistent global standards against which ESG claims can be judged.
In Spain, UHY Fay & Co offers advice on disclosing and communicating ESG information, assurance of disclosures for EU compliance and sustainable supply chain management. Joyce says companies need to take professional advice before making ESG claims, or risk accusations of greenwashing or using green marketing to disguise unsustainable business models.
“Stakeholder scrutiny on companies is intensifying,” she says. “Companies that greenwash will soon find themselves in situations of lost trust and then may find themselves with difficulties when it comes to accessing capital markets.”
It is not just companies indulging in greenwashing that may find themselves in that position. The pandemic is likely to give the ESG agenda added momentum, as employees and consumers demand healthier workplaces, inclusive hiring policies and more sustainable business models. Environmental regulation will only get tighter as nations edge closer to carbon reduction deadlines. ESG reporting may soon be a critical factor in every company’s appeal to investors, public bodies and a growing number of concerned customers.